"All the perplexities, confusion and distress in America arise not from the defects in their constitution or confederation, not from want of honor or virtue, so much as from downright ignorance of the nature of coin, credit and circulation."
John Quincy Adams

After the wildly enthusiastic response to my piece last week (on selling your gold jewelry) I thought I'd look at what you should do with your new-found cash.

Potential-investor folk, while pausing from watching people on television singing and dancing, have noticed that the share prices of gold miners have risen. This 'price-rising phenomenon' is normal, and generally happens in gigantic secular bull markets that have lasted for over nine years… It's nothing to be worried about. Take a few deep breaths. Watch some soccer.

Having finally noticed a bull market of some duration, investors usually stab themselves, and then ask if they should still invest. Take more deep breaths, this gold bull is far from over. (Not sure about the rise of fine wine though…)

Why should gold continue to rise in price? First of all, bull markets continue because of supply demand imbalances. People outside the U.S. are buying gold like crazy. Supply is stuck at 2500 tonnes a year. Scrap is up, but not enough.

And secondly, none of our titanic economic problems have been fixed. Unemployment continues, dissipating 33 of our 50 state unemployment funds: http://money.cnn.com/2010/04/08/news/economy/state_funds_jobless_benefits/index.htm?eref=googletoolbar The real estate bubble continues to deflate, sinking home prices, sales, and building permits. Fannie Mae and Freddie Mac continue to need gobs of money just to stay alive. Bonds and CDs yield nothing. The stock market has been flat for a decade. Our arrogant American empire continues to throw money at unwinnable wars. Our banking system is mostly insolvent, because over 60% of their capital was loaned out for real estate, and now we have a oil spill that will ruin most of the Gulf coast, throwing businesses, homeowners, and struggling state governments into poverty. Big Uncle Brother Sam is printing money 24/7, which continues to undermine (pun intended) gold's only competition, the dollar. The only good employment news is with census takers and Homeland Security security guards. Investors are stumbling around asking, "What the hell can I buy?"

HEY, THERE ARE LITTLE MINING COMPANIES OUT THERE!

What's working is commodities, driven by growth in places like China, Brazil and India. And gold is the king of commodities; silver the queen. Yes, you should start with PM coins and a gold fund or two, but if you've done that and are getting aggressive, find a miner that's growing, and ask a lot of questions:

1. Dude, where's my project? Where are the company's projects located? A huge downside risk in mining is political seizure. The gold has all been mined from the pleasant, politically friendly jurisdictions, and mining companies now have to visit lousy locations to prospect for gold. Those jurisdictions are usually lousy for a reason. Newmont Mining Corp. (NEM) got a mine taken away in Kazakhstan a couple of years ago. Nevsun Resources (NSU) suffered a long shut- down in Eritrea by government thugs . Most recently, the risk of nationalization was demo'd by Venezuela's Presidente Chavez who snatched Crystallex (KRY). Seizure is the death penalty for miners today, AND the miners face extra taxation (Australia's 40% Super Profits Tax) which may bring about the same result.

So try and play in a dictator-free sandbox. (Don't look so smug there, Americans.) Look for Canadian companies that have ops primarily in Canada and the U.S. Mexico (so far) is also Ok. There are problems in Venezuela and South America, as well as in Russia, and certain parts of Asia. Africa is okay only if you like operating difficulties, exotic diseases, and additional dictators with a taste for Swiss bank accounts. You just won't make any money in political kleptocracies. The locals will somehow, some way, screw you out of most of it.

2. How close is the miner to actual production? The mining sector is basically divided into explorers, developers and producers. Junior explorers are like a long-shot horse running at triple-digit odds at your local track. It's going to take a horse trailer full of luck for you to collect at the pay window. It can happen though; I bought Miramar Mining for a buck a share and Newmont bought me out for $6. (Don't ask about the other nags I've thrown money at. I go to meetings for my affliction.) Geologist Mickey Fulp also appreciates good junior mining stocks.

Some junior explorers to consider today are U.S. Gold Corporation (UXG) Rob McEwen in Nevada, and Romarco (RTRAF) drilling in Mexico and North Carolina.

The big downside for an explorer is bad drill results, i.e., no metal. The other risk is Junior finds something, but deposit isn't economically recoverable. "Ore" is a deposit that is economically viable. NovaGold Resources, Inc. (NG), found a giant pile of gold in Alaska which is covered in sulfides and involves ugly mining and refining costs. The project is now suspended, and the company's stock has crawled away and died. (You want gold to be surrounded by oxide dirt rather than sulphides. And Oxide deposit is heap leachable, which is cheap. Sulphides require an autoclave and heavy money for complicated refinery operations.)

