The Ironic Metal

"They rang a bell."

That is how Dr. Kurt Richebacher explained why the price of gold exploded upward in response to a press release from 15 European central banks on Sept. 28. The central bankers declared their intention to stop selling gold…and to cap the leasing of gold and use of gold futures and options.

The gold carry trade, which had hitherto been a nearly risk-free way of making money, suddenly became treacherous. No longer could borrowers of gold count on a huge supply of central bank gold to depress prices. Borrowing gold at 2%, selling it and investing the proceeds at 5% is not exactly a trade that takes a lot of higher math. But when the price of gold goes up, you have to get out a pencil and do some calculations.

The difference between $250 an ounce…and $300 an once is 50 bucks. And since the gold carry trade involved an estimated 5,000 tons of gold…the amount of loss may have been on the order of $8 billion.

A lot of people lost a lot of money by selling gold forward…and many of the losers, as demonstrated so dramatically by Ashanti Gold, were the gold miners themselves.

No one knows exactly who took the losses…but it is likely that billions of dollars in short positions are still waiting to be resolved…with the speculators hoping for a deeper dip in the gold price that will enable them to get out with fewer losses. But in making their announcement, the central banks took off the market as much as 5% of all the gold ever mined, since the days of King Midas right up to the present. And with many sellers still caught in the squeeze…it is unlikely that the price of gold will fall. Marc Faber writes in "Forbes," "I very much doubt we will see prices fall below $280 an ounce ever again." But what will we see?

We live in a world of sin and sorrow. But it is not so much sin and sorrow that is reflected in the gold market, but confusion and irony. The sin and sorrow lie elsewhere.

King Midas had the touch, you will recall. Everything to which he laid his hand turned to gold. But as bad as this might have been for investors who were long gold at the time, it was worse for him. He hugged his daughter…and all of a sudden the sin of his greed turned to sorrow. Having a daughter of cold and silent gold may seem passingly attractive to those of us with the more common variety, but it takes little imagination to see that gold is no substitute for the flesh and blood of one you love.

If there is greed in the market today, it is probably not among the gold bugs. Until recently, they were too poor to be greedy. Even now they are barely able to pay off their credit card debt and maybe replace the living room carpeting. Greed will have to wait.

But tech and Net investors, on the other hand, have the Midas touch. Every silly Internet stock that comes along is golden. America’s leading technology companies — Microsoft, Intel, IBM, Cisco, Lucent and Dell — are now worth more than all the gold the earth ever yielded. These are the Midas companies…worth $1.6 trillion, compared to the total value of all the world’s gold above ground of only $1.3 trillion. You could sell the six techs…buy every bracelet, wedding ring and Kruggerand on the planet…and have enough change left over to buy every public company in Russia at 10 times the current market price!

In a better world, investors might enjoy the prospect of ever-increasing share prices for these six companies…and the other golden boys and girls on the stock market. The huge gains made this year on the Nasdaq’s techs and Nets might just continue indefinitely. Morgan Stanley’s Tech Index, for example, is up 105% in the last 12 months. And the investors who put their faith in these tech stocks hope to be rewarded with these extraordinary gains forever. But that would be a real fairy tale.

In our world, the sin of outsized expectations…which we will refer to here as "greed"…rarely goes unpunished. In fact, it is self-correcting. As more and more people chase the unrealistic profits — new investors expect 22% per year for the next 10 years! — the prices on the shares go higher and higher…to the point where it is almost impossible for them to merit their prices. That is Amazon’s problem…not that it couldn’t be a good business…it just can’t earn enough to warrant the current stock price.

Everywhere you look in the high tech and Internet sectors, sin is rampant. Sorrow cannot be far behind. And that is why we maintain our keen interest in gold. It is an ironic metal…it shrinks in the heat of a bull market on Wall Street and the sunny expectations of investors and consumers. It expands in the cold, cruel world of sin and sorrow.

The irony and confusion is that the Fed is now pumping up the money supply…the dollar has been flooding the world for many years…savings rates in the United States have dipped lower and lower — to the point where they’re now negative…the average family is said to be unable to scrape together $1,000 in cash…people have a higher percentage of their assets in the stock market…at the highest prices in history… twice as high, in GDP terms, as preceded the `29 crash…

…and still the price of gold, in real and nominal terms…is far below where it was 20 years ago!

Says Marc Faber, "The sum total of credit instruments outstanding globally is growing by about 10% per year. Thus, it doubles in size every seven years…The global economy, however, expands by just about 3% per year…This sorry condition [uncontrolled credit expansion] will lead either to far higher inflation rates or to massive defaults. Consequently, gold will provide the only sound currency."

It will be a sad day for many people when the bubble pops. But it may be a happy day for those people holding gold. Where might the price go? Doug Casey offered some guesses in his recent issue. Dividing the U.S. gold supply by the money supply — M1 — he figured the price of gold should be $4,214 an ounce. Dividing the accumulated U.S. foreign trade deficit by U.S. gold holdings produces a similar number…about $4,000 per ounce.

These numbers may or may not turn out to be predictive…but they are certainly illustrative of the huge gap between the current price of gold and the fundamentals underpining its value.

