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Taylor on us Economy, Markets & Gold

March 19, 2002

Avoid this Bear Market Rally Like the Plague

Overall, stocks remain more overpriced than virtually any time in history. That's not something the establishment want you to know. In fact they are going out of their way to deceive you. Not only do they go to extraordinary lengths to keep the gold manipulation story from you, but they now spin and lie about earnings, so that they look better than they actually are. My advice and that of other experienced analysts to you is don't get suckered into the trap the establishment is setting for you.

But now, since lying and spinning has not only become fashionable but revered in our 'no absolutes' culture, our most prestigious institutions are following the example set by President Clinton. If lying keeps you in the money and in power, you would be wrong not to do it. So lie, lie, lie! And so S&P lies when it follows a dishonest policy of suddenly applying "pro forma" or "operating earnings" to its statistics rather than the age old GAAP standards.

Thankfully, Decision Point Alert' Carl Swenlin provides a weekly update of the Real P/E Ratio. I would strongly advise you to visit to catch Carl's weekly comments and the latest "real P/E Ratio. Here is what Carl had to say at the close of the week ending 3/15/02.

"The 'as reported' P/E for the S&P 500 (a.k.a. earnings based on GAAP -- Generally Accepted Accounting Principals) is the historical standard for reporting earnings. The normal range for GAAP P/E ratio is between 10 (undervalued) to 20 (overvalued).

"The investment sales industry would like us to think that "pro forma" or "operating earnings" is the same as GAAP, but operating earnings are a fabrication prone to gross distortion. There is no standard by which operating earnings can be judged because operating earnings are not based on real accounting -- all revenue is included, but selective expenses are ignored. This version is becoming known as EBBS (Earnings Before Bad Stuff).

"Each week we will report both versions. We calculate the S&P 500 P/E by dividing the total per share dollar value of S&P 500 stocks by their total EPS as reported in the quote systems. Operating earnings are as reported by Standard & Poor's. As of the close on 3/15/2002 the GAAP P/E was 44.5 compared an EBBS P/E of 30.0. The GAAP/EBBS Ratio is 1.5.

"A P/E of 44.5 Equates to an Earnings Yield of 2.25%. In other words, when you buy the S&P 500, those stocks are returning $2.25 per every $100 you invest. Of this $2.25, $1.36 are paid out in dividends, leaving retained earnings of $0.89 for every $100 you invest in the S&P 500. The dividends are real. That is cash in your pocket. The $0.89, even though it is based on GAAP, is at least in part theoretical.

US Treasuries Represent Far Better Value than the S&P 500.

Now, in following the advice of Michael B. O'Higgins, lets take a look at the 10-Year U.S. Treasury. At the close of this week it is yielding 5.35%, meaning that for every $100 you invest in the U.S. Treasuries, you get $5.35 every year or 3.9 times more cash in your pocket than you get when you purchase the S&P 500. And even if 100% of the retained earnings portion of the Earnings yield is 'real', a 10-Year U.S. Treasury would get you 2.4 times more return than you get when you buy the S&P 500.

But that is not all the bad news for buyers of stocks. When you buy the Treasuries, you can count on return of capital. It could be capital worth less due to inflation or it could be capital worth more if we have a deflation. But the point is, with stock now selling at a PE ratio of 44 times and with 20 times previously being overvalued, stocks remain hugely overvalued by historical standards, and hence vulnerable to a major decline. So with the S&P 500, you not only are getting an inferior return, but your principal is highly risky!

Although we like U.S. Treasuries better than mainstream stocks, we are not buyers of 10-year or other U.S. Treasuries because, as we have said frequently, we are very bearish on the U.S. dollar. We think the dollar is a bubble that is due for a major decline and hence we have opted to purchase the Prudent Safe Harbor Fund, which invests in multiple currencies that are far less overvalued that the dollar. The dollar is overvalued in large part because the gold price is rigged. Were gold allowed to find its equilibrium price somewhere north of $600 per ounce, the dollar would have declined vis-à-vis other currencies which have considerably more gold backing them than the dollar has.

So how much overvalued is the dollar? We think it is 30% or 40% overvalued on a trade-weighted basis. Moreover, even if you believe the Treasury's 'Enron like' accounting for its gold holdings, the U.S. now has sufficient gold left to back less than 1% of the dollar in gold. By comparison, the Euro has 15% plus various central banks within the Euro have significantly more gold beyond that.

No Pricing Power + Huge Corporate Debt

Corporate profit margins continue to decline in part because of a weakened demand for products resulting from debt servicing requirements. Also, we should not overlook the contribution toward deflation coming out of China. I agree with Richard Russell when he says "China is going to be a huge force for world deflation.

So try as Mr. Greenspan might to inflate our debt burden away, he is having trouble doing it. In spite of huge rises in M-3, our PPI is actually down 2.8% during the past 52 weeks. Not only debt servicing requirements are stripping away demand, but so too is competition from China and other populous countries who are producing more and more valuable items while their workers are willing to work for a fraction of the wages that Americans are accustomed to.

