-- Published: Thursday, 12 March 2015 | Print | Disqus
Source: JT Long of The Gold Report
In this interview with The Gold Report, Tocqueville Asset Management fund managers Doug Groh and John Hathaway say that though gold investors have been through a nuclear winter, the future looks bright as mining companies bask in the glow of lower costs, better exchange rates and a flurry of mergers and acquisitions.
The Gold Report: Since we last talked in August, have precious metals bullion and mining shares bottomed?
John Hathaway: It looks as if they are trying to make a stand. In early November, we got down to $1,140/ounce ($1,140/oz). Only time will tell for sure.
What we do know is that the industry can't produce any more gold at these prices or lower prices, so that impacts the supply side of the picture. It certainly meets the test of being a contrarian investment. In our opinion, sentiment is pretty much rock bottom. It has gotten better with this rally, but in the bigger scheme of things, people still scoff at the idea of gold. That is one sign of a bottom.
TGR: What is the range you expect for gold in 2015?
JH: The 200-day moving average right now is $1,244/oz. If gold can break above that, I think it would gather strength and surprise people on the upside. Seeing as how so many people are betting the other direction, I think you'd have a lot of short covering. So $1,400/oz or $1,500/oz wouldn't surprise me.
TGR: Are you as bullish on silver?
JH: The magic number on silver is $18/oz. The 200-day average on the iShares Silver Trust (SLV), an exchange-traded fund, is roughly $17.29/oz. If silver closes above $18/oz, that will be a strong signal that it has changed its colors. For both gold and silver, the moving average keeps coming down, so it gets easier to surpass it.
TGR: Gold has intermittently run up with the dollar in recent weeks rather than in opposition to it. Is that a new trend?
JH: No. The correlation between the U.S. Dollar Index (DXY), which is the comparative strength of the dollar compared to the euro and the yen, and the gold price is very low. It's a meaningless relationship over time. From time to time, commentary will refer to one causing a movement in the other, but if we look at the relationship over a long period of time, it really hasn't mattered.
And if we go back 20 years, the dollar has been weak relative to gold. Gold is up in dollar terms quite substantially.
TGR: You have commented that the Shanghai Gold Exchange may likely provide a challenge to the U.S. dollar as the world's reserve currency over the next several years. What impact would that have on gold?
JH: The Shanghai Gold Exchange could replace the London Bullion Market Association, the London gold fix. Western market conventions such as the gold fix and the Comex will eventually play second fiddle to price discovery in a place like Shanghai, Singapore or Dubai. That's where physical gold is being traded. That's what I meant by that statement.
At the same time, it's important to pay attention to how many more deals the Chinese are doing in renminbi, their currency. It could be some time before China's currency replaces the dollar as the leading reserve currency, but it is already starting to crowd out the dollar's unquestioned status, particularly for trade deals. Many people, particularly in the emerging markets, really don't like the dollar, and that is encouraging competition for the top spot. It's not going to happen overnight, but it's something to watch.
God forbid the dollar ever loses its monopoly on reserve currency status. It would change the world. People would have less of an interest in owning U.S Treasury bonds, for one thing. It may mean that inflation numbers, which have benefitted from the strong dollar, could turn less favorable, which is what all the central banks are trying to do anyway.
TGR: What impact would that transition process have on gold?
JH: The impact on gold is due to a loss of trust in the dollar-reliant system. Jim Grant, publisher of the Interest Rate Observer, said it best: "The price of gold is the inverse of confidence in central banking." If dollar strength continues relative to other currencies, for a while that's not a bad thing because competition keeps prices low in U.S. dollars. But ultimately, it's a destabilizing factor because it's bad for emerging markets that have borrowed in U.S. dollars.
To the extent that the strong dollar actually becomes a headwind for economic growth in places like Brazil and India, it's a negative for global growth and it becomes a problem. And it becomes a destabilizing factor for the global economy because it means that the U.S. economy will be challenged by imports and loss of market share because of cheaper European and Asian currencies. Let's not forget that gold has already risen in every currency except the dollar in the last year and a half.
TGR: What impact will Greece renegotiating its debt or pulling out of the euro have on gold?
JH: What is going on in Europe is very unsettling to those with savings and capital in that part of the world. If Greece pulls out of the euro or if the Eurozone makes huge concessions to Greece, then it would become increasingly difficult to view the euro as a serious currency.
We all saw what happened in Switzerland. The Swiss bank balance sheet just ballooned beyond any sort of reasonable measure. Debt was five times Swiss gross domestic product (GDP), whereas the U.S.' debt is only 25% of GDP. The Swiss couldn't just keep printing francs like crazy. So despite promises to the contrary, the Swiss pulled the rug out from the feet of a lot of people who bet on that. It was an important lesson. You can't take central bankers at their word. No matter what they say, currency manipulation is ultimately something that can't be sustained. One by one, those tricks will fail, and then we'll see the real economic consequences of our actions. When that happens, one thing you can own to protect you against massive currency devaluation is gold. It has been proven time and again.
TGR: Is this a good time to buy gold or should people wait and see if it goes even lower?
