Great Investment Articles

This article is the draft of a speech by Clyde Harrison of Brookshire Raw Materials. It's a bit lengthy, but well worth the read. Below are excerpts relating to the stock market and commodities:

The equity market now has 84 million individual investors. Over 50% of these investors’ liquid assets are in the equities—but the historical average is 25%. Using the rules outlined by Graham and Dodd such as dividend yield, P/E Ratio, price ratio, price to sales ratio and price to assets, stocks are very expensive. They are over owned and over priced – a dangerous combination.

There has never been a ten year period in history when valuations have been as high as they are now and where the broad stock market indexes out performed money market funds – never!

I expect a moose market, not a bull or a bear but a moose, rhyming with the period of ’66 to ’82 where the market went nowhere.

I believe the paper bill market has ended and the stuff bull market has begun.

Between 1966 and 1982, equities gained nothing while the GNP gained 330%. The DOW went from 1000 to 875. From 1982 to 2000, the GNP gained 170% and the DOW rallied from 875 to 11,700. Currently the DOW is trading over 11,000, about a 25 P/E ratio. Between now and 2015 if the GNP gains 100% and earnings gain 100%, then the DOW could be at 10,000, trading at 10 times earnings. During the past 5 years the S&P is up 5%. And at that rate of compounding, you will have to work till you die.

During the last stuff cycle equity mutual funds were in a dead zone while stuff; raw materials, art and real estate had super returns.

In 1966 oil was $2.90/barrel and rallied to $28/barrel. Gold was at $35/oz and rallied to $850/oz. The average price of a home increased 180%.

In 1982 the stuff cycle ended and the great paper cycle began. In 1982, the public had 14% of their liquid assets in equities. The Business Week Magazine cover reported “The Death of Equities”. The P/E ratio was 7. Stocks were dirt-cheap and stuff was very expensive. Brokerage firms were selling real estate and oil and gas partnerships. 1982 was the beginning of a great bull market in paper.

By 2000, the DOW was up over 10 fold. The cost of one dollar’s worth of earnings (the P/E ratio) has risen from 7 to 44, and the public had 57% of their liquid assets in equities. The Time Magazine cover featured “The Committee To Save The World: Greenscam, Summers and Ruben”. Brokerage firms were selling tech and dot coms with no earnings. The paper bull market was ending. Paper was very overpriced and over owned. The Dow could be in a trading range of 7,000-11,000 for years.

Stuff, from 1982 to 2000, was in the dead zone. Oil went from $28/barrel to $26/barrel. Gold went from $850/oz to $280/oz. The average price of a house had increased 1.2% per year by ‘2000. Stuff was a bargain.

In the next 10 years paper could be a trading market while stuff is in a bull or buy and hold market.

30 years of restrained and neglected natural resource supply is being overwhelmed by demand.

Peace put 2 ½ billion people in the world labor market. India and China alone contain over 2 billion consumers. Suppose each of the 2 billion people consumes a mere quart of gasoline per week as their economy booms; that’s an additional 1.7 million barrels a day, new demand that is sure to increase price. Today, China is booming. They have declared the national bird to be the construction crane. Last year China’s factory floor produced 50% of the world’s cameras, 35% of the TV’s and 30% of the refrigerators sold worldwide. In the last five years china went from exporting oil to the second largest importer in the world. The Chinese will go from walking, to bikes, to motorcycles, and to autos. They will need oil and gas, chemicals, forest products and metals. At 80 cents per hour they are deflating manufacturing costs, but as they become more successful, they will throw away their bicycles and buy motorcycles and eat better, increasing the demand for raw materials.

China and India are transforming their economies from poor agrarian nations to the newest industrial powers, replete with heavy industries, mass transportation and higher education. Rising from these giant new economies will come millions of new consumers, the very people who are already straining the natural resources of the earth.

Real incomes are just beginning to rise to levels that create large demands for consumer goods. Between 1950 and 1970, Japan’s urban population increased 70%. Personal consumption increased 600%.

China currently is 40% urban, 60% rural. The US is 97% urban and 3% rural.

China has 20% of the world’s population and 7% of the world’s land. China’s grain imports will grow from 14 million tons today to 57 million tons in 2020.

Today, 1 billion people consume two thirds of the world’s raw materials. 5.6 billion people consume the other third and they are becoming more successful.

Demand for raw materials has increased. In many cases, the capacity to produce raw materials has declined dramatically in the last 20 years. Tops and bottoms are creatures of extreme. Markets rise above all expectation and then go higher and then fall further than common sense suggests. The most desirable investments for the future might not be in cyber space but back to the basics.

By the end of this bull market in commodities, there will be a bounty on caribou, you will be able to see an oil rig from every beach and they will be digging a copper mine in Barbra Streisand’s yard.

As you climb the ladder of financial success, check to make sure it’s leaning on the right wall. I believe raw materials will be one of the best investments for the next 10 to 15 years.

Posted online: Friday, May 26, 2006 at 0000 hours IST

MAY 25: Volcan Cia Minera SA, South America’s biggest zinc producer, said prices for the metal won’t fall below $3,000 a metric ton until 2008 because of a production shortfall.

Zinc will remain almost three times the average price for the past five years because of a scarcity of the metal, Volcan chairman Roberto Letts said in Madrid on Thursday. Letts said he wasn’t ‘‘convinced’’ there is a ‘‘bubble’’ in zinc prices.

‘‘There is good demand, and no new production, prices will stay above $3,000,’’ Mr Letts said. Zinc futures have risen 86%, and traded at a record $4,000 on May 11. Demand is forecast to exceed production, and investment funds are buying the metal as they diversify into commodities.

—Bloomberg

Fri May 26, 2006 7:46 AM ET
LONDON, May 26, (Reuters) - The steel industry is closely monitoring moves in zinc prices as worries intensify about a possible market deficit, a U.S. steel maker said on Friday.

"At some time in the beginning of 2007, zinc supply is going to be so tight and the price will be astronomical and some people will not get their zinc," Douglas Brooks, a manager at Nucor Corp (NUE.N: Quote, Profile, Research), told Reuters at Metal Bulletin's zinc seminar in London.

