-- Posted Thursday, 17 November 2011 | | Disqus

After a big spike up and an overdue correction in the gold price, Adrian Day, chairman and CEO of Adrian Day Asset Management, says that the king of metals is settling back into the steady rise in price that we've grown accustomed to over the past several years. He expects that to continue because the demand drivers have not gone away. But gold equities? As Day tells The Gold Report in this exclusive interview—conducted during the New Orleans Investment Conference—their lackluster performance in light of the gold price's ever-upward march is "just astonishing." To top it off, tax-loss selling at year-end may mean these equities have yet to hit their bottoms.

The Gold Report: Adrian, can you give us a broad view of what's happening in the gold markets, both the metal and the equities?

Adrian Day: Gold had been on an extremely steady uptrend with few notable deviations either up or down until this year. At the beginning of summer, it moved well above its trend and then we started getting a bit of speculative activity. The gold price reaching $1,950/ounce in August was quite an anomaly in terms of the trend, so it was overdue for a correction.

Then when the stock market crashed in September, gold did what it often does in periods of extreme market stress—it became a source of liquidity, or an asset of last resort. A lot of margin calls and widespread hedge-fund redemptions forced people to raise money. In those circumstances, you liquidate not what you want to sell but what you can sell, namely gold, which is a very liquid asset.

That's why it was not really surprising that the gold price came down the way it did in September. It was above trend and it came down. I think it's now found that trend again, and we are back to the steady climb that we have seen for the last several years. The reasons people have been buying gold have not gone away.

TRG: What do you consider the primary reasons?

AD: For one thing, the central banks of emerging market countries want to diversify away from the U.S. dollar and gold is one of the assets they're buying. Mexico, Korea, Thailand and Russia all have bought gold this year, and I'm probably leaving some out. As for individuals, a primary reason they are buying gold is that they do not trust paper currency. I don't see anything that has changed on either front, so I think we're back on trend now and it looks very good to me.

TRG: How about the equities?

AD: The gold stocks, of course, fell sharply in September—not only because the gold price was going down but also the overall stock market. Senior gold stocks today are trading very close to 20-year lows by many metrics in terms of valuation relative to gold. That's just astonishing when gold is doing so well.

TRG: A thread common in many of the New Orleans Investment Conference presentations is that it's a good time to get into the gold seniors and juniors for the reason you mentioned—that they are at 20-year lows and have had quite a pullback. In essence, they are on sale. But another trend people are talking about is that we haven't seen the bottom yet. What is your opinion in terms of timing?

AD: I tend to be a long-term value investor and buy good-quality companies when they are at a good price. If that is the only criteria, this is certainly a good time to buy. There's no question, however, that sharp collapses such as we saw in the stock markets in September normally don't have a V-bottom. Prices do not typically just go straight down and then go straight up again.

Given that phenomenon, we could see further weakness, particularly in the juniors where we should expect some tax-loss selling at year-end. In fact, a lot of people anticipate vicious tax-loss selling this year, so investors need to be alert to any of their stocks that were trading at significantly higher prices because they could be susceptible to tax-loss selling next month.

TRG: Considering the factors you mentioned—stocks being susceptible to tax-loss selling, margin calls and hedge-fund redemptions—it seems that the gold price could still bounce around as we move toward year-end. So even if stocks are at bargain prices and it's a good time to get in now, might it be even better for investors to wait?

AD: I don't think we're going to see significantly lower prices, but it's always good to be incremental. I certainly am seeing some very, very good buys now, but certainly would not put all my money to work right now.

On the issue of margin calls, what typically happens when you get a margin call or redemption or in my money management business someone wants $50,000 from his account by the end of the week, you sell what you have to sell. But, if that person says he needs another $50,000 by the end of the year, you start to look to sell what you want to sell. As we saw in 2008, the hedge funds liquidate gold in that first round of redemptions because they liquidate what they can. But if you think you're going to get more redemptions over the next few months, you start raising cash in other assets. We saw this in 2008 as well, and then gold came crashing down in September but then bounced back very quickly and ended the year up. So I think the same pattern could show here. And even if you didn't get the exact bottom, buying the gold stocks at the end of 2008 was a very good move.

One other point on the issue of timing. Juniors can bounce back very quickly when the selling dries up. So, I don't think you want to be too clever in waiting too long for the absolute bottom because you might find you've missed a 30% or 40% move.

TRG: If we look at the 2008 parallel, though, the seniors came back first and the juniors took quite a long time. Is there a strategy that says we're at a bottom, let's put our money in the seniors, and after they come back, we'll put money into the juniors?

AD: It's interesting you say that, because in my last report to clients I said that we are actually over-emphasizing seniors. We have had very little in the seniors for several years due to all the problems that we know about in the seniors. So we've emphasized the juniors. But now we're actually emphasizing the seniors more.

Nevertheless, there are still some very good buys among the juniors. I think that the key is to go for the companies with good balance sheets that don't need to raise money, that are not susceptible to tax-loss selling and that have good prices.

TRG: When you say to look at companies that don't have to raise money, how much of a cash cushion do you like to see?

AD: I generally prefer to see at least two years of cash ahead. Different companies would have different criteria, of course.

TRG: Global Resource Investments Founder Rick Rule's big buzzword at this conference has been private placements. He contends that good companies will need to raise cash, but they won't be doing it in this equities market because their stock prices are so low, and therefore they will go for private loans. Do you agree with that view?

AD: I agree in general, but the companies highest on my list have good balance sheets and do not need to raise money in private placements with five-year warrants. I'm not a geologist, so when I look at a junior company I'm looking for good management, a good business plan and a good balance sheet.

