Markets

Will history repeat itself? Gold bubbles compared

By Allan Roth

July 10, 2013 / 7:00 AM EDT / MoneyWatch

(MoneyWatch) Gold hit an all time high of $1,895 an ounce on Sept. 6, 2011. Now, less than two years later, gold is 33 percent down, recently trading at $1,249 an ounce. If you think this has never happened to gold, think again.

If history has taught us anything, it is that gold giveth and gold taketh away. During the 18 months following gold hitting $850 an ounce on Jan. 21, 1980, gold gave back more than half of its value. It gave back even more two decades later, when gold was trading at a 70 percent discount from that 1980 high.

Will history repeat itself? Well so far it has on the up side. The same 1980 arguments used in favor of gold a couple of years ago were the declining value of paper currency and high inflation that only gold could protect against. We also heard the same certain predictions of gold continuing to surge. And while I wasn't writing back in 1980, I'm betting the abuse that gold bugs heaped upon those who dared write that gold was far from a sure thing was the same as well. I've had a few emails berating me for the "idiocy" of warning people against chasing a potential gold bubble.

Back in 2011, I made a daring call that we would not be showing up at Safeway buying milk and eggs with gold. I'm staying out on that limb and sticking with my forecast.

The future of gold

Gold has a very long history of keeping up with inflation in the long-run. Since 1980, however, it has badly lagged inflation. Though I'm certain gold is a better deal today than it was back in 2011, I'm uncertain of its future. By 2014, gold could be trading at $10,000 an ounce, or $600 an ounce, but I don't advise betting the farm on either possibility.

Fear and greed are the key drivers of gold prices, and that sort of emotion-driven investing rarely turns out well. While gold can be a diversifier for a portfolio, it should only be a small piece. As with any part of a portfolio, remember to rebalance. It's a lot better to sell gold when prices surge than to follow the herd and buy it.