Adrian Day: Another QE Blast Can't Kill Commodity
Source: Karen Roche and Brian Sylvester of
Even if devaluing dollars and euros result from further bouts
of quantitative easing, even if American and European economies
remain in the doldrums, and even if the pace of China's growth
slows dramatically, we can count on the commodities boom to
continue. That's the way Adrian Day Asset Management Chairman and
CEO Adrian Day sees it, and he's not about to budge from that
viewpoint. Read this exclusive
interview to learn why.
The Gold Report:
Adrian, you recently published
Investing in Resources: How to Profit from the Outsized
Potential and Avoid the Risks,
your first book in 28 years. Why another book after all this
I think the topic is remarkably crucial and important. Everybody
understands the main drivers behind the increase in resources
prices, but most people, including those in the business, aren't
yet fully grasping the scale of the resource shortage that I see
coming. They know China's demand is going up. They know it's more
difficult to get permitting and more difficult to find new
deposits. But I don't think they really appreciate the extent of
What is the most important thing for investors to know?
One of the keys is to really understand what kind of investor you
are because what you buy and how you trade depends on that a
- Can you tolerate risk? Or, will you panic if stocks decline
50%? Rick Rule, one of my friends in the business, keeps
reminding us that volatility is a fact of life. How you use
volatility determines whether you're successful. Make volatility
- How much time are you willing to devote?
- And frankly, how much money do you have to invest? If you
don't have a lot of money, perhaps you want to be invested in one
or two mutual funds. The more money you have, the more you can
invest in different sectors and different areas.
So, the first thing is that people have to know themselves.
You talk about this enormous resource shortfall. Surely, the U.S.
doesn't appear to be on the brink of any boom. Why is it so big,
especially considering that there was no shortage 5 or 10 years
ago, when our economy was booming? Even China isn't growing at the
rate it was.
It doesn't matter whether the U.S. is booming or not. It doesn't
matter whether Europe is booming or not. China has been driving the
resource market and will continue to drive it for the next decade.
That's what really matters; that's why I say it doesn't really
matter if China's economic growth slows from 9.5%-5%. The demand
for resources will still be very dramatic, and much higher than it
is now. Just think about it. Everybody in China wants the same
things we do. They want houses with electricity and running water
and indoor plumbing. That takes steel and copper. If they move from
a rural area into the city, at some point, they want a car. That
takes aluminum and platinum, rubber for the tires and, of course,
oil to run it. Obviously, cars are much more resource-intensive
than bicycles and China is changing from bicycles to cars.
When countries industrialize, they tend to go through a
characteristic pattern. Typically, the demand for
commodities-resources-starts to grow as the GDP increases. It
starts from a very low base and slowly over a period of 10-15
years, or even longer, it begins to gather momentum to double that
When the GDP reaches a certain level, though, the
industrializing economies hit that takeoff point. Then the demand
for resources starts to accelerate. For Japan in the 1960s and
Korea in the 1980s, demand for most resources accelerated for a
full decade until the economy industrialized and matured, and then
the demand reached a plateau. The demand doesn't decline; it
reaches a plateau. The critical thing is that demand for resources
increases and accelerates at that takeoff but it increases on a
per-capita basis because individual's needs and wants change. They
go from bicycles to cars, from shacks to apartments, from open
fires to stoves, from hanging up clothes to using dryers and so on.
All these new wants require more resources than the old
necessities. China represents 20% of the world's population. So
unless its industrialization reverses-not slows down but
reverses-the demand for resources is about to accelerate.
So slow acceleration brings an evolving country to a tipping point,
after which the demand grows exponentially.
Absolutely. And we could look at copper. . .at all of the
resources. The pattern of consumption would be similar. It has much
more significance than what happened in Korea or even Japan,
because it's China-because of the population.
How do the other BRIC countries figure into your equation?
India is a long way behind. India today is about where China was 10
years ago. As China's economy reaches a mature stage-mature in
terms of the consumption of commodities, which probably will be
10-15 years from now-India will be just about at that takeoff
So, we have two tidal waves coming?
Absolutely. India right behind China, and then Brazil and another
country with a large population, right behind India.
Why aren't the general investment markets seeing this?
