Tom Szabo

Facts Behind Gold's Concentration

It's more like $2000 a MONTH for talented placer miners with ton-per-day-capacity equipment on good claims. You can't make diddly squat on any bend of the American River accessible to the general public. Also, it wasn't mining permits issued but number of unpatented claims. Still a big rise but most of it is on land that has no mineral potential. The BLM isn't complaining as it's a nice little source of revenue. The only other people making money are those locating claims or selling them to the gullible public. Tourism is generally down in the Sierra foothills as it is elsewhere so shop, restaurant and motel operators aren't raking in the dough by any means for the 49'er wannabes.

Gold's Big Secret - No One's Actually Buying

Excellent overview of short-term fundamentals but one thing missing is the answer to the question, what happens if the speculators turn tail? Will physical buying show up in all possible scenarios (the so-called Beijing Put) or are there some possibilities where basically there is a sizable air gap? I'm leaning toward a middle ground scenario where we do get a sharp slide but shorts start to cover aggressively and bargain hunters come out of the woodworks. That would basically create a V-shaped correction. But what if the shorts refuse to cover, and the people who have money to buy physical (ie., China) decide to hold out for a better price (like bargaining at a market stall)?

Why a Gold Bug Isn't Buying Gold Now

The article makes reasonable sense, but why not sell some (at least stocks) on strength? How many people are able to continually buy meaningful position size without first having taken profits and thus freeing up some cash?

Gold: A Bubble Brewing?

The best option is to have been invested earlier this year so as to be in a position to have taken profits recently and to have cash on the sidelines for when there is a pullback, which is going to take place sooner than later. The only "options" I would consider are cheap December puts in COMEX gold and silver or November puts on sector leaders like AEM, GG, FCX, PCU, TCK. Some of these are fantastically priced (or at least were earlier today) at what might be the cusp of a vigorous correction. You don't need a lot of them to provide some timely protection -- a really good strategy would be to immediately convert any gains on put options into share positions. I'm also personally planning to go long COMEX gold futures against any option positions that go far enough into the money, creating a powerful slingshot scenario should a gold correction be sharp but very short, which is typically what happens this time of year.

Crude Oil and Gold: Not Worth Worrying Over

An alternate theory gaining a bit of credibility compared to "first a slight correction, then to da moon!" is that commodities, oil and gold will trade in a wide consolidation pattern during the next few years. There is no fundamental reason why oil couldn't be trading at $50 today just like there is no fundamental reason that it is trading at $80. Similarly, I think the idea that gold cannot trade for an extended period in a price range of perhaps $700-$1100, but instead must inevitably trade much higher in the short run, is a sign of groupthink. I have a large exposure to precious metals in the form of physical holdings and stocks so I would love for gold to explode in price but at the same time I believe it's important not to drink the market's Kool Aid.

Concerns About Disorderly Monetary and Economic Crisis Are Increasing

The other alternative being that the dollar decline is really the one that is "fleeting, temporary aberrations, or concocted fantasies". I haven't decided either way primarily because a conviction like yours places significant handicaps on the ability to make money.


On Oct 24 06:55 PM ManAboutDallas wrote:

> We can't, Mr. Szabo, and therefore we don't. The declining dollar
> is obvious, so that means the "disinflationary pressures" are either
> fleeting, temporary aberrations, or concocted fantasies [ read: made-up-to-look-good-s...
> ]. Given the sober reality provided by sites such as shadowstats.com,
> the curtain is about to be pulled back and we will all see the Bankrupt
> Wizard of Oz for what it is: a Naked Emperor worthy of Hans Christian
> Andersen himself.

Why Are Large Hedge Funds Investing in Gold?

