James Turk: More confirmation for gold''s bull market


Four-Digit Gold?

Interview with John Hathaway
Portfolio Manager, Tocqueville Gold Fund

By Sandra Ward
November 19, 2005

If it's gold you're after, John Hathaway, who runs about $550
million in the Tocqueville Gold Fund and another $400 million in
separate client accounts, is the man for you. Year in and year out,
Hathaway has delivered glittering returns, outperforming the
benchmark Philadelphia Exchange Gold and Silver Index at every step.
This year his fund (TGLDX) is up 15.3 percent, compared with a gain
of 14.84 percent in the index, even though the performance of gold
stocks has lagged behind the appreciation of the metal.

Focusing on what he considers to be undervalued gems with good
growth potential has paid handsome dividends for Hathaway and his
investors. If, as he believes, the price of the precious metal is
heading toward four-digit territory, expect that streak to continue.

Barron's: Gold seems to be trying to make another run here. What's
your outlook for the price?

Hathaway: In the very near term, I have no idea. But it is still a
bull-market trend, and there are a lot of reasons for that, and we
will see higher prices. People shouldn't be surprised to see gold
trade in the four digits.

Barron's: What's behind the move higher?

Hathaway: There is so much paper around, there are so many financial
assets, and it only takes a small diversion from financial assets
into gold to push the price higher.

Barron's: But what would lead to that diversion?

Hathaway: People are buying tangible assets, and gold is tangible
and probably one of the most liquid and, in some ways, the least
risky of all the tangible assets.

Barron's: There doesn't seem to be a lot of it around.

Hathaway: There is not a lot of it around. If you took one-tenth of
1 percent of global financial assets and stuck them in gold, you
would wind up with a couple of years of mine supply. It is a trade
you can't do. But it still gets back to the question as to why
people would get more interested in gold, and it's not all based on
bearishness. India is getting more prosperous, and Indians like
gold. China is getting more prosperous, and the Chinese like gold.
More disposable income in Asia definitely helps gold.

Yet there are bearish factors behind the bull case for gold.

There is an ongoing currency debasing. Look at all the people who
were bearish on the dollar a couple of years ago -- they've been
been slammed because they put their money into the euro. They should
have put it in gold. Warren Buffett just took a loss on part of his
position in the euro. He was famous for being bearish on the dollar.
How did he activate that? He took a 22 billion position because the
euro was liquid and gold isn't.

Barron's: Are you surprised at the behavior of the euro?

Hathaway: Not really. It is a piece of garbage, really. There is no
national treasury that stands behind it, but a committee of
bureaucrats. Then there's the politics and social issues in Europe.
There's a big difference in the growth rate between the U.S. and
Europe, and there's a big differential in interest rates between the
U.S. and Europe. Gold is going to rise against the dollar and the
euro and the yen, which it has been doing for quite a while, but it
has been doing it quietly, so most people aren't even aware of it.

There are still a lot of skeptics on gold. It's been five years
since it's been in a bull market. Before that it had been in a bear
market for about 20.

These days, the generations are much shorter. Residual skepticism is
all over the place, and it is terrific because it gives the bull
case longevity. If everybody were on board the way they are with
energy, I would have to think of a new investment theme to work on.

Barron's: You have written about gold benefiting from a bubble in
the U.S. Treasuries market.

Hathaway: The bubble is a reflection of the lack of investment
alternatives. It is also a reflection of the perceptions of risk and
the notion that Treasuries are a safe haven so they should be priced
in a different way. There is so much money sloshing around the
system, to the extent it is risk-averse it goes into Treasuries. On
the other hand, you have negative real rates throughout the yield
curve. Latest 12-month inflation is running about 4.7 percent. An
investor has to go out almost 30 years on the yield curve just to
get even. There is so much paper around and returns on assets are so
hard to come by that it is driving money in this direction, and
that's created the bubble. But these conditions are very favorable
for gold.

Barron's: So what will focus people's attention on gold?

Hathaway: Hitting $500. That will fix attention. This has been a
stealth bull market. Only years after a bottom has been made do
people realize it.

Barron's: Hasn't there been a disconnect between the price of gold
and gold shares?

Hathaway: Day by day, tick by tick, they don't do the same thing.
But if you go back to 1999, which was the bottom of the bear market
in gold, gold has gone from $250 an ounce to nearly double that. And
the XAU, a benchmark for gold shares that most people use, has gone
from the low 40s to around 115. For the last year or so, the shares
have underperformed the metal to some extent, but over a period of
time and on a historical basis, the shares give you more octane then
the metal itself.

