Some mainstream media interest in gold


9p EST Saturday, January 29, 2000

Dear Friend of GATA and Gold:

With his essay "The Golden Pyramid" last August, John
Hathaway of Tocqueville Asset Management laid out the
present and future of the gold market. Last September
24 he predicted, as GATA Chairman Bill "Midas" Murphy
had just done at, that a spike
in the gold price was imminent, and the spike followed
in a few days.

"The Golden Pyramid" may remain the most instructional
document about the gold market. But now Hathaway has
written "Rich on Paper," forecasting and explaining the
next spike in gold, which, he says, will be substantially
bigger than the last one, and even more surprising.

"Rich on Paper" appears below. It's pretty long, and if
it comes to you as an attached file and you don't like
downloading those, as I don't, you can read the whole
essay at the Tocqueville web site:

You also can read it at GATA's bulletin board:

But the latter posting omits a couple of charts that I
cannot reproduce here, so you'll be much better off
reading it at the Tocqueville web site.

Hathaway's "Rich on Paper" seems likely to prove as
important as "The Golden Pyramid."

Please post this as seems useful.

CHRIS POWELL, Secretary/Treasurer
Gold Anti-Trust Action Committee Inc.

* * *

Rich on Paper
By John Hathaway
January 2000

Gold is poised to make its second significant move to
the upside in less than a year.

Gold shares and the gold price are in a deep funk, the
same as the despondency that preceded the September
1999 rally of 30 percent from a 22-year low in the
space of three weeks.

The catalyst for the rally was an agreement among the
leading central banks, known as the Washington
Agreement, to limit sales and lending activities, which
were depressing gold.

While pessimism still reigns, the fundamentals of the
gold market have turned decidedly bullish thanks to
this development. The agreement, signed by the 15
European Central Union members, fixed the level of
outright sales for the next five years. More important,
the banks will not increase gold loans beyond the
current level. Gold loans have been more damaging to
the gold price than outright sales themselves.

Finally, the United States, Japan, the International
Monetary Fund, and the Bank for International
Settlements have stated that they will abide by the
spirit of the agreement. Therefore 85 percent of
worldwide official-sector gold holdings are now either
off the market or will be disposed of in a predictable

This watershed event caught the overly short market by
surprise. More important, it provided a fundamental
basis for stating categorically that the low point in
gold for the next decade is in place. The downside
price risk is no longer open-ended. It is only a matter
of time before additional upside materializes.

How long will it take? The next strong upside move will
be driven by another fundamental development, which
will also come as a surprise to this excessively short
market. That development will be widespread gold
producer hedge book buybacks combined with high-profile
statements that promise to de-emphasize hedging.

Buybacks are already under way. But anti-hedging
statements, which will probably come later this year,
will alter negative market psychology by removing still
another argument in the bearish case for gold, the
expectation of ceaseless and expanding producer

According to the most recent survey by Goldfields
Mineral Services (GFMS), new supply from producer
hedging is likely to decline by nearly 300 tonnes in
the current year to 150 from 445 in 1999. But GFMS is
understating the magnitude of the change.

Gold company reserve growth dropped significantly in
1999. The raw material for hedging is not expanding. A
net buyback of the industry hedge position would not be
surprising. It would suggest a much larger decline in
supply than forecast by Goldfields. Combined with the
Washington Agreement, reduced hedging portends a
significant shrinkage in the supply of gold over the
next 12 months. GFMS forecasts a 10 percent reduction
in supply. It could easily exceed 15 percent if
producer hedging is zero or negative.

To recall the three reasons for gold's protracted
decline, official sector or central bank selling and
lending plus producer hedging have been the most
visible. The combination led to the "piling on" variety
of short selling by hedge funds and other speculators.
To them gold was just a cheap source of funding, first
because the borrowing costs were lower than any other
currency, and second because gold was expected to
decline in value. Secular disinvestment is the third
reason, which will be discussed in more depth shortly.

