Sep 30

Yankee Hat Closes Second Tranche of Financing for $694,883

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Yankee Hat Minerals Ltd. (CVE:KHT) reported that it has closed the second tranche of its previously announced private placement, for a total of $694,883 in gross proceeds.

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Sep 30

LBMA 2010: Back to the Future

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"Gold: Bubble or boom?" is a big concern for the world’s professional gold industry…

The BIG MONEY flows from the biggest trends, of course, writes Adrian Ash at BullionVault, just returned from the London Bullion Market Association’s 2010 Conference in Berlin.

But even the brightest people, and with the best of intentions, can struggle to see today what hindsight will say you could have banked on.

By the summer of 1922, for instance, you needed 100 of Germany’s paper Marks to buy one Gold Coin Mark, against which they were supposed to be equal. Yet the German Chancellor "would [still] accept no connection between the printing of money and its depreciation," notes Adam Ferguson in When Money Dies (London, 1975)…even  as the Weimar Republic’s hyperinflation pushed Berlin food prices well over 50% higher inside one month.

Indeed, "the opinion that the flood of paper is the real origin of the depreciation [in its purchasing power] is not only wrong but dangerously wrong," said the Vossische Zeitung newspaper. So by the time the worthless currency was abandoned 14 months later, it took one trillion paper Marks to buy one golden equivalent, and German banks "turned the Marks over to junk dealers by the ton" for recycling as scrap paper.

Who could’ve guessed?

Now, fast forward almost a century. Today the value of money (like its price versus gold) is at issue once more, and missing the big trend – inflation or deflation, commodities boom or depression – is a big worry for anyone serious about defending their savings. Over the last decade, gold prices have scarcely looked back in their rise from $252 to $1313 per ounce today. US equities, in contrast, have gone precisely nowhere, while commodities have certainly rallied, but hard assets (outside gold and silver) remain off their pre-Lehman tops of 2008. Treasuries and cash-in-the-bank can barely keep up with inflation, meantime, despite the official "core" US measure slipping below 1% per year. Housing looks like the "double-dip recession" cast in concrete.

Edging above $1300 this week, therefore, it’s little wonder that "Gold: Bubble or boom?" was the big theme (both on-stage and off) at this year’s London Bullion Market Association conference, held in Berlin. Besides dealing silver and the platinum-group metals, the LBMA’s membership is the world’s wholesale gold market – the refiners, assayers, vault operators, dealers, financiers and analysts who help move the metal from mine-head to retail production, whether jewelry manufacturers, dental suppliers, chip fabricators or Gold Coin mints. Very much centered in London (where the Association’s biggest bullion-bank members settle some $20 billion of gold trading between themselves each day), this odd little corner of the financial market well remembers the time before today’s current rally…a miserable two-decade run of falling gold prices, falling demand, and falling returns for the market’s suppliers. And no one wants to be late in seeing that the wind’s changed direction.

"When I started in precious metals in the early ’80s," said one head of metals trading to the 500+ delegates on Tuesday morning, "I understood that private clients would hold around 3% of their wealth in Gold Bars and coin…But over the next 20 years, those reserves were really liquidated, down to pretty much zero by 2000."

He’s just added to his own personal gold holdings, he said, buying Gold Bars first cast in 1980 for bank-teller sales to clients in the north-east of England. Yet the vast bulk of attendees – whilst bullish in their average $1450 price forecast for Sept. 2011, and with 60% believing gold would "perform well" even if deflation hit – are a long way from fully invested. A question thrown to the floor showed 74% of the bullion-market professionals meeting in Berlin keep between 0% and 10% of their own private wealth in precious metals. So either they’re shills who lack the courage of their convictions, or they prefer to separate where they keep their savings from where they earn their income, or gold has yet to capture the real investment dollar of even those people closest to it.

More broadly, current gold investment accounts for barely 0.5% of investable wealth worldwide, as Shayne McGuire of the Texas teachers’ pension fund (and now author of two books urging Americans to Buy Gold Now) showed on Monday, down from 3% in 1980 and far below the 5% of 1968 or 20% allocation gold received prior to the mid 1930s.