Hedge funds are generally technical oriented trend followers, so they are mostly in gold because it is hot. Gold is NOT a hedge against uncertainty, it is a hedge against terminal economic crisis. In other words, it isn't health insurance, it's life insurance. And gold does serve as a hedge against inflation, but instead of tracking inflation in an orderly manner, gold makes its move in leaps and bounds such that all of the net rise in the gold price from $35 in 1971 to $1050 in 2009 took place on just a few monthly bars on the long term chart. The rest is back and fill action. So for example there have only been FOUR up months in the gold price between January 1980 and today: January-March 2008 and October 2009. Because of this, timing is of utmost importance when it comes to gold, and this type of situation is precisely where a hedge fund can potentially make that elusive "alpha". By the way, many people think that gold can also go up in a deflation because it was revalued from $20 to $35 during the Great Depression, but what actually happened there was an official currency devaluation.

Concerns About Disorderly Monetary and Economic Crisis Are Increasing

Osisko has a feasibility report on the Canadian Malartic deposit from an independent party as required by 43-101 and very few of the risks outlined by "tripleback" are worth worrying about. The fact is that Osisko is a relatively low risk gold developer in Canada that is fairly valued at this time given the present gold price. It is also in an unattractive stage in the gold mine development cycle between feasibility and sustained commercial production. There are comparatively much better values out there, but you have to do a lot of work to build valuation models to screen them. Typically the better values also have a greater risk profile.

Regarding the chart of "global monetary aggregates", does anybody else see that it seems to have topped out after 30 years of parabolic growth? How the heck can we have both a declining dollar AND deflationary pressures?

Investing in Gold Now

Great advice! Load up on gold just as it hits a record high! If you're reckless enough to buy now, at least spread out the purchases over a few months, huh?

How Does One Value Gold?

The proper way to value gold is based on its monetary qualities, or in other words what it could purchase. Many people use inflation rates such as CPI as a proxy for fair value of gold but this is not very sophisticated for several reasons, the most significant of which include accuracy issues as well as the fact that the aboveground stockpile of gold grows every year. I prefer to use a ratio of gold to the global economy, stock markets, U.S. Treasury debt and/or global asset base.

Global economy is reasonably estimated using global nominal GDP (currently around $55 trillion). There are also available figures for Treasuries and stock markets (an effective if rudimentary approach is simply to use the S&P 500 as it is already market cap weighted).

Global assets are much harder to estimate but this is probably the most relevant ratio because it reflects gold's relative purchasing power. Clearly it wouldn't make sense for all of the world's gold to be worth more than every asset that could be purchased! Indeed, gold could only be realistically worth some fraction of total assets which throws some of the wilder (Jason Hommel, Ted Butler, etc.) gold price predictions right out the window. In any case, you basically add global stock market capitalization, real estate, private equity, debt collateral, fiat money in circulation, etc. but exclude all credit-based money, derivatives and other financial products that are zero sum (offsetting asset and liability). Let's say the current number for the global asset base is $150 trillion (probably a bit high but not that far off).

Now calculate the global market cap of gold: 5 billion ounces times $900 = $4.5 trillion. Thus the gold to global economy ratio is roughly 12 ($55T/$4.5T) whereas the gold to global asset ratio is currently around 33. Similar ratios can be computed for stock markets and U.S. Treasuries.

To determine if these ratios and thus the gold price is fair, too high or too low, you need to come up with similar ratios for various points in time, such as the 1980 high in gold, the 2001 low, under Bretton Woods (pre-1971), etc. as well as an average over time. If you do the math it basically says that gold is currently comparable to where it stood in the mid-1970's after the 1974 high and before the 1980 high. At the 1980 peak, the ratios were anywhere from 3 to 7 times lower. That implies if gold were to reach a similar extreme today, it could rise 3-7 times from current levels assuming the denominator (GDP, stocks markets, etc.) stays the same.

Alternatively, the average gold ratios over the past 40 years or so imply that fair value lies in the range between $500 and $1000. If we strip out most of the 1990's when the novelty of gold mine hedging and central bank leasing were at their peaks, these fair values become $600 to $1200. I believe at least several of the analysts that predict $1200 gold are basing their numbers on a similar model to the one I am describing.

