Matt Badiali has a new promo out for his S&A Resource Report, and it’s all built on the eventual resurgence of gold.
He teases a few stocks for us, and we’ll get to identifying them in a moment — but first, he goes through the long rationale for gold’s rise over the next five years … and it’s almost entirely based on China.
Chinese gold demand is obvious and often discussed, even though much of it is not terribly transparent — China is the biggest producer of gold in the world, and all gold produced in China has to be sold (at market price) to the government for domestic use and/or addition to their gold reserves, and it’s also usually the largest importer of gold these days (supplanting India), and the Chinese sovereign wealth funds and state-controlled enterprises are heavy investors in gold mining companies around the world.
So we all know that China is big on gold, with the general assumption being that their buildup of gold reserves is both a way to reduce risks from a declining US dollar and Euro (they hold major reserves of both, thanks to their trade surplus), and as a way to “internationalize” the Yuan Renminbi (which remains a highly controlled and almost closed currency, though that’s changing slowly)… though the fact that they don’t often report about their gold reserves, as other countries do, makes everyone wonder just where that gold is going and what they’re doing with it.
That world of mystery and intrigue takes up the first three quarters of the ad spiel, and it’s reasonably compelling if you want to check it out here — I don’t have the patience to excerpt the whole argument, but here’s a little bit of the pitch to give you a taste of Badiali’s thoughts:
“Something is amiss in the gold market. You may have noticed the telltale signs – the confusing news stories, the weird price moves that don’t make any sense. But no one is telling you the whole story.
“The truth is that gold is disappearing.
“It started very gradually about 10 years ago – and it was hard to see at first. So a lot of people didn’t notice.
“Now it’s undeniable: Gold is vanishing….
“The world’s gold supply is literally disappearing…
“And consumer demand from investors hit an all-time high in 2013.
“Put these two undeniable facts together, and there is only one possible conclusion: The price of gold is going to rise… and rapidly.
“But you may be surprised by exactly how high experts are predicting the price of gold to go.
“[James] Rickards isn’t just predicting that gold will double or triple in the next decade.
“He estimates that gold will skyrocket to $9,000 an ounce or more within the next five years – a 600% increase over current prices.”
That “disappearing” is basically the fact that gold is being Hoovered up by China, and probably largely going into the equivalent of their Fort Knox. And there’s a lot of expectation that the next time China releases numbers about their official gold reserves they could be more than three times larger than the last report in 2009, putting them in the big leagues among global powers when it comes to gold reserves … and that China’s diversification away from the dollar might free the dollar up to move lower if China shrinks their hoard of US Treasury Bonds and stops worrying about the value of those bonds.
Of course, that same basic story about China, their tight connection to the dollar (both because we’re a huge customer of China’s, and because they hold so many dollars), and the increases in their gold reserves, has held true for most of the last five or six years… during which gold has certainly not been moving uniformly up, so in the end this is a long-term argument about gold being much higher in five or ten years, not really about gold jumping dramatically higher this year just because of the China “story.” There’s another interesting piece here from about six months ago about the increasing gold reserves in China too if you’d like another perspective.
So if you buy that argument that gold will rise strongly against the dollar again, and in dramatic fashion over the long term, what do you buy?
Badiali hedges his bet somewhat — if you are convinced that gold is going to skyrocket, then the biggest winners will be the producers and explorers that are dirt cheap now because they have very high costs or big, expensive mines to build that don’t make sense with gold at $1,300 an ounce. Those high-cost producers will do spectacularly if gold doubles next year, but if gold stays flat for another year or two more or goes lower many of them will be in desperate trouble … so Badiali is (probably wisely) pitching some “safer” ideas in the gold universe, two royalty companies and two lower-cost producers or potential producers whose projects and economics make sense at current gold prices.
Here’s more from him on those details and some Gumshoe solutions to the hints and clues he throws out for us:
“Own the ‘Gold Banks’ and Miners that Will Benefit Most from Higher Gold Prices over the Next Few Years
“As I’ve been describing, China could potentially make a very big gold announcement in the coming months.Are you getting our free Daily Update
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“This is likely to send gold prices soaring over the coming years.
“One of the best ways to profit from this trend is to buy miners and other gold stocks.
“The problem is…
“There are thousands of gold stocks to choose from. So how do you figure out which are the best to own to take advantage of this trend?
