Portfolio Strategy
- General Discussion

Objective
This letter will seek to answer some of the questions I have been getting, and hopefully clarify and simplify the overall portfolio management strategy presented in these letters. Three plans are suggested by Richard Maybury (see Letter 22). A fourth plan is to follow my portfolio. But obviously, you could divide your capital among any one, two, three or all four of these plans, or even add a fifth plan not mentioned in the letters. Guess how many options you have by considering various combinations of plans? This is a classic formula for confusion. So, the very first decision you must make is what plan or plans to use? I want to try to make this choice easier. First, decide what portion, if any, of your investments you want to commit to following my portfolio. The “if any” phrase is there for those who want to read the letters for study only, but not commit any capital at this time. You may wish to use any of Richard Maybury’s three plans for part or all of your capital.

Everything which follows in this letter applies only to money with which you wish to closely duplicate my portfolio.

How to follow my portfolio
The first and most important step is bringing your allocations among the three major categories (stocks, physical commodities and cash) into conformity with mine (18%, 43%, 39%). This overrides all other considerations. This is the first thing shown on the Jay’s Portfolio page.  Important Note: If the stock allocation is high, it is a simple matter to sell a portion to bring it in line. The same applies to the physical commodities allocation, but be sure your first priority is that your physical gold and silver allocation is as close as possible to the target levels. If you are building a new portfolio, and are under-allocated in stocks or physical commodities, hold cash until buying opportunities arise. You will find suggestions on the Jay’s Portfolio page.

Judging from some questions I have received, I have probably not sufficiently emphasized this first step. A few days ago, one of our readers asked if I still liked FSDAX and BHP, and if so, why do I not have them in my portfolio any more? I explained that I like both very much and hope to own them again some day, but when I made the decision to reduce my common stock allocation from over 40% to below 20%, I had to sell something. These were among the stocks which I chose to sell. I asked this person what his three major allocations were, and he was not sure. I truly hope all of you who are seeking to manage your own portfolios will find a way to keep up with your three major allocations. It is extremely simple to do using MS Excel or even paper and pencil, and it will be the first question I will ask you if you call or email me with a question. In my opinion, it is the single most important step in portfolio management. Now let me discuss each of the major allocations separately.

Thoughts on the stock allocation
My current allocation to stocks is 18%, all related to gold, silver and energy. This allocation has increased from 12% to 18% over the last few weeks, because the mining shares have become a good buy, as explained in recent letters. But I do not want my stock allocation to exceed 20% in the foreseeable future. This is based on what I’m hearing from my experts, plus my own caution. I want to be very light in stocks until after the election. If the Democrats win the presidency, they could crush the stock market. One of their first actions (opinion) will be to raise the long term capital gains tax rate from 15% to possibly 28%. This could hit the market hard. The Democrats will likely raise corporate tax rates also. They will continue running the printing presses full speed, which could lead to the Treasury being forced at some point to raise interest rates to defend our falling currency, which would also hit the market. I suspect by August-September, the market could tell us who will win the presidency, but by then, the market could already be down 20% or more. Could I be wrong about the stock market? Of course I could, but if I am, I will lose only an opportunity, not real capital.

Thoughts on the physical commodities allocation
My physical commodities allocation is 42.9% in just three investments, gold Kruggerands (7%), pre-1964 junk silver coins and silver eagle coins (24.2%) and oil and gas production properties (11.7%). I consider my gold and silver coins my most important investments presently, and in my opinion they are attractive for purchase at their current prices for anyone who doesn’t have a full position (30% for the two combined).

My oil and gas investments are one-third in oil royalties inherited from my mother, and two-thirds working interests in natural gas wells which I purchased many years ago. Both were throwing off a very modest income until two years ago when oil and gas prices began to increase substantially, and the operators of the natural gas properties began drilling new wells. Lately, a new well has come into production about every two to three months. This investment has added nicely to the performance of my portfolio for the year to date.

If you do not have any investment in natural gas, you can get pretty close to the type of investment I have by investing in San Juan Royalty Trust (SJT). Although buying SJT is similar to buying a stock, it’s not actually a common stock, but rather a trust which holds natural gas properties with producing wells on them. They pass along the monthly production income (after expenses) to the shareholders, and drill new wells on the properties which add to future production. I owned this security until my other oil and gas investments reached a level I considered sufficient. If I didn’t have my other properties, I would feel comfortable buying up to a 5% position in SJT at a price of 40 or lower. It is currently 42.62, so you might have to wait a while until it trades down to 40, but I like it at that price, and I would classify it in my physical commodities category.

Thoughts on the cash allocation
My current cash allocation is 39.1%. There are two reasons for it. First, it is my deflation hedge, protecting the portfolio against a sudden unexpected debt-defaulting crisis in the world financial system. It corresponds to the 50% cash and bonds allocation of the Permanent Portfolio Fund. Second, it provides ready liquidity for unusual bargains which will arise sometime in the future. All the experts I follow have a good cash reserve at this time.

