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TRANSCRIPTION OF INTERVIEW - Part 2
July 20, 2002
James E. Sinclair, Chairman & CEO
Tan Range Exploration Corp.
"The Fundamentals on Gold"
... Because the gold companies, for instance, who’ve made hundreds of millions, short gold in these spreads, they claim that they can’t lose any money. You can make hundreds of millions and you can lose hundreds of millions. A gold company’s purpose is to be mining gold not playing the commodity market. If gold companies believed that the bottom hasn’t already been established in gold at 250, and that’s what you say if you don’t take your hedges off, there’s very few mines that have a lower price or total price of mining gold under $250 an ounce. Everybody jumps up and down and says, well my company says it’s 100 or 90. What you’re looking at is the cash cost of mining or what it cost right at the mine head. But, when you take all the expenses of the company and then divide it by the ounces, it goes significantly higher.
The Weakest Link
So the weakest link in the entire derivative equation is not the derivatives that are on government entities, government bonds or on securities. Certainly not the ones that are listed for clearing house funding. But it’s the gold. And to have any entity within the derivative market fail is wholly unacceptable in the psychological impact it would have on the rest of the derivative market. Now hang on to your hat. All the derivatives that exist today are estimated to be, to have a notional value of, 72 trillion dollars. That’s not gold. But gold, at 300 billion, is small. If the gold derivative was to fail, it’s possible that every other derivative up the line would have gradient pressure that could cause additional failures.
Now, there’s talk of an attempt to control the price of gold and the answer is yes, clearly there is. There’s no question about it. The same characters are always the sellers. As of late there’s been an extraordinary change in that tactic from simply offering more supply than the demand to now selling the Australian market down because nobody’s there or 2 Friday’s ago, within 10 minutes of the close, pouring gold all over the market. You see the same people selling and you see the characteristics of past selling. It’s easy to conclude and rational to assume that the last thing in the world the gold banks want is a close on gold above $354 an ounce. Why not? For the following reason: notional value becomes real value in those instruments because of a mechanism called “risk control software”.
Manipulation?
I’ve owned and operated arbitrage firms. I can tell you that you set up a certain degree of risk you’re willing to assume and then you have a program which reports to you every day, as often as you have programmed it to, what you need to do to maintain the risk of your transactions within a given parameter you’re willing to accept. So, if you were short on gold and gold began to rise, your programs would tell you to begin to buy gold. That’s what happened at $305. At $354, if you didn’t want to change your risk, you would need to have purchased every ounce of gold equal to the difference in the risk. Meaning, if you were willing to accept a 10% risk, then you’ve got to be 90% long equal to your commitment. So, risk control programs are what’s moving the gold market as of late -- both up and down -- because they work both ways. If the price goes down, it tells you to sell the gold. But at $354, there’s an impossible amount of gold that has to be purchased -- more gold than exists in all the central banks on earth. Because the notional value of the derivatives of gold, at today’s gold price and expressed in ounces, is 900 million ounces. The amount of gold held in all the central banks is less than 900, it’s 847 million. So this is the selling by the gold banks. This, by the way, is relatively legal because you don’t need an up-tick in commodities to sell and because as long as you actually sell to create a price, you can’t be considered manipulating. Manipulation, in the crime sense, is the attempt to create price without risk. But, the argument over whether that’s legal or not to do is certainly simply going to be buried in the fact that no cartel ever, either in oil or in gold or in markets, ever has been able to, over time, stop the intention of the market fundamentally in the first place.
The Mother of All Shorts
So you’re at very key points. The reason why gold has led the commodity markets is because the risk control programs factored in, the significant Asian purchasing which brought gold up to the $305 level, and keyed into risk-controlled programs as buyers which took it up to $330. So, there’s something operating in gold which has never operated in it before. That is, in terms of gold, one of the smallest trading items amongst the world trading items -- the mother of all shorts -- over 24 years production short the market. At $354, that’s a real short... and a real value... and a real challenge. It has within it the potential of establishing a new high on gold above and beyond the high of 1980. Will it occur? Hey, we’ll see. But it’s there. It’s extraordinarily real and there’s tremendous effort being expended to try and stop the price of gold from entering into and staying within the characteristics of the long-term bull market. And when the fifth fundamental finally comes into place or weakness in the general government bond market, which cyclically should occur by November, I would suggest to you that the gold derivative or the gold cartel, the gold dealer's cartel if you wish to call it that, will lose spectacularly because you can’t stop a bear market from occurring when the fundamentals demand it. And you can’t stop a bull market from occurring when the fundamentals demand it. Four out of five are sitting there right now cheering gold on.