Brooks said he was much more worried about how to obtain zinc, rather than its price.

The moment price became a problem, orders would drop off and the market would stabilise automatically.

"Eventually, zinc will be so expensive that people drop out, and then there will suddenly be plenty of zinc around," he said.

But before that happened, the price could go well beyond $5,500 a tonne.

Such levels would not be sustainable, but he still expected the price to stay around $1,500 a tonne.

"We will never see zinc at $800-$900 again," he said.

© Reuters 2006. All Rights Reserved.

In this article, Eric Hommelberg discusses the technical analysis of Gold vs. the HUI (Gold Bugs Index). There are several charts in the article.

He concludes that "whether or not gold continues its descent from here on towards the $620 - $640 area doesn't bother me since the downside potential for the Gold shares is limited, but according to some credible market insiders the correction in gold could be over much faster as you might think." He stongly believes that "we're heading towards a buying opportunity of a lifetime here."

Peter Grandich: The bulk of the correction in the metals market is now behind us

Here's Peter Grandich's May 11 real-time alert about a sharp correction coming, right at/near the peak:

Marketwatch, May 11, 2006:
Gold, silver futures rally to quarter-century highs

UPDATE -
From The Desk of Peter Grandich May 11, 2006 1:00 PM EDT

"... an overbought/oversold indicator of mine that I've used since before the 1987 stock market crash, has given the most overbought reading EVER for both copper and gold."

"I'm going to suggest that the risk in gold, silver and copper is now equal to, or much higher than, the reward in these markets for the near term. The long awaited sharp correction is within hours or days at most."


He was right, as gold has already corrected over 10% from its high very quickly. Hopefully, he's right this time as well:

Indeed, "the bulk of the correction in the metals market is now behind us," with the exception of copper, which "has a ways to go to the downside," said Peter Grandich, editor of the Grandich Letter.

He expects gold and silver to "bounce strongly early next week."


I like what he had to say about junior mining stocks in his latest alert:

Mining and Exploration Shares –
I said in my May 11th issue, “…the second half of 2006, and especially 2007, is setting up to be the speculative frenzy most have been patiently waiting for.”

While shares in general can decline another 10%-15%, the bulk of the froth has been removed,
especially in the junior resource market. In fact, I do believe the next 60-90 days could offer
one of the best entry points into the junior market since the bottom in 2001-2002. I’m highly
prejudiced since part of my livelihood is made within that industry, but it’s my most humble
opinion.

This article by Martin Weiss compares the world situation in the 1970's, when gold went up more than 8-fold in 3 years and 5 months, and compares it to today. After describing 6 parallel patterns, he concludes with the following:


These parallel patterns point to a parallel future.

There will be many differences; history will twist and turn events to surprise us all. But throughout it all, I have little doubt that surging gold, and commodities and interest rates imply some of the greatest opportunities of a generation. That was true in the late 1970s. I believe it’s true again today.

To profit from them, you don’t need a big stake. Nor do you need to catch every up and down move. What you need most is patience.

Although protective measures, like stop-loss orders, are always prudent, don’t run at the drop of the hat. Don’t let your vision be clouded in the shadow of each correction. Stick with your core positions and strategies.

Always remember: It’s not until the Federal Reserve slams the door on easy money that you need to worry about an end to the rise in gold, silver, oil or other natural resources.

At the same time, recognize that these kinds of sweeping upsurges don't come every year or even every decade. It is a once-in-a-generation cycle that you or I are unlikely to ever see again.

So if your aim is large profits, and you have speculative funds available for leveraged investments, it’s now or not at all.

This article by Tom Dyson shows how bad the worldwide zinc crisis is already, ahead of some major mine closings in coming years. Here's the zinc discussion from the article:

The world is out of zinc...

I’m not joking. All industrial metals are scarce right now, but none are as scarce as zinc. There simply isn’t any available.

I learned this yesterday on the golf course. Chris Hancock specializes in Asia. He is the author of a publication called the Asia Strategy Report. We were paired together in a corporate golf outing. While contemplating my approach shot to the sixteenth green, Chris started talking about zinc…

Kohler Inc. is a huge manufacturing conglomerate, best known for making bathroom fittings like sinks, latrines and faucets. They coat their products with zinc to stop corrosion.

“I was just in Hong Kong,” Chris told me, “and while I was there, I met up with a friend of mine who’s the manager of several Kohler plants in China. He told me they’re having trouble with zinc… they can’t find it anywhere.”

Chris continued: “At first I didn’t pay much attention. But then at dinner that night, I sat next to a guy from my MBA class. He’s an investment banker with UBS Warburg. He says all the traders at Warburg are buying zinc like crazy and that the zinc price is about to run. But get this...

On the plane back from Shanghai, we start chatting to the lady in the seat next to us. It turns out she manages a plant in Chicago for one of the large office supply retailers. She said she’d been in China visiting factories. We told her we had been doing the same thing. We asked her how her trip went - if she’d had any problems sourcing materials for her plant – and she told us she did. She couldn’t get hold of any zinc!”

Thu May 18, 2006 3:42pm ET

By Barani Krishnan

NEW YORK (Reuters) - The drop in oil and metal prices this week has raised fears that a speculative bubble in commodities is bursting, but giant U.S. fund manager PIMCO says fundamentals will hold up the asset class.

"In considering commodities, we need to take a more strategic view instead of trying to predict in very short term what prices might give," said Bob Greer, senior vice-president and manager for real return products at the $600-billion-fund which mainly invests in fixed income.

Many analysts saw the corrections as a normal pause needed in bull markets, particularly for energy futures and copper, which hit record high prices in the last four weeks.


But some say too many speculators were bidding up prices too high to justify demand supposedly coming from hungry economies like China and India. Some economists also fear a sudden exit of speculative investors like those that have caused real estate and dotcom stocks to crash in the past.

Greer, who oversees a $12 billion allocation for commodities at Pimco, said his model showed economics would support prices of natural resources.

"To have a speculative bubble, you need one or both of two things -- one, a restricted supply of whatever it is that's going to bubble up, and two, you need to lose all concept of an objective measure of value."