Because gold industry managers bought into the bearish
case for gold, they engaged in extensive forward sales
and other hedging transactions. This accelerated gold
supply by as much as two years of future mine output.
The sharp spike in the gold price following the
announcement of the Washington Agreement blew up the
hedge books of two high-profile producers, Ashanti
Goldfields and Cambior, and threatened their solvency.
Their difficulties dramatized the risks of excessive
hedging and soured both investor and management
appetites for the practice.

The rationale for investing in gold stocks is the
expectation of a higher gold price. It is not because a
particular chief financial officer or hedge manager
happens to be a clever trader in the gold market.
Nobody wants to pay for that.

The valuation of hedge book enhancements to earnings
cannot begin to approach those delivered by the upside
in the gold price. In the words of Leigh Goehring,
portfolio manager at Prudential, the industry has
succeeded in re-rating itself downward by destroying
the option value of its shares.

At times it has appeared that industry management does
not understand gold market fundamentals. In certain
cases there was an apparent dread of higher gold prices
because of potential financial damage from hedge books.
But all this appears to be changing due to a widespread
reassessment of hedging.

Gold equities are exceptionally cheap at the moment.
According to the respected research team at Scotia
Bank, they trade at a discount of 18 percent to net
present value, an unprecedented low valuation, even
before the September 1999 rally.

Because of the lengthy gold bear market, exacerbated by
hedging and short selling, shares of gold mining
companies, not surprisingly, have ranked among the
worst performers over the last 20 years. The global
market capitalization of the industry is less than $50
billion. The market cap of one high-tech company,
Qualcomm, has gained and then lost this amount in the
last six weeks. Industry earnings are all but non-
existent apart from hedge book profits. Financial
staying power for many companies would be in doubt if
the gold price remains depressed. Concerned senior
executives are considering how they can engineer a
reversal of fortune from a near-evisceration of
shareholder value.

In principle, the answer is simple: Announce a change
of policy on hedging. The difficulty lies in the

Mining companies cannot afford to bid against each
other to restructure their hedge books. Nor can they
tip their hand, since front-runners would bid up
prices. Still, once the market perceives a different
industry stance on hedging, the gold price will rise
even more sharply than it did in September.

Equity valuations are also likely to rise once
previously alienated shareholders interested in the
upside play on gold return to the fold. Just as the
Washington Agreement caught short sellers by surprise
in September 1999, a sharp curtailment in producer
hedging will trigger a rally to new highs.

The third, most important, and least discussed reason
for the gold bear market has been the 20-plus-year bull
market in financial assets. It has banished gold to
investment Siberia. Interest has vanished for all but a
few diehards with long memories. But long-dormant
investment demand seems ready to awaken in 2000. If so,
it would provide the basis for a sustained, much higher
price level that would destroy all hope for shorts to
cover at a profit.

Investment demand is the most potent of all forces that
could drive gold higher, but it has been absent for 20
years. For this reason analysts have modeled supply and
demand factors based on newly mined gold, scrap, and
net sales or purchases by the official sector versus
consumption for jewelry and industry and bar hoarding
(a form of investment, primarily in Asia). Little
attention has been paid to investment demand, which has
been treated simply as a residual of the balance
between the foregoing supply and demand factors.

In its just published numbers, GFMS projects investment
demand for the year 2000 at a negative 418 tonnes vs. a
positive 203 tonnes in 1999. Investment demand appears
to be negative in the GFMS model in order to balance
the numbers.

Not to pick on GFMS, but these numbers simply don't
make sense. I believe that investment demand will be
positive in 2000, and will begin to crowd out jewelry

Investment demand will awaken because of macro-economic
factors that are not within the province of GFMS-type
statistical surveys. The world is not awash in gold; it
is awash in dollars. The run rate of the U.S. trade
deficit exceeds $300 billion per year. Forty percent of
U.S. debt is now held by foreigners. Interest rates are
in a rising pattern across the yield curve. The
monetary base grew at the highest rate in 50 years
during the fourth quarter of 1999. While inflation
numbers as measured by the U.S. Labor Department's
Producer Price Index and Consumer Price Index still
appear tame, the precursors of higher inflation numbers
are impossible to ignore for anyone not caught up in
market mania.