Thanks to the massive growth of other investment choices, "Gold has never played a smaller part in the global financial system than today," McGuire concluded, and while further gains aren’t guaranteed by the "weight of money argument" (as Philip Klapwijk of GFMS called it) the relative lack of investor hoarding hardly smacks of gold’s being a bubble. And while the Western world’s biggest central banks hold huge quantities of the stuff, the world’s biggest foreign exchange holders are all "underweight gold by any measure" (Philip Klapwijk again), with a growing desire at least to address their "overweight Dollars" position.

Indeed, "off-market" sales of Gold Bullion by European and even perhaps – one day in the far future – the US governments "may [in time] facilitate a transfer of bullion from West to East" the GFMS chairman said, reminding delegates of the gold transferred from the US to Europe to settle America’s balance of payments debts in the late 1950s and early ’60s. Meantime emerging economies continue to Buying Gold both "to diversify" their large US-Dollar holdings, and also as "catastrophe insurance", and private investors have similarly seen "the world’s markets flooded with cheap money," said Germany refinery Heraeus’s head of sales, Wolfgang Wrzesniok-Rossbach. His detailed (and best-in-show) presentation on Gold Bars, coins and other retail-investment products Monday afternoon noted the surge in European physical demand during the Greek deficit crisis of early 2010.

One driver is psychological, Wrzesniok-Rossbach said. Because "here in Germany, there is a great desire for security. We are the most over-insured people in the world." More historically, however, German households are asking "Haven’t we seen this before, in 1923…?"

Already scared by two stock-market crashes and a global property crash in the last decade alone, "There’s an entire generation of [Western] investors who may not want to trust governments or mainstream financial products," agreed Natixis bank’s head of precious metals (and LBMA vice-chairman) David Gornall on Tuesday morning. At several points during the global financial crisis, "The US Mint has been right at the limit of immediate physical supply," he noted, but that frenzy has since died down – even as the gold price has continued to rise. Together, that’s created a very un-bubblicious atmosphere on the trading floor.

"When the Gold Price broke new all-time highs [in early Sept.]," reported Steve Branton-Speak of Goldman Sachs, "volatility [in daily prices, measured on a rolling one-month basis] was at a 5-year low. When it then went through $1300, traders just shrugged and said ‘So, did you watch the game last night?’

"Compare that to the frenzy of gold trading we got when Bear Stearns and then Lehman Brothers failed," Branton-Speak continued, a point confirmed by both Gerry Schubert of ABN Amro (who restated the "lack of frantic activity or volume") and several of the traders I spoke to between presentations (and also in the bar of course).

"What looks like a massive boom in demand is actually very small…relatively insignificant," confirmed Jeremy East of Standard Chartered Bank, but gold keeps making headlines because it "punches above its weight in terms of significance."

Asked whether gold is now a bubble, East opted instead for "new paradigm – which is in fact a return to the old paradigm." Concurring with Shayne McGuire’s presentation on pension-fund holdings, Standard Chartered’s head of metals sees gold investment holdings only now starting to recover from the wipe-out caused by two decades of strong interest rates and economic growth between 1980 and 2000. This view, of gold not so much soaring to untold heights as simply returning to its former position as a key asset class ("Back to the future" as one oddly aggressive guy put it to me in the smoking lounge) might seem to downplay its gains. But consider why gold’s not always valued, said Graham Birch, former head of natural resources at Blackrock:

"You don’t need gold when…

  • Inflation is dead
  • Governments are benign
  • Taxes are low
  • Currencies are solid
  • Markets are booming…"

In other words, said Birch, "Nobody wants gold if market returns are high and don’t seem risky." Whereas today?

Part II to follow…

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Sep 30

Trading Spreads in Gold/Silver Ratio

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September was a good month for betting on a decline in the Gold/Silver Ratio…

WHEN WE FIRST looked this month at the potential for a breakout move in the ratio of gold to Silver Prices, it then stood at 64.4, writes Brad Zigler at Hard Assets Investor.

In other words, one ounce of gold was the same cost as 64.4 ounces of silver. But since then, both gold and silver have climbed, only at different paces. As of Monday’s settlement, December Gold Futures have risen 4.0% vs. silver’s 10.7% gain.

Not bad for 17 trading days. And the outsized appreciation in the white metal has pushed gold’s price multiple down to 60.5, lining the pockets of spread traders. The return on margin – assuming Comex futures’ exchange minimums were obtained – has been 133%.