Barron's: Why are the shares underperforming?

Hathaway: Costs are up so much, particularly for open-pit mines,
which use a lot of energy pushing dirt around and hauling it. The
cost of building a new mine is up a good 30% over what it was five
years ago. So the economics of the industry, even though the price
of the commodity is up quite a bit, are essentially just as crappy
as they were when gold was at its lows.

Barron's: Will consolidation in the industry help that?

Hathaway: Not really. They might help a particular company's
business, but it is not going to change the economics. What would
change the economics would be a $200-$300 price increase so that
gold would then outperform commodities. Gold has underperformed
other commodities by about 50 percent for quite a few years. That
tells you oil, copper, and a lot of these inputs that gold producers
need to get gold out of the ground have outpaced the price of gold.
That is a fairly straightforward explanation of why margins have
been poor. But there is another factor, and that is it is so easy
for a gold company to get money. They have abused their ability to
access what has been very low-cost capital by over-issuing shares.
The stocks might be 20 percent higher if so many didn't declare open
season on investors by issuing so much new stock.

Barron's: Do you take an activist role in that sense?

Hathaway: I'm very vocal about how investor-unfriendly the success
of share issuance is. I'm particularly upset with the Canadian
investment banks that do these deals.

Barron's: What's their defense?

Hathaway: The other side of it is that small companies, particularly
the ones that are true exploration companies, are analogous to
biotech stocks. They have properties that have potential value, but
it takes a lot of money for drilling and exploration and
metallurgical testing and feasibility before you actually generate
revenues. Basically, they have to pass the hat all the time. Issuing
shares is a quick and dirty way to get money, and for smaller
companies, it's OK. But I object to any company that has a listing
here in the U.S. on the New York Exchange or American Stock Exchange
doing "bought" deals. [In such a deal, a new-share issue is bought
entirely by one underwriter to resell to investors.]

Barron's: Is there any evidence that raising money has boosted

Hathaway: No. We just had a company in yesterday that is a
particularly good example of this practice, and if you look at
benchmarks like resources per share or ounces of production per
share, they have been flat at this company for the last four years.
So getting back to your question on why the shares have been
sluggish in an environment in which the gold price is going up, it's
because costs are way up and these companies issue stock without

Barron's: Haven't some gold stocks been hurt by strength in local

Hathaway: Certainly the South Africans were hurt because the rand
went from something like 13 to the dollar to six to the dollar over
a period of a year and a half or two years. That's like cutting the
gold price in half. Even though the dollar price of gold has gone
up, the rand price of gold is just now getting back to where it was
a few years ago. To a lesser extent, strength in the Australian
dollar and the Canadian dollar until recently squeezed margins for
operations in those countries. But you get around that problem if
gold is rising in all those currencies, which it is doing. But we
have reached a point where gold isn't really linked to foreign-
exchange rates because a lot of people are concerned about paper
currencies in general.

Barron's: Yet central banks have been selling gold.

Hathaway: Central bank selling fills the gap between supply and
demand. They have been selling at steady pace. What they have is an
arrangement so their selling is orderly and doesn't spook the
market. Under that arrangement, there is a quota system of 500
metric tons a year for five years. The selling is transparent, the
market knows it is there, and if the program wasn't in place, gold
could easily be $200 or $300 higher. We are in the second year of
that five-year agreement, and it is hard to imagine where all that
gold is going to come from.

Barron's: Who's buying?

Hathaway: They sell it into the market. We keep some of our gold in
Switzerland, and I went to the facility where we keep it and
basically it was a large refining company. They were melting down
bars from the Swiss central bank, and at the other end of the
production line there were semi-finished gold watch cases and
jewelry for China, the Persian Gulf and India. That's where it is
going. Central bankers are selling their best asset into the markets
and it is going into non-monetary forms, and they will never get it
back. They are just bureaucrats and not even held accountable for
what they do on a financial basis. It has been such a bad trade for
the last five years, you would think that at some point they would
begin to say maybe we should hang on to what we have. But again,
their general agenda is not to have gold as a monetary asset or at
least not talk about it if they have it, because what is still true
is that a rising price of gold is not a favorable reflection on
public financial policies, monetary and fiscal.