The least risky non-production company is a developer. They've got drill results showing a viable, economic ore body, and they're slogging through the necessary steps for funding, building, permitting, hiring, and start-up, etc. The development process is almost always more time consuming and costly than the ever-optimistic PR department says it will be. The average time it takes to pour a bar of something precious from a mine is 10 years after somebody found it. At present, Golden Queen (GQMNF) is "close" to finishing its gold project near Bakersfield, and European Goldfields (EGFDF) is "nearing" a start-up for its gold project in Greece.

3. Is the company profitable? Some geo-politically safe producers that are probably still underpriced as of this writing include Minefinders (MFN) and Northgate (NXG). Hecla Mining Company (HL) has high priced mines and is making money now that silver is above $18 an ounce. As I've recommended before, look at the Sample Letter at www.goldstockanalyst.com. Letter writer, John Doody has said that of 300 publicly-traded mining companies, there may only be 30 worth buying. You're going to have to kiss a lot of frogs to find that Prince or Princess. Keep a hankie handy to wipe off frog slop.

4. Does the company have money in the bank? Miners who are not generating cash must sell stock or borrow money from the capital markets. Developing, drilling and exploring are capital-intensive activities, and require regular infusions of cash. The financial meltdown of 2008-2009 really hammered the junior mining sector. Investigate before you invest.

5. Is this company a takeover candidate? Finally, there are take-out dreams. Yes, as the mining industry gathers momentum, M & A will heat up. Most companies making an acquisition will typically do a stock deal, which will be dilutive to the acquiror, but great for the acquiree. You want to own the latter.

Likely acquiror companies would be North American majors such as Newmont Mining (NEM), Goldcorp (GG), and Yamana Gold (AUY). Institutional investors have been buying the big guys already, and their shares are probably fairly priced. In the next few years though, the gold bull will make some serious money for serious investors in juniors.

But if you've a hankering for junior miners, but don't want the individual stock risk, take a look at the Junior Miners Index (GDXJ). Inspired by Rob McEwen of GoldCorp fame, it's an ETF that includes 40 juniors and intermediates.

FF owns developers GQMNF, EGFDF and profitable companies MFN, NXG, HL, GG, AUY, also GDXJ. He wishes he'd never heard of Crystallex.

They didn't call him "Tricky Dick" for nothing.  In 1971, Nixon said, "For folks buying American cars, your dollar is worth just as much as it ever was."
(For folks buying foreign cars or buying oil to run their cars, not so much.)

He said Gold-dollar convertibility was "temporarily" suspended.
(39 years of temporariness so far, and counting…)

He called for a New Bretton Woods agreement.
(Attendees must still be looking for a place to meet?)

And he said, "The dollar is never to be held hostage."
(Congress just raised the debt limit to $14 trillion, and will put the dollar out of its hostage misery by killing it.)

I lost count of the other misstatements in this little temporary "closing the gold window" message.

“I’m not worried about the return ON my money. It’s the return OF my money I’m worried about.”
—Will Rogers

The following is reprinted from http://www.zerohedge.com/ by way  of www.lemetropolecafe.com on Jan 27, 2010:

"Suspending Money Market Redemptions Is Now Legal; SEC Approves New Money Market Regulation In 4-1 Vote.”
Zero Hedge discussed a month ago the disastrous prospects of what would happen if the new proposal contemplated by the SEC, which would allow the suspension of redemptions from Money Market Funds, were to pass. Well, in a nearly unanimous vote, Money Market Funds now have the ability to suspend redemptions, courtesy of the SEC's just passed 4-1 vote. This explains the negative rate on bills: at this point, should there be another meltdown, money market investors will not, repeat not, be able to withdraw their money purely on the whim of Mary Schapiro. As the SEC noted: "We understand that suspending redemptions may impose hardships on investors who rely on their ability to redeem shares." Too bad investors' hardships considerations ended up being completely irrelevant.

Anyone who sees this regulation and feels safe leaving their money in money market funds needs to have their head examined.
The "intent"of this SEC rule is obviously to prevent a "run" on money market funds when the next crisis hits. And the passage of such a regulation signals the high probability of such a crisis happening.

As alluded to in the post, the rate on 1-month T-bills has gone negative today.

More on Got Money Market? Too Bad.

"Martin Pring is considered the James Bond of technical analysis…someone really good. I have a couple of his very expensive books. And the man is talking about gold as of August 2009!"

