Editor's Observations:

Of the three major averages, the NASDAQ is now below its 200-day moving average, and both the Dow and S&P 500 are teetering on the brink of that dubious distinction.

Although we have two sectors in positive strongly-bullish territory this past week, bullish/bearish magnitude matched the prior week at minus 82 because this past week the number of strongly bearish sectors increased from 14 to 16 sectors.

These markets could of course improve very quickly. Since we began our sector chart review a few weeks ago, we have seen wild swings in the bullish/bearish magnitude. Main sectors are within a whisker of either side of one of the moving average lines and thus could switch over from one side to the other with a strong market performance next week. However, many other sectors (including the gold share sector) are solidly in the bearish camp at this point in time. And a host of technical factors suggest we are in a major topping pattern.

While the natural gas and oil indexes managed to rise into strongly bullish territory, the oil service stocks have remained in the mildly bearish camp, suggesting to me that the market believes the rise to over $40 oil is only a temporary event. Thanks in large part to the work of Bill Powers, I believe the consensus view on energy is wrong and that Bill's forecast for $50 oil before the end of this year will likely be right. However, in time, this rise in energy prices will be a part of an even greater rise in the component of rising inflation, which in turn will lead to higher interest rates that in the end will hammer our economy into a debt-deflationary collapse. Our only question is not if, but when, we will enter the Kondratieff deep freeze.

It is interesting that Wall Street likes to talk about how a rising stock market was predicting a strong economy, and how they ignore the market's predictive powers when it suggests a weaker economy in the future. Rather, we hear all manner of blather hour after hour on CNBC about how the economy is so strong and bound to get stronger. Let's hope they are right for everyone's sake, but I simply don't see their logic. If the market has predictive powers on the upside, it also has predictive powers on the downside. Rising interest rates in an economy that has been artificially stimulated via huge amounts of debt money and federal deficits are bound to finally put the crimp on the most significant growth sectors, such as autos and housing. Indeed, various sector charts like real estate, housing, and autos are starting to indicate that those bubbles may be nearing the bursting point.

EDITOR'S COMMENT: I became interested in economics and chose to major in that subject in large part because my mom and dad, both now 81 years of age, talked about the poverty they experienced. They both lived on a farm in Ohio, so they had enough to eat. But they were extremely poor. Both my mom and dad had to drop out of high school halfway through their sophomore year simply to work on the farm so their families could survive.

When I began studying economics, I recall how the Keynesian indoctrination falsely suggested that we could have avoided the Great Depression if only people had not looked after their own self-interests by saving money for hard times. The argument was that it was in the best interests of individuals not to spend, but in the end it turned out to be bad because their failure to spend their fool heads off was the cause of the Great Depression.

This was, in my view, the pack of lies that underlies the current financial bankruptcy of America. Not only do Americans no longer save any money, but we also borrow it from foreigners. There will be a day of reckoning, at which time I fear our nation will quickly catapult into a black hole of depression that makes the 1930s look like a pleasant spring afternoon. Impoverishment in a nation that is accustomed to affluence is likely to lead to strife on a level that is hard to measure. And while a large percentage of Americans (like my mom and dad) grew their own food in the 1930s, a very small percentage of Americans have access to crops or even small gardens these days.

Regarding America's choice to borrow from foreign countries and to constantly live beyond its means, I find a passage in the book of Habakkuk to be relevant to the United States:

"Alas for you who heap up what is not your own! How long will you load yourselves with goods taken in pledge? Will not your own creditors suddenly rise, and those who make you tremble wake up? Then you will be booty for them. Because you have plundered many nations, all that survive of the peoples shall plunder you-because of human bloodshed, and violence to the earth, to cities and all who live in them." (Habakkuk 2:6-8)

*****

GOLD

SUBSCRIBER ANGST - Mr. Taylor, As I'm sure you are getting many similar questions from your subscribers these days - please comment on your hotline message about this monster gold value decline - you commented that you didn't see it dropping below $390. Those of us who didn't get in at rock bottom levels are losing lots of cash these days. I own about 15 of your junior recommendations and they've been largely all down pretty hard this year so far. Ouch!!!!

