Will Gold Shares Follow Common Stocks Lower? A Historical Perspective Dr Richard S. Appel March 18, 2004 There has been much concern expressed surrounding the possibility that the junior and major gold companies will move lower during a serious stock market decline. This is troubling for those who believe as I do that gold and silver are fated for substantially higher prices. If my thesis is correct and one invests in gold equities to benefit from the leverage that they offer, even while the gold price advances they may suffer if gold stocks follow a downward spiral in equities. This overriding fear has created much concern amongst gold stockholders and has placed downward pressure on gold stocks. We have heard that when the Bear Market decline resumes investors will differentiate little between common stocks and gold equities. Those who present this scenario view the decline as being a general flight from common shares when people realize that the Bear Market has not ended. If they are correct, today's investors will literally "throw the baby out with the bath water." They will liquidate their gold shares just as they would any other stocks, as they run from all stock ownership. Others believe that gold companies will initially decline with the resumption of the equity Bear Market, but will later separate and offer some strength while the balance of common stocks continue to fall. Their premise initially revolves around that held by the former group. However, this faction differs in their outcome because they believe that gold will be sought as a safe haven and will rise in price and carry gold stocks with it. With this as with the majority of explanations offered, the authors are not as confident that the gold shares will perform well under these circumstances. This is due to the fact that in the end gold stocks only represent ownership of gold mines and not the real thing, which is gold. A problem arises when attempting to address the likely price movement of gold equities with a general market decline. This results because it is impossible to predict the time and slope of the approaching Bear Market decline. We may be presented with a virtual collapse in equities where stocks cascade sharply lower. We might experience a relatively "controlled" fall where common shares essentially erode in price over an extended timeframe. Or, we may face a combination of both market actions. As you can already see there are a variety of possibilities for the future downward course of common stocks. This makes a simple description of its likely effect upon gold stocks difficult to intelligently anticipate let alone to protect oneself from or to profit from. Fortunately, a look at the past might shed some light upon the future, and may help us better prepare ourselves for its arrival. To me, the best precedent for comparison occurred during the great gold Bull Market of the 1970's. During this era, gold rose early in the decade from $35 to its ultimate peak of $875 an ounce in February, 1980. Further, common stocks began the decade in a significant Bull Market only to suffer a severe Bear Market. This was followed by the inception of the greatest Bull Market that this nation has ever witnessed, which continued beyond the end of that decade and ended in 1999. One could compare the reaction of gold stocks during the great Stock Market Crash 1929 and its aftermath. However, a different set of circumstances prevailed during that era: 1. There were paltry few gold equities available that investors could purchase; today there are hundreds if not thousands, 2. Both the government and the Federal Reserve had far less understanding and apparent willingness to influence the markets to prevent economic hardship; today they covertly intervene and actively manage the markets which will ultimately severely influence all stocks, 3. That era's investing public had an understanding of gold's position in the business and financial world because gold was not only used to back the dollar but was utilized in legal contracts; today's investors shun gold and gold stocks and are convinced that gold is essentially only useful for jewelry, and 4. With all other prices declining, the yellow metal actually rose; today it remains to be seen if inflation and/or deflation are in our future. For these reasons, I believe that the relationship between common and gold equities during that period cannot be compared with that which today exists. However, for completeness, I believe that a brief synopsis of how gold stocks fared during the Great Crash and the following years is important. When common stocks first declined following the October 1929 crash, the few available listed gold shares followed closely behind. However, shortly after the initial price collapse, while equities first rallied and later resumed their Bear Market, gold stocks separated from common stocks and posted substantial price advances. You have likely heard the history of Homestake Mines' stock price performance during that decade; it rose from a low in the $50 range to over $500 a share during the 1930's. That time it was truly different! The primary reason for this extraordinary event was the devaluation of the dollar. Prior to early 1934, gold had a fixed price of $20.67 an ounce. In 1934, President Roosevelt devalued the dollar by officially increasing the gold price to $35 an ounce. This presented Homestake and the few other domestic gold producers with an incredible 70% windfall profit on their gold production, a guaranteed price, and a willing customer (the U.S. government), while the general economy suffered from a depression and generally falling prices. Additionally, Homestake's production costs actually declined while the economy floundered and the unemployment lines swelled. As stated earlier, I believe that in attempting to predict the fashion in which gold equities will react to a common stock Bear Market, the 1973 to1974 period offers the best historical comparison. Further, to my mind, studying it will likely give us much insight into what may lie ahead. Gold's secular Bull Market spanned the entire decade of the1970's. Equities on the other hand began the decade in a Bull Market. This was followed by a Bear Market collapse to its nadir in December, 1974, and the emergence of a 25 year secular Bull Market. January, 1973, witnessed the peak of the prevailing Bull Market in equities. The Dow Industrials had surged to about 1050 before the bear took control. The ensuing nearly two years saw the Industrials enter a period of unrelenting