"The former was true in real estate." he said. "Real estate is in limited supply and you can certainly bid up the price of that limited supply. In the case of dotcoms, there was a classic case of losing all concept of what a measure of value was. Neither of that holds for commodities."

U.S. crude has slid nearly 5 percent since Friday, touching five-week lows on signs high energy costs were stoking inflation and stifling consumption. Copper <0#hg:> tumbled 4 percent early this week amid worries that any further rate hikes by the Federal Reserve could slow economic growth and undermine metals demand. Meanwhile, gold <0#gc:> was struggling under $700 an ounce after sliding almost $52 from a 26-year high of $732 on Friday


Greer said the "real" debate over commodity investments was about the passive investments in commodity futures indexes made by funds, pensions, endowments and wealthy individuals looking to hedge their investments in stocks and bonds.

Analysts say passive investment portals such as the Goldman Sachs Commodity Index, the Dow-Jones AIG Commodity Index and Reuters Jefferies CRB Index have seen total inflows of more than $100 billion in recent years, leading to an all-round surge in raw materials prices.

"I do not believe that long-only index investors are driving prices," Greer said.

"PIMCO is by most accounts the largest manager of commodity index mandates in the world. Yet, PIMCO does not own one barrel of crude oil, one bushel of soybeans, one ounce of gold. We do not consume any of those commodities," he said.


"And as far as the objective measure of value is concerned, that occurs on the wheat fields of America, the natural gas terminals, the gasoline pumps and supermarkets where we decide how much we're going to pay for that commodity."

Greer said although there were instances when futures led cash prices of commodities, "it is more likely that futures will converge to the cash, and not the other way around".

"In the short term, you might have some traders in one pit looking at what's happening in another pit. But over the longer term, it will still be the fundamental economics that are unique to that market that will prevail."

"So, you don't have the necessary requirements for a speculative bubble."

posted by GreatTrades  # 2:33 PM 0 comments

May 22, 2006

The other big event last week was a heavy dose of profit-taking in the commodity pits. The CRB index lost a little over 6%, while $56.20 was whacked off the head of the gold price. Most commodity stocks naturally lost ground as well.

The financial media, which hasn’t been bullish on commodities or gold since the 1980s, naturally started screaming that another bubble was bursting. But before you panic and sell your commodity and gold shares to the many eager traders around the world who are looking for a bargain, let’s take a moment to consider soberly whether this so-called “bubble” even existed in the first place.

Bubbles, properly speaking, are strong price gains that by their nature undermine the fundamentals that caused prices to rise in the first place. For example, in the late 1990s, the bull market in technology stocks led to a massive boom in capital spending. The result of this capital spending was too much capacity in the technology industry, which then led to a sharp fall in earnings, and finally a steep drop in share prices.

The current bull market in commodities bears no resemblance to the tech boom, for the simple reason that few people today believe actually the commodity bull is taking place. Hence, very little in commodities is overvalued.

Consider, for instance, that during the tech boom, leading stocks like Cisco and Microsoft were selling for 70 to 80 times earnings – while many others sported P/Es well into triple digits. Compare this to the P/E ratios of leading commodity stocks in today’s worlds. (examples all under p/e of 10)

I think you’ll agree that commodity stocks today look downright cheap by any historical standards. Indeed we challenge you to find any stock in the energy or metal patch which is not selling close to a historically low P/E today!

The other sign that technology was in a bubble in the late 1990s was that tech companies were using their high stock multiples as currency. By issuing or selling shares like crazy, companies were able to buy other companies or raise funds for capital expenditures. Consequently, the number of outstanding shares expanded rapidly for many tech companies.

In today’s commodities bull, almost the opposite is true. Most resource companies today are using their substantial profits to buy back their own shares and reduce the number outstanding. And who can blame them with their stock prices so cheap.

The trouble is that Wall Street does not believe there is a bull market in commodities. It is valuing these companies as if commodity prices are about to fall back to where they were before the bull began. And herein lies a serious problem.

You see, as long as Wall Street ignores the supply/demand pressures on commodities, and stubbornly insists that the price of nickel, copper and other commodities will soon collapse, it will continue to undervalue the companies that produce them. As long as everyone expects oil to fall back to $38, no one will be willing to finance alternative energy.

As long as this situation continues, resource companies will not issue more shares in order to raise funds to build more production capacity. And the result will be no relief for the supply/demand pressure that’s driving commodity prices higher.

We’ll know the commodities boom is nearing its end when we see huge amounts of investment money flowing into overvalued resource companies, driving up P/Es and causing excess production capacity to be built. Typically, it is that excess capacity, brought about by overly optimistic forecasts, that results in a glut on the market and falling prices.

But today, when resource companies remain at low multiples and are buying their own shares, we can be pretty sure the end is a long ways away.

That’s not to say last week’s sell-off in commodities will be erased this week. It may take a few weeks or even a month or so for prices to bottom and reverse. But we are fairly sure that this bull is far from over.

Here's some excellent commentary on the different market sectors from an analyst with a great track record (bullish on metals, oil, Swiss Franc, bearish on U.S. stocks, bonds, dollar).

Here's an index of some of his past articles.

The whole document is a great read, but below are the metals-related comments:

I don't know how many times I've received an e-mail from a client saying that some self-proclaimed guru was just on CNBC proclaiming an end to the Bull Market in gold and only the less intelligent would remain invested. The client then asks me just what should be done. My standard reply is to turn the TV off! That usually frustrates the hell out of the client, but sometimes a little frustration is good for the soul. Besides, it was the correct response to the client's query. What the majority fail to realize is that 99% of the things we see and hear on financial news networks, things that often pass for news, do not merit our attention. News really isn't news anymore. Real news came to an end with the death of Edward R. Morrow and the subsequent retirement of Walter Cronkite. What we are given now is food for the masses, programmed by a government that thinks it knows more than the collective will of the people who elected them, and it goes against the best interest of the majority. How many times have I read the headline that "gold rallied due to a decline in the dollar"? Hundreds at least! Completely overlooked is the fact that throughout 2005, gold rallied with a rising dollar. I've never read that in any headline.