JIM: I want to come back to an issue related to your five elements for gold and that is a turn around in the government bond market where we start seeing rising interest rates. I want to relate that to the implications of the derivative market because the overwhelming amount of derivatives are interest rate-related. Many of the same players in the gold derivative market are the same players in the interest rate-related market. We know that we have a lot of interest rate swaps. We have companies, such as General Electric, which have taken a lot of their debt and swapped it for short-term debt. I wonder if you might talk about the relationship that may have if this all starts to come unglued. In other words, you’ve got companies now that have rising cost of interest.
JAMES SINCLAIR: If I’m correct, and I believe I will be, the reason why interest rates will rise after November is the extraordinary amount of depreciating U.S. dollars invested overseas, by overseas entities, into those bonds. So the deflationists will yell, oh my goodness business is terrible. Business is horrible and therefore there’s going to be eternal low rates, in fact, eventually we’re going to pay you money to borrow. Well, it’s ignorance of the market. Because as that supply finds its way into those bonds that come in for sale, the price of the bond is not going to rise. They’ll fall. And with fixed coupons, falling, bonds mean higher rates. And when rates finally do rise, as far as they are raised by the Fed, it’s not going to be leading the market in rates. It’s simply going to be following. The crux of money is one of the key factors in this whole derivative equation. What happens when things go wrong? When it goes wrong, everything goes wrong. When the gold derivative comes under the pressure of all fundamental characteristics calling for a higher price of gold, and begins simply by the price squeeze and the demands of the risk control programs as buyers demand for more gold than exists at the same time, the interest rate characteristic of that transaction is going to turn on them as well. So, the derivative market, as a whole, but most especially the gold derivative, which could be the trigger to the derivative market as a whole, is the most delicate and dangerous criteria of today’s environment. A day when the NASDAQ index is a broken neckline of the head-and-shoulders, which is larger than what’s left to go down to zero.
JIM: So, we could have a situation where you have, let’s take a company for example, General Electric, which many people think of as an industrial company, I think General Electric is a financial company.
JAMES SINCLAIR: It is a financial company. It stopped being industrial years ago. It’s purely financial and it’s a leasing company primarily.
JIM: They have over 100 billion dollars in derivatives, if not more. A lot of which has been…
JAMES SINCLAIR: The third head-and-shoulder in General Electric broke at $30. Okay. Take a chart of Enron and lay it over GE and gasp. Now GE is a very significant company and certainly not an Enron by any matter of means. But look at, just take the chart, take Enron, then look at Enron had 3 head-and-shoulder neckline breaks before it collapsed. General Electric, technically undergirded, is in a very dangerous condition. And it’s a financial company -- a company that couldn’t stand what may happen in November. Why weren’t their earnings increasing? Why with all the good stories coming out of its new president does the company do nothing but decline?
JIM: It seems to me all of those interest rate swaps in terms of GE Capital’s cost of capital last year was a little over 3%. That, in itself, is a ticking time bomb and it’s not just General Electric. We have a lot of financial companies -- a lot of industrial companies -- have done much of the same thing to bring down their cost.
JAMES SINCLAIR: You could be at the beginning, Jim, of a major long-term transition of gold to money. What occurred today is totally historic and could be something they’ll write books about years to come. And General Electric may very well be a prime example. But I don’t disagree with you. I agree 100% with what you’re saying.
Editor's Note Friday, July 19th: Once the transcription was posted and reviewed by Mr. Sinclair for accuracy, he had some additional thoughts on GE and today's market mayhem.
"This paragraph has two thoughts in it.
The first thought deals with the transition of gold from a commodity, as it has been over the past 22 years, to currency which it may be for the next 30 years. This is a historic shift of psychological gears with implication that are more significant than even the gold crowd realizes. Gold will be a tool of economic resuscitation and currency stabilization during this period.
