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IS GOLD FATED FOR AN OCTOBER SELL-OFF?

 

By Dr. Richard S. Appel             Printer Friendly Version

September 23, 2004

www.financialinsights.org

The gold market appears to have past its low and has been consolidating in the $400 area. This has been accompanied by similar price action in the shares of the stocks that either mine or explore for it. From experience, as long-term followers of the yellow metal recognize, we have entered what has been historically the annual best few months for gold. Thus, if history is a guide the odds highly favor an advance from current levels. So why am I concerned?

A major confluence of events has occurred that is extremely bullish for the gold universe. Some of these have been in place for a time but others have recently emerged. According to the World Gold Council's statistics, for over two decades mine production has seriously lagged that needed to satisfy gold's increasing demand, and the gap is widening. This has strained the available above ground scrap, investor dis-hoarding, and central bank sales that have heretofore made up for the shortfall. In fact, this year's anticipated gold mine production of 2,500-2,600 tonnes will be outstripped by over 3,300 tonnes of demand. Importantly, for the next few years at minimum this deficit is destined to worsen. This is due to the fact that gold production will decline faster than new mine output is expected to come on stream.

Further, if those at GATA (Gold Antitrust Action Committee; gata.org) are even reasonably close to being accurate in their assessment, the major central banks have little remaining gold with which they can, or will, willingly part; they are basically scraping the bottom of the proverbial barrel. Additionally, the major gold producers have become buyers of the metal in order to reduced or eliminated their earlier hedges. This in their haste to prevent additional losses generated by the rising gold market.

Addressing this issue, producer hedging poured an additional tens of millions of ounces of gold onto the market for over a decade and a half. Had this not occurred gold would not have fallen to the depths of its $252 nadir in August, 1999, and the noble metal would be trading at far higher than today's price. However, I remain confident that the reversal of this process will instead act to drive gold higher in price, as the major gold miners are forced to reduce their net supply to the market as they offset their hedges.

Recently, Argentina announced that they purchased 42 tonnes of gold during the first six months of this year. This may be a prelude to similar actions by other nations. Also, several months prior to the requisite time for their announcement, the 15 nations involved in the 1999 Washington Agreement stated that they would renew their accord. They agreed to restrict their combined annual sales to 500 tonnes over the next five years and would limit their gold leasing. Recent rumors have it that this number may not be reached.

Still another event that is beneficial for the gold price involves Switzerland. If you will recall, after the announcement of the 1999 Washington accord, that country began dis-hoarding 1200 tonnes from its long held and earlier coveted gold reserve. The Swiss carried out their plan at a rate of about 25 tonnes per month. They are now approaching their stated goal and will soon cease these sales. As with the actions of Switzerland, the above events will all exert a positive impact upon an already tight gold market.

Only last week, Russia's president Vladimir Putin appears to have given his citizenry a major reason to rush into gold. He recently abolished elections for governors, and eliminated local elections for individual members of parliament. This is tantamount to announcing his dictatorship and will threaten the great strides that his nation has achieved in their apparent fleeting quest for individual freedom. I believe that this event will frighten numerous Russians and will drive them into gold for what they will view as their financial survival.

In addition to the above items that will positively influence the gold market are the ballooning domestic money supply, the ongoing massive U.S. Federal deficits, as well as our unsustainable balance of payments deficits. The latter is highlighted by the horrendous second quarter $166.2 billion current account deficit. This is fast approaching 6% of GDP which history has proved to be unsustainable. Whenever a country neared that point its currency suffered a significant depreciation against those of other nations. It is likely that the U.S. will be capable of driving our deficit/GDP equation to a record high level. This is due to the dollar's world reserve currency status. However, at some point the first nation state will refuse to accept our dollar, and other countries will follow suit. It is only a matter of time.