That’s better still for scarcely 3 weeks in the pits.

Of course, the $64,000 question (well, make that the 133% question) is where the spread is headed now.

Gold Futures spread traders who took money off the table mid-month needn’t be so concerned, but for others who are still "all in", the prospect of future price volatility in both gold and silver may be worrisome.

So here’s the scoop. Technically, the ratio seems to be aiming for the 50-to-1 area. A tumble to that level won’t happen tomorrow, if it happens at all. Remember, there are no guarantees in this business, even with more-forgiving spreads. And a reach to the 50 level in the Gold/Silver Ratio won’t necessarily be easy, either. There’s some key numbers along the way that need to be punched through.

Currently, the floor under the Gold/Silver Ratio looks to be around the 58-59 area reached last September. That area served as the anchor for the wedge formation from which the ratio’s just broken.

Our 50-level objective traces back to levels immediately preceding the financial meltdown of 2008. In all likelihood, a roll from the December Gold Futures and silver contracts to the active February or April futures will be necessary to capture the entirety of the move.

Again, if it happens. Which it very well might not.

Want physical gold and Silver Bullion rather than leveraged credit contracts…? Go to the world No.1 service for private investment at BullionVault

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Sep 30

The Typhoon-Aurizon Tandem Intersects 112.5 g/t Au on 6 Meters on Fayolle Project

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Typhoon Exploration Inc. (CVE:TYP) announced the first analysis results from its 2010 drilling campaign including the FA-10-04 drill-hole which intersected 112.5 g/t Au on 6.0 meters, on the Fayolle property 100%-owned by Typhoon.

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Sep 30

Paget Minerals Discovers High-Grade Gold-Silver in Large VMS System at Chist Creek

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Paget Minerals Corp. (CVE:PGS) reports that it has discovered high-grade gold and silver  on Chist Creek property near Terrace, northwestern BC. High grade gold-silver in the Barresi Zone discovered during the 2010 mapping/sampling program is associated with quartz-chalcopyrite-pyrite veining at an important contact between mafic-intermediate and felsic volcanic rock packages. For complete news release, click here.

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Sep 30

Gold Jilts Oil

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Might you miss the biggest stories by watching gold too closely…?

So the TWO BIGGEST members of the former Communist/Red/Central Planning club yesterday finalized a deal yesterday to send 300,000 barrels a day of Russian oil to the Chinese city of Daqing for the next twenty years, writes Dan Denning in his Daily Reckoning Australia.

It’s a $26 billion loan-for-oil agreement that comes with an actual oil pipeline between eastern Siberia and north-east China. So why wasn’t this story front page news? Because gold is making new highs and oil is not, that’s why.

Oil is a jilted commodity at the moment. Traders remember what it did to them in 2008 after the bubble popped. But if you’re a contrarian, you want to pay attention to the stories that are not making headlines. Hence, oil.

But like everyone else trying to get ahead of the game, we’d rather focus on gold. Late last night, wide awake from the jet lag, we puzzled over whether now is the right time to Buy Gold in Australia (and whether coins and/or bullion and/or shares). The strong Australian Dollar mentioned yesterday has capped gold’s rise when denominated in Aussies. And should 2008 repeat itself in some way, the USD would rally against the Aussie…and the Aussie Gold Price should approach its high of just over A$1,500.

But will that happen? It’s a known unknown. If you haven’t sorted out whether gold shares or Gold Coins or Gold Bullion should be part of your investment strategy, you still have time to think about it and do something, if that’s what you decide. One reason you have time is that one of the strength’s of gold’s current move is that central banks are buying it instead of selling it.

This was something we mentioned in our remarks at the Gold Standard Institute show last year; the remonetization of gold in the world’s financial system. In fact, in January of 2009 we wrote the following:

"It’s not rash speculation to suggest that central banks will prefer to hold on to their gold this year – rather like the increasing (if small) number of private individuals – instead of selling it. As competitive currency devaluations sweep the globe in an all-out effort to fight asset deflation and recession, we think gold will become much more desirable as a reserve asset worth owning, not selling for cash."