The second thought contained herein is the transition of GE of the '50s from a superior, well-organized and well-managed manufacturer to a money changer by the '90s, and now July 19, 2002, the downside of GE transformation. That downside is the now occurring. It is the public transition from absolute trust in paper assets, such as shares of GE and the worship of CEO like GE's past super star Jack Welch, to the realization that corporate money changing and superstar, super-PR CEOs may have been hollow businesses with no valid purpose (except fancy accounting to produce profits) with false gods as leaders after all. GE's technical chart is a duplicate of Enron's chart during the demise of Enron. That fact shocks me. Both GE is and Enron was a triple Head & Shoulders formation with triple neckline breakdowns pull backs and fall away. GE is now a Classical Case of Financial Ebola. GE is a huge hedger in the cost of money derivatives and deals with complex leasing arrangements. Is there something in that equation which is amiss? The market says there is, but maybe GE itself does not know where or how. GE and IBM are the Big Blue as key opinion makers in the psychology of the markets. Both are now defensive with GE looking technically like a technical cripple.
JIM: Let’s talk about the financial industry itself. As we have seen last year, the best performing sector was gold. Certainly this year the best performing sector was gold. And yet, on the day you and I are speaking [7/10/02], the S&P made a major change to the S&P index. They took out 7 companies, 5 of which I believe were commodity-related, such as Royal Dutch, Inco, Barrick, and Placer Dome. So, on one hand you’ve got the S&P taking out resource companies and replacing them with more financial companies and tech companies. Secondarily, you have the financial industry itself, some of the large funds like Fidelity selling off gold shares. You’ve got Vanguard, which has a small gold fund that took in $125 million in new money and closed the doors to investors. Does that make sense?
JAMES SINCLAIR: Well, let’s take them one at time. The greatest conspiracy that’s been proved to exist in oral history is the conspiracy of stupidity. So, I would suggest to you that the removal of the resource stocks from the S&P is one more example in, let’s say, the “Darwin Award” for finance. Somewhat like a self-imposed cleansing of the gene pool. It’s simply a catastrophic error when the S&P needs some help to remove those entities which could be of significant assistance. I don’t see that as anything else except catastrophic stupidity. As far as closing down a gold fund that’s bringing in money, what’s the possibility, and I think it’s high, that you wouldn’t want to market against yourself? If you’re running various other funds worth a great deal more money and all of a sudden your fund in gold starts to be, is your best performer, you’re going to start sucking huge money away from funds that, right now, have to sell stocks at outrageously low levels, in their opinion, in order to fund the cash requirement to go into the gold fund, i.e. shut down the gold fund as a part of stopping the run on your other funds. So, I say that has a high probability of being a decision of not marketing against yourself.
JIM: It almost appears on the surface as if the financial industry, and perhaps Washington, would like to keep investors corralled on one side of the road. We’ll call that financial paper assets, and they want to keep them -- the herd -- from exiting the pen and going over to the other side of the road, which is hard assets. What I guess concerns me is that recent survey’s have shown that investors, by and large, are still holding on. There’s over $3 trillion invested in equity funds. Do you think maybe that’s what they fear? Eventually, after 3 years worth of declining markets such as we have today, on the day you and I are speaking, the Dow Jones Industrial Average has fallen 283 points and we have double digit losses for the 3rd year in a row, do you think maybe the financial industry may fear what happens when that $3 trillion in equity funds decides to head for the exit gates?
JAMES SINCLAIR: Absolutely. I mean they fear. They fear for their own employment. There’s no question that all of this is put together on a constructive paper and the last thing on earth that an administration would want would be a complete abrogation of that paper or paper as a storehouse of value. I mean, currencies are psychological in nature. The dollar is the common share of the United States Incorporated and it’s decreased. So, of course they would do everything possible in order to keep their paper construct from falling apart. And, as we opened our conversation, we discussed the fact that I think they’ll burn the store before they’ll acquiesce calmly, quietly, to an inevitability of what those formations that occurred today in the general equities indicate. So, the answer to your question is yes, no question. And if you were a company man, working for the administration, without the knowledge of what we’re discussing now, you’d be looking at every tool you had to try and convince people not to have a run on the general bank.
JIM: But we know historically, whether it was the London Gold Pool of the 60’s or the government and the financial industry trying to tell people to keep their money in stocks when things were turning around in 1930, the markets, as you mentioned Jesse Livermore said, will tell us where we want to go and in the end the markets end up the winner. Do they not feel that they’re against a hopeless task?
