Equities Will Catch Up to Higher Gold Price: Matt
Source: Brian Sylvester of
Ongoing inflation pressures and China's investments in the
African gold supply chain point to a higher gold price according
to Matt Badiali of Stansberry & Associates. Bullion in all
its forms belongs in every portfolio and when it comes to
equities, investors have their choice of business models-dividend
payers, prospect generators and royalty companies. In this
interview, Badiali outlines companies whose equities should catch
up to the higher gold price.
The Gold Report:
Matt, in the February 2012 edition of Stansberry's
Porter Stansberry predicted gold would hit $9,600 an ounce (oz)
someday. How should investors protect themselves from this coming
In general, I agree with Porter's thesis. Bullion-gold, silver
coins or bars-should be part of everyone's portfolio. It is one
of the best anchors against inflation. Gold and gold stocks also
are important holdings because as the value of paper money falls,
the value of gold rises.
Stock prices have not gone up as much as the gold price. Will
that trend continue?
We have been in an odd scenario. If gold miners were T-shirt
makers and the price of T-shirts went up, the market would buy
the company to match the earnings. That has not happened for gold
Last year, the Market Vectors Gold Miners ETF (GDX:NYSE.A) was
down 25% while the price of gold was up 15%. Looking at just the
last three years, stocks were up 40% while the gold price rose
90%. So, in the short term, the Gold Miners ETF has
Gold miners' earnings have climbed dramatically, but their
share prices have not followed suit. I believe gold miners will
outperform the metal just because they have to rebalance.
What does the volatility in gold tell us?
Generally speaking, the market wants a stable U.S. dollar. It
rallies to dollars for all sorts of reasons. I think that is
So many new dollars have been printed that the value of all
tangible things has to increase in response. For example, we all
think $110/barrel oil is crazy expensive. But, relative to gold,
oil has been less expensive over the last couple of years. The
price of oil is falling in terms of real money, but going up in
terms of dollars. That is a good indicator of how much new paper
money has been printed.
What effect would higher interest rates have on junior miners?
Can the increase in the gold price offset the greater cost of
Raising interest rates immediately strengthen the dollar, and a
strong dollar is hard on all real assets. They rein in inflation,
and inflation is why the price of real things like gold and oil
go up. Therefore, if rates increase, the price of gold will
Many companies have already adapted their plans to a higher
gold price. Recently, I have seen development plans based on
$1,000/oz and $1,200/oz gold. If the dollar were to strengthen
and the gold price fall, it would negatively affect the gold
How does the price of oil affect the operating expenses of gold
A gold mine is essentially a commodity swap. A company uses fuel,
diesel, gasoline, electricity, concrete and steel to build out a
mine and recover gold. As long as the commodities you put in cost
less than the commodity you take out, the mine is in
Over the last 10 years, the commodity cost to build mines has
increased. In any business, when your costs rise as quickly as
your revenue, your earnings stay pretty much the same.
On the earnings side, some large precious metals producers are
offering dividends. Is that working?
Newmont Mining Corp. (NEM:NYSE)
pays a 2.9% dividend, tied to the price of gold. That is a
spectacular idea if your operating costs are well enough in hand
to support it.
The thesis is that the Federal Reserve will continue to
stimulate the economy by adding money to the system, thereby
driving up the gold price. If you trust that thesis, buying a
dividend-issuing gold company now when they are relatively
inexpensive will lock in your yield at a lower price.
Newmont's profit went from $4.7 billion (
) in 2009 to almost $6.5B in 2011. The rising price of gold
contributes heavily to its bottom line. Investors who get in now
stand to see a 5-7% yield in a couple of years.
Can that same business model work for smaller companies?
It depends. There are some opportunities out there, but there
have also been some spectacular failures. For example, I thought
the silver miner Hecla Mining Co. (HL:NYSE) would be a great
company over the long term, but it had a problem with its Lucky
Friday mine and the company tanked.
But that was a resource problem, not the business model.
Sure, but the point is the dividend model works for the big
miners like Newmont,
Barrick Gold Corp. (ABX:TSX; ABX:NYSE)
Goldcorp Inc. (G:TSX; GG:NYSE)
. Companies that can diversify their revenue stream over many
mines on many continents mitigate risk. They can absorb more hits
and continue to pay dividends. If a company generates most of its
revenue and income from one mine and that mine takes a hit, that
company is done.
Our first rule is never take a big loss. I typically use a 30%
trailing stop on mining companies, which means that if it falls
30% from the highest point reached during my investment period, I
If a mining company falls 30%, there is a fundamental flaw.
Either the market has changed or the company has a problem. We
limit ourselves to 30% losses because we can recover that. A loss
of 50% or 80% is hard to recover.
What about dividends for royalty equity companies?
I love them. Royalty companies are my favorite. The really big,
safe ones are the best:
Silver Wheaton Corp. (SLW:TSX; SLW:NYSE)
Franco-Nevada Corp. (FNV:TSX)
Royal Gold Inc. (RGLD:NASDAQ; RGL:TSX)
. These companies have 50 to 80 royalty streams. If their royalty
stream on one mine ends, it is just a dimple in their revenue
stream. Most of these royalty companies could survive 10 losses
with only a modest hit to their revenue.
