Is this a Secret Signal for When to Buy Gold and Sell Stocks?

The Dow Jones Industrials are again trading at over 14000. The S&P 500 is prepared to make an attack run on 1600. Weary cash, tired of sitting on the sidelines waiting for something of value to come along, is off the bench and into the game. And the game itself is at an interesting turning point.

Let’s bring your attention back to a chart we published a few weeks ago. It’s the gold/Berkshire Hathaway ‘B’ shares ratio. It tells you how many Berkshire ‘B’ shares it would take you to buy an ounce of gold. We’ve been using it as a way to measure the strength of stocks and the weakness of gold, and to identify turning points. Have a look.

Productive Businesses vs. Gold

Productive Businesses vs. Gold


The lower the ratio gets, the stronger Berkshire’s ‘B’ shares are relative to gold. If you wanted to translate that into economic and investment terms, you might say that the lower ratio goes, the more willing investors are to takes risks on stocks that can produce real wealth instead of buying gold as a defensive way to preserve real wealth.

The ratio has declined 22.3% since we first looked in May of 2012. It was 19.88 then. The gold price is actually about the same now as it was in May of 2012. What’s changed is that Berkshire’s ‘B’ shares have rallied from US$82.22 to $102.25. Stocks and risk – or the flight from inflation – are beating gold.

A caveman chartist could draw a nice crude trend line from 2004 to now. It would find ‘support’ right around 14. By ‘support,’ we mean that the gold price would start to get stronger. Since 2002, gold has gained on stocks. When you multiply the current share price by fourteen, you get $1428.70. That would be a ten per cent decline from gold’s current price at $1580.

We ‘like’ that level because it would clearly shake out all the weak gold hands and seriously question the conviction of the bulls. You don’t get durable rallies until all the selling has been exhausted. But for the record, the ratio could just as easily return to 14 with a rally to $112.85 in the ‘B’ shares and a stable price.

But what’s this? Are we really constructing short-term forecasts on the basis of an unproven indicator? Is this really a secret signal for when to buy gold or when to sell stocks?

What we’re really trying to measure here is public perceptions of real wealth. Central banks have pacified the public into a stupor by inflating stock prices. This gives the impression of real wealth creation. But it’s only inflation. Real wealth comes from producing more, not paying more for assets and calling yourself rich because you can afford it with debt.

But all performance-enhanced stupors eventually wear off. And when they do, the investing public can’t help but see things for what they really are. The ratio above tells us that when the gold price goes below $1500, people will see it as ‘cheap’. When the S&P approaches 1600, investors will realise its expensive, given the weak growth in the US and the huge support the Fed has given the market.

Dan Denning
for Markets and Money

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Dan Denning examines the geopolitical and economic events that can affect your investments domestically. He raises the questions you need to answer, in order to survive financially in these turbulent times.

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