Vancouver Confirms a Bull Market
February 3, 2006

The number of attendees at the San Francisco investment conference in November last year was about the same as it had been six years ago when gold was half the price, and was consistent with my conclusion that we were not in a gold bull market but in a dollar bear market. That meant that the increase in the dollar gold price merely reflected a lower US dollar exchange rate. But by then the gold price had already increased substantially in many currencies, unrelated to the US dollar exchange rate. My conclusion at the time was that if, indeed, we had entered a real gold bull market, then the bull was still a calf (see: "Which phase are we in?" at in the Commentary Section).

After the Vancouver investment conference two weekends ago I can confidently report that there is no doubt we are in a gold bull market and my natural instinct, after seeing the crowds in Vancouver, is to sell and run for the hills. Yet my prognosis for the US economy seems to be coming to pass. When hedge funds, mutual funds, pension funds and central banks all stare each other in the eye, waiting for the first one to blink so that they can unload their dollars, the beneficiary will be gold.

Economic growth in the US during the last quarter of 2005 was the weakest it had been in three years. That does not say much, given how robust the economy has been: we have to keep in mind that the US was recovering from two horrendous hurricanes, rising energy prices and rising interest rates. Unfortunately, the Federal Reserve just raised interest rates again this week and energy prices are not coming down.

Ford and General Motors are cutting about 60,000 jobs between them. Ford announced last week that it will cut its work force by 28% and plans to close fourteen North American factories. One could argue that the auto industry in the US is getting hit particularly hard by rising gasoline prices and that it is folly to put too much emphasis on it. That is certainly true, but in conjunction with everything else I doubt the effect will be constrained to autos and airlines.

The boom in real estate values that kept the economy moving after the stock market peaked is now also over. December saw housing starts decrease by 8.9%, with a 12.3% decline in single-family home starts. Housing prices also declined in December and the inventory of homes for sale increased. If interest rates were to start falling again now then the real estate market could get a shot in the arm, although I doubt that it will be sufficient to overcome the speculation that has built up in the sector.

Still, the reason I do not see the US economy or the US dollar recover is simply the twin deficits. My understanding of economics is very rudimentary: I know that price reflects the equilibrium between supply and demand. If you increase the supply of something, without offsetting demand, then prices will drop. The US fiscal deficit requires it to issue bonds to meet its spending programs. Eventually bond prices will drop as a result of the increase in the number of bonds outstanding and since interest rates rise when bond prices fall, it means US medium to long-term interest rates are going to go up, regardless of what the Fed does.

At the same time, the US trade deficit is increasing the amount of dollars held by foreigners and this will eventually cause the US dollar exchange rate to fall as well, much more than it already has. Even though it may be counter-intuitive, I believe there is a high probability that we will enter a period during which US (medium and long-term) interest rates will rise along with a decline in the US dollar exchange rate. When that happens I also expect the gold price to increase dramatically as a result of all those fund managers and central bankers staring at each other.

But the world doesn't always work the way I think it should. The gold price could rise for a myriad of reasons and there is no guarantee that it will rise at all. We are all bullish on gold, but that does not mean we are right. The only thing I am absolutely sure of is that volatility in the gold price is going to increase. It will whipsaw a lot of people out of profits and into losses and it will create opportunities for others. I hope you are one of the latter.


Paul van Eeden

P.S. I may in future stop publishing these commentaries on Kitco so if you enjoy reading them I suggest you go to my website at and register to get them by email. Rest assured that I do not sell or rent any of my subscribers' email addresses.


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