Finally, my own studies indicate that the historical ratio of global asset values to gold may have been approximately 5 under the gold standard. In other words, gold might have typically represented approx. 10-20% of the world's material wealth in the past. Perhaps this could be viewed as the ultimate fair value of gold. If so, assuming a global asset base of $150 trillion would mean gold has a fair value of $3000 to $6000/oz. ($150T/5/5 billion ounces). Such a price assumes the adoption of a worldwide gold standard and no consequent deflation in asset prices, which may not be realistic. Perhaps $75T might be a better number given the already ongoing global asset meltdown in which case the fair value gold price under a gold standard could be $1500 to $3000.

Keep in mind all of the above gold prices are real and therefore don't need to be further adjusted for inflation because the ratios' denominators already account for changes in price over time.

Smart Money Continues to Accumulate Gold

I wish more Seeking Alpha contributions would live up to the namesake and actually provide some insight instead of constant rehash.

The real smart money accumulated a while ago, any buying now is strictly for trading purposes. The $2,400 inflation adjusted high would be a spike based on the 1980 spike and not many people would or could realistically get out at such levels. A more reasonable 1980 reference price would be $600 (gold spent at least a few weeks above that level) and that translates to around a $1650 gold price when adjusted for inflation. Of course, we are talking only inflation between 1980 and today, not the future inflation that is currently being baked in by desperate fiscal and monetary policies.

Gold Losing Its Shine as Supply Surges

This is a fairly good commentary but the author ignores the monetary reasons for gold's increasing attractiveness in the medium term as a safety valve against runaway fiscal policies that attempt to stave off a private credit implosion by means of exploding public debt. Neither the appearance of hyperinflation nor a high level of inflation is required for gold to march higher, only a growing consensus that monetary instability has greatly increased. At the same time, I would argue most hard assets are at equal if not greater risk of "fundamental demand destruction" compared to gold. I am bullish on uranium but on a 3-7 year time horizon. On gold, it is more like 1-5 years. I do agree with the author that from time to time gold will get pushed around by large forces and it could undergo severe corrections but that is the nature of gold.

There is no widespread inflationary consensus or general agreement on the extent of monetary instability today -- despite highly expansionary fiscal and central banking policies -- simply because competing factions of denialists and deflationists dilute any significant sway. When the deflation threat, however, is largely seen to be in the past (that day will come) but before inflation actually manifests itself in a general rise in prices, gold will do its trick and discount future price increases as it did in 1974. Importantly, the 1974 gold gold price at $200 was more or less where gold bottomed in 2001 ($250 -- close enough), which goes to show just how much of the future gold is capable of discounting.

A perfect logarithmic resonance would have gold reach $2000 this time but that level would barely account for the rate of inflation between 1974 and now, much less expected future inflation. Even so, $2000 gold is probably better than the level uranium, platinum, natural gas, etc. will achieve in the medium term.

Time to Sell Gold?

The bull market in gold started in 2001 or 2002 with gold crossing $300 or so. A tripling (2x return) from current levels is certainly possible but that would be an 8x return for those who have held since the start. In other words, the easy money has already been made. It is acceptable to accumulate a core holding (and that means physical metal in your own possession) of 10% gold and silver in your asset allocation without regard to price but beyond that you are speculating. Even if higher gold prices seem like a slam dunk given the "vulnerable fiat currencies and controversial fiscal policies". Don't get me wrong, there is absolutely nothing wrong with gold speculation other than calling it "saving and investing". For the record, I do believe gold will go much higher at some point sooner or later but if your "savings" will be going to pay living expenses in the next couple of years then buying gold at $900 could hurt you.

Is the GLD ETF Really Worth Its Metal?

I note the following in the 10K:

"Gold held for the Trust Allocated Account will be held by the Custodian in its own London vault premises except when the gold has been allocated in the vault of a subcustodian, and in such cases the Custodian has agreed that it will use commercially reasonable efforts promptly to transport the gold from the subcustodian’s vault to the Custodian’s London vault, at the Custodian’s cost and risk. Nevertheless, there will be periods of time when some portion of the Trust’s gold will be held by one or more subcustodians appointed by the Custodian or by a subcustodian of such subcustodian. Gold held by the Custodian’s currently selected subcustodians and by subcustodians of subcustodians may be held in vaults located in England or in other locations.

