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Markets: Giddy-up to Gold
New York: November 26, 2007
By John R. Stephenson

So what's an honest investor to do? Just when you think it's safe to dip your toe back into the stock market, another financial meltdown occurs, sending investors running for cover. Base metals are down, led by zinc. Financials are imploding and talk on the street is about a U.S. recession rather than a recovery. Volatility is way up on the market and no one is enthusiastic about putting new money to work. So is it time to hit the bottle?

Perhaps! The U.S. subprime housing debacle is nowhere near over. In fact, the worst may be just around the corner as it becomes obvious that the whole mortgage market in the U.S. may be a little suspect. No one trusts the balance sheets of banks or other financial services companies and with changes to U.S. accounting standards (FASB 157) coming into effect, it will likely get worse before it gets better.

Not only that, but the stock charts of Freddie Mac and Fannie Mae, the so-called "agencies" whose debt was once thought to be as secure as that of U.S. treasuries, looks positively sickly. If these stock charts are a proxy for the health of the U.S. government, then it is time to call in a priest to administer the last rites.

Figure 1: Fannie Flat-lines!

Yikes! The total market capitalization of global banks is shrinking because investors no longer have confidence in the financial statements of these firms since the write-downs of asset-backed commercial paper continue at a torrid clip. This is turning out to be a financial crisis unlike any we have witnessed before.

Never before has the global economy been balancing on the head of a pin because of an implosion in the U.S. mortgage market. Nope, this is very different. In the past, it was problems associated with the debt of some banana republic that sent us over the edge. Or maybe it was corporate debt that spun out of control, but this is the first time that the portion of the fixed income market that was deemed the safest has actually been the riskiest. No wonder people are suspicious of the Wall Street Wizards who created this toxic sludge and peddled it shamelessly around the globe!

Investors should avoid the U.S. stock market for now! The U.S. will likely continue its slide towards recession taking you, the currency and your U.S.-based portfolio with it. But while it looks like a sell-off on the U.S. stock exchanges is inevitable and a slowing economy is to be expected, the economic malaise will be shorter-lived and more concentrated (Wall Street) than in previous downturns.

Unlike previous recessions that have ended in massive unemployment and inventory write-downs, the conditions for that just aren't there. Employment remains tight with workers becoming an increasingly valuable commodity now that the demographic bulge has worked its way through the system. Inventories, what inventories? There simply is nothing left to write-down, meaning that the pain will be felt mainly on Wall Street rather than Main Street. At least there is some justice in the world!

So what looks good? Stocks levered to gold production would be one smart place to start. Why? The conditions couldn't be better for an investment in the producers of gold.

For starters, the U.S. dollar is sure to slide further, which is a boon for all commodities and gold in particular. Not only that, but as the U.S. economy begins its slide and the Federal Reserve tries to right the ship by lowering interest rates, investors will flock to defensive names. Boring old utilities and consumer staples will all of a sudden look like a bargain.

Not only that, but the forward earnings on gold stocks are in the 15x range versus the S&P, which is trading at 18x range, making gold stocks even more attractive and defensive investments. Not only that, but costs are unlikely to rise as fast as revenues meaning there is likely an expansion of earnings (and possibly the multiple) as we may have entered into an exponential phase of growth for these mining companies as revenues begin to greatly outstrip costs.

For savvy investors who have been willing to bet on real assets, your time is now. The buccaneers who profited in the past from the stellar growth of U.S. financials are about to get slaughtered. The new, new thing is something old. Gold, the fourth currency in the world (after the Dollar, Yen and Euro) is once again ready to start its ascent.


StephensonFiles is a division of Stephenson & Company Inc. an investment research and asset management firm which publishes research reports and commentary from time to time on securities and trends in the marketplace. The opinions and information contained herein are based upon sources which we believe to be reliable, but Stephenson & Company makes no representation as to their timeliness, accuracy or completeness. Mr. Stephenson writes a regular commentary on the markets and individual securities and the opinions expressed in this commentary are his own. This report is not an offer to sell or a solicitation of an offer to buy any security. Nothing in this article constitutes individual investment, legal or tax advice. Investments involve risk and an investor may incur profits and losses. We, our affiliates, and any officer, director or stockholder or any member of their families may have a position in and may from time to time purchase or sell any securities discussed in our articles. At the time of writing this article, Mr. Stephenson may or may not have had an investment position in the securities mentioned in this article
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