FSO Editorials: Are Gold Shares Topping? by Robert B. Gordon 01/16/2003

At the end of May, 2002 we posted an essay titled "Gold Funds Going Parabolic", showing that the prices of a number of funds were in fact rising almost vertically. This essay can be found in my archive at the www.freebuck.com - commentary link. It is time to take another look and see what has happened since that earlier peak. We will present performance data for the same list of 21 precious metals funds over 3 different time periods, ranking funds by their two-year performance. Then we will do the same thing for 19 gold and silver stocks.

1. One-year period ending 5/24/2002 (See essay for fund details)
2. Seven plus months from 5/24/2003 to 1/10/2003
3. Two-year period from 1/10/2001 to 1/10/2003

The precious metals funds below are listed in order of their two-year performance to 1/10/2003:

PERCENT GAIN IN THREE PERIODS
Precious Metals Fund (Symbol)	Period 1 1-year ending 5/24/02	Period 2 7+ months 5/24/02 to 1/10/03	Period 3 2- year 1/10/01 to 1/10/03
SGGDX	114.5%	7.6%	196.2%
ASA	97.7	12.2	185.0
MNTGX	90.0	10.5	165.7
GOLDX	98.3	3.2	145.2
INIVX	108.9	2.9	145.2
BGEIX	97.5	-3.2	144.6
USAGX	91.7	-0.7	139.7
TGLDX	92.2	5.0	137.2
EKWAX	83.7	-0.3	135.6
LEXMX	86.5	-4.8	120.6
FSAGX	77.3	0.1	117.6
USERX	117.2	-15.9	114.7
UNWPX	118.2	-15.5	107.1
SCGDX	63.6	1.7	105.7
MIDSX	69.6	-2.5	95.0
FGLDX	74.7	-5.8	93.7
RYPMX	57.8	-6.2	84.7
OPGSX	54.1	-6.7	80.5
VGPMX	51.2	-5.4	70.2
FGADX	43.0	-6.7	43.0
FKRCX	42.7	-6.8	42.7

Neither do stocks and funds! There are some important lessons in the above table, so print it out for study and comparison with the equivalent table for a group of gold stocks given below.

Remember that the table ranks the funds over the full two years period. The top three funds in this list did well in all 3 periods. But the two funds, UNWPX and USERX, that led all others in the rally to the May/June peak have been the greatest losers in the period since then. They have also slipped below the middle of the entire list over the past two years.

SGGDX and ASA (closed end fund traded on the NYSE) are the two-year leaders and were in third and sixth position at the May/June peak. The lessons from this performance data are:

Most equity mutual funds are far too big for the good of their investors. Recently there were at least a thousand funds with assets over one billions dollars, providing huge fees for the funds and, in nearly every case, sub-standard returns for the owners. This problem is greatly magnified in the case of precious metals due to the very small total valuation of the gold and silver mining industry. Big gold funds must own primarily the largest mining stocks. A year ago there were a number of funds with less than $20 million in assets. At this writing, the 5 best performing funds have an average size of about $100 million according to the current Morningstar data. The largest funds now exceed $500 million in assets and are doomed to badly under perform the best small funds and mining stocks. All investors must keep this important fact in their mind. The situation is not good now and can only get worse.

As in the case of the gold funds, the stocks below are listed in order of their two-year performance to 1/10/2003

PERCENT GAIN IN THREE PERIODS
Mining Stock (Symbol)	Period 1 1-year ending 5/24/02	Period 2 7+ months 5/24/02 to 1/10/03	Period 3 2- year 1/10/01 to 1/10/03
RGLD	358.8%	69.9%	846.8%
HL	283.9	13.9	821.4
GLG	293.3	27.7	737.5
CBJ	241.3	1.9	416.1
GFI	254.5	-5.9	386.8
GG	125.7	18.3	371.0
AU	84.7	12.7	181.6
PAAS	178.4	2.9	178.4
MDG	141.9	-9.1	166.2
ASL	131.2	-1.6	157.1
ECO	6.9	15.6	152.0
AEM	111.8	-13.1	143.3
SIL	55.1	3.5	99.5
CDE	36.0	15.3	96.0
NEM	43.8	-6.4	72.0
PDG	29.7	-17.4	32.7
CAU	78.3	-38.5	26.0
AAUK	11.0	-17.6	10.6
ABX	34.3	-30.8	2.3

There is a tremendous range in the size of these mining stocks from very small to very large and a large difference in the extent of their hedging activity between the funds at the top of the list and those at the very bottom. Please note that just ten of these stocks rose in price in the past seven plus months, despite the rise in the price of gold. All of them, including once mighty Barrick Gold, managed to gain over the past two years. Four of the 12 stocks that at least doubled in price over the past two years still managed to drop in price since the earlier Spring peak in gold. As in the case with mutual funds, doing your homework and diversifying in a group of the best stocks is highly advisable.