Gold/Silver - What can I say? I gave you a price target of 728.60 on February 9th, expecting to see it hit by late summer. So much for late summer! We hit the target of 728.00 intraday on Thursday, May 11th, and then exceeded it intraday, reaching 732.00 the next day. The question is, where does the price of gold (and silver) go from here? Is the rally over? Will the long awaited correction finally make an appearance? And if so, how low is low? All good questions and, in my opinion, all quite premature! I am going to tell you the same thing here that I told you on February 9th, unless gold has undergone some here-to-fore unperceived change in character, we have not yet seen the top. It is also worth remembering that neither have we seen a close above strong resistance at 728.60! We've seen a test and we still have another test or two coming in my opinion. In the meantime, a 5% to 8% correction over a period of three to four days would be nothing out of the ordinary! That translates to a drop of +/- 60.75 and a test of good support at 671.25 in the JUNE GOLD futures contract. Such a test could easily occur without doing any technical damage to the current bullish gold picture.

Please take a look at the following Daily Chart of Gold and tell me what word comes to mind? Relentless maybe? For months now, it has consistently ground up every attempt to turn the price down:




Is gold overbought? Yes! And it can stay overbought for a lot longer than you can stay solvent trying to sell it short. The current target of 728.60 is the resistance of last resort before we go after the all-time high of 887.50. Given what I have seen to date, I suspect that we will keep right on going and not stop to correct at 728.60. You can give me all the reasons you want for a correction, but the price action of gold is saying something different, and has been saying something different for months. It's just that very few people are listening and that is the biggest point in gold's favor at this point in time: everyone doubts the rise! Even my own clients doubt more often than not.

From a technical point of view, a one-day decline of $20.00 or $30.00 seems like a big deal, but at this altitude it really isn't. Right now, if gold were to decline all the way down to 650.60, nothing would change except for the pulse, heart rate, and perception of many investors. Strong support is at 644.70 and should hold under just about any foreseeable circumstance. As far as the upside is concerned, two consecutive closes above 728.60 would indicate an attack of the all-time high of 887.50 would become the order of the day. With respect to gold's orphaned cousin silver, I expect silver to follow gold to the upside for the time being. We are currently trying to deal with resistance at 14.81, and although we managed one close above it, it wasn't quite enough. Over the long run, silver will attack good resistance at 20.73 and maybe even go after 26.11 before the year is out. By the end of this decade I expect to see gold trading at US $3,000 and silver at US 164.00. The volatility to be encountered on this long and bumpy road will be too much for the average investor and very few will actually reap the rewards from such a spectacular Bull Market. Those that do manage to stick it out will be rewarded with a better life.

Outside Commentary

Here is another article [May 15, 2006 - Commodity Bubble] by Morgan Stanley's Stephen Roach and it deals with a subject near and dear to my heart... commodities. Lately, he has come out with a series of articles that tend to take an optimistic view of the world economy. He's done so when it now appears that most of the world's leading stock markets (the Nikkei, FTSE 110, the DJIA, Australia's All Ords) all appear to have topped. Very difficult to understand his timing and, personally, I see some flaws in his analysis but maybe that's because I want to. In this business, one must take great pains not to run with emotional blinders on. Easy to say, but very hard to do! In any event, his view is opposed to mine but in the interest of fairness I would like you to read it carefully.

Footnote

1I did not comment on the Swiss Franc because I just sent out an article devoted to the Franc less than a week ago. Needless to say, I am extremely bullish the CHF. I am also bullish the Euro, CAD$, and the AU$.

14 May, 2006
-Enrico Orlandini

This article by Laurie McGuirk discusses the reasons why the author is a "raving precious metals bull. Here are some excerpts:

On the subject of inflation

I think we're headed for a situation in coming years where there is further massive inflation of what we “need” (food, water, energy, metals, store of wealth – real stuff) and deflation of what we want (boats, cars, racehorses, plasma TV’s, the 3rd house, high end consumables etc). Just my opinion but am keeping a few fillies as a hedge! Actually, two that we bred ourselves are racing for some serious prize money down here tomorrow. We have our fingers crossed.

The gold stocks are behaving dreadfully and indicating that we’re headed back to $600 or worse in the near future. It will take a lot of physical metal to do so for very long, IMO. Be ready and loaded to go. Something is out of whack with the shares. The HUI was 330 when gold was $540 earlier in the year. Today we see HUI at 325 and gold is some $135 an ounce higher. I‘m buying selected stocks at these levels and am looking at the mid-tiers most closely. Of the big boys, Goldcorp (GG), the “bomb-proof” gold exposure in my opinion, is off 25% from its high last week. Fair dinkum, I reckon they are a steal with gold up here. Getting paid $88 to produce their 100% un-hedged gold, is rather attractive to me! That is a real “printing press,” one that Sir Alan would have dreams about I reckon. Others have copped harder hits than -25%, and I reckon this is an opportunity to pick up some very cheap metal equities, especially for those with a longer outlook than next month's performance bonus. The equities do not reflect the metal price and they certainly do not price in the inherent optionality of a precious metal share. Opinion only and never advice!

The silver/gold ratio that I love so much is getting back to levels that appeal. Silver is cheap compared to gold, IMO. At 54 it looks pretty good and I have an expectation that it breaches 20 before the decade is out. We set original positions at 64-66 and am looking to add opportunistically.

The last piece I wrote was titled “Gold at $700 will look cheap in a few years.” I have no edge or inside info. It’s just what I see as the only feasible result of what has occurred in the last 35 years, accelerated over the last 5-8 years. I am confident in saying such because the world is in a significantly worse position than it was when gold was last at this price in nominal dollar terms. In 1971 the USA was the world’s biggest creditor with huge manufacturing production and not much debt. How times change. Gold doesn’t.

By Peter Schiff

April 25, 2006


www.europac.net


Recent price spikes and increased volatility in gold and silver markets have many observers predicting a dramatic popping to what they claim to be a precious metals bubble. However, after having sold physical precious metals to the public for the past five years, I can attest that none of the characteristic signs that have typified bubbles in the past are visible in today’s market.