Fast forward to Sept. 2010, and "European Central Banks Halt Gold Sales," reports the Financial Times. The article referred to the European Central Gold Bank Agreement (the same agreement we discussed in 2009). That agreement was designed to control the amount of gold being sold onto the market by European central banks. The ceiling for annual sales between September of 2009 and September of 2010 was 400 tonnes of gold.

Last year’s agreement expired last week. But Europe’s central banks sold only 6.2 tonnes of their gold. Sales fell by 92% from last year. Banks know what real money is. And they’re not selling their gold anymore. They’re buying it.

Maybe central bankers are Buying Gold because their respective finance ministers are actively trashing local cash. "We’re in the midst of an international currency war, a general weakening of currency," says Brazil’s Finance Minister Guido Mantega. Exporting nations are trying to boost competitiveness by keeping their currencies cheap and the price of their exports low.

It’s a strange old world when you improve your economic strength by weakening your currency. Japan and other Asian exporters (dependant on credit-financed consumption in North America) have been doing it for years. But maybe not everyone got the memo from the stock market in 2008 than the global credit bubble has popped.

You have to wonder if the strong Aussie Dollar will hurt the competitiveness of Aussie exporters. It will probably hurt some a lot more than others. By "others" we mean commodity exporters. For now, any rebound in global mining investment has not led to a huge new production increases in the key commodities produced by Australia (iron ore and coal). The strong Dollar isn’t hurting a bit.

But Chris Richardson from Access Economics warns us not to take the high terms of trade and commodity boom for granted. "Australia’s fiscal finances, both short and long term, are hostage to the fate of commodity prices, and hence to China’s strength,’" he recently wrote. He added that Australia’s Federal budget depends on high commodity prices to end the deficit.

"The return to surplus trumpeted in the official forecasts is a pure punt that China and India will keep growing faster than the world’s miners will keep digging deeper," Richardson says. "The budget used to be stodgy and boring and responding to a whole range of economic indicators. Now its health or otherwise is very narrowly based on coal or iron ore prices, and that’s a very fickle thing to rely on for fiscal health."

Yes it is.

Get the safest gold at the lowest prices at BullionVault now…

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Sep 30

Geo Minerals to Commence Work Program on BC Ground Adjacent to Richfield Ventures’ Blackwater Deposit

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GEO MINERALS LTD. (CVE:GM) announced a crew is being mobilized to commence work at its 100% owned claims adjacent to Richfield Ventures Corp.’s Blackwater Deposit.

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Sep 30

Why Did Gold Prices Rise?

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Gold Prices turned higher a decade ago, and haven’t stopped since. Why…?

HINDSIGHT is always a satisfying exercise, because you have all the facts, you know what happened eventually and you simply have to find the reasoning now established by history, writes Julian Phillips in his Gold Forecaster.

Forecasters can be thus judged efficiently as to whether they were right or wrong only in the light of history after the event. Whereas forecasting at the time is an entirely different matter, because you have no facts from the future. What you do have is the past and the present. Now you have to extrapolate these forward to construct tomorrow’s picture.

Forecasting requires giving each present fact its due portion in that future and its correct weighting together with a good dash of insight. Hopefully you will do the job well and be correct. This may sound simple but it isn’t. To help you look forward we look at the last decade in the gold market.

Take the Gold Price. From 1985 despite all the good pointers to higher prices, few foresaw the vigor of the attack by the world’s monetary authorities on gold and yet that was the prime influence on the Gold Price.

When 1999 came most believed the all the world’s central banks were keen to sell all the gold they had to get this barbarous relic out of their vaults. Then came the "Washington Agreement". On the surface looked as though it followed the line of thought that central banks would continue to be unrestrained sellers. Britain appeared to confirm that picture as it sold half its reserves at the lowest price seen since then. This point in time and price is affectionately known as the "Brown Bottom" of gold, after the then-Chancellor of the Exchequer, Gordon Brown. What seemed an innocuous agreement simply limited the volume of sales per annum to 400 tonnes from all the signatories put together.

What was understood only later was that this cap on sales removed the fear of unlimited sales. The signatories felt that this limitation would protect gold producers from seeing a lower Gold Price and deter future gold production. But significantly, this limitation on "Official" supplies went further than this, it reassured the market that not only was the Gold Price underpinned but "Official" supplies were capped. The intention of the Agreement was to hold the market steady at those prices.