"Here's one man's contrary view of green shoots…with altitude.
Or, a possible consumer mortgage/credit card recovery…NOT -
Karl Denninger at www.321gold.com , on Sept 10, 2009.
The stirring music (Tchaikovsky's 1812 Overture) is Russian,
(They had some trouble with their economy a while ago, didn't they?)
The rocket is American. I'm sure we'll be fine. Fine I tell you."

Huh?  In 1965, our government took silver out of our coinage, and told Americans  NOT to buy it.  Hmmm, with silver trading almost $35 below where it traded in 1980, perhaps it would be a good idea to follow the recommendation of the Chinese media.  The Chinese were on a silver coinage standard for centuries…  Re-education anyone?

Dear Fellow Investor:

I still wear the harbinger of doom mantle here…the only "green shoots" I see out there are wads of Wall Street's hundred dollar bills being stuffed into our Congress persons' pockets…

And now Congress is going off on vacation to spend some of it…

Anyway, for those of you who have some vague dream of picking up a couple of houses, and having them appreciate in value, I offer up this comment from www.lemetropolecafe.com, by a guy named Mark Lundeen.  I was thinking of crashing into the RE world myself…but I'm going to sit in apartmentland a while longer.  (If you own a home, and it's paid off, just hang in there.)

(And I'm going to change that little Wall Street ditty, "When rates are low, stocks will grow.  When rates are high, stocks will die."

It can also read:  "When mortgage rates are low, property will grow.  When mortgage rates go high, house prices will die.")  And higher rates is a comin'.

Article posted July 31, 2009.

"Has Real Estate Bottomed?  Not Yet!
People think in herds.  Once an idea becomes accepted dogma of the masses, one loses friends if he argues against it.  One dogmatic perception that really bothers me is, when someone signs on the dotted line at a home closing they become a “homeowner.”  Unless the new house was purchased with cash, this is not true.

What actually occurs at a home closing, is someone takes on a mortgage that allows them to occupy the collateral, as long as they make the payments to the bank.   People usually don’t know what they are actually purchasing when they sign on the bottom line: money, at a certain rate, for so many years, with the house as collateral.

In my mind, there is a big difference between a homeowner and someone who has the right of occupation by servicing a mortgage.  This distinction is becoming widely recognized by many former “homeowners” who “purchased” their houses from 2000-07.

The unspoken truth of the real estate market is it’s actually a market of mortgages.  The practical differences are huge.  In any market, other than the real estate market, the market functions as a price discovery mechanism for that market’s producers and consumers.  However, in the real estate market, the actual price of a house is only a secondary consideration.  The prime consideration in the mortgage market is the ability of the “homeowner” to make monthly payments for 30 years.

The chart below shows the history of US mortgage rates from 1964 to 2009.  Interest rates have a huge effect upon the valuation of real estate.

To see interest rates’ impact upon housing valuations, I’ve created a “what if” table below, using a constant monthly payment, at the peak and bottom mortgage rates in the chart above.  It’s very informative to see the effects of interest rates on the size of the mortgage.

House Valuation with a Constant Monthly Payment

At 18.63% & 4.00% Interest Rates

* House Valuation Assumes no Money Down Mortgage.  Such Mortgages were rare in 1981, and too Frequent from 2000 to 2007.

Two facts should be noted in this table:

1. Financing by debt, has “Homebuyers” pay as much or more in Interest to the Bank than for Labor and Materials for the Actual Home Construction.

2.  Actual Home Values, are tied to the Bond Market.  When US Treasury Bond Yields rise, Home Values will decline.

Graphic by Mark J Lundeen

It’s a point of interest that both the purchaser of the $92.5K & the purchaser of the $300K home (possibly the same house, 28 years later) paid about the same for their mortgage when interest payments are taken into consideration.  But then both mortgages have their “homeowners” pay $1400 a month for 30 years, so this is not surprising.  But people don’t think of details like this, even if bankers do.  This does not make bankers evil, but illustrates the poor quality of practical economic education Americans receive from their high schools and colleges.

We all understand there are many variables bankers and their clients have to deal with that my little “what if” table completely ignores.  Still, the table reveals truths about the real estate market.

One truth concerning the real estate market is the past bull market was primarily a function of the decline in interest rates from 1981 to 2009.  But exactly what kind of bull market was it?  In the table above, did the house’s valuation rise from $92.5K to $300K?  Or did interest rates falling from 18% down to 4% that qualify a client, with the ability to make a $1,400 a monthly payment, for a larger mortgage?  I think the answer to that question is very obvious; the real estate market’s rise in valuation was the result of a bull market in debt from 1980 to 2009.  And what the debt market gave “home owners”, the debt market will take away when interest rates once again rise.  Yes, I’m talking about home valuations.