A little more than half my cash is in US dollars (money market), and the rest is diversified among five other currencies. These include Rogers’ three favorites, the Chinese Renminbi (CNY), which has been going up at a controlled rate of about 3%, 5% and 9% to the USD for the last three years, respectively), the Japanese Yen (FXY) and the Swiss Franc (FXF). I also own the Australian dollar (FXA) for two reasons. It currently pays 6%, more than three times current money market rates, and Australia is a resource based economy. Likewise the Canadian economy is resource based, and the Canadian dollar (FXC) is in a bull market relative to the US dollar. You can see the breakdown, and symbols with links to charts for these five currencies on the Jay’s Portfolio page. I believe all five are good values now.

Thoughts on gold
Take a few minutes to study the ten-year gold stock chart below.

What you see here is a classic secular bull market in gold. The last such bull market occurred between 1970 and 1980.

The story behind that bull market is that in 1971, more and more dollars were printed and then sent overseas to pay for the nation's military expenses in the Vietnam War. In the first six months of 1971, assets for $22 billion fled the United States. Because of the excessive printing of paper dollars, and the negative balance of U.S. trade, other nations were increasingly demanding gold from the U.S. in exchange for paper dollars. France, in particular, made heavy and repeated demands and acquired large amounts of gold in that manner. In response, on August 15, 1971, President Nixon "closed the gold window," making the dollar inconvertible to gold directly, except on the open market. 

During that 10-year period, gold went up 24 times against the dollar (from $35 to $850 - off the chart above). As most of you know, that was the last period of rapid creation of unbacked (fiat) paper currency, leading to purchasing power destruction of the US dollar. I often wonder how high gold might have gone had Paul Volcker not raised interest rates to 21% to defend the dollar. Can you imagine what might happen if the current Fed funds rate of 2% were increased in such a fashion? That’s a question for another day.

Notice the green line on the 10-year gold chart. That is the 200-day moving average of the gold price. So far, it has perfectly defined the bull market. Now zero in on the period from the beginning of 2006 to the fall of 2007, an eighteen month period during which gold was in a sideways-consolidation trading range between 540 and 725. Imagine yourself having bought gold between 600 and 700 during that period, and for over eighteen months waiting for it to move above 700, dipping down toward 550 several times. How do you think you would have felt? To the typical investor, eighteen months seems like an eternity. The longer one of his investments goes sideways or down, the more discouraged he becomes. If he has bought on margin (borrowed money), he can be forced out. Or, thoughts like “this was a mistake which I need to correct” can flood through his mind. Or maybe he just becomes scared he’s going to lose more money. Every day during these long consolidation periods, a few more investors give up and sell out their positions. This tends to prolong the correction period until all the “weak” hands have sold to the “strong” hands.

A few months ago when gold rose above $1,000, someone asked Jim Rogers what he thought about gold. His answer was, “I own it and I wouldn’t sell it, but I wouldn’t buy any now. I don’t buy things making new highs. But if it fell back into the 800s, or maybe the high 700s, I would buy it.” Guess who is buying when the investors described above are selling. Never forget, there is a buyer for every seller.

Now, look what happened following the eighteen month consolidation from the beginning of 2006 to the fall of 2007.

Once gold rose above 725 (about September, 2007), it marched up 42% to $1,032 in about 7 months! Notice that even during the long correction period it still followed the 200-day moving average. Yes, once it slightly penetrated it on the down side, for a short period, then rose back above it where it has stayed until now. Could it fall below the 200-day MA in this current correction? Certainly, and it could remain below it for a few weeks. This is perfectly consistent with the secular bull. In fact, the longer the correction lasts, the more powerful the ensuing up-leg is likely to be. The more gold that moves from weak to strong hands (called accumulation), the stronger the foundation for the next leg up is likely to be.

Thoughts on silver
What about silver? The same observations could be made as for gold.

For comments on silver, I suggest you re-study Letter 8, which also has been updated to include a chart entitled, The real price of silver from 1344 to 1998.  This illustrates well the extent to which silver is currently undervalued.  As you know, silver has out-performed gold since the beginning of this bull market, and I believe it will continue to do so.  If you have any doubts about the future value of silver or gold, you might want to read a short article, Silver and Gold in the End Times.  By the way, Jason Hommel has been writing information about silver almost every day. I recommend you read it. You can have it sent to your email address free: www.silverstockreport.com.

Bottom line
Don’t be scared out of your gold and silver investments. Remember the rule: BUY WEAKNESS AND SELL STRENGTH until the end of the secular bull. And never sell more than one-third of your position until the experts tell us the secular bull is over or about to end (advice from Jim Sinclair).