Thought metals prices have indeed risen strongly; those gains have come from ridiculously low prices reached at the end of a twenty-year bear market. To consider metals prices too high in this market makes as much sense as saying current technology stock valuations are too low relative to their 2000 peaks. In fact, despite the current run-up, precious metals prices remain well below normal levels when measured against other asset classes.

I have owned mining shares in my personal account for years, yet not a single share has split. Despite significant appreciation, the total capitalization of the mining sector remains tiny when compared to the overall market. There are many individual S&P 500 stocks with market capitalizations greater than the combined capitalization of all the gold stocks in the world. In fact, Newmont mining remains the lone gold stock in the S&P 500.

I am certain that if we were in the final stages of a speculative blow-off, my gold stocks would have split many times over; gold stocks in general would be far better represented in the S& P 500 Index and would constitute a far greater percentage of its capitalization. In addition, a much higher percentage of our nation’s wealth would be concentrated among mining tycoons and precious metals investors (hopefully myself included), much as was the case with dot com billionaires and today’s real estate moguls.

In addition, while it is also true that the financial media has increased its coverage of metals and mining shares recently, what else are we to expect? After all, such performance cannot be completely ignored indefinitely. With the broad markets are flat and uninspiring, would you not expect the media to focus attention on where the action is? Certainly the mere fact that they do is not de facto evidence of a bubble.

As part of our full-service brokerage business, Euro Pacific launched a precious metals division about five years ago. Until this week that division consisted of a single employee, comprising less than 5% of my total workforce. This week I finally added a part-time employee to help with the increased business, which is up about three fold over the past two years (with about half that gain occurring during the past several months). Brisk business no doubt, but a real bubble would have required staff increases of a much greater magnitude. Business would not just be up three fold, but one hundred fold. In addition, a bubble would have brought on new legions of competitors (perhaps bankrupt mortgage lenders reorganized as precious metals dealers.). This has not occurred.

As I am on record as having accurately recognized both the stock market and real estate bubbles while each was still forming, my track record on bubble spotting is strong. In contrast, most pundits who claim the precious metal market has crossed into bubble territory were blindsided by these prior bubbles. Since many of these doubters do not even understand why the believers are buying, their natural conclusion is that a speculative bubble must be underway. After all, if buying gold was a smart investment, they would be doing it themselves.

As has been the case for all real manias, if metals investing were a speculative bubble, it would have migrated from the financial and commodities spheres to make an impact on the broader culture. In other words, taxi drivers would be offering tips on mining shares.

As an experiment why not do the following: Stand on a busy street corner and ask those passing by the following question -- Excuse me, but I want to buy some gold coins, would you mind telling me where you buy yours? My guess is the answers would be something like; “I do not buy gold,” “Why would I want to buy gold?” or “Why do you want to buy gold?” Now, ask the same individuals where they buy stocks, or which real estate broker they use, and I am sure you will receive a much different response. Are you starting to get the picture?

For now, the precious metals bull market climbs a classic “wall of worry.” Once fear gives way to greed, there is no doubt in my mind that this major precious metals bull market will ultimately produce a speculative bubble. However, such a development is years from unfolding. To help identify when a precious metals bubble might actually be about to pop, I have composed my list of the top ten signs to watch out for.


Top ten signs that a precious metals bubble is actually forming

10. Commodities trading jackets are the best selling items at Abercrombie & Fitch

9. George Foreman is the pitchman for an infomercial featuring a "Home Panning Kit"

8. The most popular major at Chico State is Geology

7. Due to high prices, Olympic metals are replaced by ribbons

6. Monster Park in San Francisco is re-named Glamis Field

5. Analysts upgrade shares of McDonald’s based on mineral rights to its real estate holdings, bringing new meaning to its “golden arches.”

4. Snoop Dogg introduces the "Bling Mutual Fund."

3. Hustle and Flow wins another Oscar for their single “It’s Hard out Here for a Miner”

2. The WB has a new hit show about teenage prospectors called “Dawson’s Claim”

1. Tom Cruise and Katie Holmes name their newborn son Newmont.

There are some great slides in this presentation illustrating the enormous demand for commodities coming from China. Here's the conclusion:

Conclusions

• China has been the driver of commodities demand for several
years and its industrialisation path is tracking the world’s developed
economies

• It’s not just about China - other emerging economies are following

• Demographics and economic development could continue for
years

• This will require significant new mine capacity

• BHP Billiton has unparalleled diversification, global reach, visibility
to growth options and track record of delivery

• BHP Billiton is well positioned to capture its share of demand
growth

Date : May 7, 2006

Reporter: Alan Kohler



ALAN KOHLER: Well, the death of the Greenback, gold at $US6,000 an ounce with commodity and energy prices rising vertically, spurred on by growing international tensions and war - no, that's not the background to the latest sci-fi pot boiler, but the tentative vision of one of the world's most respected contrarian economic forecasters, Marc Faber. Dr Faber must be taken seriously though because of his record in predicting, among other things, the global stock market crash of 87, Japan's collapse in 1990 and the Asian meltdown of 1997 - forecasts that earned him the moniker Dr Doom. He's also the editor and publisher of the influential The Gloom, Boom and Doom Report. And, as you'll hear, he has some very interesting views on the relative merits of the Australian and US central banks. I spoke to Marc Faber from New York this week.

Marc Faber, just to put this week's interest rate increase in Australia into a global perspective, do you think the developed world in general is in a process of increasing interest rates and reducing liquidity that has a way to run yet?

MARC FABER, 'THE GLOOM, BOOM AND DOOM REPORT': Yes, I think so because we have a global boom and interest rate increases have been very slow. In other words, in the US, we went from 1 per cent on the Fed fund rate in June 2004 to 4.75 per cent, but I think that inflation is higher than 4.75 per cent. And if you look at long growth in the US and credit market growth, then we haven't had tight money yet because if money was tight, then asset markets wouldn't rally as they do at the present time.

ALAN KOHLER: There is a lot of debate in the financial markets about whether the US will have a pause in its interest rate tightening cycle. What do you think?