The combination of the burgeoning money supply with the record fiscal and current account deficits will act to reduce the dollar's purchasing power as well as its desirability. This will ultimately translate into its worth declining domestically as well as on the world's currency exchanges. To my mind, the effect of an exploding money supply occurring simultaneously with both budget and current account deficits, adds up to the underpinnings capable of alone supporting a major secular gold Bull Market.

If I am correct, the gold Bull Market is destined to take the breath away from not only today's skeptics but also from most true gold believers. So why worry about the future, and especially the month of October, if everything now appears to be aligned on the side of a rising gold market?

All long-term and even recent first-time gold investors have already endured various "tests of fire". The longer that one has invested in gold the greater the number that had to be survived. We all suffer from deep and some from possibly irreversible scars. All of this is due to the repeated setbacks that periodically occurred within the 1970's Bull Market, through the Bear Market rallies from1980 through1999, as well as from those secondary price declines that we have sustained during the present Bull Market.

I want to stress this point so that you do not forget that all gold up-trends will be punctuated by declines, and some of these will be quite harrowing! This is the reason that patience and a long-term perspective must be stringently adhered to in order to profit, nay survive, while gold works its way to its peak over the next number of years.

Fast approaching October is the month that the International Monetary Fund has its annual meeting. If their upcoming affair is similar to a number that transpired during the1970's, we may have to live through yet another temporary set-back in the yellow metal's rise, despite its golden future.

THE 1970's REVISITED AND
A POSSIBLE GLIMPSE INTO OUR FUTURE

The 1970's witnessed gold rise from $35 in 1971, to its $875 peak in early 1980. These overall exciting and profitable times were also accompanied by some frightening price declines that produced devastating paper and real losses. They accrued primarily to those investors who did not essentially buy and hold their gold investments through the Bull Market! It is true that there were a number of adept traders who greatly profited. A few even far outperformed those that maintained their gold and gold share positions throughout gold's great advance. However, the vast majority of traders who attempted to time the market were severely damaged when gold often reversed course. They were either left in the lurch when gold rose, or they sold out near an important bottom after gold had collapsed in price.

It would not surprise me if there was a major correction within the next year or two. This could take gold down 30%, 40%, or even 50% from its highs. Something similar to this occurred when gold touched $200 an ounce in December, 1974. It later posted a $103 low a year and a half later. I believe that it is prudent to sell a small portion of your holdings into all strong advances with the knowledge that a correction will eventually occur. In this fashion you will have some capital available with which to acquire the great bargains that will appear at the inevitable bottom. If I am correct and a substantial correction is fated to occur before gold's Bull Market finally crests, you will be happy that you did. Even if you ride out all of the set-backs, take heart! Remember, after striking $103, gold then resumed its Bull Market and peaked at $875. If an investor had held through that entire nearly 50% decline, he still could have quadrupled his money at gold's final top.

My concern about an October gold reaction revolves around at least three difficult periods that gold bugs encountered during the1970's gold Bull Market. These resulted from statements emanating from the annual Fall IMF meetings. In each instance, coinciding with the conclusion of these gatherings, were announcements that were extremely gold negative. They each generated short-lived but sharp sell-offs across the various gold markets. Given recent events, I have begun to wonder if we are again destined to endure another similar time.

Among the reasons that cause me to view the upcoming IMF meeting with a wary eye, is the early announcement of the continuance of the Washington Agreement. The March statement by the members of the accord was a full six months before it was due to expire. Given the fact that the premature extension dispelled a major concern overhanging the gold market, it acted to strengthen its price.

The timing of this announcement was quite startling to me after having observed the actions of the various central banks through their decades long battle against gold. I do not recall another event sponsored by them that was as positive for gold, save for the September, 1999 Washington Agreement. Further, there is increasing talk and speculation that the members to the accord may actually sell less than their stated 500 annual tonnes over its 5 year term. These two issues have lent great comfort to the minds of many gold investors and may act to lessen their concerns, causing them to be emboldened in their actions. Who knows, any comments emanating from the meeting that alter the market's current perception of the amount of gold that will reach the market, may damage it.

