The Practice of Speculation

By Doug Casey

There’s no certain way to gauge the proper time to enter a market, but there are certain rules that will likely be just as good in the future as they have in the past because they’re based on human nature, and that hasn’t changed much over the thousands of years.

I’ve listed five signals that should be present before you enter a market. You may never find a situation where they’re all there, but the more that are, the more the odds are tilted in your favor. The five rules are equally applicable whether you’re buying or selling (with obvious adjustments), but I’ve skewed them toward the buyer. Since the long-term bias in the years ahead is going to be toward higher prices in the resource stocks, most of the time you’re going to be buying more aggressively than you’ll be selling.

1. A Climactic Bottom

People tend to get carried away with greed after an investment has treated them well and by fear when the market’s been bad. The same herd instinct that causes a crowd to gather when someone stares up in the sky, or causes a stampede if someone yells “Fire!” in a crowded theater, causes markets to overrun themselves at both major tops and bottoms. Price moves typically become very radical and unpredictable at the point where a market is searching for either a top or bottom after a panic. If you can keep your head (easier said than done), those conditions present – or at least foreshadow – the ideal time to buy or sell.

“Blood in the streets” selling climaxes aren’t the only time to buy, and manic blow-offs aren’t the only time to sell, but they’re certainly the best times. In 2000 was a classic speculative opportunity in the better resource stocks…even gold company executives didn’t want to know about gold. Climactic bottoms, in particular, are often followed by a period of exhaustion, which can give you a chance to appraise the market coolly.

2. Period of Accumulation

After a climactic bottom, a market becomes exhausted. With prices low, a lot of money has either been wiped out or has left the market. Like an athlete after defeat, the marketplace takes a while to recuperate.

It takes a sharp – and lucky – trader to catch a market that turns on a dime and heads the other way. It’s more prudent to let it plateau, stabilize, and establish a new equilibrium level before buying. The gold shares, which had a decent run in the mid-90s, have only just started to come alive again. But, as pointed out earlier, the mainstream punter is still looking elsewhere. The plateau is often characterized by a “low volume” of trading.

3. Relatively Low Volume

Low volume, with few buyers or sellers, means few people are really interested in what’s going on; a good speculator looks where nobody else does, to afford a better chance of finding bargains. When there’s a high volume of trading, it’s a sign that a lot of people are paying close attention, and that can lead to radical swings for purely psychological reasons. Successful speculators never allow themselves to be rushed or panicked, and a low-volume market offers leisure to make up one’s mind. Today, most gold shares still trade at a volume that is just a fraction of their mainstream counterparts.

4. Historically Low Prices

Nothing is eternal in the markets. What seems like a “high” price one year may turn out to be a “low” price the next; it’s all very relative. Speculators who get the bargains are patient.

The bottom of a bear market comes about cyclically, with years or even decades between peaks. Smart buyers sit tight until the odds are loaded in their favor. Only amateurs, pathological losers, and bank trust departments are in the market all the time.

Commodities can be considered “cheap” when they are selling for less than production costs and close to historical lows in real (after inflation) terms while there’s a prospect of higher inflation. In inflation-adjusted terms, gold is currently selling at less than half the high it reached in 1980.

There are plenty of exceptions around all the time. But successful speculators play a waiting game; blood isn’t in the streets every day.

5. Pessimism in the Market

After a long bear market, the stock or commodity has established a “poor track record” and is perceived as a “bad investment,” with no future. That is the view that most mainstream investors currently have of gold after it’s long bear market…using terms such as “archaic” to describe the stuff. That is, of course, usually the best time to buy.

Buying when no one else is interested in an investment is hard on the nerves, but rewarding.

If it were easy, everyone would be a professional speculator, and that obviously wouldn’t do. And, don’t forget, as the gold market – and especially the leveraged gold stocks – take off toward the moon, there will come a time when everyone is saying to buy…which is when you should be heading for the exits. I will be.

Of course, this is meant to be a quick summary. It’s not easy to lay down hard and fast rules for successful speculation. There are plenty of others I could repeat here, but the important point is to adopt a bias towards speculation.Done right, which today means building positions in the quality gold stocks, can result in returns that will surprise even you on the upside in the months and years just ahead.