And of course, to preserve an overvalued stock market, real estate market and market for dollars, the Bush administration continues to follow the practice of the Clinton Administration in rigging the gold price. What is evolving is a global picture that is becoming further and further out of whack with its natural equilibrium.

So with the dollar overvalued by 30% or 40% and with Australian fresh produce being sold into California (and thus putting California farmers out of business) President Bush felt pressure to impose a 30% tariff on steel imports. This has really angered the Japanese and Europeans. Retaliation is being threatened by both Japan and Europe. Yes indeed, it is unfortunate but I'm afraid true. Ian Gordon's picture of the Kondratieff winter remains intact.

Incidentally, on Friday Ian told me that he received a call from the famous Robert Prechter. Ian said they see eye to eye on virtually everything except gold. Prechter remains officially bearish but he himself has a considerable gold position.

A Visit with Congressman Ron Paul, M.D.

On Wednesday I along with son Scott traveled to visit with Congressman Ron Paul. Son Scott, though 16 is already quite interested in philosophical issues of theology and government. Quite on his own, he is espousing libertarian values. Thus, it was fitting that he get a chance to meet Ron Paul, who is one of the great and remaining few apostles of the liberties espoused by our Founding Fathers, namely Ron Paul.

Some of the views expressed by Congressman Paul were the following:

  • GATA and Reggie Howe are carrying out a very important function in making the public aware of our government's gold price manipulation. The Congressman voiced the opinion that it will ultimately be market forces that wake the public up to the truth about the gold markets.
  • Our foreign policies are increasingly being driven by corporate interests. Dr. Paul talked about how the Bush administration suddenly pushed for money to fund military action in Columbia and that this was being driven to protect an Occidental Petroleum pipe line that has constantly been blown up by Colombian terrorists. When I offered the notion that this kind of behavior smacks of economic fascism, Dr. Paul appeared to be in total agreement.
  • I advised Congressman Ron Paul of Frank Veneroso's excellent analytical work on the gold markets had led him to conclude the equilibrium price for gold (without a panic move from paper money to gold) is north of $600. I impressed on the Congressman that Mr. Veneroso had access to information from central bankers themselves and other high level authorities. Congressman Paul appeared not to be aware of Frank's stature and detailed work in analyzing the gold markets. So he was quite surprised when I told him has analysis led him to conclude the equilibrium price for gold is in excess of $600.
  • After I explained who Frank Veneroso is and we talked about the quality of his work, I also advised Dr. Paul of the recent news that Frank had been "muzzled." I suggested to Dr. Paul that our increasingly dictatorial system will allow those of us who are not well known to speak freely, but one of Mr. Veneroso's stature, must be kept quite because it is hard to put down his credibility. To that Dr. Paul, who has been quite outspoken in comments to Alan Greenspan said that he thinks he will be free to continue speaking, because to try to shut him up would create more problems than if they simply let him talk.

Our Model Portfolio

So far this year we are up 17.17% vs. S&P 500 which is up 1.57%. Leading the way are gold shares, up 65.43%, Tech stocks, up 25.1%, and Energy stocks, up 34.6%.

While we always like to earn as much money as possible, we want to continue to remind subscribers that for the sake of generating wealth over the longer term, get rich quick schemes usually don't work. That's why in general, we suggest investors place a maximum of 5% of their portfolio in any one stock. And also investors should ask themselves whether large-scale percentage losses would reduce their standard of living or at the very least, would it deprive you and your family of material and psychological well being.

Another piece of advice I will give as an experienced 54-year husband and that is to be honest and open with your spouse when it comes to investing the family resources. Disputes over money are one of the leading causes of divorce. And aside from the spiritual and moral disaster that accompanies divorce, it is also extremely bad for one's financial condition.

Over the longer term, we will be better off financially if we can avoid getting too greedy and rather approach our investment strategy in a well diversified common sense approach. I think the following verse from Proverbs, provides sound advice with respect to one's attitude toward investing.

"Wealth hastily gotten will dwindle, but those who gather little by little will increase it." (Proverbs 13:11)


Gold continued to settle back this week as the manipulators seem to have regained control at least temporarily. Remember that $290 has long been the line in the sand drawn by Goldman Sachs, J.P. Morgan Chase, Deutsche Bank, the BIS, Citicorp, The Treasury, and the Fed. In other words, the defendants in Reginald Howe's anti gold price fixing lawsuit which remains an open issue in front of Judge Lindsay in a Boston Federal Court. One would have thought if this lawsuit was as frivolous as the likes of the World Gold Council, Goldfields Mineral Services, CPM group and others have claimed, Judge Lindsay would have found a reason to throw it out of court long ago. The fact is that there are some highly significant Constitutional issues that could impact our freedoms that far transcend the narrower issue of a fixed gold price.

As we closed the books on March 15, 2002, the manipulators have succeeded in pushing the spot price of gold to $289.90. Thus for the first time in quite a few weeks spot gold is now below the 50 day moving average which according to our spread sheet was at $289.94. Spot gold is still above its 200 day moving average which is at $279.10 as of Friday.