Finally, President Bush's intense desire for reelection needs little discussion. He is barely leading John Kerry in the polls, and must desperately maintain the status quo for a few more weeks to remain in the Oval Office. To this end, I believe that he will do whatever is in his power to maintain a stable stock market, a level economy, and prevent a rising gold price.

If common stocks move sharply lower it will not only harm American investors but may generate fear, in the minds of our voting public, of an impending economic decline. Or, a strongly advancing gold price prior to the November elections may upset the markets. If either of these events transpire, voters may perceive that President Bush has lost control of the economy, and may change their vote to Mr. Kerry.

While it is far from certain that the IMF meeting will end with gold damaging comments, I believe that it is prudent to maintain some cash on the sidelines. If my concern proves correct you will have the ability to benefit and not entirely suffer, both emotionally and from paper losses, from such an occurrence. In any event, this issue should be kept in mind during the balance of gold's Bull Market. It has worked in the past for the central bankers and will likely be utilized in the future.

When earlier IMF comments occurred that affected the gold price, the yellow metal was typically advancing in price. While gold is trending higher, as of today it does not appear to be a threat to the desires of the central banks or to the aspirations of President Bush. For this reason, we may be spared from a near-term attack. However, if gold soon strongly rises, negative comments will forestall its unfolding and may help solidify President Bush's hold on the presidency. Whatever transpires, I am confident that gold remains in a confirmed secular Bull Market. For this reason its long-term trend will remain up regardless of any temporary setback.

The above was excerpted from the October 2004 issue of Financial Insights © September 19, 2004.

I publish Financial Insights. It is a monthly newsletter in which I discuss gold, the financial markets, as well as various junior resource stocks that I believe offer great price appreciation potential.

Please visit my website www.financialinsights.org where you will be able to view previous issues of Financial Insights, as well as the companies that I am presently following. You will also be able to learn about me and about a special subscription offer.

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CAVEAT

I expect to have positions in many of the stocks that I discuss in these letters, and I will always disclose them to you. In essence, I will be putting my money where my mouth is! However, if this troubles you please avoid those that I own! I will attempt wherever possible, to offer stocks that I believe will allow my subscribers to participate without unduly affecting the stock price. It is my desire for my subscribers to purchase their stock as cheaply as possible. I would also suggest to beginning purchasers of these stocks, the following: always place limit orders when making purchases. If you don't, you run the risk of paying too much because you may inadvertently and unnecessarily raise the price. It may take a little patience, but in the long run you will save yourself a significant sum of money. In order to have a chance for success in this market, you must spread your risk among several companies. To that end, you should divide your available risk money into equal increments. These are all speculations! Never invest any money in these stocks that you could not afford to lose all of.

Please call the companies regularly. They are controlling your investments.

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FINANCIAL INSIGHTS is written and published by Dr. Richard Appel and is made available for informational purposes only. Dr. Appel pledges to disclose if he directly or indirectly has a position in any of the securities mentioned. He will make every effort to obtain information from sources believed to be reliable, but its accuracy and completeness cannot be guaranteed. Dr. Appel encourages your letters and emails, but cannot respond personally. Be assured that all letters will be read and considered for response in future letters. It is in your best interest to contact any company in which you consider investing, regarding their financial statements and corporate information. Further, you should thoroughly research and consult with a professional investment advisor before making any equity investments. Use of any information contained herein is at the risk of the reader without responsibility on our part. Past performance does not guarantee future results. Dr. Appel does not purport to offer personalized investment advice and is not a registered investment advisor. The information herein may contain forward-looking information within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. In accordance with the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, the statements contained herein that look forward in time, which include everything other than historical information, involve risks and uncertainties that may affect the company’s actual results of operations. © 2004 by Dr. Richard S. Appel. All rights are reserved. Parts of the above may be reproduced in context, for inclusion in other publications if the publisher's name and address are also included for credit..