Since 2000, dollar down 22%, gold up around 500% – Which the better safe haven?
The Gold Report: In a recent edition of the Frontier Research Report, you wrote, “As perplexing and disconcerting as it may be, the performance of major global stock markets currently has a much stronger influence on share prices in the mining sector than the actual performance of the underlying commodity.” How is that different from previous cyclical dips in the resource commodity space?
Carlos Andres: It’s not different at all. The commodity space tends to be viewed with a bit of fear and skepticism by most retail investors and analysts generally. By extension, mining companies are viewed skeptically also, especially those in emerging and frontier markets. As a result, resource companies in emerging and frontier markets tend to be the last to receive investment capital during a bull market in stocks and the first that investors exit when markets get rattled.
TGR: Do you see a time in the near future when mining equities are influenced more directly by commodity prices instead of overall market conditions?
CA: It happens in the mature phase of a commodity bull, but the dynamic just described isn’t going to disappear. However, I wouldn’t be in this space if I didn’t expect there to be appreciation in the shares. Although rising commodity prices drive the process, investors and analysts cannot ignore rising profits at mining companies as commodity prices rise. Analysts begin to look foolish by ignoring sectors that are outperforming. Generally, these rising profits begin to attract the investment herd to the mining space. Some of this money will also find its way into the junior resource exploration companies we cover. Because this market is relatively small compared to the overall market, it doesn’t take much investment capital to drive share prices significantly higher, often many multiples higher than where the share prices bottomed.
TGR: In your latest edition of the Frontier Research Report you wrote, “Gold outperformed all major stock markets (in 2011) with a gain of +10%, confirming its role as the ultimate safe haven.” Yet many pundits believe gold plays second fiddle, if not third or fourth, to the U.S. dollar in terms of “safe haven” investments and that gold’s fall in the latter half of 2011 severely tarnished gold’s reputation as a safe haven. Whom should retail investors believe?
CA: Since January 2000, the dollar is down 22%. During that same period, gold is up 497%. During this same period we have had a tech bubble, 9-11, wars in Iraq and Afghanistan, a global financial crisis in 2008 and the global train wreck that characterized 2011. This is a hint at the answer to your question. In 2011, the dollar was flat, while gold was up 10%. You be the judge.
TGR: Last year marked the 11th straight year of gains for gold. It has only returned less than 10% in four different years: 2001, 2004, 2008 and 2011. That pattern suggests that gold slumps slightly every three years. It begs the question: What’s the pattern in the years immediately after a slump?
CA: Gold has performed very well after the years with single digit gains. For example, gold returned 1% in 2001, but then returned 26% in 2002 and 20% in 2003. In 2004, gold had a 5% gain, but in the following years it was 17%, 23% and 32%. In 2005, it returned 5% again. However, in 2009, it reached 25%, and in 2010, it hit 30%. Based on historical returns, gold could perform quite well in 2012. It could also break the pattern and underperform, and that wouldn’t shock me or cause me to change my outlook on gold. If gold didn’t perform well in 2012, I would still keep my eye on the supply and demand fundamentals, which are as positive, if not more so, than they were at the beginning of the gold bull more than a decade ago.
TGR: The gold price is already off to a good start for the year.
CA: That’s right. It’s up 14%. As you say, we’re off to a good start.
TGR: What role could China play in gold’s performance this year?
CA: China’s role could be huge. China is the largest gold producer on the planet. It is also the second largest consumer behind India. However, China’s demand is rising at a torrid pace and thus will likely pass India in the near future. No other countries even come close to the level of demand from these two. The Chinese government has become extremely aggressive in building up the country’s gold reserves as well as promoting gold ownership for its citizens. It has adopted a long-term policy of accumulating gold reserves with a goal of catching the U.S. Believe it or not, China would ultimately like to see the yuan established firmly as a global reserve currency like the dollar. The government is also encouraging the public, which has a historic affinity for gold anyway, to accumulate a significant portion of its already large savings in gold. Therefore, China will continue to be a huge driver underpinning a rising gold price.
TGR: If there were transparency in China’s purchasing patterns, would we see a rise in the gold price?
CA: It’s widely believed that the Chinese are buying far more than it admits to. It’s only recently that China has admitted to having over 1,000 tonnes, which was a surprise because it was believed to be much smaller than that. This revelation provided strong support for the gold price. We know that over the short term, China wants to catch up with the reserves of Germany, France and Italy at around 3,500 tonnes and ultimately the U.S., which has around 8,000 tonnes. If China’s true activities were revealed, I suspect it would drive the gold price to much higher levels.
TGR: You haven’t ditched gold because of events in 2011. What opportunities are you looking at this year?
CA: No, I haven’t steered away from gold. The fundamentals look fine to me, so I’m happy to buy junior gold explorers in emerging and frontier markets at these distressed levels.
TGR: What does your research process involve when you’re investigating a mining company?
CA: I generally visit exploration projects, interview management and perform extensive due diligence on all public and private information I can get my hands on. I’m very interested in looking for opportunities in emerging and frontier markets because they tend to be shunned for their perceived risk as opposed to actual risk. Our approach is to take a close look at these companies, their projects, the jurisdictions they operate in, their management teams, financing, and investor relations as factors to get a feel for their prospects, regardless of the fact that they may be in emerging and frontier markets where perceived risk is fairly high. We pick the best of the best. Honestly, the more risk associated with these companies, the more we like it. It means we’ll be able to buy the shares at depressed prices that don’t reflect their inherent value.
TGR: Do you have some parting thoughts on this space?
CA: The markets, natural disasters, financial crises, economic upheaval, geopolitical events like the Arab Spring-all of these things made 2011 one for the record books. It created a great deal of fear in the minds of investors, even though the junior gold mining sector had positive fundamentals. The markets were overwhelmed, even in the places where there was some light. Investors need to stay dialed into the fundamentals because, over the long term, fundamentals will assert themselves regardless of short-term shocks to the marketplace. I encourage investors to be bold enough to take advantage of price weakness when it comes. This is one way in which you mitigate risk in the sector. Buy strong companies where the underlying fundamentals are also extremely strong. Even when those companies get hammered during hard times, investors should use those as buying opportunities to add new companies to your portfolio or reduce the basis in your existing holdings.
TGR: Thank you for your time, Carlos.
CA: It was my pleasure, Brian. Carlos Andres is the managing editor and chief analyst of the Frontier Research Report, a natural resource-oriented monthly investment newsletter focused on high-risk, high-reward junior exploration companies in emerging and frontier markets. Andres applies a potent mix of world-class expertise and lengthy experience in identifying countries and companies where “perceived” risk is much higher than “actual” risk, providing opportunities to profit significantly on the difference. Andres has been a natural resource analyst and investor for over 15 years.