first majestic silver

Gold's Big Picture

November 24, 2004

Gold has gained in price by more than 50% since 2002, attracting legions of new - and often uninformed - gold buyers into our market. Because educated investors are more likely to make wise investment choices, this special report focuses on gold's past, present, and future in order to place current market conditions into historical perspective and make sense of its future direction. We've been continuously involved in the gold market since 1980, so our analyses are born of a generation of first-hand professional experience.

There's simply no substitute for real time in the trenches to understand today's gold market!

A brief history of gold as currency

Thought to be one of the first known metals, gold has been coveted throughout history for its beauty, scarcity, malleability, and uncanny resistance to rust and corrosion. Centuries ago, gold's unique combination of properties - its sun-like color, its soft hardness, and, especially, its imperviousness to decay and corruption - imbued it with magical associations in the eyes of many.

Because of these unique properties, gold has traditionally been the currency of choice for much of the world's population. The value of gold has transcended all national, political, and cultural borders, making it the ideal currency. Whereas paper money has value merely because the issuing authorities says so (which is why it's known as "fiat currency"), gold and silver carry their value in themselves, and are beholden to no government, monarch, or other authority. Kings come and go, empires rise and fall, but gold and silver stand tall as fundamental, continuous, and seemingly permanent repositories of economic power.

So it makes sense that, for thousands of years and until recent decades, international trade was largely carried on in gold. Today, ancient gold coins featuring the portrait of the famous ancient ruler Caesar survive the ravages of time as a testament to gold's unique allure and monetary value. In an early attempt to create a European Common Market in 1871, several of the dominant European powers agreed to mint gold coins of identical weight and denomination. Switzerland, France, Italy, and Belgium all issued 20 franc gold coins of identical weight (.1867 oz), creating a golden 19th Century version of today's euro. Great Britain, Germany, Russia, Norway, Denmark, Finland, and Sweden also minted their own gold coins.

In the United States, gold formed the backbone of our economy from 1795 until 1933, when President Roosevelt removed gold coinage from circulation. During this time the value of gold was fixed by law at $20.67 an ounce, and U.S. gold coins of all denominations contained a pure gold weight equivalent to their face value. Unlike the U.S. coins minted today, or fiat currencies of any era, which have no intrinsic value and merely symbolize value based on governmental guarantees, these gold coins actually contained their value in themselves.

The dangers of fiat currency

After World War I, the modern world witnessed the dangers of a fiat currency issued without gold backing. Just before the war, German central bankers made the ill-fated decision to take its nation off the gold standard. Gold coins were replaced by paper, which could be printed without limit to finance the war effort. But without gold to anchor its value, this "paper chase" rendered the German currency almost completely worthless. By late 1923 prices were doubling every few hours. One loaf of bread cost nearly 200 billion paper marks! German housewives were burning paper marks in their kitchen stoves because the currency was worth less than firewood!

The example of rampant paper inflation in Germany was a primary driving factor behind President Roosevelt's decision to outlaw private ownership of gold in 1933. Following the 1929 market crash and ensuing Depression, people throughout the world became so distrustful of paper money that they began to hoard gold. Within a few years of the 1929 crash, the situation became so critical in the U.S. that Roosevelt had no choice but to cease the issuance of gold currency. By 1935 most other nations did the same. Within two years the international price of gold rose to nearly $35 an ounce - a 66% gain. From 1935 to the late 1960s, the gold price remained within the $35 to $40 price range.

Gold in the 1970s

Although production of gold currency ceased in 1933, U.S. paper currency remained on the gold standard until 1971. In other words, each dollar in paper currency was required by law to be backed by an equivalent value in national gold reserves. However, as the country grew, the amount of paper dollars needed was far outpacing the national gold supply, and forced a hard decision: either go on a gold-buying binge to keep the gold standard in effect, or abandon the gold standard entirely. In 1971 President Nixon chose the latter. Since that fateful day, the U.S. dollar no longer is backed by an equivalent value of gold. This change allowed our nation, like Germany in the 1920s, to print paper money at will.

It's no surprise, then, that the late 1970s witnessed one of the most severe bouts of U.S. inflation ever seen. Also, for the first time, gold became like any other commodity: no longer fixed in price, it was allowed to fluctuate according to market forces. As a result, by 1980 the gold price gain by more than 2000%, rocketing from just under $40 in 1971 to a historic high of $850 in 1980! Contributing factors to this explosive rise were two severe oil price spikes in the mid- and late-1970s, and a worldwide loss of confidence in the U.S. because we were held hostage, literally, by Iran.

Gold from 1980 to now

After retreating from $850, gold routinely traded between $300 and $500 an ounce during the 1980s. At the same time, Japan's economy was growing, through sales of automobiles and electronics, into a dominant economic powerhouse. It's no coincidence that between 1985 and1987, as the U.S. dollar lost 50% of its value against the yen, gold rose from $300 to $500 per ounce. By the late 1980s, Japan's economy, stock market, and currency had all peaked at record highs that they have yet to achieve again.