We take it as a given that the establishment will pull every trick in the book to continue to slam the gold price. The only question is how much longer can they carry out this dishonest practice? How many more bullets do they have by way of gold reserves with which to sell forward or swap gold to other countries that sell gold. Otherwise, folks might start to worry inflation is on the rise and sell stocks. God forbid gold would give a signal that would make Mr. Greenspan's job of manipulating your behavior more difficult.

So the conspiracy directed by the CEO of the United States and the Treasurer of the U.S. continues. Last week when we visited with Congressman Paul, I asked him if he had ever received an answer from Treasury Secretary O'Neil on the issue of gold that appears to have been swapped to Germany. This was brought to the attention of Congressman Paul by the excellent work of my friend James Turk. Dr. Paul questioned Treasury Secretary O'Neil about the possibility of the U.S. swapping gold. I asked Dr. Paul last week if he had ever heard from O' Neil. He responded by saying, "No, but then he seldom does answer my questions." Such is the state of our Democracy. Our country was built on the notion that it was "for the people and by the people. In fact, by failing to answer Representative Paul's question, O'Neil is essentially saying the United States Government is "for Goldman Sachs and By Goldman Sachs." Thus Congressman Paul is right in concluding that our nation is moving toward fascism because by definition, the fascist economic model is one in which governments pass laws to enrich corporations in a mutually beneficial way.

Setting politics aside, the really important issue to keep in mind is that the markets will eventually prevail. There is a growing number of establishment folks who believe gold is about to have its day. We mentioned last week and in our March issue, that Michael B. O'Higgins is one of them. He has 20% of his client's money in gold.

In Today's "Barron's", another highly esteemed investment professional has gone on record as being very bullish on gold. His name is Paul Stuka, who previously established a stellar track record with Fidelity. In its first six months, Boston-based Osiris Partners, appreciated by 29% followed by 17% in 2001. So far this year the fund is up 30%. The fund is currently 25% short on stocks while being heavily invested in cash and gold. You can read the entire interview with Mr. Stuka on pages 31 and 32 of this week's "Barron's." But what follows is what this highly regarded fund manager had to say about gold.

"I believe gold is in a secular bull market. But you are going to have a lot of volatility. Gold had been an awful area for 20 years because there was a secular bull market for financial assets. Yet looking at supply-demand, there has been a negative situation for eight or nine years. Mine production was growing very slowly and demand was outstripping the supply. It was masked by the industry's forward-selling programs and central bank selling. There is a favorable primary production profile. What gives me the most optimism is the Japanese public buying gold. The country is lowering its guarantee on savings deposits, so people are moving into gold. Japan has imported a lot of gold over the last six or eight weeks. When people get worried about the financial system, they buy gold."

Barron's then asked Mr. Stuka whether he is buying stocks or the bullion. To that he answered the following:

"I buy the stocks. But one of the issues in buying the stocks, to be quite honest, is none of these guys has production growth. This year the only major-and I used the world major very loosely - the only gold producer of the top 20 that has production growth is Agnico-Eagle Mines. This year will probably be flat in terms of global industry production. Next year will be down a couple of percent. The percentage decrease will keep growing because here is no exploration and no mines under construction.

"You try to find the ones (gold stocks) that have some growth or the ability to expand. Goldcorp has always been my favorite. From the Goldcorp chart below, you wouldn't know it is a gold company because it has been going up for the last four years. They have had production growth in Canada. It's a fantastic mine. This year they are not going to have much growth because they have shut down part of the mine to do more exploration. But they have growth potential.

"Newmont Mining is the one people are going to buy in the U.S. If you are a U.S. money manager and you want to be in North America, you don't have many choices. Homestake is gone. Battle Mountain. Nothing is left of those companies. Barrick Gold is a great company. They have done a fantastic job. But they have always been hedged. Placer Dome has a bad production profile. It is declining, and declining at a pretty good clip. So you have Newmont, which just bought Franco Nevada. Those guys are among the smartest guys in the business and they just made a huge bet with their personal money by taking Newmont stock."

Barron's asked Stuka what percentage of his fund he has in gold to which he replied:

"It has bounced around between 25% and 35%. I believe gold works in any environment going forward, unless we go back to a low-inflation, the-world-is-wonderful investment attitude. I don't think you are going to lose a lot of money. You have a very favorable supply-demand outlook. If the world keeps growing, there is going to be more jewelry. Indian and China believe gold is money. The Chinese Central Bank could be buying a lot of gold. They have a very low weighting in gold compared to almost every developed country. Gold forms about 3% of their reserves. The average of other countries is about 9% to 10%-11%. The only thing I foresee going wrong with gold is the possibility that we enter a perfect world of low inflation for years."

We of course believe we are heading toward an era of deflation. As we learned in the 1930's that too is a very positive environment for gold.

Pure gold is non-toxic when ingested.
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