JH: It seems to be a good time. Gold is already strong in every currency other than the dollar. Negative interest rates in much of the world and the overly strong dollar should eventually result in political pressure to cheapen the dollar, but against what? The only monetary asset left standing will be gold.
TGR: What is the relationship between mining share valuations and commodity prices?
JH: In Australia, Canada and South Africa, countries with currencies that have been weak compared to the dollar, earnings are going through the roof. The industry is actually doing very well because it has lower costs based on currency and oil.
TGR: In the Tocqueville Gold Fund, what is the role of physical metals versus mining shares? It looks as if you're at about 12% physical gold right now.
JH: We did buy more gold a couple of months ago. It was time to do so. We own maybe 20% more physical ounces than we did a year ago. We don't expect it to perform as well as the mining shares on the upside, but it's certainly an element of value in the portfolio. It differentiates us from most of our peers and it makes sense.
On the mining share equity side, Tocqueville invests in companies that add value even when the gold price is going sideways or down. These companies are either discovering more ounces in the ground or in the process of building a cash-producing mine, which is potentially very accretive to shareholders as long as it's done in a way that doesn't destroy the balance sheet. That may not translate into a higher share price when the gold price is going sideways or down. But they will be the leaders on the upside when people want to own gold stocks again. Everyone thinks about the industry as a monolith, which is incorrect. There are so many differences between companies and countries, and every situation is different. We own a very select group of companies.
One strategy that has really worked for us is that we've been heavily into the royalty stocks. That's a great business model when the industry has a difficult time raising money. These companies provide capital and do a lot of deals with very favorable terms. Their pipelines are particularly robust now because most mining companies have a hard time advancing projects through the regular sources that the capital markets provide.
The royalty model is very efficient. Instead of holding 10 mines scattered all over the world, royalty companies participate in 70 or 80 mines with none of the management challenges. If a mine or a country has a problem, it's less significant and moves the needle less than it does for a producer. That's the notional difference between royalties and typical mining companies. Having said that, there are plenty of companies that are pure miners that we think are very good.
TGR: When we talked last, Doug, you pointed to the upside you enjoyed during a number of mergers. Are you anticipating more mergers and acquisitions (M&A)?
Doug Groh: The gold sector is really ripe for a plethora of M&A activity. In fact, we've already seen that this year. Certainly, it's a market environment where miners are finding it very difficult to operate with limited capital. They can't access the capital markets as effectively as they did some years ago so mergers become more attractive.
For the same reason, joint ventures will probably also be more common. The industry is recognizing that, in some cases, going it alone is not possible. I'm sure we're going to see very dynamic transactions across the space as the year progresses.
TGR: How are investors being treated? Are they getting a premium for their patience?
DG: On the announcement date of the transaction, there's typically a premium from the last traded equity price, anywhere from 20% to 35% or from the 20-day average weighted value approach. That has to come through if the shareholders are going to accept any type of transaction.
What is interesting is that management teams are more willing to have a discussion now than they were some years ago. Now, the market is coming closer together on valuations and there are likely to be more transactions.
TGR: What final insights can you give us on surviving the current market?
DG: I think in this environment, it's important to recognize that companies have a challenge getting capital to build out their projects. So in assessing a company or its project, it's very important to consider the capital requirements carefully. Does the company have access to capital or a means to build its projects? What does the balance sheet look like? Does it have cash? Does it have debt? Does it have the ability to raise funds?
Second, the grade and the quality of the asset are always important. But it's not always just about grade. It can be about recoveries. It can be about the geology. It can be about the difficulty of actually mining. But the asset quality is certainly important.
Finally, I think investors should think about M&A activity and consider that some of these projects may not really have merit in this type of environment, but the company may have merit in its potential to become part of something larger.
TGR: John, what wisdom can you share with our reader/investors?
JH: We have done our research and we believe that over time, investing in gold and gold mining is an investment strategy that makes sense in a world of currency debasement. We've been through sort of a nuclear winter the last couple of years, but we outperformed our benchmarks by a wide margin. When the sector comes back in the U.S., contrarian investors will be sitting in a pretty good position competitively.
TGR: You've given us lots to think about. Thank you for your time.
John Hathaway, senior portfolio manager of Tocqueville Asset Management, manages all gold equity products and strategies at Tocqueville Asset Management. He holds a bachelor's degree from Harvard University, a Master of Business Administration from the University of Virginia and is a Chartered Financial Analyst. He began his career in 1970 as an equity analyst with Spencer Trask & Co. In 1976, he joined investment advisory firm David J. Greene & Co., where he became a partner. In 1986, Hathaway founded Hudson Capital Advisors and in 1988, he became chief investment officer of Oak Hall Advisors.
Douglas B. Groh is a portfolio manager and senior research analyst at Tocqueville Asset Management and has 30 years of investment experience. Before joining Tocqueville in 2003, he was director of investment research at Grove Capital. While an analyst for JP Morgan and Merrill Lynch, he was recognized by Institutional Investor and The Wall Street Journal. He holds a Master of Art in energy and mineral resources from the University of Texas at Austin and a Bachelor of Science in geology/geophysics from the University of Wisconsin—Madison.
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-- Published: Thursday, 12 March 2015 | E-Mail | Print | Source: GoldSeek.com
