Gold Challenges $300!

Adam Hamilton     February 8, 2002     6254 Words


What a week for gold investors!  The Ancient Metal of Kings, long ridiculed and derided as a “barbaric relic” by those whose entire understanding of market history encompasses only the last five years or so, launched an exciting assault on the fabled $300 mark.


The enormous entities actively trying to cap the gold price must have been literally soiling their shorts this week.  In the wild, wild world of the investment markets, nothing fuels commentary and investor interest like price movements.  For the big dirty gold shorts, there is no prospect more terrifying than a significant increase in physical gold investment demand in the capital-rich Western world.  In our media-saturated culture where most folks form their entire market worldview based solely on whatever propaganda the mainstream media happens to be spewing at the moment, popular investment opinion is extremely dependent on whatever the financial media chooses to cover.


While I strongly believe that the endless perma-bull hype on financial networks like CNBC definitely helped fuel the great equity bubbles of the late 1990s and has been a black plague on investors’ capital, I still do keep the channel on and muted in my office to see the useful real-time market information.  The day after gold’s $9 rally, February 6th, I was amazed and pleasantly surprised to see quite a bit of CNBC commentary on gold.  There were lead stories on the gold rally, explanations of the negative effects of producer hedging on gold prices, interviews with gold fund managers, and gold price charts prominently displayed.


Incredibly, all this sudden coverage was spawned by a relatively small daily rally in gold, a mere 3.1%.  Imagine the swirling firestorm of gold coverage in the future when we start seeing 5% to 10% daily rallies in the price of gold!  As many contrarian investors around the world realize, the rallies in gold currently remain in the earliest infant stage.  As the coming great gold bull grows and matures, the gold price will continue to rise and volatility will increase dramatically.  The higher the gold price rises, the more media coverage it will command, which will in turn entice more capital to chase gold, pushing prices ever higher.


The wondrous virtuous circle that unfolds as a stale bear-market evolves into a fledgling bull-market which ultimately morphs into a mighty speculative mania has only just begun for gold.  The best is yet to come and we ain’t seen nothin’ yet!


Why is $300 gold such a critical psychological milestone for the young bull market in gold?  The following chart of daily gold closes since 1996 helps illuminate the supreme importance of this week’s exciting gold market developments.



In an absolute sense, before this week gold hadn’t crossed the big round $300 mark for two years, since a great gold spike in early February 2000 flared-up on the surprise news that a major Canadian gold producer was reducing its gold hedges, implying that a higher gold price was imminent in the near future.  But, in a more abstract sense, gold hasn’t consistently traded above $300 since 1998, almost four years.


There were two large gold price spikes between 1998 and today that temporarily broke above $300.  Before the anti-hedging news of February 2000 that briefly propelled gold over $300, there was a spectacular gold spike in late September 1999 known as the Washington Agreement rally.  In the Washington Agreement, various national European central banks met secretly without US knowledge and agreed to limit their gold sales in coming years.  When the announcement of the covertly-negotiated agreement broke, gold shot-up like a missile.


Both prior gold spikes since 1998 that broke through $300 unfortunately proved to be very temporary and ethereal, quickly vanishing like a promising mirage in the midst of a parched desert.  In addition, the Washington Agreement spike and the anti-hedging spike were both countertrend rallies in a gold market locked in a very clear downtrend.  Note in the chart above that from 1996 to early 2001 the gold prices were generally meandering ever-southward, with the slumping market punctuated by occasional sharp spikes to keep everyone awake.


It is also interesting to note that until late-2001 the long-term top resistance line of gold’s downtrend, shown by the red dotted-line above, had not once been breached.  From the early 1996 gold spike above $400 to the two big spikes above $300 in late 1999 and early 2000, even encompassing May 2001’s exciting gold spike, the crushing 5+ year overhead resistance line of the downtrend remained impenetrable, a Maginot Line for gold to smash itself to bits against. 