In the first half of the 1990s, the gold price generally stayed in the $300 to $400 range. Between 1995 and 1999, however, the U.S. economy took off in much the way Japan's had a decade earlier. By the late 1990s, the U.S. dollar had come to replace gold as the world's currency of last resort, and the gold price skidded from $395 in 1996, to $252 in 1999, a 20-year low.

Since 2000, of course, the U.S. economy has sputtered and gold has entered a major bull market reminiscent of the early 1970s. In the wake of 9/11, as the stock market plummeted and global unrest grew, the dollar declined in value and gold began to resume its historical role as safe haven and currency of last resort. Beginning in 2002, gold moved up over 50% in value from under $300 an ounce to as high as $430 in the spring and fall of 2004.

The U.S. dollar is the key to higher gold

While gold has been driven higher to some degree by the increase in geopolitical instability, the primary driver of this 50% gain has been the falling U.S. dollar. We expect gold will continue to move higher, to as much as $550 an ounce, based on current economic considerations alone. Many experts are predicting a substantially higher gold price, and we're among them. Here's why.

Following the unprecedented U.S. economic boom of the late 1990s, the dollar had reached unsustainable highs. Gold, inversely, had already set a major 20-year low and had nowhere to go but up. So the up-move from $252 to over $400 was really no surprise for investors who could see the tides changing. At AGE, we've been remarkably accurate in calling in advance the major gold moves of the last five years because we've been trading gold full-time for almost 25 years. Today gold clearly remains in a major up trend that should last for several more years at a minimum.

The demise of the Soviet Union in 1989 and the consumer-driven economic globalization that followed in the 1990s have left the U.S. standing atop the world's economic pyramid. The technological advances of the 1990s led to huge, once-in-a-generation leaps in productivity, which filtered down right to the bottom line. Computers made us all more efficient, productive, and profitable; and our currency reaped the benefits, rolling on to extraordinary heights.

But you can only squeeze so much milk from the cheese. By 2001, productivity gains reached their limit and our economic problems began to show. As we all know, the stock markets peaked and crashed, the United Sates was attacked, our economy fell into recession, and our currency began to lose value to the euro, yen, Swiss franc, and others. As the dollar dropped, gold began to rally. Since peaking three years ago, the dollar has already lost about 15% of its value and more losses should be expected.

Deficits are the key to the dollar

In our opinion, the real keys to the value of the dollar - and therefore gold - are the exploding U.S. trade and budget deficits. The gap in the current account balance, the broadest measure of the nation's trade with the rest of the world, widened to an all-time record of $166 billion in the second quarter of 2004. This total now amounts to 5.3 percent of the U.S. gross domestic product (GDP), and continues to mushroom despite substantial declines in the dollar since 2002.

All this overspending spells big trouble for the dollar. As we reported to you in our Gold Market Update of April 2002, Caroline Freund of the Federal Reserve Bank analyzed 25 episodes of large current account deficits in developed economies. She found that when deficits exceeded 5% of GDP, they triggered a 10-20% fall in the real exchange rate of that nation's currency, which was necessary to offset the trade imbalance. Today, despite the fact that the dollar has already lost about 15% of its value internationally, the U.S. current account deficit is still well in excess of 5% of GDP. This means that further declines in the value of the dollar - perhaps dramatic declines - appear to be imminent.

On top of record trade deficits, the U.S. economy now must contend with record-setting federal budget deficits. Because of recession, terrorism, and war, our government has been on a spending spree. In 2004 alone we will spend about $500 billion more than we receive in revenues. This is an astounding reversal from just a few years ago, when we enjoyed sizable budget surpluses. Our federal budget surplus was key to the U.S. economic boom of the late 1990s. U.S. fiscal responsibility gave worldwide investors confidence in our economy and currency because, for the first time in a generation, we were spending less than we earned. How quickly things can change!

Dollar destined for a melt down?

The U.S. economy is clearly slowing. Consumer spending is dropping off, and businesses are creating few new jobs, which are the backbone of any economic recovery. According to Steven Roach, chief economist at Morgan Stanley, at this point in the recovery cycle, private non-farm payrolls should be eight million higher than they are today.

Without enough jobs there can be no sustained recovery. Oil is up almost 400% since 1999. A spike in oil prices has preceded each of the last three major U.S. recessions. Tax cuts, rock-bottom interest rates, and massive government spending have temporarily buoyed the economy, but those short-term stimuli are now fading. And finally, no major economy has ever attempted to recover from recession with the massive debt carried by U.S. citizens and government.

This is not a pretty picture. How can the dollar possibly gain any real value in this economic environment? Based on the trade deficit alone, the dollar appears destined for further - and perhaps massive - losses. Factor in the rest of the fundamentals outlined above and you can see why gold at $550 seems within easy reach.

