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Investment banks face derivatives nightmare, critic says

Section: Daily Dispatches

He'll be a speaker at the New Orleans Investment
Conference -- a href=http://www.neworleansconference.com

By Thom Calandra, Editor
Wednesday, August 14, 2002

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Rick Rule makes much of the fact that his
Global Resource Investments is the only U.S.-
based brokerage to employ an exploration
geologist and mineral exploration analyst.

In the good days for minerals and metals, in
particular gold, geologists more often than
not were found in the offices of U.S. brokers
and mutual funds, assisting analysts and
portfolio managers with their view of
fledgling companies' speculative mining

The decline of precious metals through the
middle and late 1990s saw an end to those
commodities-related positions on Wall Street,
just as the end of the technology boom has
hastened the departure of Internet and
software analysts.

quot;It will be a (commodities) sell signal when
our peers attempt to employ exploration
geologists,quot; says Rule, who puts himself
firmly in the school of lifelong contrarian
investor. His tiny shop of brokers and
analysts sticks closely to a diet of 70
companies, all of them in mining, energy,
water utilities, forest products, and

Rule is well known among those who follow
precious metals. The founder of 12-year-old
Global Resource Investments near San Diego is
a popular speaker on the gold circuit. Rule
is associate editor of Jim Blanchard's Gold
Newsletter. Financial newsletter writers
dedicated to gold, silver, diamonds, and
natural resources, among them Bob Bishop,
Doug Casey, and Adrian Day, often find
themselves turning to the research from
Rule's small brokerage, which handles assets
of about $300 million.

Rule, at the age of 49, has seen natural
resources boom and bust more times than he
can count. His view is that investors, if
they are to create and keep new wealth
through the thick and thin of up and down
cycles, must be prepared for a lifelong
commitment to the school of contrarian

The challenge, says Rule, is sticking to the
game plan, which almost always runs counter
to the stampede of Wall Street's herd

quot;Mining goes through periods of times when
the average industry commodity price is lower
than the average cost, so the industry is
losing money,quot; Rule tells me. quot;At times like
that, the conventional brokerage businesses
issue general 'sell' recommendations. But
really, it is setting the stage for a pretty
spectacular recovery -- because you either
have no more commodity, which creates a
shortage, or the price goes up.quot;

Rule, who has been following natural
resources such as water, timber, uranium, and
energy since the mid-1970s, puts himself
firmly in the camp of gold believer. The
precious metal, shaking off a miserable
summer, is approaching $320 an ounce in the
spot market -- about $10 below its high for
the year.

quot;I am very much of the view that the 20-year
bear market in gold coincides with the 20-
year bull market in the dollar,quot; he says from
his Carlsbad, Calif., office. quot;Gold will come
to supersede the dollar as the reserve
currency of choice among central banks.quot;

Gold this year has kept its head above the
$300 level for the first extended span since
October 1999. Gold mining companies through
May were the best stock-market gainers around
the world. Gold-based mutual funds until
recently were also top of the charts.

Rule sees central banks, long sellers of
bullion as they replaced their gold reserves
with paper assets, giving gold its just
deserts. quot;I am of the belief that if the
dollar continues to soften and gold continues
to strengthen, most central bankers, who are
anti-contrarian, will go out and buy gold,quot;
he says.

In the financial press, central banks around
the world are said to be eyeing gold's 10
percent rally this year as a chance to dump
more of the metal. So in this regard, Rule
again shows that he goes against the grain of
popular thinking.

Rule and his firm, Global Resources
(a href=, recommend mining
stocks, many of them small exploration
companies. But he is also a holder of actual
gold bars. quot;I buy physical gold as
catastrophe insurance,quot; he says. quot;At the age
of 85, I hope to God I don't need it. I buy
it not out of greed but out of fear.quot;

Rule counts Chris Thompson, the executive who
helped turn South Africa's Gold Fields Ltd.
(GFI) into one of the world's largest gold
producers, as a former business associate.
Thompson is the new chairman of the World
Gold Council, a trade group for the industry.
Thompson and the World Gold Council are
developing a security that can be traded as a
gold proxy in the stock market.

quot;I think that Chris Thompson will make a
difference personally to the gold price,quot;
says Rule. quot;What he did at Gold Fields was
miraculous, taking an ossified corporate
culture and transforming it. So the World
Gold Council will be a piece of cake.quot;

Rule's current recommendations in the gold
arena include Repadre Capital Corp. (RPD), a
Toronto-traded company that benefits from
royalties on gold-producing properties. quot;We
were attracted to Repadre at $7 Canadian, not
$8,quot; he says. quot;I'd look at the stock again at
$7.quot; Repadre shares Wednesday were selling
for $7.50 Canadian, down from a high of $9.25
in June.

Rule also says Barrick Gold (ABX), the
world's second biggest gold producer, is
perhaps the only major producer whose stock
is attractive at current levels. Pure gold
investors are wary of the Canadian company
because of its long history of hedging gold
through the use of derivative contracts, Rule

Barrick in its most recent reported quarter
reduced its so-called variable price sales
contracts and call options -- all of them
hedging devices that help the company boost
the price at which it sells gold -- to 3.1
million ounces from 6.1 million ounces.

quot;Despite its hedges, Barrick Gold has the
best organic growth of any of the majors.
Because Barrick has gotten more than $100
over the spot price, they have been able to
pay premium prices for assets and still fare
well,quot; he says. Barrick bought one of the
oldest U.S. mining companies, Homestake
Mining, in 2001.

quot;I think you will see Barrick reduce its
hedges because as gold rises, that is an
economically less rewarding strategy. The de-
hedging of Barrick and their cash margins
make them the least overpriced of the
majors,quot; Rule says. Unhedged producers such
as Gold Fields have trounced their hedging
counterparts in the stock market.

Rule sees large investors slowly becoming
enamored of gold. In recent days, Julian
Robertson, who once led one of the world's
largest hedge fund companies, Tiger
Management, said he is buying gold mining

Rule also sees a water crisis ahead for the
western United States. quot;As someone who lives
in California, I know water will make the
electricity crisis seem like nothing. It will
be a huge news item at some point.quot; He likes
shares of San Jose Water Corp. (SJW). quot;SJW
actually owns and controls the water they
use,quot; he says.

Rule will speak at the New Orleans 2002
Investment Conference
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