Following the fiery destruction of the World Trade Center twin towers in September, however, gold was catapulted above the long-term top resistance downtrend line for a short time, but it soon fell back under the barrier.  Then, just as now, there were legions upon legions of gold naysayers who cackled with scorn and declared that if gold could not break $300 following the horrifying terrorist attacks on the United States of America, then gold never would and was probably doomed.  I remember well the overwhelming negativity surrounding the gold market following the 9/11 attacks and the appalling gold investor morale.


Yet, to the delight of the true contrarians around the globe, gold had silently accomplished something in 2001 that it hadn’t done for many years.  Quietly, stealthily, almost imperceptibly, gold formed a solid short-term bottom in early 2001.  On April 2, 2001, gold closed at the quite unattractive price of $256.60.  Many at the time thought gold would plunge through $250, but that very day proved to be the gold bottom in 2001.  Provocatively, unnoticed by all but a few diehard gold technicians, the April 2001 gold low was actually slightly higher than the 1999 gold low of $254.40 reached on August 25, 1999. 


Were the 1999 gold lows truly the elusive long-term gold bottom for which the gold bulls have been so diligently searching for two decades?  Maybe and maybe not.  No mere mortals can divine the future so we certainly don’t know for sure, but the evidence for an honest-to-goodness macro-strategic trend change in gold continues to grow more compelling.


Following its April 2001 low, gold executed something it had not done for at least five years, it actually traded higher in a readily-evident bullish trajectory that continues to this day!  Note the positive slope of the dotted-blue short-term trendlines in the graph above.  For almost a year now, gold has traded in an unmistakable uptrend, quite possibly the very early stages of the long-awaited neo-bull market in the Ancient Metal of Kings.  The dashed-white arrow above is a loose hand-drawn visual guide that outlines the general bottom and sea-change of gold’s strategic price trend.


Beginning in April 2001, the 5+ year downtrend of gold was broken and the gold price quietly began trending higher.  This long-term chart outlining how rare in recent history gold over $300 has truly been, coupled with the first significant uptrend in gold in many years beginning in 2001, helps explain some of the growing technical excitement and fervor surrounding gold’s trading action this week.  Exciting times!


On the fundamental front, many compelling reasons exist why gold challenging $300 at this moment in history is far more thrilling and interesting than the previous two gold spikes above $300 in recent years.


First, the core fundamentals of gold itself continue to grow ever more brighter.  As the amount of gold mined around the world each year slowly shrinks as fewer and fewer mines can scrape-out a profit in the brutal gold environment, global gold demand has literally soared.  Annual global mined gold supply only runs around 2500 metric tonnes per year, and we are seeing more and more reliable estimates that total annual global gold demand is approaching 5000 tonnes per year, doubling supply.  In the global markets, whenever the demand for anything far exceeds the supply a price rise is inevitable to bring supply and demand back into equilibrium.


Second, the 1999 and 2000 gold price spikes above $300 occurred when gold faced unbelievably powerful competition in the investment arena.  Although it seems like a hundred years ago sometimes, every investor reading this essay can certainly remember the NASDAQ accelerating northward parabolically in late 1999 and early 2000 in a classic bubble blow-off speculative mania top.  That was the surreal time when the vast, vast majority of investors thought US equities would rise forever, when shoe-shine boys at airports were giving hot-stock tips, and when e-Trade was running ubiquitous television commercials trying to convince Americans that the easiest way to achieving great wealth was simply by sitting in front of a computer in pajamas and day-trading tech stocks.  My-my, how times do change!


Gold was easily beaten back down below $300 quickly in late 1999 and early 2000 because Western investors were so star-struck chasing the alluring seduction of the mighty NASDAQ bubble that few even cared about the gold action.  Yet today, about two years into what will almost certainly prove to be the worst bear market in US equities since the Great Depression of the 1930s, more and more average investors are rightfully growing frightened about their catastrophic losses in market-darling stocks and they are far more receptive to the idea of deploying some capital into “alternative” investment arenas, such as gold.  Gold piercing the psychologically-crucial $300 mark in the dark investment world full of enormous systemic risk today is far more bullish than gold piercing $300 while equities raged in their biggest bubble in seven decades.


