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By John Hathaway

June 30 marked the second anniversary of the Tocqueville Gold Fund’s inception. Over that period, TGLDX has been the top performer in the Lipper Analytics universe of precious metals funds with a cumulative return of 15.71%. This compares to a negative 19.39% for the Philadelphia Stock Exchange index for precious metals. The fund has been fully invested in gold and precious metals stocks over that period and no attempt has been made to play games to enhance performance. We have remained 100% invested because we want to participate fully in the enormous upside potential we expect to see when the gold market turns. Our stock selection has been good. We have had an ample share of takeovers in this rapidly consolidating industry, and we have managed to avoid the prominent disasters.

We do not want to “time” this market by alternating fully invested positions with large exposure to cash. A glimpse of what can happen occurred in the third quarter of 1999 when gold stocks rallied over 60% in the space of three weeks. Had we tried to time such an event, we would probably have missed it or at best captured only part of the move. It is our belief that the gold market will turn because of an event or series of events that nobody expects. The move will therefore be explosive, and impossible to capture without first suffering through some of the seemingly endless days of inconclusive choppiness that has characterized this market for the last two years.

After attending the annual Financial Times gold conference in Paris during late June, I conclude that the surprise financial event that will create investment demand for gold will be a dollar crisis. The presentations of central bankers and bullion dealers were loaded with caution as to the outlook for gold, but no mention was made of the risks to the outlook for the dollar. This should not be surprising for the central bankers in large part are trend following bureaucrats while bullion dealers have been making a handsome living from getting others to sell gold short. The US trade deficit is now approaching $400 billion per year. As a percentage of GDP, it is at the highest level in history, a projected 4%. More worrisome, foreigners now hold 22% of all US government debt. It is only their willingness to recycle these passively accumulated dollars into US capital markets that sustains the dollar at its current levels. It is this same willingness to accept dollars at current exchange rates in return for goods and services that underlies a low US inflation rate. The dollar is clearly benefiting from a confidence game that is in its terminal stages. A change in sentiment would be disastrous for the dollar, the US capital markets, and other paper currencies. Gold is the alternative currency that would surely benefit.

There is a large and growing short position in gold. There are many players who are short that do not recognize the extent of their exposure or even recognize the fact that they are short. The short squeeze of September 1999 was “papered over” by a vast expansion in derivative positions. In other words, the shorts went even further out on a limb to save their skins. Their ability to repeat this tactic in the face of a declining dollar is highly questionable. Once the jig is up for the short sellers, returns from our gold strategy will be more than satisfactory.

Sincerely,

John Hathaway

Mr. Hathaway is a Senior Portfolio Manager at Tocqueville Asset Management L.P. and portfolio manager of The Tocqueville Gold Fund. http://www.tocqueville.com/funds/tgold.htm