“Well, the first thing I recommend you do is buy one of the lowest risk gold stocks in the world… and also a few of the companies that are likely to skyrocket the most in price over the next few years.”
That “lowest risk” is a reference to the “gold banks,” which is a term some folks apply to financiers — the firms that essentially put up some capital for mining in exchange for a cut of the final product, with no direct exposure to the hassle or cost fluctuations of being a mine builder or operator.
And there aren’t that many of them that are big enough to consider and publicly traded, so which one is Badiali talking up?
“Over the past 15 years, one of my favorite gold “bank” stocks has gone up as much as 1,324%. It has a tiny staff of just 21 people. They have almost zero overhead. They simply help finance and take a small ownership stake in the world’s best projects.
“Just how low-risk is this gold company? Well, in 2008, when 95% of the stocks in the S&P 500 index plummeted in price, this stock actually went up in value….
“Right now, the company pays a nearly 2% dividend, and its yield could rise as the share price goes up. But that’s not why I recommend you buy it.
“The real gains typically come in the form of capital gains… when you cash out… when this ‘gold bank’s’ ownership stakes (and cash streams) massively increase in value.
“If you are going to own only one gold company in the world, this is it. It’s one of the best run and lowest risk gold companies on the market today… and it is one EVERY American should own over the next few years.”
So who is it? This is Royal Gold (RGLD), which is probably the first precious metals royalty stock that comes to mind for most investors. I don’t own it personally, I have happened to cast my lot with a smaller royalty startup (Sandstorm Gold) in the gold royalty/streaming arena, but Royal Gold is probably the safest play in the space. They have royalties on four or five major projects that act as “cornerstone” royalties, including a touch of base metals through their Voisey’s Bay nickely mine royalty, and dozens of royalties in their portfolio on exploration and development projects. They look pretty expensive on a PE ratio basis, but would be pretty nicely levered to dramatically higher gold prices — not quite as levered as an actual miner might be, but also much more diversified and with less exposure to any one big project that might collapse (though one of their cornerstone projects, Pascua Lama on the Chile/Argentina border, has certainly had it’s challenges). Royal Gold has a “why invest in Royal Gold” page on their website in case you’d like their answer to that question.
If I were building a portfolio from scratch, I’d probably put at least half of the precious metals portion into RGLD, hard to argue against them in that sector — but they’re certainly going to be subject to the same swings up and down as all the gold mining stocks. Royalties and streaming deals offer some protection from the expensive cost overruns that plague mine startups, but they also come at the cost of passivity — they can’t do anything to impact the pace of development of most of their projects, or force the mining management to do anything in particular, they just sit back and collect their cut of what is produced.
And the other royalty stock?
“There’s another company that makes money from this exact same model. I recommend you own this business too.
“This company actually used to be part of a major gold producer – before they realized how much more they could make operating as a “gold bank.”
“Shortly after the company went public a few years ago, it was collecting about $3 million in “royalties” on the gold and other precious metals produced by its partner companies.
“In 2012, it raked in more than $400 million.
“And just last year it started collecting royalties on a new gold mine in Canada. The mine is expected to produce nearly 700,000 ounces of gold a year for the next 17 years.”
This one is Franco-Nevada (FNV), which was the real pioneer of this royalty model in precious metals. Like Royal Gold, it’s near its 52-week high and has done very well in the last few months as investors anticipate that the decline in the gold price is over. And like Royal Gold, it looks pretty expensive on a price/earnings basis, but those PE ratios are obviously dependent on analyst estimates about what will happen next year… which means they’re dependent on what those analysts think the gold price will be. If you think gold will be much higher in a few years, both of these companies (and almost every other gold stock) will do quite well. I’d be comfortable with either FNV or RGLD as a sort of entry-level stock to consider in precious metals, but neither is dirt cheap or unloved and neither is immune to a fall in the price of gold… they just suffer a little less than the mining companies when gold falls.
We’ve written dozens of times about royalty companies and their cousins in the past, so I don’t want to bore you — FNV and RGLD are both big, multi-billion-dollar companies with low-cost operations that are essentially portfolios of royalty investments. Both are good, if not cheap, and I also do still like Sandstorm Gold (SAND), which is much smaller and has been a worse performer of late and, in the non-precious royalties space, I still am quite fond of Altius Minerals (ALS.TO, ATUSF), one of my larger holdings these days with nickel, potash and coal royalties in Canada.
