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March 2008 Vol. XVI No. 3

Paradox Or New Paradigm ?

It’s an arduous, if not impossible task to reconcile the trends that are emerging. On a daily basis you are hit with a barrage of bad news emanating, it seems from every possible direction. The ongoing credit crisis, a weakening economy, rapidly rising energy prices, and the traditional safe haven of the US dollar, giving way to hard assets as an alternative store of value.

Just last week we saw crude oil trade above $105 per barrel; gold getting closer to $1,000 per troy ounce; copper back to $4.00 per pound, while the dollar sank to new lows against the Euro. At what point do we say the markets have gone too far and a correction is in order? Obviously there is no answer to that question, however history tells us that markets are cyclical in nature and that periods of excess will be followed by bouts of contraction. And this is true of all markets – be it equities, commodities, currencies, or real estate.

Gold is an excellent case in point. In January 1980, gold rose to a record high $875 driven primarily by an inflationary environment coupled with international political instability that was exacerbated by extraordinary speculative trading. On a monthly average basis, the high was posted at $676 in September 1980.

Less than two years later the Spot price fell to $300, with the monthly average coming in at $315 in June 1982, off $360, or 53% from the high. Over the subsequent years, gold prices ebbed and flowed in response to a litany of political, economic and financial events, but the overall trend was down as the price fell to a low of $256 in July 1999. Interestingly, at that time, the prevailing view was that gold had lost its status as a store of value due in large part to Central Banks selling their reserves.

Since then, of course, we have seen gold rise to record highs as February 2008 averaged $925.11, up almost $770, or 260% from the low of eight years ago. There is little point is attempting to guess how high the price may go, or what factors will drive it there, beyond the expectation of still higher prices, but make no mistake, speculative trading will be a key element in the equation and will add significant risk as well as volatility along the way, both to the upside as well as downside.

Platinum is another good example. Similar to gold, platinum was trading at multi year lows in the late 1990s, as it averaged $350 during July 1999. More recently the market has been driven higher by supply side issues 		stemming from labor problems and energy shortages that have hampered production in South Africa, Last month, Platinum averaged $2,013, up $1,663, or 475% from the low, with the price now going vertical on the charts.

Among the precious metals, palladium, used in catalytic converters has been the laggard in this run, however, it was the star performer just a few years ago. In January 1997, palladium was trading in the $125 range on Nymex. Over the next three years the market trended higher in response to steady demand as well as concerns over supply from Russia that was found to be less than dependable. Without dwelling on the details, the combination of speculative trading, supply short falls and fears of not being able to secure enough metal sent the price soaring to a peak of $1,037 by January 2001, up 730% from just a few years earlier. And as bubbles are wont to do, this one also burst, sending the price back down to $330 just ten months later and it subsequently fell to $168 by May 2003.

As relates to copper, five years ago we faced a surplus of unimaginable proportions with the price trading in the 60¢ range. Today, we are on the other side of that same coin with inventories low and the price now closing in on the record highs. The difficulty here is seeing the weakness in our economy, particularly in key copper consuming sectors and attempting to relate that to the strength in the copper market. Housing starts are off 55% over the past two years; sales of new homes are down 57%, while construction spending overall has fallen 9% and automotive production is off 9% from the beginning of 2006. On a global basis, according to the International Copper Study Group, production of refined copper is up 5.1% through November 2007 from the first eleven months of 2006, while consumption is up 6.8%, thereby generating a deficit of some 149,000 mt. Although most major industrial economies are consuming less refined, China continues growing rapidly to the extent that it has more than offset the losses elsewhere. With an apparent increase of some 1.2 million mt, representing a near 37% gain over 2006, China’s share of global consumption has risen to almost 30%.

At the risk of repetition, if there is a lesson here, it is that markets go through long term evolutions prompting us to believe that ‘this time it is different’, when in fact there really is nothing new or different, but rather our perception of, and responses to changing market conditions.

J.E. Gross & Co., Inc. • P.O. Box 339 • Newport, RI 02840 • (401) 667-0478

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