Dow Theory Letters

by Richard Russell, Feb 5/03

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Extracted from the 4 February 2003 issue of Richard Russell's Dow Theory
Remarks

Some interesting facts and statistics. Investor's Intelligence's latest poll
of advisors shows that 50% of advisors remain bullish while 26.1% are
bearish. So what in the world would ever turn the majority of advisors
bearish? My guess -- only a violation of the October lows.

The "Commercials" (gold banks, hedged gold mining companies) on the latest
week have raised their gold shorts by 5,000 contracts to a new high of
149,177 contracts sold short. And yet gold continues to rise. Could the
Commercials be in one of those extremely rare situations where they are just
plain wrong? We'll see.

The total volume of the entire US equity market is roughly $10 trillion. The
30 Dow Industrial stocks are valued at about 25% of the $10 trillion. So is
the Dow worth following? You bet it is. My old friend, Bob Prechter has been
saying that what we're in is an upward correction in a basic gold bear
market. Bob has a wide following, and he's as smart as they come. Bob has
also been saying that gold is now topping (although he concedes that gold
over 390 will cause him to revise his thinking). Finally, Bob believes that
"the gold bear market" will end with gold selling at around 200. OK, for the
sake of argument, let's say Bob is right and gold goes to 200.

Bob is also talking about the bear market in stocks taking the Dow to below
1000. If the Dow sinks to below 1000, it will have lost around 87% of its
current value. If gold sinks to 200 it will have lost 45% of its current
value. In other words, you would still be better off holding gold than
common stocks, and we're talking about the Dow, not the general run of
stocks that would probably do a lot worse than the Dow.

Furthermore, if the Dow were to sink to 1000 the Fed would be on its way to
literally destroying the dollar (which they're doing now anyway) in its
effort to reinflate. The Fed has already stated that it has a "printing
press" and it will use it, if necessary, to fight deflation. Since gold is
denominated in dollars, how could gold drop to $200 in the face of a dollar
that is being literally wiped out? The answer -- it's impossible -- unless
the Fed turned around and embraced deflation.

Conclusion -- I don't see any way that gold could sink to $200, and if
somehow it did, it would still be the best thing to own. How about other
currencies? If the Dollar was destroyed, since most nations own the dollar
as reserves, the entire world would be in a state of severe deflation, in
which case I would still rather own gold.
Right now investors are divided into two camps -- those that believe that
inflation is our future, and those who believe that deflation is our future.
Those who believe that deflation is our future are buying the "safest"
bonds, which are US Treasuries. Thus, the rising 30 year T-bond, which is
confounding all the experts (including the Pimco crowd) by pushing close to
recent highs.

But deflationists are also buying gold on the thesis that if we go into
deflation, the huge towers of debt will crush the nation, and in which case
the safest place to be would still be gold.

As for those who believe our future is Fed-generated inflation, they are
obvious buyers of gold on the thesis that the dollar will ultimately go to
hell.

Thus both inflationists and deflationists can make a case for buying gold.

Here's the Russell case for buying and holding gold

Each year there is less production of gold, meaning the actual supply/demand
equation is favorable for gold.

China and Asia are exporting deflation, while the Fed is fighting deflation
by inflating the US money supply.

The US trade deficit is going through the roof. This is putting increasing
pressure on the dollar. The Bush administration will be generating massive
deficits as far as the eye can see, at least $1trillion over the next five
years.

The existence of terrorism will mean that the US is on the path of endless
spending for security.

The dollar is in a bear market that promises to take the dollar vastly lower
over a period, not of months, but of years.

US citizens, cities, counties, states, and the federal government are up to
their eyeballs in debt. The only financial item around that has no debt
against it is gold, the only real money.

Third world nations are not honoring their debts, thus faith in debt and
paper money is declining rapidly.

All the above point to an almost unique situation in favor of real money --
gold.

Further comments -- I'm asked how high I think gold can go? My answer is
that I don't know, I can only guess.
One guess is based on the thesis that I believe we are still in the first
phase of the gold bull market. This is the accumulation phase. At this point
the public doesn't even know how to buy gold. How do I know this? I know
because I receive e-mails every day from younger subscribers who ask me how
or where to buy gold.

When gold went into it climactic bull market phase during late-1979-1980,
gold topped out at 850. To convert 1980 dollar to current dollars multiply
by 2.1819. Thus gold at $850 gold converts to gold today at $1,853.
Thus if the current gold bull market was to take gold to a comparable 1980
high, gold would rise to above $1,800. But in my opinion, the current
situation is far more serious than it was in 1980 -- and far more bullish
for gold.

This gold bull market is still in its first (psychological) phase. It still
most go through its second phase which will see the entrance of the public
and the funds. Then in the final phase gold will become highly speculative
as in late-1979. How high could the third phase of this gold bull market
carry the yellow metal? You make the call.
My thought -- based on my own experience with bull markets -- gold will
ultimately carry farther than anyone today thinks possible.

The problem for my subscribers who own gold and gold shares -- to have the
guts and faith to hold their gold coins and shares through all the threats,
corrections, rumors, and scares that will materialize all along the way --
until the gold bull market ultimately "blows its top."

Final question -- Why aren't the gold stocks keeping up with gold? Aside
from the fact that first one, then the other, makes its move, the gold
shares are more of a public item. Big money tends to buy the metal. Nations
buy the metal for their reserves. Indian women wear the metal on their
bodies.

When the US public finally becomes interested in gold, they won't buy the
metal, they will buy the gold shares. That hasn't happened yet. In time it
will -- when the second phase of the gold market arrives, we will see the
public come in, and at that point we will see the gold shares join the
parade, join it big time. But all that lies ahead.

More follows for subscribers. . .

Richard Russell Editor-in-chief - DOW THEORY LETTERS
www.dowtheoryletters.com

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