Good article - I would just give the URL but many don't have subscriptions.

The $1200 Gold Phenomenon

The world of resource stock investing is about to be given a heavy dose of steroids. Hang onto your hat, your gold and especially your junior stock portfolio.

Let’s go back just over a year in time when large hard money conferences were held in both Vancouver and New Orleans. It was really quite a dismal time. A global liquidity crisis was in full swing, especially during the November New Orleans conference. Gold stocks were selling off indiscriminately simply because money had to be raised. Margin calls used up way too many minutes and those are the most unfriendly calls of all. The carnage during this time and the subsequent panic is one for the ages.

There are always incredibly smart people at these meetings and there was a sincere worry about exactly how the poorly capitalized small exploration stocks would ever again be able to raise funding to support their expensive exploration and promotion habits. This concern was definitely legitimate as the sector has since seen a large scale consolidation. Some companies have ceased to exist and many others have merged to achieve economy of scale. Other companies and their once promising projects remain in limbo.

That being said, both gold and silver were up substantially in 2008 as they were throughout the majority of this soon ending decade. A large number of the precious metal pundits at the meetings were, as usual, calling for higher gold prices into 2009 and 2010.

Do you see the discrepancy here … how do you get much higher gold prices yet believe there is little future in the junior gold companies because of liquidity constraints? I saw the disparity and spoke up to numerous colleagues at the conferences as well as my Resource Windfall Speculator subscribers that this anomaly couldn’t last. Gold stocks simply must thrive at some escalating gold price. The same words were spoken by me at this year’s New Orleans Conference when gold was well below $1000.

Stay with me here … this is much more than just a self back patting exercise.

I have no intention of joining in with those who love to regularly project gold prices. This $1200 gold action is more of a conceptual issue. Gold has met and exceeded my year end goal of $1150 and it would be super if it would end 2009 at least that high (this is not another top call by a wavering gold analyst!).

Gold’s best projection has long been that it is simply going to continue to grind higher. That is what it has done since 2001—having gained an average of 15 to 16% per year. You have to fully comprehend exactly why this has happened in order to understand gold’s future.

It hasn’t risen from $250 to over $1200 without significant underlying reasons. This steady and spectacular rise was no accident. Neither was it wasn’t a federally sponsored bubble like real estate, Treasury debt or the dollar. No, in fact, gold and silver ground higher in an uphill battle directly against the central planners’ wiles and wishes. They fought it every step of the way and could only manage to hold it down to a controlled rise.

That control is now in severe jeopardy. That’s what relentlessly climbing gold prices are telling you.

The clear premise for those of us who closely study precious metals, monetary and global economic issues is that gold’s rise throughout the 2000s was indicating in advance what was coming our way. That’s its job … it sniffs out mischief and punishes those who abuse the metal that represents freedom and honest markets. It’s following its owners’ manual pretty well as of late, no?

Let’s look at another aspect of the gold and gold stock relationship before tying up my $1200 premises. The gold stocks historically demonstrate very significant leverage to the underlying price of gold. Why else would anyone own them? I’ve been heavily involved in this arena since 1993 and have been through many episodes of drought, froth or near terminal boredom. You live for discoveries and the leverage they bring to shareholders and frequently the overall sector. The leverage is supposed to be there because of discovery potential but also rising commodity prices.

That traditional relationship between gold and gold stocks has been under fire for many years. Truth be told, many of us who owned a lot of gold stocks thought we’d become filthy rich once gold hit $400. We’re now seeing a tripling of that once lofty goal. Don’t get me wrong … there were some very heady profits made along the way but the traditional leverage has been suppressed to a large degree for an extended period of time.

The following chart clearly demonstrates this phenomenon as the CDNX, representing the junior golds, has only mildly turned upwards as of late when directly compared to gold:

Why has this happened? There are lots of theories but you simply cannot ignore the overall containment issue. Gold stocks flying off the charts don’t look good when the current Fed pimp is addressing his congressional and media harlots. Games are thus played with gold stocks as well as gold to keep down the excitement.

Rampant naked shorting of stocks is merely one more example of how far we’ve fallen from what used to be relatively or comparatively free markets. Gold stocks are routinely subject to this abuse. Most people miss what is going on because they have way, way too much trust in our authorities. You have to wonder what exactly it takes to wake up the masses though there are more and more encouraging signs all the time?

I’m not burdened with such delusions of honest markets and long ago gave the New York precious metals exchange the “CRIMEX” (http://www.gold-eagle.com/editorials_05/mcdougal011905.html)moniker. Even using the term COMEX gives these thieves more credit than they are due. This market has long been an atrocity beyond reform.

