“Anyone buying silver must recognize that DNA of volatility between silver and gold. I like to say that silver is the warrant on gold. A warrant on any gold stock is always more volatile than the underlying gold stock.”
Gold has been on a massive run this year, but recently had a bit of a pullback. is this the end of the rally? What is your take?
Life is about managing expectations. That is from the great Warren Buffett saying, “If you want a long-lasting marriage, have low expectations. Because then everything is on the upside.”
It is about realizing for investors the DNA of volatility. Each asset class has its own DNA of volatility. Interesting enough, most of the talking heads in New York, are negative on gold. They say it is more volatile than the S&P when they’re actually exactly the same. Over one day, or 10 days, or one year, they basically have the same DNA of daily volatility.
We are now in a normal correction in a secular bull market in gold and in gold stocks. Gold stocks this quarter will have record free cash flow yields. This is the first time this has happened in the 15 years that we have been tracking this group of 88 global gold producers. It was in March this year that S&P’s positive free cash flow yield went negative because of COVID-19, but the gold stocks went positive. This is very important. June had great strong growth, and this quarter is going to be fantastic.
Gold companies are announcing that they are making a profit this year while other major companies are making terrible losses. Are the generalists taking note?
I think the generalists are slow to move. What is important is that the 50-day moving average has remained above the 200-day moving average – that golden cross trend line – for 19 months now. And even with the volatility, Buffett came in and bought Barrick, which has high free cash flow yield.
That was a big sea change for him to come in and buy a gold stock. People have great respect and adoration for the ‘Oracle of Omaha’, Warren Buffett, and him buying a gold stock should create a new trend.
Warren Buffett is famous as a person who buys and holds rather than someone who jumps on short-term trends. this must be a very positive sign for the long-term trend for gold and gold stocks.
Gold CEOs are much more mature, and boards of directors are much more responsible and are trying to avoid the previous runaway M&A work that was non-accretive. What our quant models have shown us is that if a company’s revenue per share gets harmed by a merger (while the total number may be bigger, on a per share basis the deal is actually dilutive), those stocks get put in a penalty box for 18 months. If you have impaired revenue and cashflow, it is even more severe when a correction takes place in those stocks. They are orphaned. In many of these recent acquisitions we are seeing management articulating this. More companies are talking about the fact that they have a free cash flow yield, which is extremely appealing. Growth fund managers look at the Investor’s Business Daily Top 50 Best Growth Stocks in America, and Franco Nevada is there, Kirkland Lake has been there this year. These are important changes that will get the generalists coming in, as long as management and boards of directors don’t do silly deals to cannibalize their value metrics on a per share basis.
We had a deal in Australia recently, where Northern Star and Saracen took a more conservative approach to M&A with a zero-premium merger. Maybe the CEos have learned a lesson from the last boom and bust?
What happens when they get that critical mass of $10 billion, and they have a free cash flow yield, they will attract bigger institutions. Right now, in Canada, 8% of the stock market is gold related, while the institutions are only 1%. It’s their industry.
The same thing is happening in Australia, where most of these institutions are under weighted. I think we are going to see this gradual change in each quarter that we have a free cash flow yield for the global brokers as an average, then it will start to attract more money to this industry.
In terms of where you see the gold price going…
Look up.
And the timelines for that?
I have looked at other periods when we have had this incredible printing of money. After the tech bubble, we suddenly saw the G20 finance ministers become consumed with synchronized trade. China came into the game and we had a big run up in gold and gold stocks through 2008/2009.
All of a sudden, these G20 Federal Reserve central bank equivalents and finance ministers became consumed with synchronized taxation and regulation, where they were spending a billion dollars a week on global anti-money laundering laws. That is pivoting now. In dealing with COVID-19, they are collectively saying, “Let’s all print money.” You are seeing currency debasement – not where one country is outdoing the other; they are basically all doing it in unison. If you look at how much money was printed by the Federal Reserve in 2008/2009 where we saw a $3 trillion expansion of balance sheet; gold went from the $700/800 range to $1900. If we look at this expansion of the balance sheet and we forecast it in a similar pattern, then gold can easily go to $4,000.
There has been a vast amount of bond issuance and people drawing down on their debt over the last few months. it is interesting that the gold producers are the ones loading themselves up on debt at the moment. That debt to equity ratio is going to be fantastic compared with a lot of these other companies who are currently loading themselves up on debt.
I agree. But this is why I’m surprised that Buffett did not buy Franco Nevada. I mean, he loves royalty companies. A royalty company is like a tech company. It has this monthly recurring revenue and has lower volatility.
Franco Nevada’s revenue per share, cash flow per share, and margins are much more attractive than Barrick and Newmont where they get the royalties on them, but he has not bought into that model. Whereas the largest hedge fund in the world, Ray Dalio’s Bridgewater, owns Franco Nevada and Wheaton Precious.
What is your take on the silver market? Silver went up in percentage terms more than gold, but then also came back down harder. What is next for silver?