JAMES SINCLAIR: No. They feel that it’s almost like permanent youth. Indestructible, infinite, immortal. Power is a corrupter. Not only of the individual but of the mind. And when you’re in power, you don’t even suspect for a moment you would be out of power. Do you think that the executives of these corporations now, which are probably going to spend the rest of their lives in the worst jail possible, ever, for a moment, thought that they'd get caught or that they would face what they’re facing now for what they did? In that same sense, if you were to suggest for a moment that gold would become a currency, you would be looked at as being a person of no mind whatsoever to these that now make the decisions in terms of monetary aggregates and all of the tools that they’ll use and bring in. I assure you that tonight, as earnestly as we’re discussing this, there’s discussions taking place in Washington and New York and in London and in Bonn dealing with what they will do tomorrow to prevent the meltdown. This is a crisis, Jim. We’re talking at a crisis time that is probably, in the history of finance, unprecedented, even in 1929.
JIM: I wrote a piece 2 years ago called The Perfect Financial Storm, named after the storm in 1991 where you had 3 storm fronts come together and form one of the worst storms of the century. I almost see the same thing. The storm front with the currency, the storm front with the economy and the storm front with the financial markets -- all coming together at the same time to form, as you just mentioned, what could be the worst financial storm in the world’s history. Would you go along with that?
JAMES SINCLAIR: Jim, your storm is here and the Gloucestermen will sail into the storm. They’re in it right now. And guess what, they’re trying to get up an impossible wave. The boat will be turned over and gold will save the boat. That’s the story. All of the things that we’ve discussed over the years that we’ve been involved in this, in truth, are on our plate today. You are in the storm you projected. That article is about today, not about tomorrow. It’s about today.
JIM: It may appear for some that we’re in the eye of the storm -- where all around you, there are events circling around that are much bigger than where you are at the present moment. In 1977, when gold was at $150, you were projecting $900 an ounce. Given the events of today, as we speak, where do you see gold going.
JAMES SINCLAIR: Well, you know, there’s a saying that one shouldn’t yell “fire” in a theater. I don’t want to overexcite those that are involved in the gold market because it’s, you know, there are a lot of people listening to us that may not be up to the risk. But having said that, I believe that gold is going to make a new high. I believe that gold will do what it always tries to do and that is balance the balance sheet of the United States of America. And, to balance the balance sheet of the United States of America today, gold would have to trade above $1,250 an ounce. Although I’m a trader and will make my transactions only on what the market tells me, and right now it hasn’t even told me that it will try for the $330 again, I’ll take it a step at a time -- $317…18…$329…30…$354…$380. But in my heart of hearts, what do I think technically is possible, assuming that everything I’ve said is correct, and I do assume that? $1,250 an ounce.
JIM: Is there anything on the horizon that would cause you to change your conclusions?
JAMES SINCLAIR: Sure. Certainly. Failure of the 5th criteria to enter into the fundamental positive for gold. That means the bond market remains strong and makes continuing new highs. I doubt it will occur. That would certainly make me reexamine. All 5 fundamentals must be in. You have 4. I believe you’ll have 5. And I believe it should occur by November of this year. If that doesn’t occur, yes, I’ll re-question my conclusions. But, most of all, the market’s going to tell me what to do, not me tell the market what to do. I firmly believe that the gold investor who sells into strength and purchases systematically in the decline, remaining always long -- but doesn’t just sit and pray for it -- will end up very successful having used caution.
JIM: So are you suggesting trading this market?
JAMES SINCLAIR: Absolutely. I don’t think there’s a market on earth that shouldn’t be traded.
JIM: What would you tell people, if you were to give somebody advice, knowing what you know today? Let’s say somebody has money in a 401k plan at work in the company stock or they're invested in stock funds. Would you tell them to get completely out, to get liquid? To get a portion of that in gold?
JAMES SINCLAIR: You’ve got to have money now, Jim. You’ve got to have cash, okay? If you don’t have cash, you’re in trouble. And you should lay in as much cash -- to the listener, now, who wants to protect themselves -- make sure you can pay the mortgage and you can meet the obligations. Get rid of any obligations you can get rid of. But, if you have to choose, build up the cash position and hold it high until this thing defines itself. It’s extremely dangerous tonight.
JIM: All right. Mr. Sinclair, you’ve been very generous of your time with me today. I want to thank you for joining us on the program and if you want to give out your website, the name of your company or how people can read more of what you write. I know Financial Sense carries your editorial column on our website and a Q&A section along with your commentary.
JAMES SINCLAIR: I’m Chairman of the Board and CEO of Tan Range. It’s www.tanrange.com and I can be contacted there and I’ll answer any questions that any listener sends to me. Just give me a little time to get back.
JIM: All right. Once again, thank you for joining us on the program and I wish you all the best, sir.
JAMES SINCLAIR: Well thank you for the compliment of having me. |