So the answer to the question is … “Yes, the precious metals and the underlying stocks have long been under management.”

Why would anyone enter such an arena where many believe you have to swim upstream all the time? Yep, the extraordinary profit potentials send out alluring signals where the rewards greatly outweigh the risks.

Attempting to suppress any market directly against its underlying fundamentals on a long term basis is pure folly. Many of us in the hard money crowd knew that over a dozen years ago and it has played out accordingly. See gold from $250 to the present price.

Why does anyone think that our present central planners will have any better success than the Ruskies did? If they wanted relative low gold prices they should have let it rise far enough and soon enough for the miners to extract much more supply from the earth’s crust to meet demand. Hello. They built an unsound structure and it is still crumbling.

Back to $1200 gold. Gold hit a low of $770 in 2008 though it was one of the few assets up at year end. Do you realize that in spite of this fact that a huge percentage of small cap resource stocks were absolutely decimated in 08? 50 to 80% losses weren’t uncommon as shares were relentlessly hit with liquidity selling day after day after day. It was an historic massacre not too much like the one that happened in the late 1990s after the Bre-X gold deposit fraud.

The big difference this time around is that gold was both high and appreciating while it was in the absolute doldrums in the late 90s. That’s another disparity for you to catalogue and ponder.

So gold stocks weren’t showing that much froth relative to gold last year and they still got massacred. Yes, they have performed well over the last 13 months after they bottomed but they remain extreme laggards, even with $1200 gold. Raising money isn’t as difficult now for junior explorers as some thought a year ago. You can’t think linearly.

My ongoing premise has been that there is a point where the disparity between gold and gold stocks gets so massive that speculators as well as the masses will return quickly. When you put a plate full of yummy cooking in front of hungry and poorly attended kids you can expect the goodies to soon disappear!

Is $1200 that point? I’m not sure exactly where the magic number lies but I doubt it’s far off. “Smart money” is pretty well positioned right now and others are more and more interested all the time. The herd will inevitably follow.

These words are coming from a guy who spent the years after the Bre-X gold market meltdown accumulating the highest quality juniors I could find on the cheap (and I mean really cheap). You could do private placements directly with companies for as little as $5,000 to $10,000. They were absolutely desperate for funding. Very few people, though, were interested in this dreaded area of the market. There was extreme leverage present when shares and accompanying warrants were picked up at ridiculous prices.

The resource stock market absolutely had to turn up once gold did and those of us long associated with GATA and its incredible brain trust knew it was just a matter of time before that happened. Interestingly, when it did happen (2001), the overall resource sector turned on a dime! We went from practically no one recommending widespread positions to tons of gurus touting them heavily with buy signals. The market changed completely within a couple weeks.

Enormous profits were made in the subsequent years for those positioned early. My best was a 93X on a stock called Altius Minerals. Yes, a return of $93 for each $1 of shares bought and sold (I didn’t sell them all … still a great company). That kind of profit is absurd but it’s not unheard of in this market niche. Some have done considerably better than that.

Are we heading into similar profit scenarios where double, triples and ten baggers show up all over the monthly stock statements? Will portfolios soon see a quick across the board re-rating to the tune of up 30 to 50%? Is thehistoric leverage about to return now that gold is waving its banner high?

It’s hard to say and it’s hard to time but the concept is based on solid ground. Somewhere in here investors are going to absolutely flock into the small cap resource sector. It may take the $1200 price level looking more sustainable (as opposed to just a spike) to those who want to speculate for life changing money. It may take a bit higher price. That also is just a matter of time.

Frankly, as a seasoned veteran of a couple decades of “gold wars” it’s surprising that the gap between gold and gold stocks is still there today. This disparity looks no different to me now than did the inevitable rise of gold stocks after the Bre-X scandal in 1997 or gold escaping its $250 shackles in 2001. Gold producing stocks will make eye popping profits at present price levels and those companies who explore and find significant economic deposits will gain extreme attention. The gap will close and the juniors will take off.

In fact, the pendulum will likely swing to the other extreme of its path.

This is the next major event set to transpire on the gold horizon and it will, again, happen quickly. You can’t have ultra-high precious metal prices and unloved precious metal stocks. Not forever, right? A gold price setback would only delay this inevitability. Make sure you’re positioned!

Invest Resourcefully,

Rusty McDougal
www.investorsdailyedge.com