And then Badiali goes on to talk about some smaller ideas with greater leverage — low cost producers.
“I’ve identified two miners with more upside potential and less downside risk than most any other company in the industry…
“The first miner I want to tell you about actually operates three mines in China, with one more in development.
“It has some of the healthiest profit margins in the business. Unlike some other miners, this company’s smart management team kept a close eye on production costs throughout the ‘good’ years and the ‘bad’ years for gold.
“The result is a cash production cost of just $494 per ounce of gold.
“This company’s gold production has doubled in the last five years, and I expect it to continue growing. It’s probably the best gold mining stock you can buy today.”
That’s Eldorado Gold (EGO, EGD in Toronto), which Badiali has been following for years — he touted it several years ago, along with some of the China state-controlled mining companies.
EGO is pretty diversified — roughly half of their production comes from three mines in China, the other half from Turkey, and they have some expansion possibilities at both and in Greece, Romania and Brazil — and has now become pretty big for a gold miner with a market cap of about $5 billion (though it was well over $10 billion a few years ago when the stock peaked around $20). Analysts expect it to become profitable next year. Haven’t followed it closely, but you can go sniff around and see if it appeals to you — let us know what you think. There’s a pretty good investor presentation from the company here if you want to get an overview. Almost every gold miner says they are a “low cost producer,” but in this case it’s pretty accurate — they say they have cash “all in sustaining costs” (basically, cash costs for production and royalties plus corporate overhead and capital investments to keep production going) of just under $1,000 an ounce, which puts them on the lower end of similarly-sized producers when it comes to costs.
And one more?
“… there is one more very unusual situation that I think you should be aware of.
“But I have to warn you… this recommendation is not for your ‘rent money.’
“It’s a much smaller company than the other ones I’ve told you about. And it carries more risks. But with that risk comes explosive upside potential.
“You see, the average gold mine produces 1 gram of gold per ton of rock – about the weight of a paper clip.
“But in a remote section of Northwestern Canada, set between glacial lakes, there’s a mine that lay dormant for 15 years, until this tiny company came in and took a sample of the rocky ore.
“And instead of the ordinary 1 gram of gold in a ton of rock sample, the new owners got 586 ounces.
“Now that sample was only from one part of the site.
“But engineers found that across the entire site, the average grade (the amount of gold contained in the rock) was 12 grams of gold per ton of rock – 12x better than the industry average.”
OK, so if anyone is ever putting their rent money into a brokerage account for any reason at all, you need to have your head examined … but I expect you know that already. So what’s this riskier stock? Some more clues so we can make sure to get a definitive answer:
“The ‘junior miner’ that owns this valuable property is run by a respected veteran of one of the top mining companies in North America.
“And by my most conservative accounting, with gold selling for 20% below current prices, I believe this mine is worth over $1 billion – 60% more than the entire market value of the company that owns it!
“Thanks to this unusual situation, I estimate this company’s shares could double in the next 18 months. However, it could be acquired sooner than that, as the big gold miners look for new, high quality reserves.”
This one is Pretium Resources (PVG), which was built by the guy who built Silver Standard during the last commodities bull run and is focused on developing the high grade Brucejack/Valley of the Kings mine in Northern British Columbia, which the company says is “one of the largest and highest-grading undeveloped gold projects in the world.” They’re still in the permitting process and still drilling and testing, but they have the goal of commercial production in 2017. That used to be a goal of 2016 and, in the optimistic world of gold miners, 2017 probably means they’re hoping they can get their first production going in December of that year.
You can see some snippets of analyst opinion about Pretium here from the Gold Report, there are certainly a few folks thinking that it will be a takeover candidate as large miners look for more high-grade reserves, but there have also been plenty of hiccups along the way — including a shellacking that the stock took last fall when one of their consultants released a very negative report on the gold grades, then a quick recovery when they released more positive assay results after that initial consultant resigned. I have not looked into that dispute at all, but it may leave at least a little bit of uncertainty.
So … there you have it, four stocks from Matt Badiali for your consideration — two royalty names, one diversified producer, and one explorer that’s trying to get a mine permitted and built. So chew on those for a while, think about what you think China’s going to do with all that gold, and let us know if these are the stocks you want to own in the years to come… and if you feel so inclined, we’d be delighted to hear those thoughts of yours if you’d care to share them by using the friendly little comment box below.