According to a recent ISI Group commentary, "Inflation
still looks tame, but at the same time every core
measure ... has been starting to creep up over the past
few months including U.S. core PPI, CPI, and import
prices as well as German and French core CPIs. The
Atlanta Fed finished prices index has increased sharply
and the Euro PPI increased much more than expected in
November. In this context, it should be remembered that
U.S. average hourly earnings gains also appear to have
bottomed out in recent months."

Expect the sanguine low-inflation Goldilocks economy
and the "Greenspan is a genius" mentality to be
severely challenged in the current year.

Gold demand has three components. These are fabrication
for jewelry and industry, potential demand from short
covering, and investment demand.

Fabrication demand has grown steadily, especially for
jewelry. Without it, gold would have collapsed under
the weight of the short-selling binge. It has
counterbalanced the extremely negative investment
sentiment of recent years. At 3,700 tonnes in 1999, it
exceeded new mine production by more than 1,000 tonnes.
Without central bank sales, producer selling, and
speculative short selling to fill this deficit, the
equilibrium gold price would have to be several hundred
dollars higher than where it stands.

But fabrication demand by itself does not hold the key
to higher gold prices. Instead, it will be pushed aside
by panic short covering and renewed investment demand.

There are two reasons to expect the next rally in gold
to be more explosive than the 30 percent runup in
September 1999.

First the short position still remains very large ( for
more information, see "The Golden Pyramid"). It stands
at 5,000 to 10,000 tonnes, or two-to-four years of mine
production. Lending appears to have expanded during the
fourth quarter, despite the Washington Agreement, as
Kuwait, the Vatican, and other stragglers were
recruited to put out the October short squeeze fire.

Since mine production is more than absorbed by
fabrication, short positions can be covered only by new
borrowings or by central bank sales subject to the 400-
tonne-per-year limit under the Washington Agreement.

Bullion dealers appear to shoulder the bulk of the risk
that central banks might grow reluctant to provide
liquidity. In our conversations with mining executives,
it appears that bullion dealers were so eager to sell
hedging instruments that they provided very lax margin
provisions. This situation has not changed since the
Washington Agreement rally.

In a startling disclosure, Ashanti recently announced
that its hedge book had changed for the worse since the
company's difficulties began. Although the quantity has
declined slightly to 9 million ounces, the breakeven
point has declined to $262 from around $285. The
notional loss today is $270 million, whereas four
months ago it would have been zero.

The company's balance sheet has shown no improvement.
Ashanti's bullion bankers appear to be at equal or
greater risk than when this fiasco first came to light.
Ashanti is just one of a number of specific situations
that could motivate bullion dealers to manipulate the
gold price at the high end of its trading range or at
specific chart points closely watched by traders. It is
safe to say that Ashanti, one of the most active
hedgers, will be a non-entity in this arena for some
time to come.

Beyond Ashanti, the bullion dealer/mining industry
aggregate hedge position remains as vulnerable as ever
to a gold rally. Complacency has settled in following
the 12-week retracement in the gold price from its
October 1999 peak. Few participants in the outstanding
short position contemplate another sharp rally in gold.
Many shorts do not appear to understand the degree to
which they, or the institutions they represent, are at

The fallacious argument that gold in the form of mining
reserves to be delivered, in some cases, at distant
future dates, is an effective long to offset the dealer
short is still a foundation of this complacency. What
this view fails to take into account is the financial
stress that would result from a substantial rise in the
gold price, which does not retrace, for deliveries
scheduled several years in the future.

Keep in mind that bullion banks operate on a high
degree of leverage. There is an ongoing mismatch
between paper and physical gold. A given flow of
physical gold can be multiplied by a factor of five or
greater in the paper market. Any reduction of physical
provided by the industry at a future date implies
increased leverage and an expanded aggregate short
position among the bullion dealers. Compared to the
diamond industry, which enjoys gross margins of 50
percent or more, the gold industry has done a poor job
of marketing. By turning over much of the distribution
function to bullion dealers, the industry has amplified
its own supply by whatever leverage factor bullion
dealers wish to apply.

Over the longer term, the gold industry would be well
advised to explore ways in which it could avoid giving
over control of physical flows to these intermediaries.

