The bear awakens!

We have been bearish on the US dollar since 2001, believing that the value of the currency was in secular bear market and that a dramatic devaluation would eventuate. To date, this view has been correct, and we continue to believe that a further falls are on the horizon.

During 2005, the US Dollar Index staged a bear market rally after falling to ten year lows. However, these gains have proven to be unsustainable and in recent months the dollar has weakened markedly against most foreign currencies. With the recent break below 87.83 during April, downward momentum in the US Dollar Index has clearly returned.

Further deterioration has occurred to the chart structure, with a recent break below last September's low of 86. As can be seen on the weekly chart, the US Dollar has weakened considerably this year and we believe a retest of the December 2004 low is likely in coming months.

Fundamentally, we believe the prospects for US dollar are very bleak. Within the US, massive Government spending and borrowing, soaring future unfunded liabilities for Medicare, and a current account deficit that is now approaching 8 percent of GDP is undermining the value of the US dollar.

Abroad, the picture gets worse with countries holding large US dollar reserves. Countries such as China, Russia, OPEC producing nations and Japan are now clearly uncomfortable holding these reserves, and we believe the process of 'diversification' is well underway.

Recent events such as Iran and Russia looking to price oil in euros and their own domestic currencies could also have major negative implications for the greenback. The value of the US dollar, the world's reserve currency, is inextricably linked to oil and oil producing nations. If oil producing countries such as Russia and Iran price their oil in currencies other than dollars, then a significant demand component is removed.

Should these moves influence other countries to not trade exclusively in US dollars, a major devaluation could result. Maybe this is why the gold price is seemingly unstoppable as the market begins to price in the probability of such an event occurring. Please refer to FAT11 for further reading on the outlook for the US dollar.

The Merk Hard Currency Fund (MERKX) is managed by Merk Investments, an investment advisory firm based in the United States. The manager aims to diversify investors away from the US dollar through a portfolio of high quality, short term money market securities in foreign countries that pursue sound monetary policy. In addition, the fund invests in the ultimate hard currency - gold, which has around 10 percent weighting in the portfolio.

The Fund aims to protect against a decline in the dollar while potentially mitigating stock market, credit and interest risks. Launched on May 10, 2005, the Fund has grown to over $20 million in assets.

Over the past two months Merk has performed robustly, rallying to an all-time high of $10.75. This follows nine months of consolidation above the July 2005 low of $9.42 which coincided with a bear market rally in the US dollar. The recent break higher and acceleration of the upward trend confirms a positive chart structure in our opinion. We believe additional gains will be forthcoming over the medium to longer term as the bearish downward trend resumes in the US Dollar Index.

We believe this investment is relevant to Members, given the manager's similar ideology to our own, that is, their grave concerns for the future value of the US dollar. Specifically, Axel Merk, the head of Merk Investments, is aware of the inherent systemic risks now facing the US economy such as the enormous trade deficit and growing imbalances within the financial system.

The manager's concerns and growing awareness of the potential economic problems facing the US stem back to before the bursting of the technology bubble in 2000. Greenspan and the Clinton Administration managed to maintain US consumer spending through record low interest rates and tax cuts. This however had the negative longer term impact of accelerating imbalances in the US and offshore financial markets to unsustainable levels.

We believe these actions (and ongoing actions of the current Fed Governor, Ben Bernake) are continuing to have a corrosive impact on the greenback. This explains why the Fund is has pursued a diversified approach to investing, with substantial gold and hard currency exposure.

As at March 31, 2006, the portfolio comprised the following country weightings:-

Gold exposure is achieved through the use of gold Exchange Traded Fund's and futures. In terms of the Fund's top security holdings as at 31 March, 2006:-

Merk determines currency allocations based on an analysis of monetary policies pursued by central banks and economic environments. As highlighted above, the objective is to identify countries that adhere to sound monetary policies, or are backed by gold. Once this determination has been made, money market instruments are selected to create a liquid portfolio of short duration and high credit quality.

In some instances, the Manager will accept a lower yield in certain currencies in exchange for high credit quality of debt securities. Through investing in a basket of currencies (including gold), Merk aims to hold a diversified portfolio and thereby reduce the risks of a currency crisis occurring in any one country.

The types of money market securities that Merk invests in range from foreign governments, financial institutions, corporations and other entities able to borrow money. In order to limit and mitigate credit and interest rate risk in the portfolio, the Fund maintains a weighted average portfolio maturity of 90 days or less. Additionally, the Fund only buys money market instruments that have effective maturities of one year or less at the time of purchase, and that are issued by companies with an outstanding unsecured debt issue rated in the top three ratings by U.S. nationally recognized ratings services.

In terms of performance, as at May 10, 2006, the Fund has outperformed the benchmark, the US dollar index, by a considerable margin. The U.S. Dollar Index (USDX) is a trade-weighted geometric average of six major currencies. The Dollar Index rises when the dollar increases in relation to the currencies the index tracks. The opposite occurs when the dollar falls in value in relation to other currencies.

Returning an annualised 7.41 percent since inception, the Fund has outpaced the inverse performance of the US dollar index which has declined by 0.4 percent over the same timeframe. We anticipate the Fund outperforming strongly over the next two years, given our view that the US dollar will undergo a severe devaluation.

Management fees are reasonable at around 1.3 percent of funds under management, and the minimum investment is $2,500 or $1,000 if investing through an IRA, qualified pension or systematic investment plans.

During 2005, the US Dollar Index staged a bear market rally after falling to ten year lows. However, these gains have proven to be unsustainable and in recent months the dollar has weakened markedly against most foreign currencies. With the recent break below 87.83 during April, downward momentum in the US Dollar Index has clearly returned.

Further deterioration occurred to the chart structure, with a recent break below last September's low of 86. As can be seen on the weekly chart, the US Dollar has weakened considerably this year and we believe a retest of the December 2004 is likely in the coming months.

Accordingly, we recommend investment in the Merk Hard Currency Fund at around $10.75. Please visit the Merk website at www.merkfund.com to download a prospectus or contact your financial adviser. Merk will now be included in the Fat Prophets Portfolio and reviewed on a regular basis.