Third, this current gold rally is in the face of an incredibly strong US dollar.  There are many gold investors out there today who think that the only way that gold can ever rise in price is if the US dollar suddenly implodes in the American financial equivalent of Armageddon.  After studying this theory for several years, even being quite receptive to it at first, I now believe it is based on a false premise.  Gold can rally because of structural supply and demand forces without the US dollar being utterly destroyed.  My evidence?  Simple… 1979! 


In the last great gold rally in the 1970s gold ran from about $42 per ounce to about $850, a spectacular 1925% gain in roughly seven years.  Yes, the dollar de facto devalued and is worth a lot less today than before that great gold rally thanks to the Federal Reserve’s insidious and relentless monetary promiscuity and debasement, but a spectacular speculative mania in gold culminating in January 1980 did not seal the coffin for the US dollar.  On the contrary, in much of the past two decades since the late 1970s gold speculative mania the US dollar has still been the pre-eminent global fiat currency!


Gold’s current supply/demand driven rally in the face of a very strong US dollar, some would say a paradoxically strong dollar given the sorry state of the US economy, is extremely encouraging fundamentally.  I believe that gold can once again rally hundreds-of-percent without slaying the US dollar, which continues to somehow remain the least of all evils in a sad world full of central banks racing to shamefully perpetually debase their own fiat currencies.


Fourth, the gold rally this week corresponded with growing reports of serious gold-buying by a shell-shocked Japanese populace, which is comprised of the most zealous savers in the first world.  As the embattled Nikkei 225, the flagship Japanese equity index that is the equivalent to the United States’ S&P 500, sunk to a brutal 18-year low this week, reports emerged of increasingly heavy gold buying on the Tokyo Commodity Exchange.  Collectively the Japanese people, tragically long-plagued with horrible socialist market-manipulator governments who foolishly think that they can tame the free markets, control one of the largest private pools of capital on earth.


If the Japanese people begin to catch the hot-burning fever of goldlust, which is virtually insatiable once it takes root, the gold price will soar as the global gold market is very small compared to carefully saved Japanese investment capital.  The long-suffering Japanese investors, unlike the foolish Americans who still nurse grandiose delusions of magically regaining their forever-lost NASDAQ capital, fully understand that bubbles have serious consequences which can painfully last a decade or more.  If Japanese investors turn en masse to the unassailable six-millennia old fortress of gold for capital preservation, watch out above!


Interestingly, casting aside the huge strategic implications of gold’s current assault on $300 and zooming way in to a tactical level, provocative questions emerge.  The next graph contains screenshots of daily gold action for select days courtesy of our pro-gold friends at  Kitco’s excellent daily live gold chart is the best on the Web in my opinion and is highly recommended.  The four daily Kitco gold charts shown below on key dates of significant daily gold rallies in the past year show an intriguing pattern.



Why, pray tell, does virtually every major daily gold rally kick-off mere minutes after the London gold market closes?  In the four small Kitco daily gold charts above, the light purple horizontal bar at the base of each chart shows the hours which the London metals markets are open.  Why, over and over and over again, do the gold rallies lurk in stealth mode until the London boys shut-down their operations and then explode onto the scene?  The four white arrows above, on the days noted, mark this peculiar activity.  It continues to seem quite odd to my partners and I that most of the recent exciting daily rallies in gold only occur when London is not online to compete with New York.


With several excellent market researchers executing statistically-sound studies that show anomalous activity in the gold markets, almost always with an unexplainable downward bias that falls outside the statistical realms of random probability, the above peculiar action transpiring like clockwork at noon New York Time as the gold markets close in London is extremely provocative.  Reginald Howe, in his landmark lawsuit against the major gold-shorts, even builds on the statistical evidence of anomalous trading between London and New York to buttress his strong case.


