 Gold
Mining Stocks - What's Happening
Kenneth J.
Gerbino
Archives
Kenneth J.
Gerbino & Company
Jun 21, 2007
Precious metal stocks are
undervalued based on current metal prices. This is not rocket
science. One takes the 2008 or 2009 production estimates which
are usually reasonably accurate and then calculate costs and
taxes and one comes up with a cash flow per share number. If
the price of a gold mining stock is selling at 10-12x expected
cash flow then historically that mining company is probably undervalued
(unless there are other unusual factors), as 20-30 times cash
flow would be more in tune with a good metals market. This is
where we are today. The shares may be saying that gold in the
short term is going lower and cash flows will also be heading
lower, hence the lower expected value. If this is true, it will
only be temporary.
My gut feeling, after 34 years
in the gold share markets, is that the vast majority of investors
and institutions who believe in inflation and all those who believe
in an economic and monetary collapse have already invested in
gold and silver. That's it. All the believers are already "in
the pool". Until new investors show up, expect a sideways
market possibly between $575 and $700 gold. Trading ranges are
very common on Wall Street in any sector until events occur that
change more investor's minds. As readers of this piece most likely
realize, there are plenty of reasons coming in the future that
will bring on a huge new wave of investors and hoarders of gold
and silver. Later I discuss a few new trends.
Let's look at the precious
metal prices. Gold, silver, and base metals, are benefiting from
world economic demand factors. This demand is buoyed by relatively
low interest rates in the industrialized nations and progress
in the developing nations. This may continue for another year
but eventually an economic slowdown will likely be in the cards
as inflation pushes interest rates higher. When inflation returns
from the excess money created by most nations over the last 15
years, interest rates will have to rise. Inflation will then
drive the precious metals higher on a global scale regardless
of higher interest rates.
Inflation and Interest Rates
In the U.S., the Fed will resist
this interest rate rise to assist the real estate market and
the banking establishment from suffering from the excess of debt
that has been issued on home equity loans and sub par mortgages.
At some point the market will take over and interest rates will
follow inflation and they will naturally rise together. A recession
should ensue. This follows past cycles. With inflation, the precious
metals will become an inflation hedge and should outperform most
other asset classes. Currently the metals have appreciated because
of economic growth and jewelry demand. As inflation returns,
investment demand will take over and move gold even higher. This
will be a global phenomenon. Month after month, year after year
of inflation will surely move the metals to much higher levels.
A slowdown in the U.S. economy
will have less of a global impact than in the past since the
U.S. is now only 22% of the global economy. In the event of a
worldwide economic contraction, nations can collectively bail
themselves out with money and debt creation regardless of U.S.
monetary policy. This would mean continuing strong precious metal
demand and be bullish for gold as many world governments will
lean toward printing money to solve economic problems.
Gold and Silver Prices
India (the largest precious
metal consuming country) is now experiencing strong food price
increases. The powerful Congress Party just lost heavily in two
state elections because of inflation. This is an indicator to
us that gold and silver buying in this country will continue
for quite some time because inflation is not a short term economic
phenomenon. Once it starts it lasts for years.
The U.S. Department of Agriculture
is projecting the lowest inventory carryover of corn and soybeans
in history, despite extremely good planting weather for the last
10 years. Grain prices are going to rise because of these low
inventories and the diversion of corn to energy use in ethanol.
Cereal and meat and poultry prices are going up because grains
are the main cost to fatten them up. Later in this report I discuss
another agricultural factor that is also inflationary.
 The
gold price in the past was always influenced by the number of
commodity contracts traded on the various commodity exchanges
in the U.S. Large liquidations in these commodity contract positions
by commercial players and commodity trading funds in the past
always saw gold decline. For the past year, there has been a
counter force to this activity. Recently gold has gone up in
the face of very large liquidations. This is telling us that
there is massive physical buying of the metal beyond the usual
players. Current gold demand is firm while global economic activity
continues at a healthy pace. We believe this strong demand will
likely increase as the debt and monetary excesses from the past
decade start to manifest themselves.
Commodity Prices
The graph is telling an important
story. This Commodity Research Bureau (CRB) graph shows what
took place in the U.S. economy that at the time was almost 40%
of the world's GDP from 1962 to 1972. Commodity prices were in
a historically low sideways range. Subsequently, the huge paper
money increases from the 60's and early 70's finally took hold
and prices of hundreds of basic goods exploded from 1972 -1982.
This was also a good time to be in the precious metal stocks
as gold increased from $100 to over $800 (in 1980).
The CRB today is now threatening
to repeat a similar upward phenomenon in the next 5 -10 years
for basic commodity goods. The paper money increases of the 80's
and 90's will most likely begin to effect the general price level
just as past paper money increases in the 60's affected prices
in the 70's. The new 800 pound gorilla in this economic equation
is China and India. The demand for resources from these two developing
giants is going to be the major mega trend of the next 25 years
that will affect all commodity resources. Precious and base metal
mining companies will certainly benefit from this trend.
The graph below shows that
adjusted for inflation, the strong commodity bull market that
started in 2001 has barely begun to catch up in
real terms to the general price level of everyday goods
and services in the 1960's. This graph implies that a doubling
of commodity prices from 2006 levels would only take the index
in real terms to the price levels of the 1960's. Therefore commodity
prices should continue to trend much higher over the next decade.
This graph makes a strong case for investing in companies that
own or produce natural resources especially precious and base
metals.
