P.O. Box 6643, Annapolis, MD 21401 410.224.

2037

Fourth Quarter

January 2012

It was a difficult year for investors, one in which most markets and sectors fell appreciably, and a frustrating one, with several false starts. It was also a very volatile year one of the most in a long while with little direction, as investors reacted to the days headlines and latest pronouncements out of Brussels or Washington, buffeted by natural disaster, political upheaval, and credit downgrades. We dont know about the first, but we suspect we havent seen the last of the political and credit problems. Notwithstanding a far-fromPollyanna-ish outlook on European and U.S. debt, we are optimistic that this coming year will see a rally in many global stock markets (including Europes) and gold stocks as explosive if not as sustained as that which started in March of 2009.

Very little was up for the year

Capped by another volatile quarter, this year saw broad losses. Not a single major global stock market was up for the year, though the S&P index was essentially flat (and the Dow Index up, alone of all major indices in the world). Most markets fell by double digits, with global indices down 15-17%. Most are now below the levels of that before QE2 was introduced. Financials led on the downside, while defensive stocks did best. Commodities also fared poorly. The broad DJ-UBS commodities index fell 14%, although gold rose over 10% for its 11th consecutive annual increase. For all the carping about gold, with many pundits proclaiming the end of the bull market, it was one of the few assets or markets to actually appreciate last year. The gold stocks did not do so well, however, in one of the most frustrating features of the year. Major producing stocks fell over 20% (as per the XAU), while juniors fell around 40%.

Our accounts were down, in line with indices

Not surprisingly, with most markets and sectors down (and other than the U.S. market, by double digits), our accounts also fell. Our global accounts were down between 9% for conservative accounts and 18% for aggressive ones, while our gold and resource accounts fell by 18-20%.* These are not good results by any means, though not out of line with relevant indices. Our gold accounts did less badly than indices of gold stocks. The average gold mutual fund was down over 23%. Cold comfort. So, rather than ask why we did a little better than relevant benchmarks, we will ask why we were down so much. Clearly, our high allocation to underperforming resource stocks in all accounts hurt, and in particular, our high weighting to juniors hurt significantly. A little more selling early in the year may have helped. On the other hand, we had little in Europe until towards the end of the year, and either avoided or had very little in the worst performing markets, including Brazil, Italy and Hong Kong. At the same time, individual stock selection in both global markets and resource stocks as well as a focus on dividend payers helped lessen the declines considerably, as did our use of option selling.

Stock market rally ahead

Where does this leave us? In many markets and sectors, poised for rallies, we believe. Notwithstanding the very real problems in the global financial framework, there are reasons to be cautiously optimistic about assets. Valuations are good, and in some cases compelling; to a large extent, prices already discount the bad news, so we dont need unexpectedly good news to see a rally; there is a lot of cash on the sidelines with low

margin usage; companies, particularly in the U.S., are in reasonably healthy condition; and finally, the easy money policies of central banks of the U.S. and Europe are creating the fuel for the rally. As for gold stocks, they are selling at 10-year valuation lows relative to gold itself. All in all, we could see strong moves in many markets and sectors this coming year, and likely in the first quarter. These rallies could be as explosive as 2009, if not as sustained. We are well positioned for such moves.