A further look at the demand / supply numbers showed that if demand rose, total supply would not increase. Traders demonstrated this when they went long and took the Gold Price from just over $300 to $390 and then took it back down again to $326. This was enough to scare the Gold Mining companies that had hedged their future gold sales. They soon realized how quickly the hedges they had could become very unprofitable as the Gold Price rose. Suddenly gold miners themselves saw that the Gold Price would fall no further so there was no point in continuing to hold them.

De-hedging started and the miners went to the market to buy back their hedges. This allowed them to make money as the Gold Price rose. Cutting these hedged positions realized profits there and removed potential losses. This was done in such high volumes, right through to 2010, that it accounted for almost the entire amount of gold sold by the signatories to the Washington Agreement and its successor, the Central Bank Gold Agreement – around 400 tonnes per annum.

So supply was limited to newly mined gold, which could not rise quickly for the easily mined deposits had gone. It takes around 5 years from the discovery of gold in the ground to taking that gold out of the ground and to market.

Over the years the Gold Price slowly rose on the back of the traditional demand such as India and the jewelry trade. Then came the accelerant, the gold Exchange Traded Fund (conceived by the World Gold Council’s James Burton). This allowed various types of funds to Buy Gold via the shares of the ETF, which bought gold with the proceeds of the sale of these shares, and thus directly impacted the Gold Price, while avoiding the corporate risks attendant on mining companies. Funds such as these had not been allowed to hold bullion itself, until then. These were brand new investors bringing a new type of gold demand to the market from the States. Until then traditional investors in gold bought bullion direct from the London gold market, had the costs and difficulties in storing bullion, which precluded other types of investors from being in the market. So great was the impact of this new demand that these funds in total now hold more than the central banks of Switzerland and China do.

Nevertheless the market was still focused on traditional demand as being the mainstay of the gold market and controlling the Gold Price. They still do today. It is a commonly held belief that investment demand will vanish as quickly as it came. Then we will see the Gold Price turn back to India and jewelry demand at prices well below today’s price.

But investment demand extended from primarily US fund demand to a much wider type of investment demand. The reason was because of an underestimated fundamental that most commentators ignored and rejected. As in 1999 the precipitant turned out to be the European central banks. The second European central bank gold agreement saw the ceiling of 500 tonnes hit only once or twice during its 5 year life.

In the last years of the agreement the sales started to drop quickly. In the last year of the agreement the sales tailed off steadily in the first and second quarter of that year until in the last quarter hardly any gold was sold by them whatsoever. In the first year of the Third Agreement, sales have been close to zero (with 6.2 tonnes sold for coinage – not in the spirit of the agreement). What should we learn from this? The sales had done their job of supporting the advent of the Euro on the world’s foreign exchanges, obviating the need for further sales. The first clause of all the Agreements stated that "gold would remain an important reserve asset". Gold would remain in the firm grip of central banks from then onwards in Europe. In itself it reassured investors that when the dark days arrived gold would have a use in the monetary world.

Now came another shot in the arm for gold. Asian central banks and Russia started to Buy Gold and seriously. The implication was that gold would have a use in times of monetary stress. In itself this meant little, but once the US Dollar started to weaken against the Euro, confidence in the world’s leading reserve currency began to falter. Currency values had become vulnerable to falling. Gold rose when currencies fell and the safety of ones wealth came under pressure.

For eighteen months gold had difficulties in rising beyond $1,200 for a variety of reasons. But then the transition of gold from a ‘commodity’, an industrial metal, a piece of non-corroding decorative jewelry, to an investment people with money buy, came about.

The falling Dollar, the various Sovereign debt crises, future currency crises, deflation, potential inflation or even hyperinflation appeared on the horizon, each persuading investors that gold was a good place to keep hold of one’s wealth. The days of monetary stress have arrived.

From now on gold’s evolution will be the most vigorous of its several stages of development. We are on the edge of a whole new way of looking at gold and its relevance in the global economy.

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Sep 30

Don’t Stay "Stubborn Long" of Gold Investing

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Knowing when this bull market in Gold Investing ends is critical…

WE RECENTLY received the following comment in our Q&A Knowledge Base, writes David Galland of Casey Research.

