Golden Opportunity                                           May 8, 2004

Our studies of past gold bull markets have compelled us to warn investors about the suddenness and sharpness of corrections that were likely to occur from time to time in gold and gold stocks. As an example: in the 1970’s gold bull market when gold rose from $35 an ounce to $850 an ounce in 1980, there were many scary and deep setbacks along the way, including a decline from a peak of $200 an ounce in 1975 to $103 an ounce in 1976. We have been anticipating the possibility of a violent correction such as the one we have seen this month since November. With the XAU index down 21.9% and HUI Gold Bugs index down 24.2% for the month, this correction bordered on a crash. Gold was down 9.3% while silver was down 23.7%, however, the facts that lead to our fundamental viewpoint that we are still in the early stages of an unprecedented gold and silver bull market are many.

The US dollar and all world currencies have been losing value over a very long period of time, but since we totally de-linked from gold in 1971, the pace has accelerated. From 1787 to 1970 the US money supply increased to 600 billion. Since 1971 the money supply ballooned to $6.6 trillion by 2000, a ten-fold increase! Since 2000, M3 growth accelerated 37% from $6.6 trillion to over $9 trillion, while mortgage debt is up 33%, and state and local government borrowing is up 30%. Anyone that claims we are not experiencing rampant inflation simply does not understand what inflation is. At the pace that M3 has grown since the beginning of the year we will add almost $1 trillion in 2004 alone.

Meanwhile, the supply of gold from the mine production has slipped over the past few years to less than 2600 metric tonnes, about equal with jewelry demand for gold. Hedge buybacks accounted for 310 metric tonnes in 2003. The really big change came from investment demand, which is the only true real driver of a true gold bull market. Investment demand has progressed from -47 metric tonnes in 2000, (the year the internet bubble burst), to 156 metric tonnes in 2001, 456 metric tonnes in 2002, and 888 metric tonnes in 2003! Silver supply from mines and scrap has fallen short of demand since 1989, with the deficit expected to reach 46 million ounces this year. Massive inventories of the past, including a prior 60-year stockpile of the US, is all but gone leaving little supply to fulfill an increase in investment demand which has been climbing. The recent action in the COMEX silver futures market suggests that we are reaching an inflection point. Dealers in silver had losses of over $300 million before crushing the price ahead of the April expiration. Dealers have disappeared on the short side after escaping serious damage over the last few months. Investors should learn from this episode to take delivery when investing in silver as the trading rules of the COMEX are rigged in favor of the shorts. We know of one buyer that did not receive his silver after requesting delivery from the COMEX for well over a month even though the price of silver dropped on the COMEX by almost $3 per ounce. This speaks loudly to the futures market having little connection with the real physical market. It will take some time now for the market to recover from the technical damage that this has caused to the metals and the precious metals stocks. A sharp rebound should not be far off, however, as silver bulls and gold bulls have plummeted to 9.3% and 9.9%, respectively, after exceeding 80% bullish in recent months. One very good sign is the physical buying flooding in from China, Japan, and India in the face of the sharp drop.

Some additional points for thought supporting the bullish fundamentals of gold and silver:

1.) We are in a wartime environment - history supports the contention that war and ever-increasing military expenditures strain government budgets and result in even more rampant money printing and debt creation (inflation).

2.) The Rothschild’s have abrogated their privilege to “fix” the price of gold in London, a privilege by some estimated to be worth a billion dollars. Since their position has largely been a facilitator of selling forward, doesn’t this suggest a drying up of selling, which would logically result in their desire to get on the other side now as a buyer. This coincides with investment demand at its highest level since 1967 at which time the government refused to remain a seller. Again, investment demand is the only true driver precious metal bull markets.

3.) The association of gold and silver with the reflationary trade being over is ludicrous. The proponents of that theory had better pray that they are wrong; however, if in fact they are right, gold and silver will be in even more demand as safe havens, of which there are few others. With the multiple asset bubbles that have been created in the US by the Fed, it should be obvious that at this point, pricking any of these bubbles would entail a dangerously perilous risk. The lack of success Japan had with such an endeavor, (even though they were a country that could fall back on their high rate of savings, unlike the US) should still be fresh in our minds.

4.) Greenspan, and even more so Bernanke, has pledged to continue to flood the markets with more inflation to avoid the bursting of any bubbles, especially the crucial housing bubble. While decades of inflationary money creation will eventually result in a deflationary bust, as too much debt is created to be serviced, the trend is still in force and its reversal would upset the worldwide financial system, which is a key reason to maintain exposure to gold.

China’s announcement to slow bank lending over a few days in order to slow what it characterized as too rapid growth, was a trial balloon to gauge the market’s response to such an adjustment. The market response must have struck terror into the hearts of central bankers worldwide. They probably concluded that reeling in the world’s bubble economy is not an option. The Fed is finally in a quandary over what to do. Massive debts in the world magnify any policy miscalculation it may make, as it attempts to balance pronouncements of low inflation, growth but not too much growth, and funding requirements. A higher dollar will exacerbate the imbalances already prevalent, as well as hit sales and earnings of the large multinational companies in the US. A lower dollar will encourage other nations to shift investment back to gold, commodities, and countries other than the US.

The US economy is an $11 trillion economy, while the US stock market is $11 trillion and the US bond market is $20 trillion. The rest of the world’s stock market value is $15 trillion while the remainder of the world bond market is an additional $13 trillion. With US’ appetite for debt, why is the rest of the world so willing to lend to such a bad risk? The answer is that if they stop they are afraid what would happen. The Bank of International Settlements estimates that total estimated derivatives are approximately $210 TRILLION!!!

$210 TRILLION DOLLARS!!! How can this figure be ignored? A derivative is supposed to be “derived” from something. Is it not apparent at this point that there is nothing left big enough, (or bigger for that matter), for derivatives to be derived from. It is obvious to me that at this point, derivatives are nothing more than failed bets, on the part of financial players, doubled down on many times over. The entire financial system is Enron and Long Term Capital times ten. There is no remaining equity to settle the unwinding of the derivatives!

When the masses realize what has happened they will run headlong to gold and silver, and the companies that produce them with such a fury, it will make the internet bubble look like a high yielding utility stock by comparison.

The gold stocks that exist worldwide have roughly a market capitalization of $100 billion while the silver stock universe is a mere $7 billion. These are SCARCE assets that control the only REAL MONEY that will SURVIVE what the central banks have done to the financial system. Do not be fooled again by Rothschild’s retreat from the gold market. Remember it was the Rothschild’s that sent a messenger to London to start selling bonds when Napoleon was defeated in the 1800’s, which caused a selling panic as people believed Napoleon had won. Then the Rothschilds came in and scooped up the entire debt as they are waiting to do with your gold and silver. Gold and silver stocks are your high-powered leveraged play on increasing gold and silver prices over the next decade. Understand why you own them, this most emotional of investments is likely to experience it’s most unpredictable and volatile moments at just such a crucial juncture as now.

We expect gold and silver to exceed the 1980 highs of $850 and $50 per ounce in the next few years. Before this gold and silver bull market is through, we believe gold and silver will exceed the all-time highs in real terms. For gold, that high was $2400 per ounce, in 1492, and for silver $806 per ounce in 1477. Just be sure to stay aboard.

Richard J. Greene CFA