The Euros problems remain

The global economic and monetary outlook, however, is far from rosy. A struggling recovery in the U.S., the ongoing debt saga in Euro-land, and a slowing economy in China, together with global political upheaval, have combined to make a very uncertain outlook for the global economy. In Europe and the U.S. in particular, there have been a series of false starts and missed opportunities, and investors responded accordingly. Europe is likely to dominate concerns, as it did last year. Every agreement or rather, news of another meeting to discuss another agreement was heralded as a breakthrough, but each was each followed swiftly by failure. The pattern of agreements with no follow-through is not new in Euro-land. Indeed, if the Maastricht Treaty had been enforced, half the countries would not have been allowed to join the club in the first place. Government debt levels throughout Europe are too high, but just as troubling for the markets has been the slow realization among leaders and the constant bumbling response. The fundamental problem remains. The Euro is an artificial construct, a single currency without a single fiscal policy. So long as that continues, there will be ongoing crises, until such time as there is either closer union or a breakup or both (that is, closer union among some as others break off). Upcoming elections, notably in France where the socialists are gaining ground, threaten to make any political agreement more difficult. In the U.S., things are hardly better, with Congress unable to make even the meager spending cuts they themselves set as a goal. Was anyone really surprised the so-called Super Committee failed? And though there have been some sporadic signs of some improvement in the economy, overall, its been modest at best, with housing and employment still weak, and considerably worse than is usual this time after the trough of the recession. It may not be getting much worse, but its hardly much better.

Chinas slowdown modest

As for China, its economy is slowing, particularly manufacturing and housing. But this should be seen in context. GDP growth has declined from 10.4% to 9.2% (and a projected 8.3% next year the kind of slowdown of which the Western economies can only dream). Manufacturing growth has fallen, but it is still growing at double digits. True, exports have slowed in response to the weak economies in both Europe and the U.S. But a key indicator of future growth the purchasing managers index moved up strongly in December, suggesting the downturn may have stabilized.
* Please note: Past performance is no guarantee of future results. For complete information on our past performance, including factors to be considered in viewing past performance and other disclosures, please contact our office. Specific stocks mentioned herein are intended solely as illustrative of strategies and types of stocks we are buying or selling, and are not intended as indicative of entire portfolios or of any individual clients portfolio. The numbers mentioned represent our composite averages. They represent all accounts that fall within the stated objectives which have the ability to buy and sell options; they exclude accounts under $200,000 and accounts with significant limitations or restrictions that would make them unrepresentative of the account type. Performance figures for composites referred to herein reflect the deduction of administrative fees, but may not take into account all performance fees attributable to the specific period. The performance of any individual stock or stocks does not take into account fees. Performance numbers include dividends; dividends are not reinvested. Commissions charged may vary depending on the brokerage firm at which an individual account is held. All accounts are managed individually and are therefore different, even within the same broad objective. Factors such as an individuals circumstances, the size of the portfolio, and the time the account opened can affect specific buy and sell decisions. Factors such as price movements and security liquidity can affect whether any trade is made for all accounts. Global Strategic Management, an SEC-registered investment advisor, does business as Adrian Day Asset Management. 2012

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Housing is the biggest problem in the economy, with excess inventory even as sales decline. Though a housing collapse would certainly hurt the economy including government finances, with nearly half of loans to developers from local governments it should be noted that housing is not central to the Chinese financial market the way it was in the U.S. before the bust. In the U.S., many houses were purchased with no money down, while others used home equity loans to finance both consumption and financial investments. In China, most buyers tend to be more wealthy and often pay cash, and there is a legal requirement for a minimum 30% down for first-time buyers. This limits damage to the overall economy.

Monetary policy eases around the world

But the policy response to the debt problems in Europe and the U.S., and slowdown in China has been similar: increased monetary stimulation. We have experienced repeated rounds of easing, coordinated interventions and so on. While the Federal Reserve disappointed some by not announcing a QE3 last month, its policy remains easy. There is no doubt that the Fed is quite prepared to let inflation rise and certainly allow the dollar to sink if need be. The Feds balance sheet has shot up by 27% this year, and the recent move to provide massive loans (in the form of swaps) to the European Central Bank (ECB) has seen it move up again. The ECB is prohibited (at the moment) from purchasing troubled sovereign debt, but it is getting around those regulations both by lending money to the IMF for it to lend to the sovereigns, and by making low-cost loans available to banks for them to buy government debt. (Forget about the concern that European banks have too much troubled government debt on their books; someone has to buy the stuff!) The ECB has also cut short-term rates and loosened requirements for collateral on loans. The result is that the ECB balance sheet has started to move up dramatically as well, and will likely continue in 2012, with massive tranches of troubled sovereigns (amounting to hundreds of billions of Euros) and European bank loans due this coming year. There are signs that this wont be easy. Italys year-end bond sale failed to raise the Euro 8.5 billion targeted. This coming year, Italy has nearly E400 billion of long-term debt to roll over (and Spain a further E250 billion). The result will be more money printed you can take that to the bank! Add to that Chinas recent moves, cutting reserve requirements and boosting stimulus. And short-term rates remain negative in most countries, as several central banks (including the ECB, China and Brazil) reverse earlier rate hikes and cut rates again. All of this is most certainly positive for gold and will most likely spark a rally in global stocks as well.
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 Stocks: undervalued despite bad outlook