The Resource Decade

So far, the first decade of the 21st century is shaping up to be a "resource decade" much like the 1970s. Commodities across the board have surged in price, in large part because of the astonishing economic growth of China. Globalization has brought millions of jobs to the planet's largest population, which is more than ready to spend its newly-earned wages on commodities of all kinds. China's GDP has grown by almost 10% for each of the past four years. With little slowing in sight, its demand for raw materials is staggering.

The markets are reflecting this increased demand for crucial resources, and prices are on the rise. Oil has risen by almost 400% since 1999. In the last two years, the price of steel has doubled, gold is up 56%, and silver is up 44%. Professional traders say, "the trend is your friend." There are no signs that the current trend in demand for physical resources, including gold and oil, will end any time soon. The burgeoning price of oil is especially troubling because it is so fundamentally inflationary. Oil ripples through ever facet of our economy. Like a hidden tax, today's higher oil prices are sucking millions of dollars a day out of our economy, jeopardizing our recovery. As Federal Reserve board governor Edward Gramlich warned his fellow bankers recently, "It is virtually inevitable that shocks [from high oil prices] will result in some combination of higher inflation and higher unemployment" (AGE EconomyWatch, 9/16).

The U.S. government doesn't factor food or energy into their reported inflation figures, but anyone can see higher prices everywhere. More ominous still is the fact that OPEC made a decision in 1999, when oil was $12 a barrel, not to invest in expanding their production capacity to meet increased future demand. Indeed, today's high oil prices will be with us for quite some time.

Conclusion

Based on the current U.S. economic environment, geopolitical instability, record trade and budget deficits, a weakening dollar, surging oil prices, and skyrocketing demand from China for all commodities, we see few reasons, if any, gold should decline in value substantially from today's $425 an ounce price. Rather, we fully expect gold to continue its advance toward $550 between now and 2006. If remedies to the current U.S. economic troubles are not found, we think gold may enter into a period of accelerated price appreciation like it did in the late 1970s, when it multiplied in price. Then the sky would be the limit. History has proven time and again that no asset holds its value better than gold in times of economic instability. Now is the time to protect and preserve your wealth with gold!

The right recommendations at the right time

Gold's bottom of $252 in 1999 was the lowest price we'd seen in gold market careers stretching back to 1980. Our basic recommendations at that time were based on the premise that gold at $250 was a market aberration created by an unsustainable U.S. economic boom, and that gold would regain its mid-1990s price of between $375 and $395 within a few years. Our analysis was correct. Then, while gold was still under $300, we recommended primarily gold bullion and bullion-related items such as American Gold Eagles and European gold coins. Of course, we also placed with collectors some of the most fabulous classic rare U.S. coins imaginable, but that's a slightly different market segment (and one that carries the potential for huge profits). With gold still in a bear market, we saw these bullion-type products as the safest bet for a good profit return for investors with almost no risk. Our analysis was again correct.

In 2001, as gold entered its current bull market, we saw the potential for superior gains in common date, classic U.S. gold coins, so we introduced our Power Pair #1. Through the end of 2003, this recommended gold portfolio-builder outperformed the gold market by 42%! In April 2002, we introduced Power Pair #2, which outperformed gold bullion by 97%! Our customers have been consistently achieving greater profits with our conservative, intelligent coin recommendations than with gold bullion.

The next big winners -- Market Rockets!

With all of this history and analysis in mind, we are shifting our top recommendations to higher-quality, classic U.S. gold coins like $20 and $10 Liberty and Indian gold coins in grades MS63, MS64, and MS65. In the biz these are known as "numismatic coins." We call them Market Rockets, because when gold reaches toward $500 an ounce, they're likely to absolutely blast off in value! In the current market, these coins offer a better combination of low risk and high profit potential than any other segment.

If gold rises to $500, bullion coins stand to gain around 25% over today's price. Our Power Pairs #1 and #2 will continue to outperform bullion, and stand to gain around 35% to 40% in the same environment. We expect our Market Rockets to gain between 100% and 200% in value when gold hits $500. Despite this outstanding upside potential, they're still very reasonably priced today, offering little downside risk. As always, our recommendations are based on fundamentals of popularity, rarity, price, and most of all, value.

Lagging a little behind the gold market, demand for high-quality scarce and rare U.S. numismatic coins has been building almost exponentially since the summer of 2002. Since the summer of 2003, the supply of quality numismatics has fallen dramatically as demand has surged. Today these coins have hair trigger price sensitivity to any new surges in demand. An increasing gold price stimulates demand. Our most popular rocket recently rose $200 in price in just two weeks! Market Rockets earn our highest recommendation today for investors who don't want to become rare coin experts but still want to leverage their potential gold profits with classic U.S. coins.

To learn more, please call 800-613-9323 today.


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