As I hammer-out this essay on February 7th, my attention continues to be drawn to the television in my office that shows the interesting spectacle of Congressional inquiries into the rapidly snowballing Enron scandal.  One of the allegations that various Congressfolks (more politically correct than Congressmen I suppose) have brought up in the hearings is that Enron used its trading activities to illegally manipulate the wholesale market for electricity in California.  I can’t even count the times that “price manipulation” and “derivatives” have spilled off various crusading Congressfolks’ lips.


With the four daily Kitco gold charts shown above only the very smallest tip of the iceberg of continuing anomalous trading activity in gold that looks awfully anti-free-market in origin, I imagine that the gold shorts must be wetting their pants.  The coming gold scandal, when it blows, will make Enron look like a picnic because the scheme to officially cap gold involves the most corrupt and disgraceful American President in US history, Bill Clinton, his Treasury Secretary henchman now running Citigroup Robert Rubin, once-deified but now loathed Fed Chairman Alan Greenspan, and other incredibly high-profile people from government and Wall Street. 


In addition, the gold-fixing scandal was a crucial cornerstone of the great equity bubbles that helped perpetuate the illusion of a strong dollar and low inflation.  If gold had been allowed to rise to signal systemic dollar problems in the late 1990s, as it would have done without concerted central bank gold sales, millions, perhaps tens of millions, of Americans would have had a chance to protect their scarce capital from the coming nuclear fallout of the US equity bubble implosions.  With gold rigged there were few other warning signs of impending equity doom, a monumental scandal in the making.


The more that I watch the Enron hearings unfold, the more trouble I know that the executives managing gold operations at the huge market players mentioned in Reg Howe’s lawsuit are really in.  Once the gold scandal blows open and the terrible implications are laid naked for the whole world to see, the crusade for justice will be relentless against those who manipulated the global gold market to prop-up an increasingly shaky dollar and probably sold-off the gold owned by the American people to perpetuate hyper-dangerous equity bubbles for political reasons. 


If you are an executive at a major US corporation involved in suppressing gold through targeted trading activity, and you are within reach of the US Congress, you had best get the heck out of dodge before the nefarious gold activities since 1995 break wide open!  As the Enron scandal abundantly shows, past political contributions and Washington connections are meaningless once the American people are hurt and Congressfolks need to inquisitorially grandstand in election years!


Interestingly, on the volatile gold derivatives front, mega gold-derivatives player JPMorganChase was deluged with rumors that it had lost huge amounts of money on the gold spike to $300 this week.  How do I know this?  Reuters actually ran an official story on February 6th titled “JP Morgan says suffered no gold trade loss”.  An unnamed “senior bank official” at JPM told Reuters, “We had a very good day yesterday.  There is no truth to the rumor that we have a short position in the market, and I don’t know where that came from.  We did not lose money.”  Nevertheless, it is quite easy to say anything one wants when they are anonymous and off the record!  The plot thickens.


The fact alone that the rumors swirling in the gold trading pits of JPM up to its eyeballs in gold-derivatives trouble were so rampant that JPM had to address them is quite provocative.  Other rumors are also spreading regarding JPM, with potentially serious implications as JPM metals executives are someday hauled before Congress in a future inquiry.


For example, some investors believe that JPM, which officially reported $2.6b in unsecured exposure to Enron and was a major Enron advisor, actually intentionally sloughed-off a large portion of its metals derivatives to the doomed Enron before it declared bankruptcy.  As I mentioned in my recent “JPM Derivatives Monster Grows” essay, there was an enormous and sudden drop in JPM’s total notional gold derivatives positions reported to the US government in the Q3 2001 OCC Bank Derivatives Report.  Provocatively, this period of time is exactly when Enron was sliding into chaos and when the primary architect of Clinton’s gold-capping scheme, former Clinton Treasury Secretary Robert Rubin who now runs Citigroup, actually called the US Treasury and asked it, free markets be damned, to intervene with private credit-rating entities so Enron’s debt would not be downgraded.  The “coincidences” multiply!