MARC FABER: Well, I basically think that Mr Bernanke is a money printer and it's interesting to see that since he was appointed Fed chairman, the price of gold has risen by 42 per cent so the market is not very happy with his bias towards money printing.

ALAN KOHLER: Do you think that Mr Bernanke is losing control of the situation, in fact? I mean, I notice the markets are testing him now.

MARC FABER: I think that on his recent comments that the Fed might pause, immediately the US dollar became very weak, the bond market sold off and gold prices shot up another $20, $30, so that is a lesson for him that the market begins to see through his inflationary monetary policies.

ALAN KOHLER: What do you think of the Australian central bank and its decision this week to increase interest rates?

MARC FABER: I think actually that the Australian central bank is probably relatively better than others in the sense that they have further tightened monetary policies and so we have in Australia an interesting situation. The economy is kind of weakening, but there are some inflationary pressures and the Australian Reserve Bank has increased interest rates so I find it is actually quite courageous.

ALAN KOHLER: What do you think it means for the Australian dollar?

MARC FABER: Actually what has happened, the Australian dollar along with the New Zealand dollar was weakening recently but in the last, say, two weeks the Australian dollar has again strengthened from 70 cents to 76 cents, so I would say the Australian dollar is supported by relatively high interest rates.

ALAN KOHLER: What do you think about the length of the current commodities boom? You've written recently about firstly how the long wave of commodities could last for another 15 to 20 years and you've also talked about the impact of India on commodities, so where do you see prices of commodities going from here?

MARC FABER: Basically we had a bear market in commodities between 1980 and 2001, or 1998 and 2001, so we had more than 20 years bear market in commodities. By the late 1990s in real terms, in other words inflation-adjusted, commodity prices were at the lowest level in the history of capitalism in the last 200 years and now they have risen substantially - the price of copper from around 60 cents to over $3 a pound, the price of gold has more than doubled. But in real terms, commodities are still relatively low compared to equities and therefore, also given the length of the cycle - the cycle for commodities lasts usually 45 to 60 years peak to peak or trough to trough - in other words the upward wave in commodities lasts around 22 to 30 years and we are now in year 2006. The bull market started in 2001 so we are five years into the bull market. I do concede that the markets are overbought and there is a lot of speculation and I expect a correction but I think longer term from here onwards commodities will outperform the Dow Jones and financial assets.

ALAN KOHLER: You've been reported as predicting that the price of gold will rise to $US6,000 per ounce. Is that correct - is that what you said?

MARC FABER: What I said is that if Mr Bernanke prints money, it is entirely conceivable that the Dow Jones goes to 33,000 or 40,000 or 100,000 or 1 million. All I am saying is if the Dow Jones here goes up three times because of money printing by Mr Bernanke and we have examples in financial history where a central bank printed money and everything went up, but in this instance I think that gold would significantly outperform the Dow Jones. So if someone says to me the Dow will go to 33,000, I say yes, it's possible but it will decline against the price of gold which will go up to $US5,000, $US6,000 an ounce.

ALAN KOHLER: Did you notice that Steven Roach, the chief economist of Morgan Stanley, who has been a bear for a very long time, seems to have changed his tune now, saying he's feeling better about the world than for a long time. Do you think that the fact that Steve Roach has kind of thrown in the towel is a sell signal or do you think he's onto something?

MARC FABER: Well, Steve is a good friend of mine and he gave already a sell signal two years ago. He suddenly turned bullish about bonds and since then the bond market has been weak. And I agree with him that we are in a global boom but it doesn't change the fact that it is an imbalanced boom and it's driven largely by credit creation in the US, leading to overconsumption, leading to a growing trade deficit, current account deficit, the accumulation of reserves in Asia and a global boom. But it is nevertheless an imbalanced boom and one day there will be a problem, certainly with the US dollar. The US dollar is a doomed currency. Doomed? Doomed. Will be worthless. Actually each one of your listeners should buy one US Treasury bond and frame it - put it on the wall so they can show their grandchildren how the US dollar and how US dollar bonds became worthless as a result of monetary inflation.

ALAN KOHLER: You made at least three great calls - you warned of the 87 crash just before it happened, you warned investors to get out of Japan in 1990 and out of Asia in general in 1997. So what specifically is your call right now?

MARC FABER: I think we are in a bear market for financial assets. There's a bear market where the Dow Jones, say, would go from here - 11,000 to 33,000. It would go up in dollar terms but the dollar would collapse against, say gold or foreign currencies. That's what I think will happen with Mr Bernanke at the Fed because he has written papers and he has pronounced speeches in which he clearly says that the danger for the economy would be to have not deflation in the price of a fax machine or PC, but deflation in asset prices. And so I believe that he is a money printer. If I had been a university professor, I would not have let him pass his exams to become an economist. I would have said, "Learn an apprenticeship as a money printer."

ALAN KOHLER: (Laughs) So, a big mistake putting him in charge of the Fed then?

MARC FABER: I think it's very dangerous, very dangerous.

ALAN KOHLER: You've talked in the past about the links between the commodity price cycles and political tensions in the world and you've pointed out that when the Soviet Union collapsed, commodity prices were weak and you've said that rising commodity prices leads to the conditions for war. Now that we're in a commodities boom - which you now say is going to go for a long time - do you think that we're in for a period of rising political tension as well?

MARC FABER: Basically the way we economists have business cycles theories, the historians have war cycles theories and I don't want to go into all of them, but when commodity prices decline, countries are not concerned about getting supplies of vital commodities, whereas when commodity prices go up, it's a symptom of shortages. America needs oil for consumption and China and increasingly India need oil for their economic growth. If you are growing your industries at a production of 15 per cent per annum, as China, you need increasing quantities of oil and China was self-sufficient until 1994 and today they are the largest consumer of oil and import most of it from the Middle East. So the tensions of course arise and I can see that some people have become very powerful whereas the balance of power in the 80s and 90s shifted to the industrialised countries of the West that consume a lot of oil, now the balance of power has shifted to people like Evo Morales, Hugo Chavez in Venezuela, Mr Putin - Mr Putin is the most powerful man in the world, it's not Mr Bush because Mr Putin controls a production of oil of 10 million barrels, plus he controls all the pipelines going to Europe. And it has also shifted to Mr Ahmadinejad. Mr Ahmadinejad of Iran would be very quiet, as well as Mr Chavez, if oil prices were at $12. But at $70 they have a lot of leverage and so the tensions have also increased. It doesn't mean that it comes to war but the conditions for war have improved and I think that eventually this commodity cycle will last so long until there is a major war and during war times, the best hedge is to be low in commodities, then commodities really go up vertically.