I think that in very long-term, dramatic trends, people always tend
to be playing catch-up. You see it with individual companies with
big discoveries that continue to grow. The stock price goes up, but
it's still good value because investors also generally have
difficulty with a big trend getting ahead of them. Their
understanding of it is always lagging.
What makes your book different?
My book is very much a primer, if you like, not aimed at experts in
the field but rather for educated investors who don't really know
much about resources. I think it is particularly helpful for newer
investors, or investors who are new to resources, because I try to
write without jargon. I'm not trying to show people how clever I
am. I'm trying to make it understandable to ordinary, intelligent
people who know a little about investing but don't necessarily know
anything about resources. So I think that's one thing that makes it
different. It's very accessible. I don't cover every single
resource out there but I try to cover the main resource areas in
separate, short chapters. I try to help people with practical
You've talked a lot about quantitative easing in the U.S. in
conversations, lectures and interviews. How does that factor into
the trend toward higher commodities prices?
There are always two major areas to consider any time you look at
commodities-the supply/demand factors and the overall economic
environment. Other things being equal, a declining dollar means
higher commodity prices. More money being put into the system and
low interest rates mean higher prices for commodities. Well, guess
what? We've got a falling dollar, more money being put into the
system and low interest rates. So, we have the perfect economic
environment on top of the perfect supply/demand situation.
An accelerant on the flames.
I have no doubt that, at some point in the next few years, we're
going to see an upward, albeit temporary, correction in the dollar.
I have no doubt that we're going to see a slowdown in China. When
China's GDP growth drops from 9.5%-5%, 4% or 3%, everybody will
think the world's ending-but that's still pretty good, positive
growth. But it wouldn't surprise me if we had setbacks. Let's not
forget that during the U.S. industrialization from 1870 to the
start of World War I, the U.S. had a depression, a recession,
strikers getting shot in the streets-all sorts of problems. Think
of England's industrialization after the Napoleonic War, from
1815-1840, when Britain transformed from an agrarian to an
industrial economy. Again, recession, deflation, the
. . .all sorts of problems going on intermittently. I have no doubt
that will happen in China, too; but if you take the big-picture
view and don't let these setbacks scare you, you'll look back to
see that they only last a short period of time. They're just
interruptions in the big theme.
Resources are more cyclical than most things and there are basic
economic reasons for that. If you look back in history, the longest
sustained periods of rising prices for commodities across the board
always can be identified by a new source of demand-not a shortage.
So, if you look at resources from 1870-1914, when both the U.S. and
Germany were industrializing, you see a long upward move in
resources. The same goes for the period from 1815-1840.
Investors must understand major market drivers and why the
industrialization of China, and the growing middle class that goes
with it, are so important. People in cities use more resources than
people in the countryside. Middle-class people buy things that use
more resources than poorer people, etc.
If we come into a slowdown, look at whether those major drivers
have reversed and are no longer valid. Is this the end or just a
temporary slowdown? If you agree that this is a long-term super
cycle, don't let the corrections scare you.
Corrections can be very sharp and severe. Gold declined 50% from
1973-1974. A lot of people freaked out and sold right at the
beginning of the second leg up, which, of course, was the biggest
leg up. Similarly, commodities corrected very, very sharply in
2008-and many investors panicked, sadly; but the key is that they
bounced back very quickly, as well. I think that was a reflection
of the real fundamental demand in China. Of course, at the end of
2008 huge inventories had been built up both there and in London.
An exaggerated move in commodities prices resulted when speculators
got in and hedge funds built up.
When the prices started to correct, the decline also was
exaggerated because not only was there slowdown in fundamental
demand, but also a depletion of the inventories and hedge funds and
speculators were dumping at the same time. Despite all of that,
resources bounced back very, very quickly. Copper came back.
Aluminum came back. It was not because the U.S. economy had a huge
rebound; they came back purely because of Chinese demand. It wasn't
speculation, it was real demand.
What basic strategies do you tell people to employ?
The main strategic advice I give to people is to be really careful
not to sell out too soon. I believe this is a multiyear bull market
in resources. We'll see resources prices go much higher. I don't
want to sound as if I'm waving my arms because I don't normally
talk that way. Still, over 5, 10, 15 years, I think prices will go
higher than we can imagine right now. Part of that will be in
deflated dollars, of course; but if you buy quality companies with
sound balance sheets that own resources in the ground in good
jurisdictions, avoid the temptation to sell when the stock moves a
little bit. You may not have the opportunity to buy back.