TRG: Can I infer that companies needing private placements have had issues or unexpected events causing them to seek financing?

AD: Those really aren't the companies we are investing in, but that's probably a fairly reasonable inference. If a company's stock price was at $1 in February and dropped to $0.80 in April, management might have said, "Oh, let's wait for it to come back to $1." The price never did come back, so nine months later, the company is stuck and needs the money now. I think you will find a lot of those, companies that wait far too long to raise the money they need. Of course, when they need the money, they need it. My point is that they shouldn't put it off until the need becomes critical. If they can anticipate the need, they can raise money at a better price and on better terms.

Suppose this hypothetical company's share price dropped to $0.80, but it decided to wait and the stock falls to $0.40. It is going to have to raise money under some pretty onerous terms. This is a big problem in the junior sector when companies have to keep raising money. When they have to raise money continually, everybody knows, so the terms become more and more dilutive.

TRG: Does that present an opportunity for individual investors or do you have to be pretty savvy and wait for the good private placements?

AD: We tend to be extremely selective on what we own in the private placements we do. I will never do a private placement if I wouldn't be happy buying the company at that price anyway. And the warrants are a bonus. But I never buy a private placement just because the terms are great. To me, the company comes first and then whether the terms are good comes second. Nine times out of ten, we're buying private placements in companies we already own.

TRG: You have been a big proponent of the prospect generator model, Adrian. What is their special appeal?

AD: Those who invest in a company that focuses on a single property, or a key property, and spends its own money on that property better really know something about geology. They had better be able to analyze that company and assess whether it is worth investing in or else follow someone who can. For instance, investors who subscribe to Brent Cook's newsletter and just do what he says will be fine.

But one way or another, investors need a way of understanding a property and not go in blind. At some point, the company will have to raise more money, so the property should be one that is more likely to generate the kinds of results that can enable that company to raise more money when the stock's at a higher price.

TRG: As you suggest, though, most investors don't know geology and how to interpret results.

AD: Those who are geologically challenged are better off focusing on other things. Look at the company's business plan and its balance sheet. See whether it has the money necessary to carry out the plan. The beauty of the prospect generator model is that once a prospect generator gets going, it doesn't have to raise money. Because it generates the prospects and finds partners for exploration and for carrying projects forward, some haven't had to raise money for 10 years. Whether prospect generators team up with senior companies or junior companies, they're using other people's money rather than drawing down their own balance sheets.

TRG: That sounds almost like a slam-dunk.

AD: No, using the prospect generator model by no means guarantees success. This is a long-odds game. It is said that only one anomaly out of 6,000 ever becomes a mine—staggeringly long odds. Being a prospect generator improves the odds, but doesn't guarantee success. More importantly, spending other people's money on your properties means you don't have to keep going out diluting. As a result, even a prospect generator who fails to come up with anything year after year after year won't implode. It will just stay flat. Investors who own several prospect generators can expect that two or three of them won't work, but they'll get the returns from the two or three that do.

TRG: Adrian, do you continue to follow some companies because you still like their stories—even if they're among the many that have pulled back so much in this market?

AD: We're always looking to re-think—that's an ongoing process—but I'm not the type to sell a stock just because it declines 20%. If I like the company, the management and the balance sheet, and if nothing much has changed in the company except for a 20% decline in the stock price, I'm more likely to want to buy more.

My advice to investors: It's really just a matter of being patient and waiting for the opportunity when the stock prices come to you, as they do. Don't spend all your money now, but I definitely think you need to be positioned so you're ready to take advantage of an opportunity when it comes. As you know, some of these dramatic declines don't last very long.

TRG: Those are pretty good last words. Thank you, Adrian.

Chairman and CEO of Adrian Day Asset Management, which manages discretionary accounts in both global and resource areas, Adrian Day is a highly regarded pioneer in the global investing arena. British-born and a London School of Economics graduate, he has made a name for himself searching out unusual opportunities for investors around the world. Also a prolific author, he produces Adrian Day's Global Analyst newsletter and has three books to his credit. The latest, released in 2010, is Investing in Resources: How to Profit from the Outsized Potential and Avoid the Risks. He also wrote Investing Without Borders: The Best Opportunities Around the World for the '80s (1982) and International Investment Opportunities (1984). Day also contributed to Jim Gibbons' The Golden Rule: Safe Strategies of Sage Investors (2010). A popular speaker at international seminars and conferences, Day also is a frequent guest of CNBC and The Wall Street Journal radio network who has been interviewed by Money, Straits Times, Good Morning America and others.

Streetwise - The Gold Report is Copyright © 2011 by Streetwise Reports LLC. All rights are reserved. Streetwise Reports LLC hereby grants an unrestricted license to use or disseminate this copyrighted material (i) only in whole (and always including this disclaimer), but (ii) never in part.

The Gold Report does not render general or specific investment advice and does not endorse or recommend the business, products, services or securities of any industry or company mentioned in this report.

From time to time, Streetwise Reports LLC and its  directors, officers, employees or members of their families, as well as persons interviewed for articles on the site, may have a long or short position in securities mentioned and may make purchases and/or sales of those securities in the open market or otherwise.

Streetwise Reports LLC does not guarantee the accuracy or thoroughness of the information reported.

Streetwise Reports LLC receives a fee from companies that are listed on the home page in the In This Issue section. Their sponsor pages may be considered advertising for the purposes of 18 U.S.C. 1734.

Participating companies provide the logos used in The Gold Report. These logos are trademarks and are the property of the individual companies.

-- Posted Thursday, 17 November 2011 | Digg This Article | Source: GoldSeek.com

comments powered by Disqus
Previous Articles

© 1995 - 2019

Live GoldSeek Visitor Map | Disclaimer