ALAN KOHLER: Bit of a grim way to make money, I suppose?

MARC FABER: Hedge funds make money anyway. It doesn't - morals are not the most important issue.

ALAN KOHLER: Well, on that note we'll have to leave it there. Thanks very much, Marc Faber.

MARC FABER: It is my pleasure.


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Please note: Transcripts on this website are created by an independent transcription service. The ABC does not warrant the accuracy of the transcripts.

Commodities have been extremely volatile over the past one-week. Copper, aluminium, and zinc have all cracked under heavy speculative trading. On Wednesday, prices rebounded sharply, but only for a while, before slipping once again. Investment Guru, Jim Rogers says that all markets have big reactions and consolidations and it may be so with commodities as well.

But he futher adds that he will not sell any commodities even if they correct 30-40%. Rogers says that copper and zinc were overdue for correction.

In his opinion, commodities may have peaked for the moment but will not stay that way for a decade. China is the only emerging market that Rogers is invested in.

He is bearish on the US dollar and hence advises people to sell the dollar.

Excerpts from CNBC-TV18's exclusive interview with Jim Rogers:

Q: Was the crack we saw in commodities only a technical crack or is it the beginning of a downturn?

A: All markets have reactions and consolidations even within the context of the bull market. In the 1970s, gold went up 600% and then it went down 50% over a two-year period only to turn around and go up another 800%. So there may be big reactions and we may be overdue for one. Although I don’t have a clue, I am not selling any commodities, even if they go down 30-40% because they will be going back up later.

Q: Will all commodities go back up because some people are saying that industrial base metals may not reach the tops again?

A: I can see that copper and zinc and few things have gone straight up for a few months and they are certainly overdue for a correction. But one has to know that nobody has opened any mines in years and all the existing mines are depleted.

In Asia, India and China are growing.Some of these people may have to come up with lots of new mines very quickly because the world is running short of these stuff over the next decade.

Although copper is touching new highs, it is still far below its all time high adjusted for inflation and so is zinc, lead and others.

Q: You and others have pointed out that historically, commodity bull runs have lasted between 15-20 years and we are only in the 6th or 7th of this bull run. But has it ever happened before that commodities, stock markets, real estate all of them have gone up together; is this a change?

A: Real estate everywhere hasn’t been going up. It is ceratinly not going up in the US. Nor is it going up everywhere in India. It is going up only in some sections.

Although we have seen stocks and commodities going up, one must remember that the commodity bull market started in early 1999, and commodities are up 300% and stocks as measured in the west are only up 20-30% in that period of time.

Stocks and commodities have not been acting together. Although in the last 1-2 years, people think they have, but in the last 2-3 years in the US, the stocks are essentially flat. If one measures the averages, commodities have been going through the roof. Certainly in India, stocks have been going through the roof. But India is a special case.


Q: You are a legendary commodity investor but are you looking at emerging equity markets at all?

A: The only emerging market that I have invested in the past few months is China. That is because the Chinese market went down for several years. Other than China I am not investing in other emerging markets.

Q: You said that the only thing that could bring the Indian economy down is its governmen. Have things changed?

A: I know that the Indian government is saying the right things. But unfortunately they have been saying it right for the last 15 years. They just haven’t acted. Now they seem to be saying the right things and taking better actions. But I am still a little skeptical. They seem to be saying that they are moving in the right direction. If they are moving in the right direction then buying India now will be one of the great buying opportunities of one's lifetime. But it will happen only if the government and bureaucrats mean what they say.

Q: So you are not buying India only because of the government or is it because of valuations?

A: The market has gone through the roof and I missed the move in India. It is like copper going straight up. I am bullish on copper but I am not buying copper. India is going straight up but I am not buying India right now.

Other thing is that there is a huge number of foreigners flocking into the Indian market. The foreigners are always wrong, when they flock into a market. I have been investing for 40 years. When the Australians started buying Spain or the Japanese started buying Argentina or the Americans started buying Germany, it was the end of the move. Right now, foreigners are pouring into India and it is always a very bad sign.

Q: What is the call on the dollar?

A: Sell it. Do not own US dollar, it is a terribly flawed currency. We are going to see the demise of the US dollar currency in the next decade or so.

Q: So is that bad news for emerging markets and Japan?

A: Not necessarily. When the UK pound sterling lost its status of world's reserve currency, there were serious ramifications for a while. But I don’t see it as bad news for Japan because Japan does most of its business in Asia and not in the US anymore. Although 30 years ago, it would have been a disaster for Japan. Of course, it is not going to help Japan if the US dollar is in trouble but it is not going to be a disaster for them either.

Today's chart illustrates that investing in the S&P 500 during the six months of November through April accounted for the vast majority of S&P 500 gains since 1950. While the May through October period has seen mild gains during major bull markets (i.e. 1950-56 & 1982-97), the overall out performance during the months of November through April is nevertheless compelling. Hence the saying, “sell in May and walk away.” Stay tuned...

This article by John P. Hussman, Ph.D, discusses stock market returns during various market conditions. Here are some excerpts:

"Among the simplest truths is that market risk tends to be unusually rewarding when market valuations are low and interest rates are falling. For example, since 1950, the S&P 500 has enjoyed total returns averaging 33.18% annually during periods when the S&P 500 price/peak earnings ratio was below 15 and both 3-month T-bill yields and 10-year Treasury yields were below their levels of 6 months earlier. Needless to say, there are a variety of ways to refine this result based on the quality of other market internals, but it's a very useful fact in itself.

