gold - a must read

  1. 9,081 Posts.
    One of the most sensible summations I have seen on the fate of gold - past, present .... and .... future?


    Since my last writing, events have continued to trend along the lines of highest probability. The secondary trend reversal confirmed precisely as forecast. Short positions in the general share market were well advised, and have provided nice profits.

    Fortuitously, the recommended entry position in gold shares for 11/19, namely Harmony, Gold Fields, Gold Corp, and Agnico-Eagle, caught the secondary trend just right and are up 15%, 24%, 25%, and 26% respectively. I love it when a plan comes together.

    I continue to hold positions in the following precious metals shares: Thistle Mining, Miramar Mining, Carnac Resources, First Silver Reserve, Starfield Resources, Novagold Resources, Caledonia Mining, Golden Star Resources, Durban Deep, Randgold, Harmony, Gold Corp, Glamis Gold, Agnico Eagle, Meridian Gold, Pan American Silver, Silver Standard Resources, and Apex Silver. Most are up dramatically, some obscenely.

    So what? It is unlikely that this torrid pace will continue for the coming year, but it might. Most likely there will be something of a pull back in gold and its shares. Maybe even, as we have covered before, a false dawn for the general economy. The greater the pull back, the greater the opportunity.

    Fed Watch

    Last article, we posited that Fed watchers, while alarmed, were less alarmed that circumstances dictated. This was confirmed by Greenspan's recent speech to the Economic Club of New York, with it's considerable reference to gold's role in the monetary system. Essentially, Greenspan said that gold may be necessary to protect the value of the dollar, because central bankers can't control deflation.

    Most intriguing are the bread crumbs that lead to this speech.

    None Dare Call It Reason

    The Internet offers access to a richness of ideas never before available. It is possible to wonder through and gather a tremendous volume of information and opinions of most any topic. A few years ago I began researching gold. One particularly interesting thread of discussion and speculation was promulgated by a bunch of whack job conspiracy theorists that decry the Fed and the Treasury for selling out the nation's gold. On the surface, most any sane man would dismiss this story completely. I nearly did. But it is my job to rake through the detritus of human ideas to find the one or two overlooked gems that can lead to fabulous riches. I have come the well considered conclusion, as did many hedge funds about a year ago, that this time the whack jobs are mostly right.

    If they are completely right, there has been treason at the highest levels. However, I never believe a conspiracy theory where a failure of reason offers an alternative explanation. That's almost always.

    The true story will likely never be known. Even if known, it will defy common explanation and will be discussed for many decades. The villains will remain in shadows and not be defeated by man but by the cycles of inflation and deflation. A natural force more powerful than nations or armies.

    I have my own theories. Many are most certainly wrong, but drawing from the web and connecting the dots, a story can be told.

    As Promised, A Scary Campfire Story

    The story begins with Barrick Gold. And a strategy for growth. Very simply, Barrick would take advantage of a bear market in gold to acquire other properties at distress prices. Nice friendly Banksters were able to offer considerable assistance. Through the alchemy of derivatives, hedging, and forward sales the Banksters were able to offer Barrick quite a deal: no downside risk in the event that gold were to rise.

    What's this. No risk? No such beast. Someone was taking the risk. With Big Daddy Bush on the Board, the operations and policies of the Exchange Stabilization Fund could be telegraphed to Barrick. Essentially, Barrick and the Banksters could front run the Treasury. After all, bond traders do it all the time. An honored tradition. Over the years Barrick grew to be the world's premier gold miner, with a hedge fund bolted to the side. A hedge fund with an edge.

    As the years went by, a second administration found a use for this edge. Any one remember Clinton's temper tantrums over not being able to control long rates? Well, Larry Summers to the rescue. His understanding of Gibson's paradox set the stage for a manipulation of biblical proportions: By suppressing the price of gold, you can suppress long term interest rates. Eureka! The bond ghouls were defeated. Clinton and Rubin and the politicos of the day could inflate stocks and bonds forever. Or at least until someone else takes office.