Here at the Hard Assets Conference, when we hear the term
"resources," we can probably figure we're talking about mineable
materials. Is that how you define resources? Or, do you mean
I must admit I am switching around a bit between the words
"resources" and "commodities," but in this context I'm talking
about everything from the precious metals to the base metals to
energy-oil, gas, uranium, geothermal; and when we say "commodities"
we include agriculture. I think agricultural assets will be among
the best-performing assets over the next decade.
You mentioned selling and not selling to soon. How do you strike a
balance between taking some money off the table-taking profits-and
staying in the game long enough to maximize what you should
That's always a critical decision. When we buy shares for a client,
we know in advance whether it is likely to be a core holding or a
trading stock. As Doug Casey would put it, we know whether it's an
'eating sardine' or a 'trading sardine.' Obviously, you want to get
rid of the trading sardine before it starts smelling.
Any examples come to mind?
Sure. If you have a big position in
Freeport-McMoRan Copper & Gold Inc. (
, that would be a core holding, an eating sardine, and I'd be
pretty cautious about selling it. I certainly wouldn't sell all of
it. If the stock moved to a point where I thought it was just
overpriced and other copper companies started looking particularly
attractive relative to Freeport, I would start to trim the Freeport
but I certainly wouldn't sell it all. I would only sell out if
something dramatic happened, such as a major change in strategy or
something fundamental happened to change the company.
Does that philosophy apply to micro-cap stocks?
No, absolutely not. Freeport's market cap is upwards of $46
billion. Micro caps are at the other end of the spectrum. The
situation is the opposite when you have a small company that needs
to keep raising money and is mostly dependent upon a single asset.
In that case, I think you'd want to be much more of a trader.
I'm not a geologist and I don't have technical training, so I
tend to favor companies not for a particular property or whether
the geology looks good but because they have a good business plan,
a diversity of assets, good management, a sound balance sheet and
so on. With them, you're not buying a specific property with a
particular drill hole or drill-hole season. When we do buy
companies that depend on a single property, we tend to be very
quick at selling on either good or bad news.
Does your new book focus more on these micro caps or the major
Both. The first part of the book talks about the whole macro
issue-supply difficulties, demand and where it's coming from and
how resources act during both deflations and inflations. It talks
about how economic factors affect resources, and then it goes into
each particular sector-oil, gas, uranium, coal, etc.-for both big
and small companies.
Any examples of those?
Not really, because I don't spend a lot of time in the book
discussing individual companies simply because things change so
much. In fact, I'd written about some companies in the manuscript
that I sent in to my publisher in March and when they sent me the
pages back for final editing in May, two of them had been taken
over. So it just doesn't make sense in a market like this to talk a
lot about junior companies.
More broadly speaking, does your buy-and-hold strategy apply to
I don't think you can afford to be exclusively a buy-and-hold
investor in the resource area because these stocks are so volatile.
It also depends on what sector of the market you're looking at. Let
me step back a bit. Considering the enormous increases in
commodities prices I foresee over the next 10 years, I think you
want to be exposed. You don't want to try to be too clever and
trade only to find that you missed out on a big move. The moves can
come very quickly. I know an awful lot of people who panicked and
sold at the end of 2008. By the time they finally bought back into
the market, they paid double or triple their selling prices. In
other words, I'd avoid the temptation to get out of the sector
There are times to be more heavily invested in copper and times
to be more heavily invested in oil. Focus on commodities that are
particularly cheap and attractive right now. When they get
expensive and perhaps less attractive, reduce your exposure. So,
certainly you're trading on the various sectors as time goes on.
Particularly the juniors, I think you want to be active and you
want to take profits. No question.
What other sectors will benefit from the growth in China and
Look at where people spend their disposable income and the effects
of a growing middle class. Typically, when you have a poor rural
country you have very rich and very poor but a very small middle
class. When the economy industrializes, the middle class grows. For
example, 15 years ago Brazil had a very small middle class-a lot of
very wealthy and a lot of very poor. Brazil still has a lot of very
wealthy and a lot of poor, but many of them have gone from abject
poverty to barely scraping by. They're poor but a lot better off
than they were. And there's a growing middle class.