Barron's: What's the impact of gold exchange-traded funds on the

Hathaway: It is potentially huge. Right now there's about $3.5
billion in gold ETFs, which isn't bad considering the first one came
out a little over a year ago. As we discussed, gold shares can be
risky, yet gold is not necessarily an investment for those who are
risk-seeking or risk-tolerant. Gold is essentially financial
insurance. It is noncorrelated. It has hundreds of years of history
of being noncorrelated with financial assets, which means that when
financial assets are doing well gold doesn't do well. From 1980 to
2000, that was the case, but in the 1970s and 1930s, gold did very
well. What the ETF does is open the door for people who should have
exposure to gold. It makes it easy for a college endowment that
would never typically open up a commodities account or open up an
arrangement with a bullion dealer to own gold. The ETF paves the way
for an entirely different class of investors to come into gold, not
gun slingers looking for huge returns but people who just want to
protect capital, which gold does very well. Eventually, this will do
a tremendous amount for the gold price. The more money that comes
into the ETFs, the more it is going to create momentum for the
underlying commodity. Barclays is trying to bring out a silver ETF,
and the Silver Users Association, which includes companies such as
Kodak and Dow Chemical, are opposed to it because of concern it is
going to take the price up.

Barron's: What risks are working in gold's favor?

Hathaway: There is a lot of financial risk in the system. The level
of household debt, the housing bubble, the amount of U.S. Treasuries
held by foreign central banks, the valuation of the stock market,
the overvaluation of the bond market -- are all legitimate reasons
to be concerned, not that I wish for worst-case outcomes. Secular
credit expansions, which is what we had from 1982 through 2000, are
often accompanied by an ever-decreasing perception of risk. We've
been in a bear market since 2000 and people still don't realize it.
Yet bear markets have a life of their own, and they really don't end
until a certain psychology takes hold and people just hate financial

Barron's: Are gold stocks attractive at this point?

Hathaway: One of the problems I have is that a lot of my positions
are merging, so I'm forced to go down the food chain and look
elsewhere for other things to own more of. Among the big producers,
companies such as Newmont Mining [NEM], Gold Fields [GFI], Barrick
[ABX] and, to some extent, Goldcorp [GG], aren't really growth
vehicles. They can get a little bit bigger, perhaps, but if this
Barrick merger with Placer Dome [PDG] goes through, for instance,
the company will produce 10 million ounces of gold, and that's more
than 10 percent of the market's annual global production. How much
bigger can they really get? This is not a business that lends itself
to size in the sense that one company could ultimately become 30 or
40 percent of the market.

When you are mining that much gold, you have to replace it every
year, and if these guys can just replace what they produce and
replace it with high-quality ounces, and keep their costs in line,
they are doing a great job. They become perpetual options on the
gold price. Newmont, for instance, should just say it will be a
seven-million-ounce producer for the next 15 years, and that would
create a certain instrument in the market- place, which is a long-
dated option on the gold price with a very low cost of capital.

Barron's: What about the smaller companies?

Hathaway: On the other end of the spectrum are the pure exploration
companies that are out there trying to find new reserves, and as the
gold price goes higher, the Newmonts and Barricks of the world will
be compelled to buy the junior names. We manage our portfolios by
owning the best of the large companies that have this long-option
characteristic to their shares and the best of the small-cap names
where value can be created without the price of gold rising

Barron's: What junior producers are attractive?

I want to be careful to list companies that are reasonably liquid.
We own something called Yamana Gold [AVY], which has a very nice
growth profile. They are in Brazil and have a great land package.
It's got 190 million shares trading at 4.

Barron's: Are you expecting more upside?

Hathaway: Yes. They have a fairly well-defined ramp-up of growth in
the next five years, and that is something that we look for. We also
like Ivanhoe Mines [IVN] a lot. There are 300 million shares
outstanding, so it has a $2.4 billion market cap. They have a huge
discovery in Mongolia. Ivanhoe has a world-class copper discovery
that just keeps getting bigger and has the potential to match
Freeport McMoran's [FCX] big copper property in Indonesia in terms
of its size. It is right near the Chinese markets, and it is
economically very significant.

Barron's: Any others?

Hathaway: A third one is Eldorado [EGO]. It's an emerging producer
with assets primarily in Turkey, which is geologically a very good
place to be. It hasn't been picked over the way some areas have. It
is not really a Third World country in that it has got First World
infrastructure. It's got a billion-dollar market cap. Basically,
what we look for is production ramping up so there is some growth
component and prospective acreage and land packages allowing for
more discoveries.

Barron's: Thanks, John.


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