    Thus began a new period in economic history. A period where the Exchange Stabilization Fund facilitated the long peg on a bewildering array of gold swaps, gold leases, forward sales and unfathomable derivatives schemes. Spreading beyond Barrick, the entire industry has become caught up is a web of structured finance that could only be created during a financial mania, and can only be unwound during a deflation. The Treasury has recharacterized its gold reserves more than once. Only the naive believe that the type of fraud demonstrated by our corporate elites has not infiltrated the federal monetary system. The insanity began when the historic relationship between stock and bond prices was violated in 1996. Sobriety will return when historic reality returns to this primal relationship.

    One by one, the party go-ers are sobering up. Austrian concepts are being considered. Mr. Market has been discounting hedged mining companies. Sir Alan has been emphatic about netting legislation before Congress. The Federal Reserve discussed buying gold mines after 9/11. The Russians have circulated the gold Ruble, the Chinese have liberalized the gold market, and the Islamic Dinar is about to launch. Lawsuits have been filed, first by altruists, now by commercial interests. Dollar devaluation was the consensus at Jackson Hole this year. Keynesian ideas are being dissed by Fed governors. Monetization of debt has become policy. Gold and its shares are breaking out.

    And Greenspan, the closet gold bug, appears to be coming out.

    Shut Her Down Newt, She's Sucking Sand

    Clearly, the Fed has been laying the groundwork to deal with a systemic monetary or currency crises for at least a year. While many do not give them credit, they clearly understand the problem at hand. After all, they have been party to the problem.

    So, the Fed has panicked, and adopted essentially the monetarist economic philosophy of Milton Friedman by accepting blame for the last depression. The Keynesians are all a tether, having lost their perceived exclusivity over policy formulation.

    The tiny minority of Austrian economists just sit back and smile. Those who follow their advice are currently counting their coin.

    What is the Fed to do? At this point, they should build their gold reserves. If they are hypothecated with some mysterious instrument of structured finance, the positions should be unwound. If the gold is gone, lay plans for confiscation.

    All appear to be in the works.

    Personal Central Banking

    So what's a simple debt slave to do? My conclusion is that you must become your own central banker, and front run our monetary authorities. Sound complicated? Not really.

    Unwind your structured finance position. Buy nothing on margin or with debt. Pay off your mortgage, lest you find yourself upside down as this debt may survive foreclosure. If, like nearly all of us, you prefer not to rent and can't pay off the mortgage then off-set this debt with a small amount of gold bullion. Effectively a position in condensed real estate. Dirt. Should deflation hammer the price of your home, the coincident currency crises should buoy gold sufficiently to pay off the debt. In a localized hyper inflationary environment gold would serve the same purpose: We've all heard the story of the dirt poor German bus boy who bought his employer's hotel with a single double eagle received just months previous. Gold bullion can serve well as mortgage insurance for us debt slaves. Maybe even offer financial freedom.

    So build your gold reserves. Central banks are becoming net buyers of physical gold. If you are sufficiently wealthy, take delivery of a COMEX contract or two. Or three. The entertainment value as you watch your borker's reaction should be worth the price alone. If you are less affluent, buy a few coins. A nice mix of bullion coins, old world gold coins, some silver dollars, and 90% silver junk can be accumulated on price pull backs, of which I expect many during the coming year.

    A pull back in the gold price appears imminent and may offer immediate opportunity. The commercial short position is obscene. I thought that yesterdays spike down in gold price might be the beginning of an aggressive push to get the price down to levels where this position can be covered with less pain. But it is possible that the commercials are trapped. That the short position can't be covered, and that it will ultimately be "netted out" in a mysterious closed door process that leaves the major commercial producers owned by the central bankers, and the treasury's coffers of "deep storage gold" filled to the brim: The confiscation this time will most likely be of the hedged producers and naïve explorers.

    So buy a little now, and watch for a near term pull back to buy more. Pile on if the commercial shorts start to cover and fuel a break-out over 350-360 as future pull-backs will likely take place from much higher levels. Panic buying in China, Japan, Russia, and the Middle East could break the backs of the commercials, set a new price level, and block the path to the form confiscation perpetrated by Roosevelt in 1933. Baring a false dawn scenario, by year's end, 350 gold could look very cheap.

    And with a little coin in your pocket you may begin to see that, just perhaps, gold is not priced in dollars but that dollars are priced in gold.

    And you will understand central banking.

    January 3, 2003
    Copyright c 2002. Rodney C. Cook, Ph.D. All Rights Reserved.
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