Now, one effect of this growing middle class in Brazil has been
on the mortgage business. One stock we own is
Gafisa SA (
, the third largest Brazilian residential construction and real
estate company, which is also a mortgage lender. Just 10, 15 years
ago, there were virtually no residential mortgages in Brazil.
Basically, the residential mortgage business did not exist.
Why was that?
Well, 15 years ago the country had just torn up its second
currency. It had 500% inflation and 50% interest rates. Would you
want to borrow if interest rates were 50%? Or, would you want to
lend for 30 years if you had two currency changes in 10 years and
inflation at 500%? Now that inflation is down to about 5% or 6%,
the real is a strong currency and interest rates-while still higher
than most countries-are at a much more reasonable level, 10%-12%.
So, people now are prepared to borrow money and people are prepared
to lend it. It's not that people in Brazil didn't want to own a
house. Everybody wants to own a house. It just didn't make economic
sense. Even today, mortgages represent just 3% of GDP compared with
more than 10% in Mexico and Chile. For the first time, 30-year
mortgages have been introduced. So, there's still tremendous growth
potential even if the economy didn't continue to grow.
You just mentioned one company in your portfolio. Adrian Day Asset
Management has both gold and resource accounts. What are some of
the core holding in those?
In the gold accounts, we have about 25%-30% in the seniors and
about 30% in pure explorers. We also have some in GLD or in gold
bullion, depending on which is appropriate. The rest is in juniors,
smaller producers, etc. In my investing for clients, I tend to look
for the simplest and most direct way of investing. If I can find a
really quality company that is an obvious choice, I stop there. Why
go further down the food chain? In some of the other
commodities-let's say uranium-the obvious choice is not necessarily
a great company. So, I'd look at some options to
Cameco Corp. (TSX:CCO; NYSE:CCJ)
. But in copper, for example, Freeport is great. It's the biggest
public copper mining company in the world and it has great assets,
diversified assets. It has a great balance sheet, good management
and it pays a great dividend. Why go any further?
How about in gold?
Virginia Mines Inc. (TSX:VGQ)
is still one of my largest holdings.
Did you happen to see André Gaumond (Virginia's president and CEO)
at the Hard Assets Conference?
Yes. I was glad to see him. I had dinner with him on Sunday,
actually. You can speak to every single person in the business and
not one has a bad thing to say about André Gaumond or Paul Archer
(VP, exploration). They are well regarded by everybody. It's not
just a plug for Virginia but it explains the sort of thing we look
at. Again, I'm not a geologist, so what attracts me to Virginia is
not its properties. If you asked me about the company's properties,
I could tell you maybe a sentence about each. It's not the geology
of the properties. Virginia obviously has great management with a
great track record. But it's the business plan. It's not a pure
joint venture (JV) company, but it has a strong balance sheet and
$44 million in cash and money coming in. The cash coming in from
the JVs it manages gives it the cash flow to put money into the
ground and not have to keep going back diluting shareholders. Where
it sees key properties it likes, the company can afford to put
money into exploration without always coming back to the market.
That's the key.
To me, the key in juniors is the dilution. If you're not getting
income, you must have dilution, either at the company or property
level. The question is: Which is better? You want to avoid diluting
shareholders continually and exaggeratedly. The traditional model,
of course, is to raise money, drill a hole and go back saying,
"Hey, we have some good results. Give us more money," drill another
hole, go back, etc. Some companies have gone back two or even three
times in the same year-and that's a big drag on their stock prices.
The model I like minimizes that to an extent or even avoids it.
You said you could give us a sentence or two about Virginia's
The company's biggest asset outside the $44M in cash is the royalty
it owns on
Goldcorp Inc.'s (NYSE:GG; TSX:G)
Éléonore Property. The last resource estimate Goldcorp put out at
the beginning of this year actually doubled the resource, bringing
it up to 9.4 million ounces (Moz.)-but it's going to be bigger than
that. You can do a net present value on a royalty quite easily
using a discounted cash-flow model. Make an assumption on a gold
price and a discount rate, and then you know what the thing is
worth today and what someone else would be willing to pay for it.