The second reason to expect a sharp, sudden rise is
that markets do not adjust slowly to changes in
psychology. Complacency built upon the assumption of
tame inflation, the new paradigms of e-commerce, and
masterful Fed leadership is overripe. We live in an age
of unprecedented financial euphoria. The dollar is
considered unassailable. Valuations that have never
been seen are considered reasonable. Recently Paul
MacRae Montgomery, a noted student of the financial
markets, observed that the ratio of triple-A bond
yields to the S&P yield is 7.5 times. The only other
examples in history where this relationship even
approximated this number was the Weimar Republic in
Germany, probably not a useful parallel, and Japan in
1989, most likely a valid parallel. Montgomery also
prepared a chart, carried by Barron's, showing the
ratio of mergers to Gross National Product, reproduced
here. It speaks for itself:


To see this chart, go to:


Strange as it may seem, gold has a corner on euphoria.
Overvalued stocks, short positions in gold, and foreign
holders' U.S. dollar instruments occupy the same space.
They are hostage to the stale incantations of the bull
market. The financial markets at large are conceptually
short gold.

The climate of opinion in the investment market is that
inflation will never reappear. This credo, repeated ad
nauseam by investment gurus in all the media, is the
foundation of financial euphoria. What if we couldn't
resort to this mantra? The year 2000 will provide the

Perhaps the most unsuspecting of the potential victims
are foreign holders of U.S. debt. A major reason for
low inflation is the willingness of our trading
partners to accept our paper for their goods. The rosy
inflation picture would quickly sour if their high
opinion of dollar-denominated debt faltered.

The United States has been importing the rest of the
world's overcapacity. For years, the U.S. economy's
strength was matched by weakness among our trading
partners. Economic recoveries are now under way in the
rest of the world. Overcapacity is being absorbed, and
the flood of dollars necessary to finance our record
trade gap may become less welcome. A change in
sentiment would lead to sharply higher U.S. interest

The gold market has reached a point where conventional
supply and demand models offer little guidance. Macro-
economic forces, which have been gestating for what
seems like forever, will become impossible to ignore.
The positive fundamentals, which formed the
underpinnings of the 20-year bull market in financial
assets, have withered. Only the facade remains. Once
market participants wake up to the change, gold will
benefit to an extent that is inconceivable to those who
are short.

Paper wealth has become a state of mind, even a
fantasy, regardless of whether it is represented by
shares of overvalued high-tech companies or foreign
holdings of overvalued U.S. dollars. Vying for the
title of the greatest fools are the central bankers who
have systematically divested their gold through
outright sales and lending to increase their holdings
of higher-yielding dollars and other paper currencies.
Nouveau central bankers parrot the values and beliefs
of the paper asset bull market. They disdain gold and
couldn't be more negative. Their supposed prescience is
one of the unfathomable myths of our time. Look for
them to change their minds and turn into panic buyers
of gold when paper currencies lose value.

Vast quantities of present-day paper wealth, held in
the form of inflated stock market equities, will never
be converted into lasting wealth. For most this
imaginary wealth will die along with the prevailing
market mania. Only a few high-tech millionaires will
transform their and similar paper into lasting

As in all major market turns, surprise will be a major
factor. No warning signals for a privileged or clever
few will be flashed. Manias exist because a popular
point of view becomes overexploited. A willingness to
act in advance, when the negative catalysts are still
unclear, and to risk leaving money on the table, is the
only certain escape.

Our suggestion: Sell a little while it is still
possible to sell. Risk derision and buy gold or gold
shares, the pariah of all asset classes. When
investment confidence falters, gold will be the
leveraged play. A small commitment will preserve and
protect some of the paper wealth that would otherwise

Most holders of equity shares are unable to move their
wealth efficiently between alternative asset classes.
Gold is the important exception. It is liquid, and
currently happens to be depressed, which to our mind is
one of the benchmarks of value.

Almost alone at this point in time, gold stands out as
a more than reasonably priced insurance policy against
an undiversified portfolio of high-tech and
equities. A small investment will translate into
enhanced buying power following a serious upset in the
financial markets. To feel rich on paper these days is
commonplace. To convert these paper riches into lasting
wealth will be the exception.