The other great thing about these royalty companies is they
have none of the carrying costs of mines. Because they take such
a small piece of a lot of mines-typically 2-5% of production-they
have very diluted political and mine-specific risk.
Does the dividend model work there?
Typically, they pay a very modest or no dividend because they
reinvest their capital.
Right now, mining companies are coming to these royalty
companies for cash to develop their mines. In return for $5
) of its cash, the royalty company gets 2% of the gold produced
over a mine's 15- or 20-year lifespan. I would rather see the
company reinvest because mining is so cyclical and there are so
many opportunities now.
In February, you produced a report, "How to be an Investor in
China's Fort Knox." What is its investment thesis?
We have been watching China's investments in Africa for a while
now. China is spending billions of dollars in Africa in very
specific ways: financing power plants, building railroads and
developing other infrastructure plays.
Why? If you want to build a mine, you need electric power. You
need to be able to get ore from the mine to a port. China is
laying the groundwork for mine development all over Africa.
Look also at what China is buying: one of the world's largest
undeveloped uranium deposits, bullion and shares in African gold
miners, from major mining companies to partnerships with juniors
and exploration projects.
At the Mines and Money Conference in Hong Kong, I asked
representatives of major Chinese investment banks and funds if
gold is a major target for Chinese investment in Africa. Across
the board, they all said yes.
How can people outside of China get involved in that?
That was my next question. The best approach is to find companies
where the Chinese government or government entities have already
invested. I think serious investors who want to participate in
mining-especially in Australia, Africa and China-need to
understand the Chinese philosophy of resource investing.
When a company gets money from a Chinese bank, it gets far
more than funds. It gets exposure to the entire Chinese system.
The banker will help the company find a market for its goods or
find a Chinese engineering firm to provide technical
Chinese banks protect their investments. Once a Chinese bank
is involved in a mining program, the company typically can get
more cash without problems.
You often emphasize the importance of diversity within the mining
company and within portfolios. Where do precious metals fit into
a good portfolio mix?
There is a spectrum of risk in precious metals. Bullion is fairly
low risk; it is limited to the commodity risk.
With major mining companies, your risk of a 50% loss is pretty
low. For investors with low tolerance for risk, a senior mining
company is the best place to be.
Mid-cap growth gold miners all have risk. For older investors
looking toward retirement, I do not recommend putting a large
portion of your portfolio at risk. If 5% of your portfolio is
higher risk, some percentage of that can be in mining.
Junior miners are just little bundles of risk. They are not
safe; 90% of them bomb. When I write about junior mining
companies, I advise investing only if you can afford to lose
What do you look for to downplay risk?
The first thing I look for is management. Imagine two junior
mining companies, both listed on the Canadian TSX Venture
Exchange. Company A is run by a lawyer and a serial stock
promoter. Company B is run by a mine executive who worked 25
years for one of the majors. To reduce risk, I would choose
Company A is most likely what I call a "lifestyle company."
Its high-rise offices have a spectacular view; management wines
and dines you, all on the company's dime.
Company B, my ideal investment, has offices in a building
where the elevator barely works. There are rocks stacked in the
lobby and geologic maps on the walls. These guys are working;
this company offers opportunity.
What are some examples of Company B?
ATAC Resources Ltd. (ATC:TSX.V)
is a great example. I know the CEO and the principals. I knew the
area and spent a lot of time there. In 2008, after the company
put out a press release on a discovery, we wrote it up and made
597% on the trade.
Riverside Resources Inc. (RRI:TSX)
, led by Dr. John-Mark Staude, who has years of experience as an
exploration geologist. This company uses the prospect generation
business model, which means it uses other people's money to find
projects. Cliffs Natural Resources Inc. (CLF:NYSE) funds
Riverside's exploration and gets a first look at whether its
projects are worth anything. Choice Gold Corp. (CHF:CNSX) is
Riverside's partner on the Sugarloaf Peak project, a low-grade
Typically, only 1 in 3,000 exploration projects becomes a mine
down the road. John-Mark and his crew have generated more than 11
projects, most of them with partners.
Riverside seems to have lots of technical knowledge, a great
database and great partners, including Antofagasta Plc (
). But its stock is at $0.86. What catalyst could take it
With a prospect generator like Riverside, you have multiple shots
on goal. Even though Riverside does not own 100% of Sugarloaf,
30% of a major gold discovery will take an $0.86 stock to the
We talked about investing in Africa earlier. What are some
exploration and development companies there that interest
My favorite African play right now, which is ridiculously cheap,
Keegan Resources Inc. (KGN:TSX; KGN:NYSE.A)
in West Africa. Its Esaase project will be a mine, the other,
Asumura, is just starting to find gold in its drill results.