The negatives surrounding equities are well known: the economic outlook is bleak, theres too much debt, and governments are struggling to deal with it. This is not new, and it is surely, to a large extent, priced in. We dont need any dramatic macro improvement to push stocks higher, just an absence of any significant and unexpected negative development. It is easier money not a solution to the Euro debt crisis that will fuel the rally. On the other hand, there are several positive factors, many of which are underappreciated in the market place. Most importantly, valuations are low while there is significant cash on the sidelines. In the U.S., valuations are reasonable, with projected p/e on the S&P of under 13; big cap stocks are particularly undervalued. It is in Europe, however, that there are real bargains. Stocks across the continent at selling at single-digit p/es, with yields over 5% and right at book value. Of course, individual securities are even more appealing, with some stocks trading at 4 or 5 times earnings, yielding over 10%, or selling at 30% or even 20% of Net Asset Value. What we saw towards the end of the year was a wholesale dumping of Italian, Portuguese and Spanish stocks; what manager wanted to face his board or his investors at year end with a lot of PIIG stocks on his books?

Investors and companies have cash

Cash levels at institutional investors are high, with low levels of margin. Retail investors have been consistent net sellers of stocks since mid-2008, and while they may not flood back into stocks because of low valuations, they may join the party late once its underway. In the U.S. in particular, though much earnings growth over the past two years has come from cost cutting and this cant go on forevercorporate balance sheets are much improved, allowing for higher dividends. Companies in general are leaner and meaner. Technically, also, the market the last several months has seen a series of higher lows, making the market like a coiled spring. Global monetary stimulus in the past has been particularly positive for equities in emerging markets, especially in Asia, and though this effect may be lessened with Asian economies reduced reliance on exports to the U.S. and Europe than in the past, it could be significant. This is all the more so since Asian economies generally are in far better shape than those in Europe and the U.S., with lower government deficits, higher household savings, stronger banks, and undervalued currencies.

Resources down sharply, while long-term favorable

Resources had one of their worst years in a while. While the broad DJ-UBS index fell 14%, most of the metals were down far more, with copper, nickel, zinc and iron ore all down over 20%. These metals, like other commodities, were down largely on concerns about the global economy, recession fears in Europe (which accounts for around 20% of global demand for most metals) and a slowdown in China, now the leading consumer of most commodities. In addition, a dollar rally in the second half of the year, hurt prices. But the long-term remains positive. This is based on four main factors: commodity cycles tend to be long, albeit volatile; Chinas demand will continue to increase; producers show an inability to increase supply meaningfully; and the macro-economic climate will be favorable (low rates and a declining dollar) going forward.
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Unless Chinas economy reverses which we think unlikely at present demand for resources will continue to grow; whether the economy grows at 10% or 5%, thats still a healthy increase in demand. Given the relatively low per-capita end-use of various items, including, for example, automobiles at less than 30 per 1,000 population compared with around 550-600 in most industrialized countries, there is a lot further to go.