Still other investors believe that JPM and the other major gold derivatives players have set up covert offshore subsidiaries like Enron did in order to push gold derivatives exposure off the corporate books.  In light of the bitter Enron hearings these allegations are very interesting and the executives at the major gold derivatives players involved in any of these schemes face a world of hurt as what was formerly secret becomes known.  Hell hath no fury like the Congressfolk pursuing American corporate rogues after a major scandal breaks where their constituents lost retirement money!


Provocatively, JPM stock was sold-off to its lowest level since the 1998 financial crises the day these rumors of large JPM gold derivatives losses burned through the trading pits.  In the interest of full disclosure, as I explained in my latest JPM derivatives essay my partners and I are short JPM and have advised our clients to make similar bets, so we were not at all surprised to see a 3 1/2 year low on the fragile JPM derivatives pyramid.


Enough on the coming gold scandals for now, and back to the early celebration for long-suffering gold investors!


Interestingly, as investment theory predicts, gold stocks in general bottomed before gold actually bottomed, anticipating the coming rally.  For a little more background on this idea and why the theory is intriguing, here is a paragraph from our earlier “Gold and Silver Update” essay…


“Theoretically, before the gold market itself moves, someone somewhere should know about it.  They may have insider connections with central bankers and know when the central banks are running out of gold to sell.  They may be gold dealers in India who can spot important demand trends before the general markets.  They may be gold-mine or mint managers who are watching the number of inquiries to their entity that are seeking large private gold purchases grow in frequency.  Typically, before the markets make a material move someone out in this big world of ours should know (or at least be able to high-probability anticipate) that such a move is imminent.”


The most popular gold stock index, the Philadelphia Stock Exchange Gold and Silver Index, the XAU, bottomed months before gold turned north.



Note that the red-dashed line in the graph above marks the general bottom support trend of the XAU, while the black-dashed line marks the general bottom support trend of gold.  The XAU reached the depths of despair in late 2000 months before gold actually bottomed.  As is typical, gold stock valuations rose in response to increasingly positive gold investor sentiment well before gold itself validated the gold stock rally.  It is always interesting and exciting to see theories validated by real-world trading action!


The dotted-white line above marks the technical support bottom of gold’s trend channel since its April 2, 2001 bottom at $256.60 and the dotted-blue line marks the technical support bottom of the XAU since its November 17, 2000 bottom of 41.85.  Both gold stocks and gold have been trading in unambiguous uptrends for about a year, very impressive as the rest of the equity markets burn around us and continue to sink like the RMS Titanic.


Because the graph above has Y-axes that are not zero-scaled, the relative magnitude of the moves in gold and the XAU are not very apparent.  Gold, from April 2, 2001 to February 7, 2002 rallied $44.00 or 17.1% off its bottom.  The XAU however, leveraging the gains in gold itself, roared up by 25.45 or 60.8% since its November 17, 2000 bottom.  Even with all the flaws inherent in the XAU including its dominance by major gold hedgers betting against a rise in gold with derivatives, it still has generated spectacular performance in the last year or so.


While an absolute 60.8% gain in one sector in little more than a single year is always incredible, it is utterly magnificent in the context of the broader bear markets.  Between November 17, 2000 and February 7, 2002, the venerable S&P 500 bled 21.0%, the blue-chip Dow 30 lost 9.4%, and the hyper-speculative NASDAQ casino vaporized 41.1% of investors’ scarce and hard-won capital.  Let’s hear it for the gold stocks!


The spectacular performance of the most widely followed gold stock index in the world, the XAU, versus the perpetually-hyped NASDAQ begs some very tough questions.  Fact…  The XAU gold and silver stock index in the last 14 months or so has beat the NASDAQ composite index by an almost unbelievable 101.9%!  Tough question…  If CNBC and Wall Street really cared about building their clients’ scarce capital, why did they spend all of 2001 hyping the imploding NASDAQ bubble and trying to aggressively herd investors back into vastly overvalued tech stocks while at the same time totally ignoring the stealth gold-stock rally?