Plus, what are your thoughts on the big drop in MKBY as well - you thought that they were going to be making some announcements last week. What's up with them? Please comment for us on both of these issues, based on your research this week. Thanks, Ken A

COMMENT: First of all, with respect to McKenzie Bay International, I continue to consider this as my top pick for the year and believe strongly that current weakness represents an excellent buying opportunity. Seem my comments below on this company.

Regarding the gold shares, as President Clinton used to say (he said it better than I but I don't think he meant it any more than I), "I feel your pain." However, in all honesty, I probably don't feel your pain as acutely as you do because I was in the gold and gold share markets all through the bottom. So you could say that I-and a handful of others like me who rode through the bottom-have been inoculated against the pain, to a certain extent in no small part because we bought into these stocks at their very bottom. So while I am smarting from a 25% or so decline in the gold shares this year, following two years of triple digit gains, it isn't as hard to take as if I had gotten in during, say, the last six months or so.

What all investors need to know is that gold is rigged. Alan Greenspan said as much in his 1966 article titled, "Gold & Economic Freedom," and he told Congressman Ron Paul in February 2002 that he still believes everything he wrote in that article. And so, within limits, the government can drive and constantly has driven the gold price lower. It will do so especially when things are rotten in the economy, like now, simply to keep people from opting out of paper money into gold.

As far as the $390 call goes, I was clearly wrong about that. How much lower can the establishment drive gold? How much longer can they drive gold lower is a big question, because what most people don't understand is that gold is the tail that wags the dollar dog. In other words, the tiny gold market, when it is rigged to lower prices, leads to an artificial confidence in the dollar. But a strong dollar brings deflationary pressures on the U.S., which in turn will ultimately threaten to break the world's financial system.

Also, there is no doubt among those who have seriously studied the issue but that the amount of gold the western banks actually hold is far less than they claim to hold. We know that for reasons I don't have time to get into now. (You can research this subject at www.gata.org and www.goldensexnt.com.) In other words, there is a limit to how much longer these "landlords of the world" can cheat and rob the rest of the world by their dollar/gold sleight of hand.

The big question is when do these rascals meet their D-Day? I don't know the answer to that question, but for reasons outlined in a superb essay by John Hathaway last week, titled "Interest Rates and 'the Death of Gold,'" I believe the limits of these evildoers' mischief are nearing an end. And Richard Russell, who I consider to be the best in the business, offered the following technical point of view in his May 14, 2004, publication:

"Gold advance-decline line was up 18 to 12890, and what do you know-we have an upward zig-zag in the gold A-D line which is a definite plus." After noting that the XAU was up 1.12 to 81.21 and the HUI was up 3.84 to 177.38 and that most of the major gold producers were up on the day he asked, " Have gold and the gold shares bottomed? Histograms on HUI finally moved above zero today and stochastics are rising and so is momentum. All good signs. I think there's a better than 50/50 chance that we've seen the lows for the gold universe."

If a 50/50 proposition is not definitive enough for you, I would suggest you take a look at the long-term moving average chart above. At the end of this week, the average daily gold price for the month of May was $382.34, which remains about 4% above the 20-month moving average and 16.8% above the 40-month moving average. Actually this monthly average relative to these long-term moving averages is getting very close to that of April 2003, when the average daily gold price was $327.73 and the 20-month moving average was $311.56 or 4.9% below the monthly average. The 40-month moving average then was $292.82 or 11.9% below the monthly average, compared to the 16.8% distance between May 2004 (so far) average and the 40-day moving average.

To tell you the truth, if the monthly average for May 2004 falls below the 20-month moving average, my own anxiety level will rise considerably-and that would be even more true if the average were to fall below the 40-month moving average.

But this is why you need to understand what is really going on behind the scenes in the gold market and why it is so, so important that you don't go to CNBC and Kudlow and Cramer for that kind of information. Those institutions are prejudiced against gold. It is exactly when the establishment is about to lose control that they bring out what ammunition they have left to try to scare the less hardy gold holders out of their pants and out of gold. Why? Well, so they can cover their short positions or perhaps stock up themselves, that's why! I'm not saying Kudlow and Cramer are doing that. They may or may not be. But you can bet your bottom dollar that the shorts (like Barrick, which is very, very deeply under water, and has friends in high places) do use all their powers to help themselves at your expense.

May 16, 2004

Jay Taylor, Editor of J Taylor's Gold & Technology Stocks
www.miningstocks.com