You May Wanna Sit Down For This–Will The REAL Dow Please Stand Up!

True or False: The “real” Dow Jones Industrial Average has rallied more than 80% from a March 2009 low, to stand at its highest level in three years?

That depends on whom you ask. According to the mainstream experts, the answer is clearly YES. For many in this camp, the Dow’s upsurge is a very “real” start of a new bull market.

There’s just one major problem with this assumption; namely: Wall Street reports the nominal value of the Dow in terms of the U.S. dollar. But there is also another measure of the Dow’s strength: gold. And in terms of gold, the Dow’s purchasing power isn’t looking so pretty: Right now, the REAL “real” Dow — i.e. Dow divided by gold — is down 80% below its 1999 peak.

Now, you might ask yourself: Who gives a hoot about the DJIA in terms of gold? Wall Street doesn’t pay it any mind. You don’t pay for things with gold when you go to the store. And gold itself hasn’t been the standard since FDR gave nightly “fireside” chats and the average cost of gasoline was 10 cents/gallon (circa 1933). So, what does it matter where the Dow is denominated on this outdated scale?

Here’s why it matters: In the last three decades, an authentic bull market has occurred ONLY when the “real” Dow has risen alongside the nominal Dow.

The first tier shows the nominal Dow, as measured in U.S. dollars; the second shows the “real” Dow, as measured in ounces of gold; and the third depicts the Dow versus the S&P Goldman Sachs Spot Index of Commodities Ratio.

As you can see, the genuine bull market era of 1980 to 2000 witnessed a synchronized rally leg in all three indexes. From there, the trio of Dow valuations reversed course in a coordinated decline. In October 2002, however, a major divergence took place when the nominal Dow broke away from the crowd and started to rally, while the “real” Dow and Dow/Commodities continued to collapse.

Here’s what this implies: The five-year advance in the nominal Dow since 2003 was not the product of currency inflation, but rather CREDIT inflation. Stocks flew too high on the “borrowed” wings of every debt-related vehicle under the acronym-esque sun: ARM, ARS, SIV, CDO, etc. And, once confidence in that elaborate system of leverage evaporated in 2007, the entire system collapsed alongside. (The nominal Dow plunged 54% into the 2009 low, falling in step with the 80% drop in its “real” counterpart.)