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A quick note on gold fundamentals first:

The amount of gold in the world is essentially fixed. Although there is a lot in the ground, the speed at which it can be extracted is fixed so gold is what it is. As long as we keep printing money - if other things are equal - gold will go up in price (not value). Here's a good chart showing the price of gold vs the Global Monetary base through 2010 (I couldn't find more recent):

(click to enlarge)

What happened in 2002(ish) to cause gold to start following the money supply when it hadn't before? Our ability to measure it is what changed. As the internet came into play and data got better, then the relationship between gold and the money supply no longer was based on "feelings" and became based on quantifiable data. So, of course, gold began to closely follow the money supply. As the money supply climbed the next few years - gold went all the way to $1,800 and is now having a pullback - like the one it had in 2007-9 but it's not very likely to break through the long-term, logical trend of increasing alongside the supply of money.

Note in 2008, Central Banks began dumping gold to raise cash and restore liquidity - THAT's what caused gold to drop from $850 to under $700 (20%) and, of course, it was a pretty normal retracement of the run from $400 to $850 (10% overshoot of 100% run) with 25% of the run ($400 to $800, not counting the spike) coming back. If we call $800 a consolidation point, then $1,600 is the 100% run and we expect a pullback of $200 to $1,400 - the rest is just a BS spike up that we ignore but this is how "they" manipulate the chart watchers - push something higher than it should have gone in the first place to make a normal pullback look like a crisis.

The reason our 5% Rule works so well is BECAUSE we ignore the spikes and focus on the consolidations - that's reality - not the tops and bottoms that are briefly pushed. It all goes back to Lincoln who observed that even all of the people can be fooled some of the time Tesla (TSLA) and some of the people can be fooled all of the time Netflix (NASDAQ:NFLX) but you can't fool all of the people all of the time Apple (NASDAQ:AAPL).

(click to enlarge)

Also, keep the above chart in mind when people talk to you about a "gold standard." That is never going to happen. Look at the amount of gold to currency the major countries have - it's not even a possibility. I did the math once and I think gold would need to be over $50,000 an ounce to cover all the currency - and that was before they started printing extra. That would, of course mean all the gold in the world would have to be confiscated by Central Banks first and then repriced at $50,000 an ounce and then distributed evenly to back currencies - otherwise a lot of our parents and grandparents would accidentally become multi-millionaires overnight as their jewelry box turns into Fort Knox.

So plenty of lunacy on both sides of the gold issue but, over the long-run, I'd stick with the gold to money-supply ratio to determine value and that makes $1,400 a pretty reasonable floor and let's say $2,000 is about the top of the channel. I like miners better than gold for the same reason Buffett doesn't like gold - it doesn't do anything. Miners, on the other hand, are a business and whether they mine gold or make gummy bears, Barrick Gold (NYSE:ABX) sells $14 billion worth of something and makes about 20% selling it. Who cares what it is the company makes, as long as it makes money doing it? But, as a bonus - ABX happens to own 140M ounces of proven reserves - that means gold that belongs to it that is economically accessible over time based on current technology. At $50,000 an ounce that's $7 trillion! Not bad for a $20 billion company!

(click to enlarge)

At a more realistic net $400 over extraction- and let's call it an average of $600 longer-term if gold is back around $1,800 - then we're talking about $84 billion. If gold goes over $2,000 an ounce down the road - it's all bonus money down the road.

During the Clinton years, oil was around $20 a barrel. It just laid there, dead as a doornail. Did smart people walk away from drillers who had massive amounts of oil in the ground because oil was cheap or did they load up and figure one day it might come back because the fundamentals of usage would be there for decades to come?

This is the same kind of thing. Miners have environmental issues all the time but it's good to buy things when they are cheap - not to chase after them when they become expensive. If you have a long time-frame, the history of commodities on the planet earth is that they tend to go up in price and the more the economy recovers, the more commodities we use and rich people love to buy gold so that crappy little gold mine you buy today may turn into a gold mine tomorrow - but it's investing for the patient!

ABX, as you know, is my favorite because its size and scope and geographical distribution of assets lets it ride out all sorts of storms. Plus they are a capable team who have been doing this for 30 years (Peter Munk is an interesting guy too). The stock is at $20.88 and pays a .80 dividend (3.8%) but you know we can do better than that so we sell the 2015 $18 puts for $3.25 and the $20 calls for $4.30 for a net entry of $13.33/15.67, which makes the .80 dividend 6% while you wait to see if you get called away with a 50% profit in 20 months or if you end up getting assigned and owning 2x for a 25% discount to the current price.

In our Income Portfolio, we went with an artificial buy/write, aggressively selling the 2015 $25 puts for $3.20 (now $7.20) to pay for the $18/33 bull call spread at $1.95 (now $3.90). so we're a bit behind but I'm still happy with the target $25. I still like the spread but, If I were doing it fresh, I'd sell the $28 calls for $2 and drop the net on the bull spread to $3.20.

(click to enlarge)Harmony Gold (NYSE:HMY) is also cheap. The company lost money last Q because it had a major mine shut down and the loss of production hit it hard. But, did the mine disappear in a puff of smoke? No - it's still there and the safety shutdown wouldn't have been as dramatic (15% less production than last year) except the company also got whacked by a massive drop in gold prices, poor currency exchange rates and labor unrest. So now you can buy the company for $2 billion and it earned $341M on $2 billion in sales, so let's call the p/e 6 - about the same as ABX.

HMY is more speculative than ABX as the company is more concentrated and it doesn't pay a fat dividend (just a dime) but, at $4.62, you can sell the Jan $4 calls for $1. That's 21.6% of the stock's price back on just the call sale. If you also sell the $5 puts (aggressive), those are $1 too and now your net on the buy/write is $2.62/3.81 with a nice $1.38 profit if called away at $4 (about 50%), which is 13.4% lower than it is now, in 251 days.

Those are stunning returns - and your downside is you are "forced" to buy 2x HMY at an average of $3.81, which is 17.5% below where it is now.

Don't wait to buy cyclicals until there are headlines in the papers telling you there are record high prices. Last year we were buying REITs and builders because they were cheap, this year our new Income Portfolio has a lot of Materials stocks because they are cheap. Part of our 10,000 hours needs to be spent learning to play these economic cycles but we need to learn to play them like Buffett and buy low and sell high - when weather-vanes like Cramer jump on the bandwagon.

Disclosure: I am long ABX, HMY. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Disclaimer: Positions as indicated but subject to change (fairly bearish mix of long and short positions - see previous posts for other trade ideas). Positions mentioned here have been previously discussed at philstockworld.com - a paid membership site that teaches stock, options and futures trading, portfolio management skills and advanced income-producing strategies for investors.

Source: Barrick Gold And Harmony Gold Can Inflate Your Portfolio