Gold Market and Precious Metals Commentary

December 10, 1998

Technicals -

Hit man sought to silence goon squad. Gold is trading very differently at times these days. Whoop up- then wack. Whoop up - then whack. It is trading much lighter as it pops up quickly on light volume and then the goons come in and sit all over it. This is a recent development and indicates less trade, scale up selling. It also tells us that are Fed and its CB cronies are still there; supplying whatever gold is necessary to keep gold from moving above $300. It would appear that some economic event might be needed to cause them to " give up the ghost". Hopefully, it will be sooner rather than later. The open interest at 145,386 contracts remains low as the does the bullish consensus at 29.

Silver is recouping after its recent bashing and is holding up rather well under the recent commodity price onslaught. It is trading in the middle of a giant down sloping pennant formation. This type of formation is normally bullish. In addition, the price break down last week could have been a killer move that took out weak longs. The chart now gives us a double bottom. The right bottom is lower than the previous left one which is also constructive technically. A close above $4.87 basis March is needed to indicate that a massive base in silver has been formed. A move above $4.90 spot would turn the technicals bullish.

Fundamentals -

Gold actually rallied $6.50 on Monday at one point from its close last Friday. Not only was the yawn deafening, but we were surprised to come across pronounced despair by long term bulls and even out right capitulation by others. In "Martin Weiss's Safe Money Report", Larry Edelson headlines to his subscribers: "CLEAR OUT OF GOLD ON THE NEXT RALLY - DEFLATION WILL DRIVE PRECIOUS METALS INTO A TAILSPIN IN 1999! - EXPECT $200 GOLD, PERHAPS EVEN $180! - LOOK FOR $4 SILVER OR LOWER!"

He is not alone calling for these kind of numbers. As I last recall, Martin Armstrong of Princeton Economics and The Elliot Wave Crowd are calling for similar, much lower numbers for the precious metals. Some of the calls are based on technicals and some are based on fundamentals. The fundamental bears believe that deflation is going to drag down the price of precious metals. As this is clearly the issue of the day, I thought we should address it pronto.

It is clear to all that commodity prices are under siege. The CRB Index recently made 26 year lows and was last seen at a lowly 191.49. Among others; the oil, copper, hog industries are reeling from low prices. As a reflection of these falling prices, interest rates are coming down all over the world from China, to Germany to the U.S. What we want to address here is how all this will affect precious metals prices for 1999. We see this deflation too, yet call for $400 gold, not $200 gold. A rather big discrepancy in price predictions; both based on the same information. What gives?

The fundamentalist bears see deflation driving down the prices of gold and silver for the following reasons: 1. It drives down the prices of asset classes including precious metals. 2. Jewelry demand will be annihilated. 3. Industrial demand for gold will collapse. 4. The Central Banks of Europe will sell gold out of desperation. 5. The only reason to invest in gold and silver is during inflationary times, not deflationary ones.

The Le Metropole camp interprets the economic scenario of today to be very bullish for precious metals next year. In fact, as I said earlier, we take some of the premises the bears do and come up with an opposite conclusion. Very striking difference between us, no mumbo jumbo by either side however, and not much room to hide for either of us, if we are wrong!

It is very clear to us that the world financial situation of today is very precarious. This is evidenced by the fact of the real lack of economic progress in Asia, the plunging commodity prices and the failure of the credit spreads in the US to seriously come back from crises levels in August; even though the U.S. is the power economy of the world.

The most subtle of the three, but maybe the most important, is the credit spreads. In the last Midas we told you that Chemical Bank and the Bank of Boston cancelled auctions due to the abnormally high premiums to Treasuries required by the market place. The premiums that many corporations have to pay to Treasuries are even more burdensome from a historical perspective, and emerging markets, well. The banking sector in general is way under performing the other equity indices which indicates all is not quite right in the U.S economy, or even healthy. Remember, we have had 3 dramatic rate cuts. You will soon hear more about this from our own Charles Peabody who has been heralded by Alan Abelson, Editor in Chief of Barrons, on this subject.