The “canonical” market bottom typically features below-average valuations, falling interest rates, new lows in some major indices on diminished trading volume, coupled with a failure of other measures to confirm the new lows, and finally, a quick high-volume reversal in breadth (usually with an explosion of advances over declines very early into a new advance).

Similarly, market risk tends to be poorly rewarded when market valuations are rich and interest rates are rising. Since 1950, the S&P 500 has achieved total returns averaging just 3.50% annually during periods when the S&P 500 price/peak earnings ratio was above 15 and both 3-month T-bill yields and 10-year Treasury yields were above their levels of 6 months earlier. Again, there are a variety of ways to refine this result, but note that anytime the total return on the S&P 500 is less than risk-free interest rates, a hedged investment position increases overall returns (since hedging instruments are priced to include implied interest).

The “canonical” market peak typically features rich valuations, rising interest rates, often a reasonably extended and “flattish” period where, despite marginal new highs, momentum has gradually faded while internal divergences have widened, and finally, an abrupt reversal in leadership, from a preponderance of new highs over new lows (both generally large in number) to a preponderance of new lows over new highs, with the reversal often occurring over a period of just a week or two.

Though our investment position doesn't by any means rely on it, my impression is that recent market conditions fall very much into that description of a canonical peak.

As I've noted before, for an investor looking to capture all the market's long-term returns with substantially less downside risk, it would actually have been enough, historically, to simply step out of the market on a price/peak multiple of 19 and then wait for a 30% plunge before repurchasing stocks, even if that meant staying out of the market for years in the interim. (As I've also noted, this is not a practical or optimal strategy by any means, since it has far too much tracking risk and would have required implausible levels of patience, but it's an enlightening fact nonetheless).

It doesn't help the case for stocks to argue that, for example, earnings growth is still positive, because it turns out that the year-to-year correlation between stock returns and earnings growth is almost exactly zero. It doesn't help to argue that consumer confidence is still high, because consumer confidence is actually a contrary indicator, as are capacity utilization, the ISM figures, and other factors being used for bullish fodder. It doesn't help to argue that the Fed will stop tightening soon, because the end of a tightening cycle has historically been followed by below-average returns for about 18 months. It doesn't help that 10-year bond yields are still lower than the prospective operating earnings yield on the S&P 500 (the “Fed Model”), not only because the model is built on an omitted variables bias (see the August 22 2005 comment), but also because the model statistically underperforms a simpler rule that says “get in when stock yields are high and interest rates are falling, and get out when the reverse is true.”

Once stocks are richly valued, then, the burden of proof is on the case for staying in, not getting out (or in our case, hedging). Once interest rates are rising, that burden of proof ticks up. Once internals show “heavy” price/volume behavior, more burden. And once you get a huge leadership reversal, as we've seen over the past week, it's time to watch for falling rocks.

Our fully hedged investment position in stocks doesn't require any forecasts here – the prevailing combination of valuations and market action has historically produced unsatisfactory returns on average – and this is sufficient reason to be defensive. That said, I strongly encourage investors to evaluate their exposure to market risk here. The Strategic Growth Fund is fully hedged, so I don't have concerns about general market direction on the Fund, but for other investments that are more linked to general market movements, if you could not accept or financially tolerate a market decline of 20-30% in the value of those holdings, you're probably not being realistic in terms of the risks you're taking.

It's only been 10 trading days since the S&P 500 registered 5-year highs and the Dow hit 6-year highs. The S&P 500 has since declined by just 4.43%, is oversold, and could very well be due for a short-term bounce. On that basis, the preceding comments may seem overwrought. Nevertheless, current conditions strike me as so unfavorable that they demand some additional emphasis of the risks involved. We don't rely on negative market outcomes here. But we shouldn't be surprised if the next few months are substantially more difficult for the major indices than anything investors have observed in recent years.

Market Climate

As of last week, the Market Climate for stocks was characterized by unfavorable valuations and unfavorable market action, holding the Strategic Growth Fund to a fully-hedged investment position. Short-term conditions are very oversold, which invites the typical fast, furious, prone-to-failure bounce that often clears that condition in unfavorable Climates. Still, oversold conditions don't produce reliable buying opportunities when the Market Climate is not constructive or favorable. If the Market Climate is unfavorable and interest rates are falling, it's sometimes possible to trade oversold conditions effectively. But when rates are rising and we've just observed an abrupt reversal in leadership (new lows suddenly dominating new highs), it's not worth the gamble - the average return tends to be negative, and the volatility also tends to be unusually high. Yes, that high volatility does admit the possibility of a big short-term jump, so we can't rule that out, but it also admits the possiblity of further - possibly profound - weakness.

In bonds, the Market Climate was characterized by relatively neutral valuations and unfavorable market action, holding the Strategic Total Return Fund to a relatively limited duration of about 2.5 years. On weakness in the precious metals sector, I added a small amount to the Fund's precious metals positions, raising its overall exposure to a higher but still limited 10% investment position.

There used to be a site (vtoreport.com) that only bought into the market when a buy signal was triggered as follows:

"Buy the Nasdaq 100 Trust (QQQQ) when the 5-day Relative Strength Index (RSI) closes below 30.0.
Sell the Nasdaq 100 Trust (QQQQ) when the 5-day Relative Strength Index (RSI) closes above 50.0.
The Nasdaq 100 Trust is purchased during after-hours trading on the day the RSI buy signal is generated.
The Nasdaq 100 Trust is sold during after-hours trading on the day the RSI sell signal is generated.
The 5-day RSI strategy has a tendency to underperform the buy-and-hold strategy when the market is strong and outperform when the market is weak.
1997 to 2005 Results: NDX "Buy & Hold"up 76.2%, "5 day RSI" up 349.7%
1997 to 2006 Results: NDX "Buy & Hold"up 108.3%, "5 day RSI" up 381.8%
http://www.vtoreport.com/rsi.htm"

It looks like that site is gone now, but they used to post every entry and all the trading results, which were quite remarkable over the last 9 years, as you can see in the summary above. Particularly when the market is weak, as may be the case during much of the coming several years, this strategy has a tendency to outperform the buy-and-hold strategy, being completely out of the market a majority of the time.