Once again for any slow learners out there.  The NASDAQ plunges 41% so Wall Street continually tries to convince hurting American investors that US tech stocks remain the ultimate investments.  The XAU gold and silver stock index roars ahead almost 61% and Wall Street tries to smother it with a veil of silence.  What the heck is up with that?  Whose interests does Wall Street look after, its clients’ or its own?  If there are any investors left out there who still believe the dangerous myth that the financial media and Wall Street exist to help them make money, they are sadly mistaken. 


CNBC exists solely to make its parent General Electric money, by selling advertising space mostly to Wall Street companies that have to be perma-bullish to sell investment banking services and investment advice.  Wall Street exists solely to make Wall Street money.  In a secular bull market in equities, Wall Street’s best interests typically benefit its clients.  In a secular bear market in equities, Wall Street’s best interests get its clients slaughtered.


While the most popular gold and silver stock index has exhibited exemplary performance since its bottom, it continues to be dragged down by its heavy weighting in gold mega-hedgers.  The following graph, commencing in 2001, shows the incredible performance hit the XAU had to absorb because the Philadelphia Stock Exchange insists upon hobbling its index with gold companies in the business of betting against rising gold prices through derivatives.


Please accept our apologies for this next graph.  One of my partners told me that it was the most aesthetically unappealing chart he had ever seen Zeal release!  I think I might agree, even though we have certainly had some other homely charts that were contenders for the ugly award.  Nevertheless, even with the multi-colored splatters below, I still think this graph is quite illuminating.  It shows gold, a couple of gold-stock indices, and various gold stocks in relative return terms since the beginning of 2001.  All eight daily data series graphed below are plotted in individual indexed form, with the first trading day of 2001, January 2nd, represented as a base 100 index value for all variables.  This indexed format allows relative percentage gains to be easily discerned.



For a reference point, as the buried yellow line shows above, physical gold itself is up 11.3% since the dawn of 2001, a respectable performance for the noble yet popularly-loathed yellow metal.  Of course, physical gold in your own possession has been the safest investment through six millennia of human history and it remains so today.  Any stock in the world could conceivably plummet to zero with a bad convergence of the wrong conditions, but physical gold itself will always have intrinsic value and will never, ever fall to zero.  Never!  Physical gold’s performance is the key baseline off which all gold stocks should be evaluated.


As gold stocks bear far more risk than owning the Ancient Metal of Kings itself, they should offer far higher returns than physical gold to compensate for their higher risk, leveraging the gold price.  Incredibly, the gold stock with the largest market-capitalization on the planet by far, Barrick Gold (ABX, in red above), actually only returned 11.2% since early 2001, not even matching gold’s return!  A major gold stock that does worse than gold itself in the most substantial gold rally in six years?!?  This should be a scandalous revelation to the gold world!


Why on earth would any prudent investor in the world want to own a gold stock that underperforms gold in a major gold rally?  Barrick Gold is the most notorious gold hedger on earth, having sold-out its very soul and its shareholders’ best interests to greedy bullion bankers through complex derivatives hedging contracts not unlike Enron’s that attempt to lock-in future gold prices for the huge company.  Barrick has already contracted to sell at fixed prices something on the order of every single ounce of gold it will mine for the next three and a half years.  Talk about counting your chickens before they hatch!


If gold continues to rally, Barrick shareholders will eventually actually lose money on every single ounce of gold sold as the company will be contractually bound to sell gold below the spot price, incurring vast opportunity costs and killing shareholder returns.  The once-proud Barrick Gold has degenerated into such a derivatives-laden nightmare that it actually, in reality, is more of a de facto hedge fund than a gold mining company, and its horrible performance in the midst of the recent gold rally emphasizes this point.


