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Jan 2, 2017

Is It Time To Go Back Into Gold? Only For The Brave

by Donald Dony

Don DonyInvesting in natural resource companies is something that most Canadians do. Our TSX is weighted about 30% toward commodities and, for many of us, holding a resource company in our portfolio is routine.

Gold is one of those asset groups that holds a special lure.

Gold investors often buy this precious metal because of concerns for the U.S. and global economies, upcoming political risks, potential black swan events or insurance against the next bear market.

But, like many sectors of the market, there is a good time to own this group and a time when the tide is simply against you.

How do you know when it’s time to buy and when it’s time to move to another group?

Many industry groups are governed by specific triggers. For example, the rise in interest rates is generally a poor time to be buy interest sensitive stocks such as utilities, preferred shares or REITS. Periods of disinflation is usually a positive time to be buying industrials, financials or consumer staples. With extended periods of inflation, mines, materials and energy normally are a good bet.

The first step is looking at some of the main factors that affect the price of gold.

A good starting point is the current environment. Is it inflationary or deflationary? Gold is a classic hedge against inflation. Martin Pring has developed a very useful index for judging which element is dominant.

Pring’s index started to advance in 2001 and continued to climb until the peak in 2011 indicating inflationary groups were outperforming deflationary groups. After that junction (2011), deflationary sectors were outperforming inflationary groups. The index declined from 2011 to late 2015. There has been a slight increase in inflationary pressure (and gold) in 2016, but the main trend remains down (Chart 1).

Don Dony

Another key gauge to measuring the direction of gold prices is the U.S. dollar (US$).

Commodities are priced in US$ in North America. Generally when the U.S. dollar goes up natural resources become more expensive to hold. Some of the factors that cause the dollar to advance are a higher interest rate compared to other major currencies and improving economics (i.e. rising GDP, declining unemployment, improving retail sales and consumer optimism).

Though the correlation between gold and the U.S. dollar is not as close as the connection between Pring’s Inflation/Deflation index and gold, yet it still illustrates the point that a rising US$ is normally negative for gold over the long term (Chart 2).

Don Dony

Bottom line: On two important measures (inflationary or deflationary environment and the U.S. dollar), gold appears to be on the defensive on both issues. Deflationary assets (technology, consumer products, industrials) have been outperforming inflationary assets (mines, precious metals, energy, agriculture) since 2001 and the US$ has been on a slow advance, due to favourable economics for the past eight years.

Though gold has recoiled in 2016, we believe, given the strong headwinds facing the precious metal that gold will decline in 2017.

More information on Martin Pring’s Inflation and Deflation Indexes:

Donald W. Dony, FCSI, MFTA is an analyst, a past instructor for the Canadian Securities Institute (CSI) and the editor at the Technical

Email:, Ph. 250-479-9463