We compare the top five stocks and mutual funds below, ranked on two-year performance:

% PERCENT GAIN PER PERIOD - A COMPARISON
Mining Stocks (Symbol)	Period 1 1-year ending 5/24/02	Period 2 7+ months 5/24/02 to 1/10/03	Period 3 2- year 1/10/01 to 1/10/03
RGLD	358.8%	69.9%	846.8%
HL	283.9	13.9	821.4
GLG	293.3	27.7	737.5
CBJ	241.3	1.9	416.1
GFI	254.5	-5.9	386.8
GG	125.7	18.3	371.0
Precious Metals Funds (Symbol)	Period 1 1-year ending 5/24/02	Period 2 7+ months 5/24/02 to 1/10/03	Period 3 2- year 1/10/01 to 1/10/03
SGGDX	114.5%	7.6%	196.2%
ASA	97.7	12.2	185.0
MNTGX	90.0	10.5	165.7
GOLDX	98.3	3.2	154.5
INIVX	108.9	2.9	145.2

All of the data presented in this essay was produced with my FastTrack software and database of daily prices. Go to www.fasttrack.net for information on this product. At the current time, it provides data on most of the precious metals funds and about one third of the stocks.

As the size of existing precious metal funds continues to increase, their performance relative to that of the best mining stocks will continue to decline. If and when the general public decides to buy precious metals, the situation will require very serious selection of the best vehicles. A tool such as FastTrack will play an even more important part in selecting them.

We have written about a dozen essays on some aspect of gold investing over the past 17 months, most of which are available on my archive at www.freebuck.com and a few on www.kitco.com. In many other essays we have discussed using gold along with other selected asset classes for use in this bear market period. We receive many questions on gold that we cannot answer since we do not give individual advice to investors. We have provided broad suggestions on how to create and manage a diversified portfolio including gold and will continue to do so.

We have been quite distressed by mail from readers indicating what could only be called a "mad rush into gold." We hope that readers will go to our archives and read our past articles. We have owned gold and silver in various forms for over 30 years and are well aware of their tremendous volatility. We will make a few suggestions here in an attempt to forestall readers from making avoidable mistakes.

Dollar cost averaging, as recommended in books on investing and in mutual fund literature is never a risk-free alternative and especially so when the future price action of the vehicle chosen is unknown, as is most often the case. However, after experiencing a 22-year bear market, dollar cost averaging purchases of gold, through its expected future turbulent price action, may be a good idea so long as the long-term price trend is up. But no one will ring a bell at the next ultimate price top in gold and or silver. A concerned investor must have a plan, preferably automatic, to regularly take profits from gold and silver and place them in another much more conservative asset class. We have previously described this process of periodic rebalancing a portfolio containing asset classes that "march to different drummers." We will give some suggestions on how an investor might choose to do this.

One of the ideas we have suggested in previous essays is to simultaneously buy, either in a series of lump sum purchases or through dollar cost averaging, a group of asset classes deemed to be useful in a bear market environment. We particularly like these classes:

In a small starting portfolio, an investor might use just one of the listed sub classes in each of the 3 classes, but in larger portfolios we strongly suggest using as many as possible. This increase in diversification provides the maximum possible advantages from asset rebalancing discussed later. We also suggest owning equal dollar amounts of the U.S. and Foreign bonds to protect against currency fluctuations that are occurring now and may well continue. Please read my earlier essay titled "Selecting Foreign Government Bond Funds."

As examples, we will mention percentage ranges for each asset class, but each individual must pick a portfolio that gives the balance of growth and capital preservation they desire:

ASSET CLASSES AS DEFINED ABOVE
Portfolio	Class 1	Class 2	Class 3
Conservative	80 - 90%	5 - 10%	5 - 10%
Moderate	60 - 80%	10 - 20%	20 - 30%
Aggressive	40 - 60%	20 - 30%	20 - 30%

As fully described in earlier essays, this management action is very important to the success of every portfolio containing volatile asset classes such as precious metals or short funds. It could be done quarterly, semi-annually or perhaps annually in the conservative portfolio.

Rebalancing, as described here, is not what the mutual fund salesmen are recommending. It does not involve shifting to other asset classes when in trouble. It does mean periodically re-establishing the original planned percentage of the portfolio’s assets that arise from price fluctuations in each asset class. Here is what it will do for you over a number of market ups and downs, assuming the asset classes listed above:

Over time, the rebalancing will retain the original portfolio allocation percentages. If the rebalancing process is done at the shorter intervals recommended above, the asset switches will be fully taxable events. But, in a major bear market, I place greater emphasis on capital preservation and growth, not on minimizing taxes.

Market tops and bottoms are usually clouded in optimism and pessimism. How can an investor anticipate an inevitable future top in gold and preserve much of its gains? One way that might work would be to adopt a portfolio strategy that commences with an aggressive allocation and adopts a step-by-step change from an aggressive to a conservative allocation.

Since the length of a gold bull market or of the current bear market is not known in advance, the investor must adopt his or her own time scale for the progression from aggressive to conservative. For illustrative purposes, let’s assume an investor picks a ten-year period.

Here is one possible way to plan a gold accumulation/retention program, using either a lump sum investment or dollar cost averaging:

Starting in the fourth year and continuing every two years, the percentage allocation to the volatile assets is gradually reduced. So, regardless of the wild price fluctuations in gold and equities, profits will be built up and retained through a systematic rebalancing program. At the end of this program, 90% of the original assets and accumulated gains will be in ultra-safe assets. Please note well that this example is to illustrate the principles involved, not the specific details.

We do read, enjoy and gain ideas from your comments. In fact, the only reason we continue to write is to give our readers objective and helpful information. Our only reward comes from helping investors of all ages and circumstances do a better job. Please put an essay title in the subject line of your e-mail. With our list of 70 essays still growing, we need your help in responding to a particular essay. Go to www.freebuck.com for our archive of previous essays.