Fear Is Rising, and So Is Gold

Trading for August ended with the gold price near 7-month highs. It therefore seems appropriate to provide an update of my Fear Index, last presented in my alert of July 22, 2003. The following chart presents the Fear Index through August.

I calculate the Fear Index each month, based on month end data. We already know the month end gold price. The other data is estimated because it will not be reported by the Federal Reserve for a few more weeks, but these estimates are reasonably accurate and any final adjustments will not have a significant impact on the preliminary Fear Index calculated for August.

Interestingly, even though gold's $376.50 August close was above its $367.80 January month end price, the Fear Index for August (1.09%) remains below January's number (1.13%). Here are the calculations to explain this unexpected result.

(US Gold Reserve) * (Gold's Market Price)
----------------------------------------- = Fear Index
                 M3

The Fear Index for August 2003 is:

(261.5 million ounces) * ($376.50 per ounce)
-------------------------------------------- = 1.09%
              $8,995 billion

The Fear Index for January 2003 is:

(261.5 million ounces) * ($367.80 per ounce)
-------------------------------------------- = 1.13%
              $8,517.8 billion

From these calculations it is clear why the Fear Index has not yet cleared its January peak. Although the gold price is up 2.4%, M3 during this same period jumped by 5.6% (which is a 9.6% annual rate of growth). In other words, the Federal Reserve is inflating the money supply faster than the gold price is rising.

My conclusion therefore is that the rise in the gold price we have seen so far is about to accelerate from here, but not only to catch up with this debasement of the dollar engineered by the Fed. Fear is rising everywhere, and that is what the Fear Index is all about. People everywhere are fearful about the future of the dollar, so they are increasingly moving out of dollars into gold. It is this trend - the movement out of fiat currency into real money - that is about to accelerate. And this growing new demand for gold will result in a much higher price.

Take one more careful look at the above chart. Note the 23-year downtrend line going back to the 1980 peak. The Fear Index continues to climb toward that line, month after month. And one of these months soon it is I expect going to break through the trendline. When it does, the entire financial environment changes.

For the past 23 years, dollar financial assets have been outperforming gold. But when the downtrend line is broken, gold will be outperforming dollar financial assets. In other words, confidence in the monetary and banking system - after climbing for 23 years - is about to change. Conversely, after declining for 23 years because fear was falling, a result that made gold perceived to be less useful, gold will emerge as an asset of choice. People will increasingly move to the safety of gold.

Since the Fear Index gave its fifth buy signal in May 2002, we have been in a transition period. The shift away from the dollar into gold has been slow, and gone largely unnoticed. When the downtrend line breaks, gold will become an increasingly popular asset.

Published by GoldMoney
Copyright © 2003. All rights reserved.
Edited by James Turk

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