Copper and oil poised to recover

As mentioned, commodities tend to be inherently volatile, with price moves exaggerated by the inventory cycle building stockpiles as prices increase, and consuming from stockpiles as they decline. Copper, for example, fell 30% from its early-2001 peak to its late-year trough. But it saw a much larger decline in 2008 before bouncing back to new highs in 2009. For much of the year, China was consuming off its large stockpiles, but towards the end of the year, end-consumption started moving back up and imports of copper picked up. Although inventories remain ample for now, it would not take many more months of demand growth to reverse that cycle. Given Chinas stage of development and the heavy use of copper in infrastructure, housing and automobiles, we expect continued growth in Chinas demand. We remain bullish on copper and quality copper companies. Some 22% of global oil demand comes from Europe, so the economic slowdown there hurt. But Chinas demand continues to grow, with that country now overtaking the U.S. as the #1 consumer. Even though oil accounts for less of Chinas energy mix than it does for the U.S. and most other countries, the ongoing demand for energy to fuel the industrialization (up 11% in 2011) means oil demand will continue to grow. On balance, oil was one of the top-performing commodities for last year, up nearly 5% (basis WTI). European weakness caused it to slump throughout the middle of the year, before moving back up to the $100 level on supply disruptions and geopolitical events, most notably the sabre rattling over the Strait of Hormuz at the end of the year. We remain bullish on energy generally and oil in particular, while the oil companies are generally quite inexpensive.

Gold still up, despite correction

Gold was also a winner, up for the 11th year in a row, despite a sell-off in the last few months. The fundamentals remain very strong: easy money and negative interest rates, as well as ongoing concern about the dollar. The reasons investors bought gold in the last year or two remain: distrust of paper money and lack of confidence in the ability of monetary authorities to stabilize currency values; and for central banks, a desire to diversify away from dollar concentration in their reserves. This bank buying has increased dramatically, with the third-quarter net purchases more than double those of the prior quarter, and up nearly sevenfold from the previous year. Counties as diverse as Thailand, Russia, Mexico and Bolivia have been buyers; and it continues, with Korea reporting a purchase of 15 tonnes in November (thats an amount equivalent to about two-thirds of all bank buying for the entire quarter a year ago). Given that the countries with the largest foreign exchange reserves tend to have the lowest allocation to gold, this buying is likely to continue.

Gold hit from all sides

Why has gold declined recently? We should put this in context. Gold had moved well above trend in the summer so was ripe for a pullback. Dollar strength throughout the second half of the year was a drag on gold. The global equity market collapse in September provoked forced selling, whether because of margin calls or fund liquidation. When one is forced to sell, and sell quickly, one sells what one can, not necessarily what one would like; in these circumstances, gold acted as liquidity of last resort. No doubt, December saw renewed fund liquidations, as well as disappointment that the ECB was not authorized to buy sovereign bonds directly, as the market had been expecting.
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In addition, the weakness in the Indian rupee caused the price of gold in that crucial market to move dramatically higher, leading the traditionally price-sensitive Indians to reduce and postpone gold purchases. Golds fall through its 200-day moving average, which had held in the past, dealt a psychological blow to the market and led to many pundits proclaiming the end of the bull market. Not so fast! Weve seen corrections before in this 11-year bull market, some of greater extent than this. The fundamentals remain positive, while central bank selling is likely to act as a floor on corrections (as it did at the end of September). The pullback suggests that the Indians will return in the traditionally strong New Year, while Chinese imports continue to hit new record highs (triple the level a year ago).

