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The Daily Reckoning

Gold or stocks: what to hold during the Great Correction

Goldman Sachs says investors will make money investing in either gold or stocks. Are they right?

By Guest blogger / December 15, 2010

This graphic shows the price of gold over the past 12 months. Gold prices have risen all year, and the stock market is rallying. So where should the far-sighted investor put their money?

Cui Ying / Xinhua / ZUMA Press / Newscom

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Gold or stocks?

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Gold will go up another $300 next year, says Goldman Sachs. Bloomberg reports:

Gold rose 27 percent this year, heading for a 10th consecutive annual advance. Investors are seeking hard assets as governments and central banks led by the Federal Reserve pump more than $2 trillion into the world financial system.

Gold will reach $1,690 an ounce in 12 months, from $1,390 now, and probably peak the following year, Goldman estimates. Gold in exchange-traded products backed by the metal reached a record 2,105 metric tons on Oct. 14 and holdings were last at 2,093 tons, according to data compiled by Bloomberg. That’s equal to about nine years of US mine output.

Hey, making money is easy. Gold goes up every year. If you believe Goldman it will go up another 20% next year.

But if you believe Goldman, you’ll make money in stocks too. Here’s another Bloomberg report:

The benchmark gauge for American equities will rise 11 percent to 1,379 in 2011, bringing the increase since 2008 to 53 percent, the best return since 1997 to 2000, according to the average of 11 strategists in a Bloomberg News survey. Goldman Sachs Group Inc.’s David Kostin, the most accurate US strategist this year, said sales growth will spur a 17 percent rally in the S&P 500 through the end of 2011.

Market analysts say earnings will hit record highs, keeping valuations below historical averages at the same time government spending aids the economy. Reaching their average forecast for 2011 would give the index annualized gains of 15 percent over three years, twice the rate anticipated by Pacific Investment Management Co.’s new normal theory that anticipates deficits and increased regulation will limit returns.

Kostin, Goldman Sachs’ New York-based strategist who said last year the S&P 500 would end 2010 at 1,250, wrote in a note Dec. 6 that below-average bond yields help create a “superb backdrop” for equities. He expects the S&P 500 to finish 2011 at 1,450, the second most-bullish call among 11 firms surveyed.

So, Dear Reader, you have a choice. Gold or stocks? Goldman says you’ll make money no matter which one you choose.

We’re not so sure. The way we look at it, we’re still in a Great Correction. Trouble is, if you read the newspapers you’d barely realize it. The financial press says the economy is “recovering.” The analysts are calling for higher asset prices. Advisors are overwhelmingly bullish. And shoppers are said to be going back to the malls that once knew them.

And what’s this? Outstanding consumer credit – the key measure of leverage in a society – went up in September and October. The economy isn’t de-leveraging. It’s adding debt, not subtracting it!

But hold on. If you look at the composition of the “consumer” credit figures, you discover that:

1) The total credit numbers are actually going down; it’s the adjustments that make them appear higher

2) The positive (increasing credit) numbers come from government-supported credit (such as student loans)

3) Take out the government-backed debt and you will see an impressive collapse of credit

The Great Correction is real. It’s a fact of life. And it won’t go away anytime soon.