What do these 3 "evidences" of economic deterioration have in common?:

Deflation is having a dramatic impact and this deflation is becoming the ruination of credit. Debts get harder and harder to be repaid. As a result, you have bankruptcies in Asia, excess commodity supplies hit the market as cash becomes essential and only the holiest can obtain credit on favorable terms, if they can get it at all. Our crystal ball says, a serious credit crunch and strangle of the market place will be upon the world in the near future. It is hard to think that way with such booming stock markets. But, we see it coming. And with it, we see a kaboom.

Oct 22, 1998 Wizard of Fed - Greg Pickup - Le Metropole

" A credit deflation, once begun, cannot be reversed by rate cuts. The cuts do nothing to reduce the overcapacity that years of malinvestment has produced. " The most obvious example of Greg's statement is Japan where interest rates are practically zero and look at their economic activity.

Yet, if further economic strains surface, it is clear that our Fed, and others around the world, will not hesitate to lower interest rates. Maybe much faster and harder that we have ever seen before. To some extent that has already been the case in the US. Only the CRASH of 1987 has brought on a greater response and stimulus. We will not see a 1929 depression as such. That was yesterday's story. The information flows move to quickly today. We probably have some nightmares coming, but the 1929 scenario will not be the end result of them. The governments around the world will lower rates and print money- and do it fast.

If that is the case, the supply of paper relative to gold will swoon. The relative value of gold to paper will grow. The Russians have started the default game. Who is next? Our Professor von Braun speaks of the importance of cash flow and what is going on in the credit world of today. The axeman is coming. The axeman means defaults. Defaults mean paper that was good one day can disappear the next . Gold and silver will not do that. In that environment, gold and silver will be more much highly valued than today. Psychology about owning gold will change very quickly. It will not be sold so readily by central bankers in the near future, nor lent so cheaply at such lowly price levels.

One of our guest forum presenters at the Cafe was Blake Joyner. His article, The Death of Pax Americana and Globalism and the Great Crash of '98 can be read in the library at the Dos Passos Table, dated October 22 ( after that of Greg Pickup ). It is a perceptive piece. His major point is that "gold and gold shares are only worth owning during times of financial distress like the 30's and 70's. Investors only want gold badly when every thing else is going to hell, and then they want it very badly. According to Blake, "gold has been a poor investment for 80 years and an exceptional investment for 20 years". " If historic trends prevail, gold and gold shares should be very good investments for ( the next ) 5 or 10 years".

I agree with Blake and Greg and The Professor. Crises' are right around the corner. Interest rates will come down. Defaults will grow. As the interest rates come down, so will the contango. The incentive to forward sell gold will diminish. Restrictions on gold lending will spread. Central banks will want to "prudently" hold on to their gold, not sell it, as selling it will be a sign of currency weakness. We have told you the Asian official sector is buying now. Does the ECB want the perception of a strong euro or a weak one? The official sector gold supply will dry up. Even if jewelry demand does suffer, there is already an extraordinary supply/demand deficit that falling gold supply to the marketplace cannot meet. Investment demand for precious metals will surge around the world.

The price of gold heads to $400 plus not $200. The price of silver heads for $8, not $4. So be it.

Potpourri and the Gold Shares -

The XAU has fallen out of bed under the gold deflation scares, but is still 50% off its August low. At 65.14 it was down .75 at 3 EST. We still see a reversal coming at any time. A close above 70 turns the tide technically on this index.

We all know how cheaply and undervalued the junior gold and silver stocks are priced in this dreadful environment. It is a natural that the seniors step up to the plate with their cash and buy up the best of these companies for their assets. Many of the seniors do very poorly at gold exploration and it is very costly in any event. Today, many of the exploration companies can be had for a song and a dance. That is an inevitable trend that will occur. The question now becomes, has that trend begun? Glamis took over Rayrock. Barrick is going after Argentina Gold.