At $1,100 gold steady with a 5% discount, it's worth about $180
million. Add the $180M to the $44M and you find that those two
assets alone equal or actually exceed the market cap of the entire
company; it has no debt, so everything else comes free, including a
zinc deposit, which is just sitting on the shelf. It's free; that
and the 4 Moz. gold resource it owns at different projects-all
free. Its JVs-all free. I like free; so not only would I buy
Virginia now, it's an example of my ideal kind of company. Not
relying on a particular project or a drill hole, I'm betting on
Virginia. I'm patient. I don't mind how long I have to wait.
Whether it wins this year, next year or three years from now, I
think Virginia will win. In the meantime, the downside is very
limited because the stock's selling for less than that asset value.
I like that kind of model where the downside is low and the
upside's just a matter of time.
And doesn't the royalty actually increase when Éléonore goes into
Oh, yes. Right now, they're just getting $100,000 a month I think.
Actually, it's unusual even to have advance payments. But when
Éléonore goes into production, which is scheduled for 2014, the
royalty goes up. As the production goes up and the price of gold
goes up, the royalty actually goes up to 3.5%. That would be a
very, very attractive royalty-cash flow that is also profit.
Any other gold companies on your go-to list?
Another company similar to Virginia would be
Midland Exploration Inc. (TSX.V:MD)
. It's much smaller, about $30 million in market cap.
Also a project generator.
Virginia started out with the same model. It was pure project
generator, but now it's big enough it can afford to take on more
risk itself. Midland has five JVs with
Agnico-Eagle Mines Ltd. (TSX:AEM; NYSE:AEM)
Osisko Mining Corp. (
North American Palladium Ltd. (TSX:PDL; NYSE:PAL)
, Japan Oil, Gas and Metals National Corporation (JOGMEC) and
Zincore Metals Inc. (TSX:ZNC)
. So, it has JVs in zinc, rare earth elements (REEs) and gold. It
also has JVs with other companies spending the money on gold, and
several gold properties. Gold is a dominant one. The REE business
is particularly attractive because JOGMEC is already drilling the
property in an extremely aggressive program on a $13M budget. This
doesn't guarantee it'll find anything; but, if it decides to back
out, we'll know the company gave its best shot. That's all you
really want from a JV partner.
So Midland has multiple projects and multiple resources with
numerous different partners, plus a good balance sheet. It's only
about $4.5M-$5M, but that's more than enough for now. It's
continuing to generate new projects, so I like Midland an awful
lot. It's trading at about $1.77 right now. Frankly, I wouldn't
chase the price too much; but with a good company like that, your
surprises are always more likely to be on the upside. That's why
I'm a little less price sensitive than with a pure drill-hole
Have you added any new companies to your list recently?
Over the last few months, we've bought a lot more new companies in
the global markets, particularly in the emerging markets and the
resource area. We are buying the
Renaissance Gold Inc. (TSX.V:REN)
-a spinoff of AuEx Ventures, which was acquired by
Fronteer Gold Inc. (TSX:FRG; NYSE.A:FRG)
. I like the Renaissance Gold business plan. The company's got a
good balance sheet, successful people like Ron Parratt; I like the
management a lot.
We've also been buying
Mirasol Resources Ltd. (TSX.V:MRZ)
, which just started drilling a highly prospective silver project
in Argentina. It has great management and a strong balance sheet.
However, given the excitement surrounding silver, the stock price
is now discounting a fair amount of success on this project, so I
wouldn't buy now. The problem right now is that most stocks are no
longer a good value-not even the best companies, or they are
discounting success that may or may not happen.
Believe me, I'd much prefer to be rattling off lists of
companies and proclaiming them all great buys. It's more fun for
me, and certainly more fun for your readers. But that's not the way
it works. And right now, we have to be selective and patient.
Are you buying anything today?
One of my favorites in the general resource area is
Sprott Resource Corp. (TSX:SCP)
. If you buy Sprott, which is quite a liquid company, you're
getting it at a discount to net asset value (
). NAV is about $5.20; the stock's been trading at about $4.35.