"Investors should be prepared to sell gold as either increased inflation expectations or doubts around debt sustainability force a sharp increase in US Treasury bond yields. Simply put, in an environment of high real interest rates, the allure of Gold Investing could disappear as quickly as it did in the early 1980s when Paul Volcker took control of the Federal Reserve…"

My response…?

First off, I want to congratulate the reader for trying to anticipate the conditions that might mark the end of the gold bull market. Because, make no mistake, the Gold Investing bull market will come to an end – and when it does, it’s not going to be pretty for those who stubbornly stay too long at the party.

As to the possible triggers for gold’s big sell-off, the reader’s contention is directionally correct when he points out that this could occur when real interest rates (T-bill rates minus CPI) become high enough. At that point, as a non-yielding asset, gold will become less attractive to investors looking for income. And, gold will fall.

However, the situation today is significantly different than during Volcker’s term as the head of the Fed.

The first difference can be seen in the chart here that I just dredged out of the archives of The Casey Report. Besides painting a picture that many of you will think obvious – that inflation is the biggest driver of interest rates – you can also see that gold’s stunning rise in the second half of the 1970s occurred during a period of strongly rising interest rates. So, rising interest rates and rising Gold Prices are not mutually exclusive.

The second difference between now and then becomes clear in the next chart showing that while there certainly was an inflation problem during Volcker’s reign, there definitely was not a debt problem.

At least, there wasn’t a problem compared to today…

The implications of the nation’s current debt load loom large in this discussion. Aggressively raising interest rates, as Volcker did back in the day, would not just dent today’s US economy, it would destroy it. As it would evaporate a significant amount of the trillions of Dollars now sitting in government debt, much of it held by pensioners.

Put another way, Volcker raised interest rates as energetically as he did because he could. Today, that couldn’t happen – at least not without pushing the US economy into a death spiral. That’s why we’ve long compared the scenario faced by today’s policy makers to being stuck between "a rock and a hard place."

While the smoking ruin solution I wrote about a few weeks ago – where the government steps aside and lets the free market do its worst, so that it can then do its best – is certainly possible, the more likely scenario is that the Treasury and the Fed will keep reacting to each new chapter in the crisis by further degrading the currency in the hopes that at some point the debt becomes manageable. Of course, there is the real risk that at some point along the path, our creditors will lose faith and demand higher interest rates.

But what happens if interest rates begin to move up based on credit concerns, and not in response to a noticeable uptick in price inflation? At that point, couldn’t we see positive real interest rates relative to CPI – therefore reducing the appeal of Gold Investing?

If interest rates begin to rise for any reason – including concerns over creditworthiness – the obvious damage to the economy and to the government’s ability to service its debts will only heighten concerns over repayment. Almost overnight, creditors will begin to fear either overt debt defaults or the covert default of yet more inflation, and demand even higher rates.

At that point, with interest rates beginning to spiral, few people will be looking to buy bonds but will remain fixated on the return of capital, versus return on capital.
Being repetitious, debt is the single biggest economic challenge facing the US – and much of the developed world. In time this debt will get resolved, it always does, but it’s not going to be pretty.

As I see it, unlike the inflation of the 1970s that could be treated with a strong dose of tight monetary policy, the debtflation we now face can only be resolved through default. Given that no US government will want to join the ranks of history’s sovereign deadbeats, the inflation option remains the most likely course.

And in that scenario, gold is still a solid investment and so should be a core portfolio holding.

Buying Gold today? Make it simple, secure and cost-effective – starting with this free gram right now – at BullionVault

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Sep 30

Gold Mining vs. Gold Bullion

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What’s been the better portfolio addition this year – gold miners or Gold Bullion?

SOME LUCKY INVESTORS have had a golden touch this year. Literally, writes Brad Zigler at Hard Assets Investor.

It’s because they actually touched gold that they became such standout investors. Gold Bullion attained yet more nominal highs this week, making bullion one of the best-performing assets of the year for US Dollar investors.

As of Wednesday, gold has notched a better-than-17% return compared with the breakeven performance for large-cap stocks reflected by the S&P 500 Composite Index and the 5% capital appreciation in the Barclays Capital Aggregate Bond Index.

Gold Bullion isn’t without its detractors, however. As gold’s price rises, so too does the volume of the ongoing debate between mining stock aficionados and bullion fans.

