Relationship of "ForeclosureGate" and Type of Ownership of Precious Metals

When a mainstream reporter, Diana Olick, of CNBC, reports some disturbing and scary informed speculation about what may happen regarding the foreclosure situation, in today's piece titled Foreclosure Fraud: It's Worse Than You Think, one has to worry about the care that large financial institutions have given to their legal responsibilities.

The entire MERS-related structure has been questioned and has been the subject of suits.

Of course it is public knowledge that the finances of Big Finance are murky, given extensive difficult-to-value assets.

None of that is any of my specific interest, given that I sold all my financial stocks in winter/spring 2007 and paid them little attention except from the short side in 2008-winter 2009, and then did one quick trade on Wells Fargo from the long side this year (a winner, at much higher prices than today's).

What concerns me as a precious metals investor is that I have read the GLD and SGOL prospectuses more than once for each. The custodians and other major players in these entities that hold physical gold are all Big Finance companies. The prospectus for each entity is replete with all the things that can go wrong with the chain of custody of the metals. They also make clear that if some metal goes missing or is impure, investors have few protections.

The metals may have subcustodians, which themselves may have subcustodians, and these entities may lie/cheat/steal, or otherwise screw up, without the investor being able to recover damages.

Thus I am happier owning the Canadian trusts to own physical gold without actually owning the gold. The stock symbols are GTU and PHYS. Their prospectuses disclose where the gold is; there is no subcustodian. At least in the case of GTU (Central Gold Trust, run by the same team that runs CEF, the Central Fund of Canada), the directors do not even carry insurance.

Right now, the premia over NAV for GTU and PHYS are at historically low levels. This along with the slow ramp-up in assets in the Rydex SGI Precious Metals mutual fund and the utter lack of speculative froth in Newmont, Goldcorp and Barrick suggest to me that the strong bull market in gold is the most apathetic one from the public's standpoint I have ever seen in any major asset class.

Whither gold prices?

The investment guru Bill Fleckenstein somehow delivered outstanding results from his short-selling hedge fund that he started "too soon" before the stock bubble was close to peaking in the late 1990s. He brilliantly closed it right near the bottom of the bear market almost two years ago and basically became a precious metals investor in his new fund.

He wrote a column several months ago in which he only half-jokingly said that by the time the top of the gold bull market would be seen, Big Finance would have embraced the trend so much that it would be promoting all sorts of investment vehicles in precious metals and would be taking large investors to tours of out-of-the-way mining sites.

Perhaps that has now begun. Goldman Sachs is now out with a bullish upgrade on gold and silver prices. Price targets for one year from now are $1650 for gold and $27.60 for silver.

Maybe it's just wishful thinking, but maybe, just maybe, the idea of anchoring the money supply with a metal that would take away from the Fed the ability to centrally plan the money supply of a continental country (and then some) is gaining ground.

In the here and now, gold and silver prices are both extended and ripe for profit-taking at the very least. Looking one year ahead and applying the "Elfenbein rule", the Goldman price projection for gold appears quite reasonable.

Given the continued upside price potential in concert with the safe-haven reasons I invest in gold, I want to be as confident as possible that the gold in the fund I own is actually "there" and not mishandled, as it appears the documentation surrounding mortgages often became. Thus I trade away the liquidity advantage of GLD and other Big-Finance-custodied gold funds for the much less tradeable GTU and the more liquid PHYS.


Copyright (C) Long Lake LLC 2010

Quantifying Gold's Price and Easiness of Money: Implications

Eddy Elfenbein of CrossingWallStreet.com had an interesting post up yesterday on a theme I have blogged about a number of times before, namely that gold tends to rise when Fed policy is easy and tends to sink when it is restrictive. His point is that high rates of price increases are not needed to send gold upward. He estimated that a neutral price for gold came when 3-month T-bills were 2 points above the inflation rate (?CPI). That nicely explains 40 years of gold pricing, per the accompanying chart (click on chart to enlarge; a similar chart of shorter duration is found on the link to his post).

Gold is up about 30% year on year. That has made many people nervous, per the WSJ today, which ran Surge Worries Some Gold Bugs: ‘Starting to Look a Little Scary’:

In recent days, old yeller has made a mockery of our anti-gold stance here at MarketBeat by surging ever higher.

It’s gotten to the point that even some of the most die-hard devotees of the yellow metal seem to be getting a bit jittery.

It then quotes some bulls who think gold moved too far, too fast.

But that's what happens in bull markets. Surprises and overshoots occur on the upside.

Think back to the implosion of Ambac (ABK) that began over three years ago. There were any number of oversold conditions followed by rallies. Yet the stock was down 90%, then from there down another 90%; and it's down more from the 99% down level. There is nothing scary about a strong bull market unless you're short.

When might gold enter a bubble phase? Per Louise Yamada, speaking three days ago on Bloomberg TV, this would occur if gold hit $5000/ounce within the next few years.

The closest thing to a bubble, in my humble opinion, is the rush to lose purchasing power by seeking the "safety" of Treasury bills when prices are rising much more than the bills yield. It's death by a thousand cuts rather than buying the NASDAQ at 5000, fated to lose the great majority of its purchasing power with no dividend income offset in a couple of years. It is the overvaluation of T-bills that, per the Elfenbein quantification, has provided investors who despite using no leverage have achieved outsized returns from gold ever since Alan Greenspan put the monetary pedal to the metal shortly after the 9/11 attacks and then again when Ben Bernanke blinked in the face of the Great Financial Crisis.

The price action in silver suggests that the last sort-of-resistance level is the $24-25 level that was reached in September 1980, months after the Hunt brothers fiasco exploded early in 1980.

It would not be unusual to see a substantial further sell-off in silver following today's 3% sell-off, likely with gold moving with silver but less so on a percentage basis. The structure of this last rally in silver, from a strong base, is similar to that of gold a year ago.

No matter whether the Fed prints more money, the case for precious metals remains intact. The Fed will do whatever it can to keep the T-bill rate below the rate of price increases for as long as it can. Assuming reported inflation stays low, the Elfenbein model suggests that precious metals will continue a meaningful upward trend that leaves people thinking it's a bubble because the high reported inflation of the 1970s is not present stuck in the alleged inflation hedge of stocks; or in cash or short-t0-intermediate term bonds.

A corollary to the above points is that this thinking provides a coherent explanation how it is possible to be bullish on long Treasuries and on gold at the same time.

Copyright (C) Long Lake LLC 2010