Neville Bennett's piece, The Deflationary Gap in the World Economy, at the Man Ray Table is right on target it appears. "There is a glut in many products….. What exists now is a "deflationary gap", a state where unemployed resources remove the prospect of inflation……... Students might find echoes of Keynes in recent Reserve Bank pronouncements…..What will replace the era of inflation? There is no doubt that trade will fall in 1999 and that almost all economies will have falling growth rates. The prognosis must be for a slowly mounting recession and an inevitable spell of bear markets".

We point to his commentary for a specific reason. There are two commodities in which there really is not a glut. They are gold and silver. Both have substantial, natural supply/demand deficits. The price of gold has been artificially kept down by the injection of supply( CB sales and gold borrowings ) that could disappear, or slow down dramatically, at any time. At the moment, the powers to be make sure enough gold supply hits the market on any rally close to $300 ( Greenspan's comments on this subject have been documented in previous Midas' ). However, the see saw is balanced by the Asian official sector which is there to buy all dips. Greenspan and his cronies can only play this game so long. When they ease off, the price of gold and silver skyrocket.

Gold can be looked at as a leading indicator, not a concomitant one. The price of gold has been here well over a year, while other commodities are now plunging. Gold has built a substantial base now and should lead a commodity price rebound to the upside. Maybe, the lag for commodities in general will be just as long on the upside too. Hard to tell.

You would never guess that the price of gold is actually slightly higher since the beginning the year, while most commodity prices are down 10% to 40%. The Midas camp says the big reason for that it that gold is quietly making a monetary role comeback via Asian official sector buying.

Silver has been in deficit for many years and the price has really done nothing. Do not need our Café commentators for this one. Yogi Berra good enough. "It will go when it goes". In the late 1980's copper remained in a severe supply/demand deficit for a long time. Inventories ran way down. Asian demand surged and all of a sudden the price of copper doubled in 9 months. Silver could easily do the same thing.

Reuters - Dec. 9 - N.Y. - Joining the trend, "Citigroup Inc. said Wednesday it is considering the possible sale of its wholly owned commodity trading unit Phibro Inc". Phibro bought Salomon Bros (part of Citigroup) at the top of the commodity markets in 1980-1981. At the time, the bond market was in the weeds. Now, with commodities tanking and bonds king, Phibro is being kicked out the door. Tell you anything?

According to a source of ours, Warren Buffet is considered to be in the running to buy Phibro. His silver broker is a Phibro man. If he does buy Phibro, you have your answer as to whether Buffet is a seller of silver or not.

Ex-Fed Governor Lawrence Lindsey said on Monday that " Federal Reserve Chariman Alan Greenspan is troubled by his current dilemma of trying to keep the U.S. economy growing without contributing to a "bubble" in which U.S. stocks and other financial assets my be dangerously inflated". ( Reuters ) " Such bubbles can form when interest rates are low and financial institutions are eager to lend". This goes hand in hand with our point, that a contraction of the eagerness to lend will cause severe stress to the economic system. The stress will lead to fear, which will lead to heavy demand for gold.

Platts ( Dec. 8 )- Great quote on a blurb about The Central Bank of Russia's desire to expand gold purchases next year: " The Central Bank said that gold is Russia's natural wealth and is a liquid reserve instrument".

Platinum ($349.50 up $5.70) and Palladium($284 up $10.80) on the move again. Bloomberg reports that Russia is considering exporting 100 metric tonnes of palladium in 1999 and 20 tonnes of platinum. According to John Brimelow, that is 30% down from Johnson Mathey's 1998 estimates. We have reported of the very strong Palladium demand. The fear is that Russia will not deliver these white metals as promised in January. Market concerns over Russian dumping caused the recent price sell off of these two white metals.

Wrap up - I was speaking with a friend of mine who is a broker in Arizona and has a big interest in the gold and silver shares. He was telling me that not only have many of the credit spreads not narrowed a great deal, the bid and ask for various government agencies and corporate paper is very wide. Liquidity is a major concern. As a former highly regarded pole vaulter at the intercollegiate level, he coaches for fun at the local high school. Three of his 17 year old vaulters told him yesterday how much money they were making in the stock market with their tech stock trading. Shake your head time.

Gold is still being mined and refined at the rate of almost 2,600 tonnes per year.