It is a nice question because it is an important question. When you look at it from a quant world agnostic standpoint (from supply demand factors), what has happened is that the DNA, the beta of silver to gold, is 50% more. If gold goes up 10%, silver goes up 15%. But, there is typically a lag where gold is going up and up and up and then silver has a huge surge after, at which point it outperforms gold. Vice versa if gold corrects 10%, silver falls 15%. Anyone buying silver must recognize that DNA of volatility between the two. I like to say that silver is the warrant on gold. A warrant on any gold stock is always more volatile than the underlying gold stock.
I was on a panel of bullion dealers and coin dealers that are doing numismatics, and one of the big dealers was saying that a huge number of silver coins are being exported over to Europe and Asia. If this trend sustains itself, then we are going to get really fascinating supply/demand factors that can potentially pivot silver even higher.
With all this money being printed, are we starting to see this reflected in inflation numbers?
No and that is why I love John Williams’ research at “Shadow Stats”. He basically takes the algorithm or the model that creates the CPI index that was used in 1980 when gold hit $850 and silver hit $50 an ounce. Volcker basically came in to prevent any more inflation. Well, if you looked at that CPI number, today inflation is running 8% not 1.3%, which is a joke. I know that real estate prices in America are up 10% year over year, so how can you say that there is no real inflation? Rentals are rising also. I think that inflation is a big issue here.
I have noticed this on flights, because of our Jets ETF. If you want to fly to Colombia, it is a thousand dollars for one way. This used to be the amount for a return ticket. Now domestically within the country there’s pricing power that some of the flights have dropped, but really the number of options to fly has dropped dramatically.
Is this a function of the prices that we see during this sort of crisis and the immediate aftermath, or is this a long-term inflationary trend?
We must look at what the scientists are saying, and what the stats, especially the Shadow Stats are saying. John Williams of Shadow Stats does a great piece of research on this. His data points have been strong since 2002 and he notes that inflation has been greatly understated.
Now we’ve had a secular bull market in gold where gold has outperformed the S&P 500 by almost 3:1. Bridgewater has always had a position in gold and are always recalibrating it. All this has helped them have low volatility and a high-performing hedge fund with over $150 billion in assets.
The fact that gold has been such a stellar performer says that there is understatement in these inflationary numbers. I said earlier that G20 finance ministers function like the OPEC cartel. They are all about synchronized taxation and regulation now. It’s synchronization to fight the invisible battle of COVID-19. Print as much money as you can and do whatever you must do to keep the economies running.
There is an election coming up in the united States. What is your take on what the impact would be of either a Trump win, a Biden win, or a contested result?
I think there is so much emotional trauma and so much anti Trump dialogue. He clearly does not have a lot of finesse. But there is a whole group of leaders, especially in rural America that like him because he calls it as it is.
Microsoft recently noted that Russia’s Putin and his KGB operatives have been infecting elections all over the world. This year it is not just America. America has only 5% of the world’s population, but it has the biggest GDP in the world, so it gets most of the limelight. But there have been lots of other interferences. What they want to do is divide and conquer. They love seeing this turmoil with Democrats and Republicans fighting with each other, and protests in the streets.
All this appears to be orchestrated from outside and it has come to interfere with the stability of our overall economic engine. If you remove that, the quants are 70% of trading, but they are agnostic. This is very important to recognize that quants turn around and they are just looking for filings every day. They can code and make a determination quickly as bullish or bearish for the markets. Analyzing what the Federal Reserve is doing, we have negative real interest rates coming in, and for the first time ever buying ETFs that drive down tax-free bond funds to yields to drive down corporate bonds. This has never happened before.
I think the better option is to follow what the stock market is telling you. I write about PMIs every month because the PMIs are so important for commodity demand and they are very bullish. The one month is above the three months. They have been doing that for three months in a row. This is highly correlated to the rising trend in copper and iron. Nickel is also going to perform well. I remain very bullish and constructive on this industry.
The market seems to think that they can just carry on onwards and upwards.
That is what the market is doing. They print this money and buy Apple stock. They are one of the biggest shareholders of Apple. They’re buying great U.S. technology stocks, which have free cash flow. We are in a new world of zero interest rates, negative interest rates, and have government policies to print money, and gold is clearly the fourth most liquid asset class in the world and it is going to shine.
Looking forward to the rest of the year and into 2021, what sort of companies is u.S. Global Investors looking to invest in?
We like companies that articulate their discipline of free cash flow and that do not grow for the sake of growth. We look at their M&A work: that they recognize that deals must be accretive. Otherwise, we sell them immediately. If company A buys company B we can quickly, through our quant systems, determine if it is accretive on revenue per share, or cash flow per share. But, if both are gone, then I take my money and go somewhere else because this math suggests that there will be an 18 month penalty until they can get all the paperwork done. They actually get economies of scale and you must have much higher gold prices. I would rather put it in something else where I think I can get a much higher return on my capital.
Beyond gold, are there any other commodities you particularly like?
I think nickel and silver are interesting. Copper gold porphyry deposits – you can buy these stocks a lot cheaper than buying a gold stock on a cash flow basis. At the top of the cycle they all trade in the same cash flow multiples. If you are a value investor, I think you want to look at the copper gold assets out there. I think that they are the ones that are going to give you a longer-term picture and give you a big bang for your buck.
