-- Posted Friday, 31 October 2008 | Digg This Article
| Source: GoldSeek.com
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Issue 40 Vol.15, October 30, 2008 Customer Service 1-800-528-0559
Gold has defied all logic and has dropped during the worst financial crisis the world has ever seen. Here’s why this happened and what gold bugs need to do now to profit in 2009.
This week I want to discuss gold because that’s been a big focus of ours for a number of years and there are a lot of misconceptions about it right now. In the midst of the financial crisis chaos, the U.S. debt has ballooned to over $10 trillion, the U.S. dollar has gained significant ground against other world currencies, and gold has taken a beating.
A few months ago if one were to hypothetically describe the outcome of the current financial calamity, the obvious conclusion would be the U.S. dollar would have tanked and gold would be soaring well over $1,000 and along with it, higher gold stock prices.
However the opposite is true. So what gives?
In a word, redemptions.
According to the Financial Times, investors pulled at least $43 billion from US hedge funds in September as market turmoil led to unprecedented withdrawals.
The credit crisis and recessionary fears prompted a massive sell off of stocks from around the world. The unprecedented selling prompted a cascade of further redemptions where just when you think stock values can’t get any lower, they do.
However the problem is compounded further by the fact that many of these investments which are being redeemed were made with borrowed money. So if the investments are sold at a loss, some investors and institutions are being punished further because they need to pay back their investment loans.
JPMorgan estimates that the hedge fund outflow could be up to $150 billion over the coming year. However when factoring in the estimated borrowed money used to buy these assets in the first place, JPMorgan expects that the outflow could lead to sales of $400 billion. Last Friday’s steep declines were made worse by hedge funds that had to fulfill margin calls or other loan demands.
It’s these redemptions which are artificially propping up the U.S. dollar. As equities are sold on the Toronto Stock Exchange or other exchanges around the globe, the money is being converted and coming back to the U.S. in the form of U.S. dollars. Thus foreign currencies like the Canadian dollar go down as assets are sold on the TSX and U.S. dollars are then purchased.
Nick Sargen, chief officer at Fort Washington Investment Advisors stated in a Bloomberg News article that “A rational investor, and I mean rational, wouldn’t be selling now.”
However the mass media and “Joe the plumber” are thinking: cash, cash, cash. And at this point in time, the U.S. dollar is king.
Not only is the herd running off the cliff, there’s a slaughter house at the bottom which will carve them up once they land.
At some point these redemptions will taper off and the demand for the U.S. dollar will weaken.
A double whammy of investment losses will take place for many. First, investors who have sold their stocks cheaply will take a hit. In the near future, the U.S. dollars they will be holding will be worth less internationally as the true value of the currency will reflect the humongous debt load the country is now carrying along with the ongoing government budgetary deficits and trade imbalances.
Back in 2001, I got back into gold stocks as the U.S. dollar was being increasingly diluted due to growing budget deficits and trade imbalances. Today the United States is in a huge financial mess of epic proportions. So much so, I’m afraid that the dominance of the United States as the world’s superpower is now undergoing a historical shift. This will take years to unfold, more like a few decades, but it is happening.
On August 21st I reported that the outstanding public debt in the U.S. was $9.6 trillion and building by $1.82 billion per day. In just over two short months, it now stands at $10.53 trillion and is now increasing by $3.4 billion per day.
The Times Square National Debt Clock in New York city has been counting the U.S. debt load since 1989 has now run out of spaces on its numerical display. The “$” sign had to be dropped as the debt surged past the $10 trillion mark to make room for the “1.”
Interestingly, the debt clock was built in 1989 by the N.Y real estate magnet, Seymour Durst who wanted to inform the public of the outrageously growing U.S. debt problem which at that time was $2.7 trillion.
With the added $700 billion bailout about to filter into the system, $11 trillion of debt is just around the corner.
After this current financial crisis plays out, all these new U.S. dollars that have been dumped into the money supply (which they don’t publish the stats on anymore) will inflate the cost of goods in the United States. So in the not too distant future, America is in for significant inflation. When that happens, the next phase of a major bull run for gold will take place.
So in conclusion, our position on gold hasn’t changed. In fact it’s stronger than ever.
Now for the really important stuff. How are you going to play this market to your best advantage?
Gold and gold stocks look like crap right now but that’s exactly when you want to load up.
Strategy
Prior to the financial crisis, three general guidelines had to be met before we chose to cover a mining company. These included:
- A highly qualified management team with a track record of success
- Top quality exploration and development projects
-Well financed projects and access to cash – In light of the tight credit market, we are amending this last point. We are now looking at companies who have a strong cash position. There are a lot of deals that have suddenly gone south due to the fact that the financial supporters have suddenly backed out. So for mining companies today cash is king. We’ll be looking for companies who have at least enough capital to keep working over the next two years.
I see 2009 as the year of consolidating and strategic positioning of select stocks. It will take at least 18 to 24 months for the general market to recover. After every market crash there is always a group of winners that eventually emerge. And that’s where we will focus.
The first group of stocks that emerge from the wreckage and make gains will be the blue chips.
Even though the credit market is now tight, investors need to keep in mind that many of the current downtrodden blue chip gold companies we’ve followed in the past are sitting on a pile of cash right now. These companies will be able to make mergers and acquisitions at fire sale prices which bode well for future growth. Furthermore, many companies have strong organic growth. Therefore with greater production will come greater revenues, even if gold stays below $800, which it won’t.
Bill Ridley
Publisher
www.jameswinston.com
-- Posted Friday, 31 October 2008 | Digg This Article | Source: GoldSeek.com