If you are an investor who is bullish on gold and either own Barrick stock directly or own a gold mutual fund that maintains a position in Barrick Gold, you would be doing yourself a huge favor if you sold it immediately with extreme prejudice.  Rather than taking on the enormous Enron-like risk of owning a complex derivatives quagmire like Barrick that underperforms gold, you would be far better off owning physical gold itself with that capital.  You could also instead buy a real gold-mining company that actually benefits from a rising gold price, as gold mining companies should!


If, like us, you are gold bulls, avoid Barrick Gold like the plague and invest in quality gold mines that haven’t sold away any potential upside in gold rallies to benefit the bullion bankers at the expense of shareholders.


Interestingly, the XAU has yielded a respectable 30.0% return since early 2001, about 2.7x gold’s return.  While 30% is a great return in any market, especially a huge and brutal secular bear market, the XAU’s return is far inferior to that of the quality unhedged gold stocks for one big reason.  Yes, you guessed it, Barrick Gold again!


Mega-hedger Barrick Gold constitutes a third of the total value of the XAU and has the same bloated influence on the index’s level.  As long as a hyper-hedging dog like Barrick anchors the Philadelphia Stock Exchange Gold and Silver Index, its performance will only be a fraction of what it should be.  Without Barrick, the XAU might have performed almost twice as well in 2001, a huge difference. 


If I ran the Philadelphia Stock Exchange, I would kick hedge-fund Barrick out of the XAU and concentrate on real gold mines that derive income from gold mining and not complex hedging contracts.  If the Philadelphia Stock Exchange wants to improve its business and increase the popularity of the XAU in the futures and options markets, it could make quantum leaps in increasing its revenue on that front in an XAU that booted Barrick and concentrated on real gold miners that benefit from a rising gold price and not convoluted hedge funds that thrive with a falling gold price.


Newmont Mining (NEM, light blue above) is the best large American gold miner and its management is very bullish on gold and strongly philosophically opposed to selling away future upside through hedging.  Newmont, thankfully, is the second heaviest-weighted component of the XAU at 16% and it has achieved an incredible 35.4% in the last year or so.  Interestingly, Newmont will be the largest gold miner on earth in terms of ounces produced annually once its three-way merger with the largest gold miner in Australia, Normandy Mining, and awesome Canadian gold royalty company Franco Nevada is consummated, probably this month.


Skipping-up the food chain a little, we find that the fantastic HUI index (pink in the graph above) of unhedged gold stocks has roared-up a spectacular 105.3% since early 2001.  This is an even higher one-year return than the breathtaking NASDAQ explosion of 1999 which garnered so many headlines and adoration!  The HUI is the American Stock Exchange Gold BUGS (Basket of Unhedged Gold Stocks) Index.  The HUI is what the XAU should be if the hedge-funds-in-drag like Barrick were removed and only the honest gold miners were left in the index.  I am very encouraged that the HUI is gradually gaining more acceptance in the gold world and I will rejoice at the day when the HUI finally replaces the XAU as the gold stock index of choice.  That day is definitely coming if the Philadelphia Stock Exchange doesn’t clean up the XAU and cast out the hedge-funds!


For risk-loving gold investors who enjoy skydiving on the weekends and vacationing in war zones, the American Stock Exchange also offers trading in HUI options, a far better bullish gold index pure speculative bet than the options on the flawed XAU index!


Last, but certainly not least, the three major unhedged South African gold mines, Gold Fields (GOLD, orange above), Harmony Gold (HGMCY, green above), and Durban Roodepoort Deep (DROOY, white above) have yielded legendary returns since early 2001.  HGMCY is up an awesome 105.2%, GOLD is up a fantastic 135.2%, and DROOY continued its assault on the heavens this week roaring up to a stupendous 308.4% gain in a little over one year!  And you thought the dot-com boom was fun, wait until the neo-gold bull really gets galloping! 


Of course, the cratering South African rand currency I discussed in our recent “Who Ransacked the Rand?” essay has been a tremendous boost to the unhedged SA miners, but even before the rand’s implosion in 2001 the South African unhedged gold mines were easily leading the gold-stock performance pack.