Gold stocks disconnect from gold

Despite gold being up on the year, gold stocks fell, and fell sharply. The disconnect can be explained. Much gold buying of late has been not for investment, still less for speculation, but defensive, insurance buying. With such motives, investors buy bullion, not mining companies. In addition, gold stocks are not only a gold asset, but they are stocks, and the overall market weakness hurt gold stocks (with the market recovery coming at a time when gold itself was weak, so gold stocks did not participate). However, at current bullion prices, gold mining companies are generating strong profits, and many have introduced or raised dividends, providing competition with the gold ETFs. These producing gold stocks are now selling, by many metrics, at 10-year valuation lows relative to gold. When gold turns, the gold stocks could outperform, particularly if the broad market is moving up at the same time. We have also started buying silver again in recent weeks. The fundamentals are not so strong production is up (much of it by-product so not price-sensitive) while industrial use is down so the market has moved from a primary deficit to a widening surplus. Silver (like gold, of course) now relies on investment demand, which has grown from less than 100 million tonnes in 2009 to over 200 million last year. (This includes silver coins, as well as bars and the ETF.) The major iShares Silver Trust helped facilitate investor demand. Given the high price tag attached to an ounce of gold, let alone a bar, retail investors will increasingly turn to silver, the poor mans gold, and investment demand for silver will likely follow that for gold, with, as historically, wider price swings. While not without risk, the current price level represents opportunity in both silver and the top silver stocks. In sum, it has been a particularly trying year, and the global economic, monetary and geopolitical outlook is far from certain, nor is it positive. Yet there is good value in many markets and assets, with European stocks in particular very undervalued. By focusing on dividend-paying stocks, we can be more patient holders, though we anticipate a rally early in the new year that could be explosive given the valuations and the money on the sidelines if not as sustained as that which began in March of 2009. We have been buying in recent months and are fully positioned to benefit from such a rally. In addition, following meaningful corrections, gold in particular and resources generally are ready to resume their bull markets. While skeptical on the global economy, we are cautiously optimistic for returns in 2012.

Review of Individual Accounts

Global Accounts
We ended the year close to fully invested, as we built up positions in the last few months of the year. Global equities are inexpensive, and we are buying
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prepared to hold, particularly where stocks pay a decent dividend. Equally, however, we are anticipating a rally in the new year that could be

quite strong, and will certainly take the opportunity to raise some cash. Our cash exposure is just under 6%, including foreign currencies, which is down slightly from the 7% at the beginning of the quarter. That itself was down from earlier as we bought heavily when the global markets collapsed in September. As before, most of our cash is set aside for the potential exercise of puts we have sold. Our weighting to different broad sectors remains identical with the quarters onset: about 15% to major global markets; 14% to income-oriented stocks, mostly in the U.S.; high allocations to gold and resources; with the balance in funds, special situations, and emerging markets. Selling where risk increased Though we increased equity holdings, that does not mean there were no sales. We exited a few positions, mainly because of increased perceived risk, including our new toehold in Brazil well wait until the battle between higher inflation and a weaker currency is resolved Hong Kongs Swire Pacific, because of the risk of lower property sales, and Research in Motion, after it emerged that potential buyers of the company had passed. Buying undervalued stocks We took losses and moved into other situations, so we remain prepared for the rally we anticipate. We had only one new buy this quarter Spains Banco Santander, very cheap with a high dividend (with only one-third of its revenues from Europe, less than from rapidly-growing Latin America). We also added to existing positions, including some of the very cheapest (such as Portugals toll road operator, Brisa, trading at 3 times earnings and yielding over 12%), as well as some favorites (including Collectors Universe, taking advantage of a drop from $16 to $13, where the yield moved over 9%). As we mentioned, stocks in Spain, Portugal and other PIIGS were being thrown out before year end by managers lacking the courage of their convictions. As John Templeton put it, we believe in buying at the point of maximum pessimism.

As mentioned, we are anticipating a strong global stock market rally at some point in the months ahead. We are well positioned, but will use the opportunity to raise some cash, perhaps selling partial positions to reduce our cost basis. We will also be alert constantly to any heightened risk at holdings, so we can swap into something stronger or less expensive, but remain invested for the rally ahead.