Keegan is in a bad place in terms of the mining cycle. It is
spending money on permitting and environmental reports. The only
news that could come out would be bad news, like a permit delay.
Add to that its location in Africa, a jurisdiction that scares
people. Everybody expects it to be bought by a major mining
company. While that drags out and the company continues to spend
money, the share price continues to erode.
I think Keegan will be taken out. My concern is that its share
price has sunk so low, it may get taken out at a modest premium
and wind up not being anywhere near the value I anticipated.
If it is not taken over, could Keegan be a successful mine
If it gets the right partner, it can be very successful. Many
small mining companies have come in as junior partners and have
done quite well.
MAG Silver Corp. (MAG:TSX; MVG:NYSE)
, through its partnership with giant silver miner Fresnillo Plc (
), for one.
How about safer jurisdictions like Canada?
Canada has its own risks. There are a lot of taxes and some of
the projects, even in British Columbia, are remote.
Seabridge Gold Inc. (SEA:TSX; SA:NYSE.A)
owns the Kerr-Sulphurets-Mitchell (
) project. I love this company and KSM, which is a big, low-grade
project. The most recent development estimate was somewhere north
of $4B. Seabridge is a great company to play arbitrage on the
gold price. When the market does not like gold, Seabridge shares
fall to nothing; when the market likes gold, Seabridge trades
However, there's another deposit up near KSM that's exciting.
Brucejack, owned by
Pretium Resources Inc. (PVG:TSX; PVG:NYSE)
, is a high-grade gold and silver deposit. It's just a few miles
from KSM and is likely related. In Brucejack, the gold and silver
are concentrated. Brucejack's resource is 4.9 million ounces
(Moz) of Indicated gold ounces at 17.3 grams per ton (g/t).
That's over half an ounce of gold per ton of rock. There is
another 10.4 Moz of Inferred resources at 25.5 g/t. Those are
spectacular grades. In November 2011, one of its drill holes ran
17.75 kilograms (kg) gold per ton. It was beautiful, striped with
gold in places. Pretium's shares went from $8.50 to $12.30. The
stock is at $15/share now. Unless Pretium brings in a development
partner, it will probably get bought for this project.
Will more strikes be announced?
There is more exploration drilling to come. I don't have it as a
Buy, but this might be a good time to add a position. With such a
great deposit at high grades, Pretium will have a lot of leverage
to the gold price if it starts to climb. At $2,000/oz, this
project is a cash machine.
I see this whole Valley of the Kings area as a catalyst for
the entire region. Over the next 25-30 years, this part of
British Columbia. could become a major, major gold and copper
Let's go south to Mexico. Do you have a name or two there?
Silvermex Resources Inc. (SLX:TSX; GGCRF:OTC)
was recently acquired.
Endeavour Silver Corp. (EDR:TSX; EXK:NYSE; EJD:FSE)
and have for a long time. Again, it's a great example of a
company run by industry experts with 30 years in the business. It
has two operating mines, Guanacevi in Durango State and
Guanajuato in Guanajuato State in Mexico. Its Q112 results were
spectacular: 20% increase on silver production and 26% increase
on gold production. We're looking at a very healthy silver
producer. That should increase further, as the company expands
both mines in 2012.
If the Fed does more quantitative easing, silver prices are
likely to touch $50/oz in the near future. Endeavour is a good
company now; when silver gets to $50/oz, it will be a spectacular
company. It offers fairly low downside risk with the potential of
a big gain.
Any parting advice?
One of the best pieces of advice I was given is: The best time to
make an investment is probably when you are most terrified about
making it. When an investment is easy, it is probably near the
top. I love to hear people say they will never invest in gold or
silver again because they got burned before. If people like that
flee the sector, I have less competition.
For folks who despair over the gold and silver market, I say,
hold your nose, figure out how much money you can afford to
invest and do it. The risk is fairly low and the potential
rewards are pretty high.
Matt, thank you for taking the time to talk to us.
is the editor of the
S&A Resource Report
, a monthly investment advisory that focuses on natural
resources-from small exploration outfits to equipment
companies, to the biggest commodity companies in the world. He
S&A Junior Resource Trader
, which focuses on the "bloodhounds" of the mining and energy
industries-small gold, copper, oil, diamond and uranium
miners-and how to earn thousands of percent in the coming
years. Badiali has real-world experience as a field geologist,
lecturer, researcher and a consultant. He holds a master's
degree in geology from Florida Atlantic University.
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1) Brian Sylvester of
The Gold Report
conducted this interview. He personally and/or his family own
shares of the following companies mentioned in this interview:
2) The following companies mentioned in the interview are
The Gold Report:
Goldcorp Inc., Franco-Nevada Corp., Royal Gold Inc., Riverside
Resources Inc., Pretium Resources Inc., Silvermex Resources Inc.,
MAG Silver Corp. and Endeavour Silver Corp.
3) Matt Badiali: I personally and/or my family own shares of the
following companies mentioned in this interview: None. I
personally and/or my family am paid by the following companies
mentioned in this interview: None.
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