The best way to trade gold

published 14 November 2014

Stocks were up to a new high yesterday.

Gold was flat.

We began buying gold in the late 90s, when it was cheap. To illustrate how cheap it was, in 1980, briefly, gold was so precious that you could buy nearly all the stocks in the Dow Jones stock market index for just one ounce.

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By 1999, stocks had risen so high that it would have required 43 ounces to buy the Dow. Then, you could scarcely go wrong buying gold and selling stocks. Stocks were expensive; gold was cheap.

We are too lazy to do real stock research. And too inattentive for trading or meticulous timing systems. We don't aim to beat the market. Live and let live' is our market motto.

Here's a very simple way to do it, a refinement of our Simpleton's Timing System (STS) described in an earlier entry.

Here's how it works. You are either in stocks. Or you are in real money, gold. You buy stocks when they are cheap. You sell them when they are dear. And you use roundish numbers to make it easy. When you can buy the Dow for five ounces of gold or less buy. When the Dow is worth more than 20 ounces sell.

If you have followed that formula for the last 100years, you would have gone crazy with boredom. You would have bought stocks in 1914, suffered through WWI, the Crash of '29, and the Depression, WWII, the Eisenhower years and held onto them until October 1961.

That long stretch of inactivity would have convinced your friends and family that you shouldn't be trusted with money. But you would have turned each ounce of gold into four ounces.

Then, you would have stayed out of stocks for 13 years, until April of 1974, when the Dow fell before the five-ounce mark.

You would have bought stocks then. Alas, stocks continued to go down and you would have felt like a dummy again. Mr Market's giant wheels may grind slowly, but they don't stop.

By 1997, it would have been time to get out again, with another 300% gain in gold. That is, you'd have four ounces for every ounce you invested. And again, you would have felt like a fool, because the Dow continued to go up to the aforementioned heights, equal to 43 ounces of gold.

By this time, your wife would have surely left you.

But time would tell the tale, and what it told was a familiar one.

Up, down.

Down, up.

Stocks took a dive in January 2000. They have never crossed the five-to-the-Dow level again. You would have been in gold ever since.

But look what has happened. You multiplied your gold 16 times. And gold has gone up 58 times (we're doing this in our head) against the dollar. So, each dollar invested in this way is now worth more than $900.

Is that good?

It depends on how you look at it. We found a calculation showing that each dollar invested in the stock market in 1929 including dividends and price increases grew to be worth over $1,000 by 2010.

We're suspicious of that, since it is probably based on market averages, neglecting all the dollars you would have invested in companies that went broke or were removed from the averages during that time.

Also, this measure is taken with the stockmarket at an all-time high. It would look much different if stocks were cheap now, rather than so expensive.

One of the nice features of this timing system is that it required only four moves in a century. One every 25 years; we can handle that. And the risk is very low. You are, after all, buying cheap and selling dear.

We stopped buying gold when it rose to over $1,000 an ounce. But we didn't dump it to buy stocks. Even at the bottom in '09, it still took seven ounces of gold to buy the Dow. And stocks have gone up since to 14 ounces.

Today, gold is neither too cheap nor too expensive. It is about where it ought to be, right in the middle of our trading range. Stocks went up until January 2000. By our reckoning, stocks have been trying to go down ever since.

Eventually, they will get where they are going, under five ounces-to-the-Dow. Then, we will be ready to buy them again.