PRUDENTIAL SECURITIES, INC.

One New York Plaza, New York, New York

(October 27, 1997) METALS: GOLD–Gold prices declined sharply last Friday on reports of a Swiss proposal to sell 1,400 tonnes from its reserves, reducing gold backing for its currency to 25% from 40%. A committee of advisors from the Swiss National Bank and the Finance Ministry submitted the proposal. After initial discussion in government circles, it would take a national referendum and constitutional changes to authorize the central bank to sell the gold, probably not before 1999.

Although Swiss authorities had previously indicated a plan to sell gold, this announcement had a sharply negative impact on prices, underscoring once again the shrinking commitment to gold on the part of central banks, which are major holders of the metal.

The Swiss gold sales news was released on the same day Hong Kong's Hang Seng index declined sharply. Normally, that sort of tumultuous day in world stock markets would have been expected to cause a rally in gold prices. What a coincidence! (Or was it?)

Earlier, the currency instabilities we have long been discussing as likely to firm gold prices may have begun to have an impact, although it appears modest at the moment. Europeans have begun to buy gold apparently as a hedge against rising uncertainties governing the move to a single European currency. In addition, currency and stock market chaos in Southeast Asia have started rippling toward adjoining countries and beyond, an impact emphasized by last week's stock market sell off in Hong Kong's Hang Seng equity index. If our long-held scenario of gold as an alternative investment or safety asset may be unfolding, we would like to be long.

Earlier last week, gold came under downside pressure from Far East selling; silver firmed on rumors of a “squeeze” and funds took profits from their long positions in platinum and palladium. On the supportive side for gold, the Commodity Research Bureau index trended higher as did crude oil prices, while the dollar weakened.

Several long-term issues are likely to have a broad impact on global financial markets, which in turn may affect gold prices:

(1) The chaotic currency conditions in Southeast Asia. Sharp declines in currency values in Thailand, Indonesia, Malaysia and the Philippines were followed by strong declines in financial markets of other countries in that region. Indeed, stock markets in Taiwan, Korea and Hong Kong suffered severe reversals, with weaker currencies and a likely decline in economic growth ahead. Most of the countries in that region are likely to be adversely affected, even major ones such as Japan, Australia and New Zealand.

The initial reaction to this scenario is likely to be gold sales to support the country's infrastructure. The ultimate step may encompass gold buying by investors in that region, after they make their initial move to the U.S. Dollar for safety.

(2) A single European currency. Adjustments toward the 1999 launch of the single currency are likely to begin next year. Instabilities in the European currency markets may result and could affect gold prices either directly or indirectly. Assuming the Euro plans materialize, the structure of the Euro central bank–and gold's role therein–could be significant. In the interim, unstable European currencies, the related economic outlook and the political implications suggest pseudo-chaotic conditions in that part of the world.

(3) The direction of the U.S. stock market and global markets in general. Any sustained decline, or even concerns of such declines, may result in alternative asset investments in gold and silver. The safety asset play in response to the Southeast Asian currency crisis may also be a factor in this move.

SILVER–A rumor is circulating that a “squeeze” may develop in the silver market as several sources allegedly are shifting inventories out of visible exchange warehouses, suggesting that recent drawdowns may not be attributable to rising demand. However, the wide media publicity surrounding this alleged squeeze play may deter its implementation. We continue to expect silver prices to outperform gold as the latter will continue to bear the onus of potential central bank sales.

PLATINUM AND PALLADIUM–Platinum and palladium prices declined appreciably on profit-taking ky several commodity funds that had been major players in these two markets. In addition, the Russians have been making some deliveries, although the outlook for implementation of a 1998 delivery contract with Japan remains unclear. It may move smoothly and professionally or it could hit obstructions as it did last year. We persist in our view that availability of these metals from Russia is not as plentiful as in the past because of inventory drawdowns related to decreased production.

PRICE OUTLOOK–We expect a further short-term downside move in gold, with an anticipated range of $295/$300 to $325 per ounce in December gold. December silver should recover and move in a range of $4.75 to $5.10 per ounce. January platinum's range should be $404 to $430 per ounce; and December palladium, $185-$240 per ounce.

COPPER–Copper came under downside pressure while still retaining support at 93.00 cents per pound, basis December, as earlier concerns over warehouse stock levels have been replaced by concerns over the global demand outlook. Just when stock levels had begun to stabilize in recent weeks and started to trend moderately lower amid reports of light Chinese buying, chaotic financial conditions in Southeast Asia raised the likelihood that copper consumption would decline in that region. The sharp stock market declines are creating enormous instabilities. Because economies are under duress, construction projects (that use large quantities of copper) have been put aside for lack of funding.

Meantime, we expect moderate supply constraints will continue due to several factors, including (1) shipping delays of copper by the Union Pacific Railroad, which has been experiencing severe shipping problems; (2) production shortfalls from the recent fire at Chile's Chuquicamata refinery; (3) the recent earthquake in Chile's central and northern regions where several significant-sized copper mines are located; (4) production cutbacks at the Ok Tedi copper mine in New Guinea, due to severe weather conditions; and (5) declines in Russia's copper output when a Norilsk plant is shuttered for repairs later this year.

We expect copper prices to come under downside pressure sporadically from the concerns over the economic upheavals occurring in the Far East. For the short term, we anticipate a moderate range in December copper of 88.00/90.00 cents to 96.00 cents.

Bette Raptopoulos

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