Gold equity advocates point to the leveraged returns obtainable through shares, reveling in the outsized gains earned by gold stock indexes this year. One such benchmark, tracked by the Market Vectors Gold Miners Index ETF (NYSE Arca: GDX), has risen 22% year-to-date.

Mining stocks magnify gold’s moves because of the enormous influence the metal’s market price has on a company’s earnings. Once bullion advances beyond production costs, price changes flow directly to a producer’s bottom line.

The names populating GDX’s underlying index are some of the world’s biggest and best-known producers, such as Barrick Gold Corp. and Newmont Mining Corp. Nearly 90% of GDX constituents carry a market capitalization of $5 billion or more.

Another index-tracker, the Market Vectors Junior Gold Miners Index ETF (NYSE Arca: GDXJ), mirrors the performance of companies engaged in the exploration and development of mining properties. The appeal of these so-called juniors – or miners with an average market capitalization of $850 million – is their potential for high growth or as acquisition targets. That appeal has translated into a 33% gain for the GDXJ portfolio this year.

Taking a stake in the GDX portfolio is akin to buying blue-chip stocks, while the GDXJ portfolio exhibits the risk and reward characteristics of a venture capital investment. Gold Bullion fans therefore highlight the two-edged nature of leverage as a potential liability. And they have a point.

Over the past five years, the downside semivariance of the Philadelphia Gold-Silver Index – volatility’s "bad half" in short – has been twice that of London Gold Bullion prices.

Bullion fans also point to the purity of a solid Gold Investment. Through direct investment in metal, one can avoid both equity market influence and management risk. But is the true measure of a Gold Investment just its return? Its volatility? Since a Gold Investment is rarely the sole asset in a portfolio, how does it fit in with other components?

In short, what’s been the better portfolio addition this year – gold miners or Gold Bullion?

The so-called Sharpe ratio of a financial asset measures the risk-adjusted payback for each product. The higher the Sharpe, the better the investment on a risk-reward basis. And because, over the last 5 years, the risk (aka volatility) of holding gold was less than the return realized, the metal’s Sharpe ratio is higher than those of the mining stock ETFs.

Yes, top-line performance – that is, year-to-date returns – have clearly been the junior miners’ strong suit this year…rising at nearly twice the pace of bullion in 2010. But the standard deviation of the junior miners’ daily returns was just a shade under that gain. Meaning exploration and development companies have been riskier than bullion in 2010.

In fact, the annualized volatility of the juniors was greater than 38%. Gold’s was just shy of 18%. Because of the miners’ close correlation to bullion, however, there isn’t any diversification benefit derived from the extra risk. In short, miners don’t provide any "zag" beyond gold’s "zig".

This becomes readily evident when Gold Investments are overlaid on a portfolio made up of equal parts large-cap stocks (represented in our analysis by the SPDR S&P 500 Trust) and fixed-income securities (as tracked by the iShares Barclays Capital Aggregate Bond Index Fund).

The outcomes here may seem counterintuitive at first. Because, despite the greater stand-alone returns obtained by mining share funds this year, Gold Bullion provided the best diversification benefit when used as a portfolio component. The benefit derives from gold’s more negative correlation to stocks, and its nearly flat correlation to bonds.

Of course, it’s not likely that most investors would hold too large an exposure to gold. Neither is it likely that portfolios would be constantly rebalanced. A more common allocation to gold would be 5-10%, and monthly rebalancing too, is more than adequate for most portfolios. And when gold exposure is reduced to 10% and the portfolio rebalancing frequency dialed down to monthly, composite returns become nearly identical, no matter what Gold Investment is selected. The essential difference between the gold products performance as portfolio constituents lies in their volatility effect. Bullion dampened volatility better than either of the miners funds.

The takeaway from all this is that Gold Mining shares, as a class, are clearly more volatile than bullion. Sometimes, their higher risk yields compensatory rewards and sometimes not. But there’s really no reason to buy mining shares if you can’t get a diversification kicker – a higher portfolio return that justifies their higher volatility.

In sum, despite the stellar returns of junior miners in 2010, this has been a "not" year. Gold stocks just haven’t paid off as well as Gold Bullion when used as a portfolio building block.

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