Gold Accounts
Our gold accounts remain fully invested, with cash holdings down to under 2%. We have been buying as stocks have declined in recent months, both seniors and juniors. Our allocation to senior producers inched up again, now to a little over 26% of accounts, the highest weighting for some years. This is a result both of senior stocks holding up better in the recent decline, but also because of additional buying in this area. As before, mid-tiers are a little over 20% of accounts, with the rest in exploration companies and other resource stocks. Difficulties lead us to sell As usual in the gold and resource accounts, we trade a little more than in global accounts. This quarter we exited two companies, Newmont as protests against its $4.8 billion Minas Conga mine in Peru caused a suspension of the project; and Solitario, a company we bought for its royalty portfolio but sold as it undergoes the difficult task of developing its own mine. We will return to Newmont, but thought prudence the better part of valor, particularly in a weak market. Depressed prices present buying opportunities We added two new companies, Agnico-Eagle, a high-quality Canadian producer, whose stock tumbled after it wrote down a rather minor project; and Keegan Resources, with an advanced project in Ghana, and very undervalued. We expect to hold these for a while, though as always, well be watching both developments and stock prices. Most of our buying has been additional positions in existing companies, taking advantage of any particularly weak stock prices. This past quarter, for example, we added to Eurasian Minerals, Vista Gold, Allied Nevada, and Mirasol, as well as picking away at favorite Virginia on dips. More
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recently, we have stepped up to buy Goldcorp for clients who do not own it, after the stock tumbled over 20% to the low $40s. These buys, as always, are price sensitive, and rallies cause us to step back and wait. We remain very positive on golds fundamentals and think the gold stocks could finally play catch up in the next leg up for the gold market, particularly if the broad stock market is acting well at the same time. The stocks are very undervalued relative to bullion, while many of our exploration companies have interesting projects that could attract the eyes of resource-hungry seniors. This year could be an interesting one for the gold stocks.

prudence overruled optimism. We also sold several other stocks, not widely owned by clients, where the risk had increased. New agriculture holding We added one new company, Norways Yara International, a diversified global fertilizer leader, cheap on growing earnings. We want to increase exposure to agriculture, and the fertilizer industry is the best way to do this. Most other buys this past quarter were in gold, as well as opportunistically among other companies we already own, particularly in depressed geothermal company Alterra Power, which we believe has turned the corner, nearly doubling our position. Again, we remain firm in our conviction that we are only part way through a long bull market in resources and, therefore, remain nearly fully invested. We expect rallies in various sectors throughout the year gold early in the year and will take advantage of rallies to raise cash and reposition in other areas yet to move, particularly if Chinas slowdown seems to have stabilized. We can then increase exposure to copper, iron ore, PGMs and other areas that are most leveraged to Chinas economy. In sum, 2011 was a very difficult and frustrating year, with economic, natural and geopolitical disasters driving markets down. Throughout the year, false starts in Europe and the U.S. kept markets volatile. In the end, nearly everything was down, other than the U.S. stock market (essentially flat), and gold and oil, two of the few assets to be up for the year (though not so for the stocks). While not sanguine on any speedy or final resolution to the Euro-zones debt crisis nor to Washingtons ongoing budget problems we do believe that stocks, given their valuations and the weight of money on the sidelines, could see a strong rally this year, and we are positioned for that eventuality. Adrian Day, December 31st, 2011

Resource Accounts
We remain long-term bulls on resources, as discussed above. Last quarter, we indicated that the risk had increased due to concerns about an economic slowdown, in Europe and the U.S. as well as in China, leading us to look to exit some positions. We did indeed raise cash this past quarter, ending the year at a still-low 4% of accounts. But this belies the selling we did, since much of the cash raised was redeployed into sub-sectors and individual companies with less risk or better prospects, including gold. Gold allocation high The gold stocks remain our largest weighting in the resource accounts, and increased again (for the reasons above) to around a third of accounts. We remain bullish on copper, energy and agriculture, as well as PGMs and uranium, though the last two are perhaps more dependent on China than some other resources. We exited two major holdings, Canadas Daylight Energy after a takeover bid from a Chinese company, and Areva, after the Socialist opposition party (gaining in the polls) announced plans to scale back Frances dependence on nuclear power. Again,

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