In the interest of full disclosure, my partners and I currently own GOLD, HGMCY, and DROOY, we trade in and out of the South African golds as conditions warrant, and have recommended the same companies to our clients.  We recommended Gold Fields in early January in our private monthly Zeal Intelligence newsletter for our clients and were blessed with 61.0% unrealized gains by February 7th.  We recommended both Harmony and Durban in early September and were fortunate enough to be blessed with unrealized gains of 97.9% and 197.8% respectively, as of February 7th.  Finally, on the same disclosure front, my partners and I wouldn’t buy Barrick Gold if it was the last remaining gold mine on earth.  If we are going to place our own hard-earned capital at risk in gold companies, we are darned sure not going to waste our time in mega-hedgers who sell away their upside for future gold rallies to bullion bankers.  We don’t short Barrick either, we just avoid it like it has Ebola Zaire.


Alas, there is so much more I would like to say on this very exciting week in gold, but this essay is already growing far too long.  Someday, knock on wood, I hope to actually write a short weekly Internet essay!  (No laughing out there!  Everyone should have goals!)  I would like to close with some quick thoughts on whether or not this current gold rally has legs or is already doomed.


For fundamental reasons articulated in dozens of our past essays, we believe that gold has a vastly larger probability of rocketing far higher than collapsing as the gold bears predict. 


Could gold actually plunge to $250 or below?  Yes, absolutely.  Markets are inherently unpredictable and dangerous, and gold could conceivably make one final capitulation panic low before the new gold bull begins in earnest, potentially on a future high-profile manipulative announcement that the US is liquidating its entire official gold hoard.  (We suspect that the US government has already covertly sold much of the American people’s gold, so this announcement would be a mere propaganda ploy with only an ultimate short-term negative effect on the gold price.)  Anything is possible!


But, in light of stellar fundamentals including the enormous structural supply/demand deficit in global gold production and demand, the vastly overvalued US dollar, the burning equity markets, and the growing official gold suppression scandal, we think the best bet for gold is for far higher prices. 


Probability-wise, I would hazard a guess that there is only a 5% chance that gold will fall below $250 for any length of time, for many reasons not the least of which are hundreds of millions of Asians who eagerly snatch up physical gold as a traditional investment whenever its price falls in the world markets.  Conversely, based on years of research, I believe that there is a 95% chance that the gold price will rocket far higher in the coming years in order to re-establish a free market equilibrium between global gold supply and global gold demand.  Even with rampant gold pessimism abounding, in fundamental terms the case for much higher gold prices is almost infinitely stronger than the case for much lower gold prices.


From a long-term investment perspective, gold and quality unhedged gold stocks look like one of the best investment opportunities in the coming years.


From a short-term speculation perspective, great profits can still be earned by trading gold and gold stocks regardless of gold’s trend.  Like any contrarian speculation, gold and gold stock traders need to seek quality companies, buy on weakness, zealously deploy trailing stop losses, and be disciplined enough to jettison any trade the moment a trailing stop is hit. 


Although stop losses are certainly not perfect, they substantially reduce risk for short-term speculation.  The stops are not designed to protect against extremely rare catastrophic one-day drops that are inherently unpredictable, but against a trader’s constantly warring emotions.  If the brutalized NASDAQ investors had prudently deployed simple stop losses on their beloved index, they would have been stopped out way back at NASDAQ 4500 or 4000, vastly reducing total capital lost.  Gold speculators must be absolutely sure not to repeat the devastating mistakes of NASDAQ speculators if there proves to be yet one more savage downleg in gold to an ultimate bear market bottom.


Whether the much-prophesied Great Gold Rally of Legend is really being born before our very eyes or one more swoon yet remains, gold IS challenging $300!  Rejoice gold investors!  Do your own research and due diligence, get your capital deployed, and savor the rare experience of marveling at the infant stages of what will probably prove to be a magnificent multi-year gold rally.


Adam Hamilton, CPA     February 8, 2002     Subscribe