The death knell

Richard Russell snippet
Dow Theory Letters
May 4, 2010

May 4, 2010-- Quote of the month: Warren Buffett testifying about Goldman Sachs before the SEC:

By the way, in 2008 Berkshire made an investment of $54 billion in Goldman Sachs' preferred shares. As far as I know, Berkshire still owns those shares.

Chart of the week. I may be jumping the gun a bit in calling the chart below the "chart of the week." This is the ratio of gold to gold mining stocks or GDX to GLD. As the main trendline declines, it's telling us that GLD (bullion) was out-performing the mining companies (GDX). But over the last few days GDX has surged out of the channel, meaning that the mines have suddenly begun to out-perform bullion.

This is bullish for the whole world of gold, since the mining stocks tend to be very sensitive to the trend of gold. The expenses of the mines are "relatively" stable so when their product (gold) increases in price, the profits of the mines tend to expand by a multiple of the increase of the price of gold. When investors believe that gold is headed higher, they will buy the mines in anticipation of higher prices for both gold and the mining stocks. Thus, the recent breakout in favor of the gold mining shares is bullish for both gold and the gold mining stocks.

I want to make one thesis clear. Up until recently, gold moved inversely to the dollar. If the dollar was weak, gold rallied, and vice versa. But I believe that has changed. With the mess in Greece and other European nations (Portugal, Spain, Italy, Ireland), suspicion is rising about ALL fiat money. Increasingly, gold is considered the ONLY safe money (probably along with diamonds and famous works of art). The most stable intrinsic wealth is gold because it is priced around the world every hour of the day, and it can be sold immediately in any quantity, making it completely liquid.

As I see it, a great drama is unfolding. What we are seeing is the slow, steady decline of the greatest fraud ever perpetrated on the people of the world. The fraud I am referring to is fiat money. This is the so-called "money" created by the central banks. Fiat (non-intrinsic) money can be created at will by a central bank via a computer.

You work all your life to make a total of $900,000. The Fed, with no work or sweat on its part, can create a billion or 10 billion fiat dollars at will. Is that logical or moral? It allows politicians to spend whatever they want, and the bills are paid for in fiat money. The result is that many nations have spent far more than they ever should have, and oceans of fiat money have swept across the planet.

If you continue to produce an over-supply of an item, ultimately that item will become progressively less valuable. This is what's happening to fiat money. As fiat money, all of it, loses value, it takes an increasing amount of a given fiat currency to buy an ounce of gold.

As economies sink, governments create an increasing amount of fiat money in an effort to jump-start their sinking economies. Thus, what we are seeing is the perfect formula for the death of fiat money. But before death, the value (purchasing power) of a given fiat money must head down.

Therefore, I view rising gold as the death knell for all fiat money. But first, investors will exit the weakest and most speculative of the various fiat monies. Right now we are seeing investors fleeing Greek money in favor of the US dollar. In the end, I believe this is a fool's trade. Ultimately, we'll see the final flight to safety. This will be the flight out of dollars into gold.

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Richard Russell
website: Dow Theory Letters
email: Dow Theory Letters
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