You're also getting great management-Kevin Bambrough and
company-and a great balance sheet.
Sprott has direct and indirect investments in different resource
areas, buying whole companies, sponsoring companies or growing
them. The four main areas it's in now are: 1) gold, primarily gold
bullion; 2) oil and gas; 3) agriculture; and 4) fertilizer. When
the companies reach a certain level, ideally it will spin off a
certain amount of the shareholding in a public company. Sprott is
extremely disciplined and has done this a few times already. This
is a great buy right now at today's price; it's depressed due to a
significant warrant issue that expires December 31, so I don't
expect this weakness to last.
Evrim Metals Corporation is a private company now, but it's
going to go public after a reverse takeover in probably the first
or second week of January. Evrim was put together by some pretty
good people, one of whom was Paul Van Eeden, with Paddy Nicol as
CEO, who were instrumental in putting a deal together for Evrim to
buy the Mexican assets of
Kiska Metals Corp. (TSX.V:KSK)
. In addition to Kiska's properties, Evrim also got all of its
Mexican geologists. They are planning to follow the classic model
of drilling the properties a bit, and then joint venturing them to
bring money in. Hopefully, there won't be much dilution. So, I like
that one a lot. Good people, good balance sheets, good properties
and a great business plan.
That sounds like something worth waiting for, too.
Yes, it is, but it might also be worth saying that the first day of
trading is not necessarily the best day to buy it when a widely
anticipated company actually comes out.
Many times, it's the worst.
Well, I'm English so I understate things but there's always pent-up
Do you recommend ETFs?
Yes, but there are pitfalls. The ETFs are not necessarily the best
way to play. GLD, the gold ETF, is a great way to play gold and
Uranium Participation Corp. (TSX:U)
, which is a closed-end fund not an ETF, of course, is a great way
to directly play uranium. But I don't think the commodity ETFs are
the best way to play other commodities because, by and large, they
invest in futures contracts, not the commodities themselves. With
some commodities, oil in particular, you have very high
contangos-the difference between forward and spot prices. So,
they're continually rolling over contracts at higher prices. Oil is
a classic example; the oil ETF has actually lost money over the
last four years even though the price of oil has done quite well.
They're always buying high and selling low, which is not exactly
the road to successful investing.
Anything you'd like to wrap up with?
Every single commodity is going to participate to greater or lesser
extent-precious metals, base metals, energy, uranium, geothermal,
agricultural, water, copper, zinc. . .everything. With some things,
the fundamentals aren't quite as strong as with others; some things
are perhaps a little too expensive already.
Copper is one that typically moves early on, at the beginning of
industrialization, because copper is used for infrastructure
construction and for power plants. Copper is still very, very
strong; in a couple of years time, zinc will be very strong. We
have excess uranium supply and capacity right now and the
possibility of Cigar Lake coming on. But the point is, if you look
at supply/demand, China's huge demand growth has not yet started
but the supply is already quite strong, quite ample. The really big
crunch for uranium will come in the second half of the decade when
China's demand ramps up, some of the excess capacity has been used
and some of the big mines have started to mature and decline a
And your investment advice as this picture takes shape?
Markets anticipate, so you want to be accumulating zinc and uranium
even though the supply/demand crunch isn't there yet. But because
you've got a few years, be a little more sensitive on the
Adrian Day, London born and a graduate of the London School of
Economics, heads the eponymous money management firm Adrian Day's
Asset Management (P.O. Box 6643, Annapolis, MD 21401;
; 410-224-2037) where he manages discretionary accounts in both
global and resource areas. His latest book, just published, is
Investing in Resources: How to Profit from the Outsized Potential
and Avoid the Risks (John Wiley & Sons),
available from bookstores or from Amazon and other online
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1) Karen Roche and Brian Sylvester of
The Gold Report
conducted this interview. They personally and/or their families own
the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors
The Gold Report:
Goldcorp, Kiska and Midland.
3) Adrian Day: I personally and/or my family own shares of the
following companies mentioned in this interview: None. Clients for
whom I manage money own all companies mentioned. I personally
and/or my family am paid by the following companies mentioned in
this interview: None.
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Kenwood, CA 95452
Tel.: (707) 282-5593
Fax: (707) 282-5592