Can we use my “what if” table to predict future home valuations in an increasing interest rate environment?  Due to the formerly mentioned “many variables bankers and their clients have to deal with, I think not.

An unfortunate fact the real estate market’s participants must deal with in the future is that Congress expanded the Federal Government’s involvement in the real estate market in 1999.   That is never a good thing.  The Federal Government’s mandate of lowering of credit standards not only resulted in the financial ruin of many of the intended beneficiaries of “affordable housing”, but created a financial False Vacuum in the mortgage market that broke in 2007.

For your information, False Vacuums are a Quantum Mechanics' concept of a universal-apocalyptic readjustment where all the laws of physics change. In other words; after the False Vacuum breaks, what was once before can no longer be.
The False Vacuum (an impossible-to-sustain situation) was created by legislation forcing the banking system to loan billions of dollars, at government subsidized rates, in 30 year mortgages, to America’s habitual credit deadbeats.  Congress then had Fanny Mae, Freddy Mac, as well as Wall Street, bundle these mortgages for sale to fiduciaries of other people’s money worldwide.  From 1999 to 2006, the False Vacuum held, as the world of high finance fell in love with “AAA-Rated, US Agency Debt.”  But the False Vacuum broke in 2007, when “AAA-rated Agency Paper” became synonymous with loosing all of your money.  The world has lost its faith in the American Debt markets.  So for the US mortgage market, what was once before in 2007, can no longer be.

The consequences of Congress’s breaking its False Vacuum in the mortgage market will have profound future implications in America’s real estate market.  One of the results of the fallout from the credit crisis is the shrinking pool of qualified buyers.  With an expanding volume of homes being placed in the market due to mortgage defaults, great downward pressure on home valuation is applied to the housing market.  A growing number of mortgage defaulters are former good credits whose only fault is becoming unemployed in a bad economy.  But, as the current credit standards have it, these unfortunate bankrupts are now disqualified for mortgage financing for many years to come.

Another consequence of the False Vacuum’s breaking is, the international market in US Agency Debt has lost much of its liquidity.   This will greatly reduce the ability of Fannie and Freddie to purchase mortgages from mortgage originators, as their ability to sell them is now greatly limited.  Recent experiences with American mortgagers have traumatized fiduciaries worldwide.  This creates a situation where banks in the future will have to use the mortgages they write for their own reserves, as they will not be able to sell them as in the past.

But banks have never liked holding long term mortgage paper, which is why FDR created Fannie Mae and the Savings and Loan industry in the 1930s.  Congress can force banks to do ill-conceived things in the credit markets.  But Congressman Frank writing another chapter in the tale of woe, he and other American politicians inflicted upon the free markets in past decades, will not rekindle the bubble psychology in the housing market.

The future of the government-subsidized 30-year mortgage is grim when one considers:
1.     the inevitability of rising interest rates
2.     the damage done to individual credit standings of a broad segment of society by the recent housing bubble
3.     today’s huge inventory of unsold homes, as well as homes held by banks in foreclosure proceedings, or homes not yet released into foreclosure proceedings.
4.     the impairment of the private mortgage company financing network

I expect housing valuation to deflate to levels not believable today.  It’s a case of rising interest rates, a shrinking pool of qualified purchasers, too many houses for sale, and a greatly impaired financing system.  It will be this way for many years to come.

Mark J Lundeen
31 July 2009
mlundeen2@Comcast.net

Sad to say, I think the uptick in hopes for Mr. CFTC Gensler to do the right thing in imposing "position limits" on commodities including gold and silver is misplaced. You have to understand the criminal conspiratorial mind. Position limits will probably be imposed, but their purpose is much different than currently suggested.

Mr. Gensler feels the need to impose position limits because he's worried that the Chinese or the Russkies might swoop in to the Crimex metal pits, buy a lot of contracts, and request actual physical delivery. This would ruin the game for Gensler's Wall Street buddies. (The darn Asians might even object to the hokey ETF physical delivery and do something unkind like sue for specific performance.) So Da Boyz have to move out in front of this problem and change the rules pre-emptively.

There will be position limits imposed - against commodity funds and other amateurs trying to play in the Crimex sandbox…but there will of course be exemptions for "qualifying financial institutions" or some such, like JPM and HSBC. I mean, come on, the whole Crimex barnyard game is for insiders to make a lot of money while helping out Big Uncle Brother Sam. Let's not let little things like ethics or honesty or lack of precious metals in the vault take the fun out of it. Call it rule making for the rubes. Roll printing presses, roll. Yeeeehaaa…