widespread declines. By the time that the Bear Market ended many second tier stocks lost upwards of 80% of their former prices and the Dow had plummeted to 577. Day after day, week after week, the bear pummeled common stocks. It was seldom referred to as a collapse until after it was over. This was because there were few steep declines and then as now, hope sprung eternal. Rather, the relentless, unending price markdowns mounted until the remaining earlier bullish investors sold their shares for whatever the market would offer them. By the time that the Bear Market had ended in late1974, the majority of earlier stockholders vowed to never again purchase common stocks. Gold on the other hand was proceeding in its Bull Market. As I recall, when the Dow Industrials topped in early 1973, gold was trading in the low $100 range. Similarly, the gold producers had already substantially risen from their earlier spring1972 lows. This was when gold was trading below $50 an ounce. During the following nearly two years the Dow lost over 40% of its value. The yellow metal on the other hand rose in fits and spurts and posted a temporary peak of $200 at the end of December, 1974. It then suffered its first major Bull Market setback. Despite the equity Bear Market which devastated common shares during the 1973-1974 period, gold was posting repeated new highs. The effect of the rising gold price upon the profits of the gold producers acted to spare them from the great declines suffered by other stocks, and carried them to continuously higher prices. In effect, their price movement was diametrically opposed to that of common stocks. It was only the decline in gold from the $200 level that generated a serious secondary correction in gold equities. This began a day or two before January 1, 1975, the day Americans were again allowed to own gold. The terrifying correction ensued until the noble metal posted its low at $103 in the summer of 1976. The gold shares had touched their nadirs a few months earlier. From those low points gold and the gold shares rose to spectacular highs in February, 1980. Interestingly, during this latter rise of the gold complex, common stocks simultaneously advanced during the early stages of what was to become the greatest equities Bull Market in U.S. history. I believe that barring a systemic financial maelstrom, when gold equities will be shunned along with all paper assets, it is likely that gold shares will only periodically mirror the fall of common stocks when their Bear Market resumes. If gold continues to move higher, in what I am confident is a secular Bull Market that will one day leave most onlookers in awe, the gold shares will perform in a similar fashion with which they did during the 1970's. In essence they will essentially mirror the rises and falls of the gold price. There will be periods when either gold or the gold stocks will move higher and the other will hesitate. However, in the end, the price movement in both the junior and major gold stocks will be far more influenced by the price action of the yellow metal, than that of either the Dow Industrials or of common stocks in general. Dr Richard Appel Financial Insights I publish Financial Insights. It is a monthly newsletter in which I discuss gold, the financial markets, as well as various junior resource stocks that I believe offer great price appreciation potential. Please visit my website www.financialinsights.org where you will be able to view previous issues of Financial Insights, as well as the companies that I am presently following. You will also be able to learn about me and about a special subscription offer. CAVEAT I expect to have positions in many of the stocks that I discuss in these letters, and I will always disclose them to you. In essence, I will be putting my money where my mouth is! However, if this troubles you please avoid those that I own! I will attempt wherever possible, to offer stocks that I believe will allow my subscribers to participate without unduly affecting the stock price. It is my desire for my subscribers to purchase their stock as cheaply as possible. I would also suggest to beginning purchasers of these stocks, the following: always place limit orders when making purchases. If you don't, you run the risk of paying too much because you may inadvertently and unnecessarily raise the price. It may take a little patience, but in the long run you will save yourself a significant sum of money. In order to have a chance for success in this market, you must spread your risk among several companies. To that end, you should divide your available risk money into equal increments. These are all specula-tions! Never invest any money in these stocks that you could not afford to lose all of. Please call the companies regularly. They are controlling your investments. FINANCIAL INSIGHTS is written and published by Dr. Richard Appel and is made available for informational purposes only. Dr. Appel pledges to disclose if he directly or indirectly has a position in any of the securities mentioned. He will make every effort to obtain information from sources believed to be reliable, but its accuracy and completeness cannot be guaranteed. Dr. Appel encourages your letters and emails, but cannot respond personally. Be assured that all letters will be read and considered for response in future letters. It is in your best interest to contact any company in which you consider investing, regarding their financial statements and corporate information. Further, you should thoroughly research and consult with a professional investment advisor before making any equity investments. Use of any information contained herein is at the risk of the reader without responsibility on our part. Past performance does not guarantee future results. Dr. Appel does not purport to offer personalized investment advice and is not a registered investment advisor. The information herein may contain forward-looking information within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. In accordance with the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, the statements contained herein that look forward in time, which include everything other than historical information, involve risks and uncertainties that may affect the company's actual results of operations. © 2004 by Dr. Richard S. Appel. All rights are reserved. Parts of the above may be reproduced in context, for inclusion in other publications if the publisher's name and address are also included for credit. _______________ 321gold Inc