What's Next: Collapse in the U.S.?

Re-reading the gold market report from our June 30, 2007 report, even we are surprised by the prescience of our comments.

As discussed last quarter, we have been in a gigantic credit bubble which has inflated bubbles in equities, bonds and real estate. Speculation drove these markets higher, fueled by inflation in the credit supply which was in turn driven by a staggering growth in structured financial products. These products have no real market but, in a momentous feat of financial engineering, they were accorded high standing by credit reporting agencies and granted default insurance by undercapitalized insurers and special purpose entities.

Now, the credit bubble is unwinding thanks to an unfolding collapse in the U.S. real estate market. Leverage is being reduced. Margin calls are being issued. Credit ratings are being slashed. Structured financial products are being forced into illiquid markets. Fictional valuations based on mark-to-model and the even more spurious Level 3 accounting rule are becoming massive write-downs by some of the world’s largest financial institutions. There is more to come. And as predicted, central banks have responded with credit infusions which undermine the value of their fiat currencies. Gold has responded exactly as we had expected, rising against all of the world’s major currencies.

What is next? In our view, the credit-crunch-imposed deleveraging will continue as will attempts by central banks to grow money and credit supplies to offset it. The next step will be an awakening of inflation expectations and greater concern for the stability of all fiat currencies. The U.S. bond market, which has so far shrugged off obvious commodity price inflation in favor of the ridiculously low core inflation rates posted by the federal government, will begin to falter. Further credit contraction and economic recession are likely to follow. In our view, gold will then definitively outperform other asset classes including commodities such as oil.

To date, the costs of building and operating gold mines have outpaced the gold price. This relative underperformance by gold may now be coming to an end and gold projects capable of sustaining mines such as those owned by Seabridge could grow substantially in value in the months ahead.