Right now, gold is waiting for something to happen. It is waiting to see how much faith people have in Greenspan, the dollar, the bubble, the United States economy…and the Midas market. That faith can be shaken at any time…or it could run to new heights of ironic absurdity. We will have to wait too…and see.

I am off for the weekend…
Bill Bonner
November 19, 1999

P.S. Next week, I want to examine the premise of Richard Rahn’s book, "The End of Money." Will money really become obsolete? What will happen to gold? Until Monday…

In Today’s Daily Reckoning:

*** Nothing but blues skies from now on…on Wall Street
*** Microsoft falls below 85…
*** A rerun of the late `70s?

*** Uh…well…whammo…the Dow broke through the 10,942 mark that Bill King had set as the limit of a classic bear market retracement. We’ve had three hikes…but no tumble so far. Just the opposite.

*** The Dow rose 152 points yesterday, following good news from Hewlett Packard that sent the stock up 22%. It was all techs and Nets yesterday…taking the Nasdaq up to a new bubble high.

*** The Paris index…the CAC 40…also hit a new high.

*** Feeling left out? I know I am. My competitor, Phillips Publishing, has an ad on the Internet — Five Internet Stocks Every Investor Must Own. I don’t have any of them. Of course, the whole idea is absurd…if every investor owned them…who would be left to drive up the price?

*** I’m sticking with my "final spike" hypothesis. The techs and Nets are not leading the market. They have lost contact with it…and reality. Even in yesterday’s great surge…there were more declining stocks than advancing ones. And only 93 new highs…with 153 new lows — on big volume.

*** Microsoft actually fell…just a tad…but below 85. I wonder what will happen next. Russell says it should break down.

*** I don’t know how long it will take…but eventually, the techs and Nets will crash, erode, evaporate. They are existential stocks…with no essence…As Gertrude Stein, who lived on the rue Fleurus, where I’m going for lunch today, said, "there’s no there there."

*** I began to write about the big spending bill that just went through Congress. But…nah…it was all lies. I’d rather talk about something real.

*** The markets are real. They mislead…they feint, they bob and weave like Lennox Lewis and Evander Holyfield…but they don’t lie. Our job is to try to find the hidden messages…the real essence…the underlying Truth…

*** Bill King believes we are seeing a rerun of the late `70s. Then, inflation was in the consumer sector. Now it is in the stock market. Then, Arthur Burns’ timid rate increases were not enough to attract investors to T-bonds or offset the gains made in oil, gold and other commodities. Today, Greenspan raises rates insubstantially while flooding the world with cash. Monetary reserves are rising at a 78% annual rate. But small rate increases are not enough to overcome the kind of profits investors are making in the Nasdaq. That will take a Volcker-style shock. Volcker "took away the punch bowl" by removing the reserves, and the whole thing turned around.

For more information on Bill King’s service, call 1-800-433-1528 and ask for code 3457.

*** Gold fell slightly. What’s up with gold? Some ideas below…

*** Pokemon, the game that made my son Edward want to be Japanese, has also been an investment sensation. Which reminds me to introduce you to the newest member of our Fleet Street investment team — Dan Denning. Dan actually recommended investing in Pokemon’s U.S. license holder long before Edward or I ever heard of it. A $1,000 investment at the time he made the recommendation could have grown to more than $50,000.

*** I’m not anti-technology, by the way. As Doug Casey puts it in his latest issue, "The Internet will be the savior of the common man in many ways, but Internet stocks will be the graveyard for his capital." Dan Denning looks for companies that have a heartbeat — profits, sales, cashflow — and don’t need a mania for life support…He tries to find stocks that will "take off" like Internet stocks…but not disappear when the mania ends. In fact, he thinks he’s found another Pokemon…in this case a little company in Japan that makes virus protection programs for computers. The company may have made a technological breakthrough in fighting computer viral infections. See advertisement below…

*** Doug Casey’s latest issue also offers a marvelous quote from the establishment’s pet scholar, Arthur Schlesinger, Jr., in which the Big Government apologist worries that "The computer turns the untrammeled market into a global juggernaut, crashing across frontiers, enfeebling national powers of taxation and regulation, undercutting national management of interest rates and exchange rates…creating a world economy without a world polity." Sounds good to me.

*** Bars and restaurants in Paris began offering the Beaujolais Nouveau yesterday. Waiters are wearing special straw hats…and ads proclaim the arrival of this year’s vintage. But the stuff is not really very good. Good wine is complex and rich. Not that I know much about wine…but even a teetotaller could tell the difference. Beaujolais never was considered a serious wine…just a refreshing drink with a light lunch. But it has been a huge marketing success.

*** The Church of England…where every clergyman seems to lust after another clergyman…or his wife…is putting its service on the Internet. Worshippers will be able to download the text of Common Worship and follow the service. And to bring the service completely into the modern age…a prayer has been added in which God is seen as a mother, rather than a father. The Judeo-Christian faith is a patriarchal religion. The Greeks identified the inclusion of females in the priestly orders as a sign of barbarianism. And "Mother Earth" worship is considered, by fundamentalist Christians today, as rank paganism…which, of course, it is. But the Anglicans are more of a social group than a religious order, anyway. They are social workers with funny clothes and mysterious chants.

The Daily Reckoning