With global liquidity increases
at excessive levels the last ten years and below average capital
investment by commodity producers from 1983 to 2003, all markets
(Bonds, Stocks, and Commodities) in most countries will be affected
by this coming mega-trend. Bonds and most stocks will react negatively
and commodities will stay in above average price ranges and trend
higher.
New Inflation Trends
I've listed the "usual
suspects" investors fear many times as critical reasons
to invest in the precious metals; printing excess money, debt
burdens at high levels, budget deficits, trade deficits and geo
political unrest. The "usual suspects" are generally
caused by politicians. On the horizon are various new mega trends
that are caused by Mother Nature and normal people. These new
trends will also affect the price of gold and silver in the future.
Since jewelry demand alone takes more gold off the market each
year than mines produce, the "usual suspects" combined
with the new reasons below should benefit the precious metals
and our portfolio companies in the coming years.
The first new trend is the
inexplicable near decimation of the world's bee population over
the last 24 months. Don Coxe from the Bank of Montreal reports
that 33% of the US diet comes from products that depend on bees
for the crucial pollination of the producing plants. In the U.S.
between 30-90% of the bee populations in various states have
disappeared. This means food costs could go up dramatically in
the U.S. as many crops (including fruits and alfalfa) that depend
on bee pollination could face significant shortfalls. Alfalfa
is a crucial feed for cattle and dairy cows and hence the price
of meat, poultry and dairy products should be affected.
The second new trend is Peak
Oil, defined as the peak in global oil output combined with increasing
demand and therefore a supply shortage. It looks like this Peak
is here right now or very close. Most oil fields hit peak production
for only the first 3-5 years and then decline by 5-20% annually
until the field becomes uneconomic. Over 75% of the oil fields
that supply 80% of the world's oil are all in unstoppable production
declines. For every four barrels of oil we consume we only find
one barrel to replace it. Consequently, energy prices are going
to stay high or go even higher in years to come.
Food and energy are a big part
of the inflation picture, therefore accelerating inflation is
coming to the U.S. as the trends mentioned above are now joining
the "usual suspects". Economist John Williams reports
that of the top 20 largest central banks in the world, 18 of
them are printing money at double digit rates. This alone is
a good reason to expect more global inflation in the future.
Foreign central banks own trillions
of dollars of U.S. Bonds. In the coming years when they decide
to sell just a portion of what they own, it will force the Fed
to purchase this debt. The Fed can only accomplish
this by creating new money and it will coincide, most likely,
when the forces of inflation are already on the move. The combination
of these two events will propel gold, silver and other metal
prices much higher. Even though we expect a much higher gold
price, a gold price of just $500 (substantially below current
levels) will still have positive implications for many of our
portfolio companies.
Paper Money and the Developing Nations
Paper money increases always
lead to inflation, inflation always leads to rising
interest rates, rising interest rates always leads
to a weak bond market and weak bond markets always
lead to weak stock markets. This is a simple road map based on
the realty of the last 120 years. It means 20% in precious metal
stocks as then other defensive investments (short term bonds,
Swiss francs, 1-2 year duration US Treasuries) is a conservative
posture recommended at this time.
Hangzhou, Changchun, and Chengdu
are not well known cities, yet each have over 5.5 million people
and are among the 50 largest cities in the world, 12 of which
are located in China. These cities are facing an urban population
expansion as China industrializes which has created huge demands
for raw materials, especially metals.
The Chinese, Indian, and Russian
populations will require more raw materials than the world has
ever experienced. These governments are also mismanaging their
economies with inflationary policies well beyond the danger point
which should cause precious and base metal prices to persist
at much higher price ranges than past economic cycles.
Our portfolio is strategically
positioned to take advantage of new mines coming on stream in
the next 1-2 years to supply these needed minerals as well as
take advantage of an expected robust gold and silver market that
will move the mid tier and larger mining companies to higher
levels.
Summary
All global markets including
the metals/mining stocks are experiencing unusual volatility.
This may continue for awhile longer. The mining stocks are currently
oversold and undervalued versus the current price of gold and
should have a strong 3rd and 4th quarter. There are just too
many factors that are on the horizon for precious metals not
to respond to higher levels.
The mining sector lead by the
gold and silver mining companies should be the premier investment
sector for the next decade. Patient investors should be rewarded
with above average returns while enjoying above average portfolio
and monetary insurance as politicians globally ignore centuries
old basic economic laws that clearly prove that printing money
and creating high debt levels to solve short term political problems
always ends up creating more economic problems.
Gold is the people's choice
for safety and lasting value.
I will speaking at what I think
will be one of the great investment -political -economic conferences
you could ever hope for. My long time friend and world renowned
economist Dr. Mark Skousen has assembled a great mix of notables
to speak: Congressman Ron Paul, Doug Casey, Arthur Laffer, George
Gilder, Frank Holmes and dozens of others. It will be July 5-7th
at Bally's Paris Resort in Las Vegas. You can register by toll
free number: 866 266 5101 or go to the website www.freedomfest.com
For other articles on gold,
precious metals and the stock market please visit our website
commentary section. www.kengerbino.com
Jun 20, 2007
Ken Gerbino
Archives Kenneth J. Gerbino & Company
Investment Management
9595 Wilshire Boulevard, Suite 303
Beverly Hills, California 90212
Telephone (310) 550-6304
Fax (310) 550-0814
E-Mail: kjgco@att.net
Website: www.kengerbino.com Copyright ©2004-2016 Kenneth J. Gerbino & Company. All Rights Reserved.
321gold Ltd
|