In other words, you can't assume there is a big issue with gold held by subcustodians unless you also assume that the Custodian has purposefully not used "commercially reasonable efforts promptly to transport the gold from the subcustodian’s vault to the Custodian’s London vault". Is there any evidence that prompt transport is not taking place?

As for "investment in gold" vs. "gold", that is simply semantics and there is no relevant distinction between the two. It is standard to use "investment in" as a balance sheet caption and actually preferable in this case. At the same time, you wouldn't say "proceeds from the sale of investment in gold". In any case, International Accounting Standards don't apply here at all, U.S. Generally Accepted Accounting Principles and SEC Rules and Regulations do.

The main problem with all the "audit doubters" is they totally discount the fact that the sole asset on the balance sheet of GLD is gold and there is virtually no risk that auditors would issue a report on the financial statements without performing adequate audit procedures which necessarily include a physical inventory. This is more than just a "peek" -- there are specific auditing standards that spell out precisely how to test gold in custodial possession.

Gina: The specific gravity of uranium is 19.05, for lead it is 11.35 but for gold it is 19.30. These differences are large enough that gold plated lead over DU can be easily detected using minimal procedures, not to mention that it would be exceedingly difficult to manufacture such bars. More likely if someone was going to do something like this they would use actual gold bars fabricated by refiners and subsequently drilled and filled by the fraudsters with about 40% tungsten (SG of 19.30, same as gold) but even that would involve a large chain of participants with a high risk of discovery.

Consider_this: The Satyam fraud apparently involved collusion by two PwC audit partners who were bought off. In any case, you don't test bank balances by sending people to the bank premises, you send a bank confirmation through the mail. You also look at bank statements and test some of the transactions by tracing them back to source documents. Could the auditors for GLD have been bribed like the Satyam auditors apparently were? Sure, but it's just as likely that the auditors for any other company have been bribed (which is not very likely at all for any particularly company, but clearly it does sometimes happen). The bottom line is that GLD is not unique in this respect, you could say the same thing about every company that gets audited.

Ironically, the risk of potential malfeasance is actually higher in an operation like Central Fund, Central Gold Trust, Bullion Vault, GoldMoney, etc. where the chain of authority is highly centralized and there aren't many overlapping checks and balances in place. Most of the recent frauds including Madoff, Satyam, Stanford, Adelphia, Worldcomm, etc. involved highly centralized operations with little segregation of duties or proper oversight at the executive level. These are all essentially very basic frauds with little collusion -- operationally very different from GLD and SLV where duties are decentralized between the Sponsor, Trustee, Custodian, subcustodian and Authorized Participant. If there is collusion between all of these parties it is a complex, extremely risky proposition that has no precedent.

In closing I'll note that London bullion vaults have not suffered an uninsured loss in several hundred years of operating history. Simply put, if you are worried about being cheated out of gold or silver, it is preferable to store it in a public warehouse run by many employees instead of a private facility run by one or two guys (or gals).

Commodities: Brief Correction or Bursting Bubble?

There are quite a few small "commodity stocks" where the project economics are now underwater. If commodity prices slide far enough, the same thing could happen to some of the majors. Over time, the price of a given commodity (absent a monopoly like diamonds) will be slightly higher than the marginal cost of production. This is a reality that most current (sophisticated) investors recognize by awarding P/E ratios that are subpar to the market as a whole. If we do have confirmed peak production in a particular commodity, the paradigm may very well change but this is not something we will be able to confirm until several years of declining production in spite of higher prices. I agree that if and when the mom and pops buy up this sector, there could be other new paradigms to explain the overvaluations. Investing on that basis, however, is an application of the greater fools theory and not the way any billionaire got to be that way. Instead, if you have enough patience to wait for the type of absolute proof that is required to borrow every last penny you can to buy commodity stocks, you might be rewarded in the years ahead. And I don't think it will be too late if you just chill out now and wait for it. Remember the new paradigm: several years of rising commodity prices in spite of declining annual production. If it happens, that would be true alpha.