Peter St Onge

[Today’s post is excerpted from the October Austrian Investment Monthly newsletter. Now available for free download at St Onge Research]

Is gold weakness getting confirmation. Or is that just the wine talking?

A key element in Austrian economics is that fluctuations in valuations can give us a lot of information about what’s happening “under the hood” of an economy. This month we’ll take a look at the market for fine wines as economic indicator.

One prominent indicator is the Liv-ex 100, what Reuters calls the “fine wine industry’s leading benchmark.” The Liv-ex 100 measures auction prices for fine wines, defined as wines that have received a 95 or higher score from a leading critic. The index is revised quarterly by a committee.

Let’s first run the Liv-ex 100 through its paces, tracing it against the 2008 crisis:

 Starting in 2005 the index started to rise, gradually then turning into a parabolic rise starting in about mid-2007. It topped out in July, 2007, dipped a bit then regained new highs in about mid-2008 before plunging with the entire market.

The Liv-ex was clearly flashing warning signs in 2007, just as the news started picking up the sub-prime defaults and problems in mortgage and financial firms. The Liv-ex was acting as a “canary in the coalmine,” indicating that the easy money from low rates was getting spooked, and shifting into real resources. This move was confirmed by gold, which started its rise a few months later.

The fact that wine moved earlier than gold in 2007 alone gives it potential value as a predictor. What makes wine really useful is its value as a confirmation on gold.

Gold has a number of well-known idiosyncratic movers, most important of which are central bank buying and selling of reserves, and the drama of mining itself. Of course, wine has weather. So the point here is to take commodities with different idiosyncrasies and look for confirmation. Taken together, wine and gold are great confirmations of this process of easy money taking shelter. See one move but not the other and it may well be idiosyncratic reasons, but see them move together and the two markets are trying to tell you the same story — that the tidal wave of money is getting spooked.

So what is wine telling us today?

We’ve got a very consistent story with gold, right up to 2011: after the dip in 2008 wine prices soared in 2009 and 2010, peaking in early 2011. Since then they’ve fallen by over a third. Wine is saying that we were all set for a recession in 2011 and something happened to head it off.

Now for confirmation: Gold prices have told a nearly identical story: a parabolic rise into 2011, topping $1,800 before plunging by an almost-identical third, to $1,200 as of October, 2014.

Taken together, these confirmations suggest that the recession is probably still a ways away. The 2011 false alarm has probably been “papered over” by easy money, and we’re saving up for a bigger bust next time around. But neither wine nor gold are flashing warnings at the moment. For now they are both saying that easy money is going where the Fed wants it — into investment.

So what to look out for? If both the Liv-ex 100 and gold prices begin to spike, this is the market saying that easy money is re-routing to real assets. Even cooler, if they’re both spiking at different rates this let’s you isolate the relatively affluent investors who play wine from the rest of us who play gold. Either way, twin spikes in wine and gold are a warning sign that money is getting nervous.

Now, these warnings don’t necessarily mark when to sell: there is typically a bit more exuberance to squeeze out of stocks, even after gold and wine start flashing (note the delay in 2007). But it does mean to start paying more attention to core indicators like inflation, investment and credit distress.