The Secular Relationship between Stocks and Gold

| February 12, 2011

Regardless of whether you are an investor or a trader, understanding the big picture is imperative. The secular trend is the primary force behind price movements, dominating market behavior for up to decades at a time. If you do not understand secular trends, or simply choose to ignore them, the performance of your portfolio will invariably suffer over the long run. Even if you are short-term trader who focuses on intermediate-term market moves that last only a few months at a time, understanding the direction of the primary trend enables you to select optimal entry and exit points, because you will always know if you are trading with the secular current or against it.

Secular trends in the stock market typically last from 10 to 20 years. Defining the boundaries between bulls and bears is a subjective process and there are different ways to denote primary trend inflection points. As Dow theorists, we use a finely tuned set of criteria to identify secular market boundaries, and our Secular Trend Score was designed to monitor market behavior for the telltale signs of a direction change. By our measures, there have been four complete secular cycles in US stocks since the market crash in 1929: a secular bear from 1929 to 1949, a secular bull from 1949 to 1968, a secular bear from 1968 to 1982 and a secular bull from 1982 to 2000. The current secular bear market from 2000 is now 11 years old and remains in the middle stage of its development, suggesting that the next primary trend inflection point is still several years away. The following monthly chart of the S&P 500 index displays the last two secular trends in stocks.

While stock market secular trends track structural economic growth cycles, gold prices tend to do just the opposite. In general, when prices are permitted to fluctuate freely under the influence of market forces, gold secular bears occur when the economy is structurally sound and experiencing a period of long-term expansion, while gold secular bulls reflect underlying weakness and structural instability. Given this polar opposite relationship between stocks and gold, their secular trend charts should be mirror images, and that is exactly what you see when you review historical price data.

Many mainstream analysts dismiss gold price behavior as irrelevant from an investment perspective, suggesting that it has merely become a reflection of jewelry demand since the gold standard was abolished decades ago. However, even a cursory glance at the monthly chart above indicates otherwise. Did jewelry demand persistently decline during the powerful stock market bull of the 1980s and 1990s, before abruptly entering a ten-year growth cycle just as stocks began the most pronounced secular bear market since the Great Depression? Such an argument would be nearly impossible to support given historical data, yet that is precisely what those analysts who refer to gold as an irrelevant investment “relic” would have you believe.

From a forecasting perspective, the health of the secular bull market in gold suggests that the corresponding secular bear in stocks is still several years away from its terminal phase. The long-term uptrend in gold experienced a powerful advance from late 2008 to late 2010 and is currently holding slightly below recent all-time highs.

In 1980, the long-term breakdown in gold foretold the end of the secular bear market in stocks from 1968, and we expect a similar signal from the gold market to indicate that the current secular bear in equities is nearing its end. Until we see such signs indicating that the next secular inflection point is approaching, the investment outlook for stocks will remain poor and our portfolio will remain defensively positioned.

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Category: Articles, Commentary, Market Update


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