Posts Tagged ‘Greenback’
Wednesday, April 11th, 2012
The IMF’s Currency Composition of Official Foreign Exchange Reserves (COFER) database continues to indicate that dollar remains the preferred reserve currency. In the fourth quarter of 2011, the dollar made up 62.1% of official reserves vs. 61.8% in the third quarter. The dollar accounted for 61.4% of official reserves in 2011 vs. 61.8% in 2010 and 62% in 2009. The euro’s share was virtually unchanged in 2011 at 26%. The small dip in the dollar’s share was taken over by “other currencies” component of the IMF’s categories. Mr. Derrick of BNY Mellon has identified the Aussie dollar as the beneficiary. It is also noteworthy that the euro’s share has decline to 25.94% in 2011 from 27.66% in 2009. Is the dollar’s role as an official reserve currency shrinking? A small decline is visible prior to the onset of the crisis but the dollar has prevailed in the past three years (see Chart 1).
Tags: Accuracy, Aussie Dollar, Beneficiary, Bny Mellon, Completeness, Composition, Currencies, Currency Exchange, Decline, Derrick, Exchange Currency, Foreign Currency, Foreign Exchange Reserves, Fourth Quarter, Greenback, Imf, Investment Decisions, Northern Trust Company, Preferred Choice, Reserve Currency
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Wednesday, March 21st, 2012
Axel Merk, Merk Funds
March 20, 2012
What are the implications for the U.S. dollar and investors’ portfolios if bond prices continue to fall, as they have of late? Within that context, should investors care whether the U.S. retains its status as a “reserve currency”? Should it effect the way investors think about their own cash reserves?
Until the end of last year, China had been a net seller of U.S. Treasuries for six consecutive months, spooking some investors that China might start to diversify its reserves in earnest. That trend was reversed in January, when its Treasury holdings grew by 0.7% in one month to $1.159 trillion; year-on-year, China’s holdings increased a mere $4.8 billion. China’s year-on-year increase in Treasury holdings is sufficient to finance the U.S. current account deficit for about 3 business days; that’s a good reason why investors should care, as the current account deficit reflects the amount of U.S. dollar denominated assets foreigners need to buy just to keep the greenback from falling.
Whereas China has taken a breather with regard to piling on U.S. debt, Japan has increased its purchases of Treasuries, possibly because it is eager to weaken its own currency. Japan’s Treasury holdings now stand at $1.1 trillion. Together, total foreign holdings of U.S. Treasuries rose 0.9% to a record $5.05 trillion in January.
Unfortunately, foreigners might be attracted to the U.S. dollar more for liquidity and less so for quality considerations. Central banks with billions to deploy are able to do so in U.S. Treasury markets without influencing market prices too much. Think of it as the upside of issuing a huge amount of debt: there’s lots of it one can buy and sell. Liquidity, however, doesn’t guarantee success, as the Italian bond market has clearly shown; when weaker Eurozone countries are engulfed in a crisis of confidence, Italian bonds have often been sold as a proxy due to the size and depth of the market. Japan represents another large bond market. Still, the U.S. bond market dwarfs all of these. When it comes to perceived safe havens, Swiss government bonds may be hard to come by at times; given the erratic actions of the Swiss National Bank in recent months and years, we have to caution that even Switzerland may not be the safe haven some perceive it to be. Moving to Germany – considered to be a large, mature market by many – note that even German Treasury bills have been extremely difficult to obtain during stretches of the financial crisis, even at negative yields.
Indeed, one of the most positive global developments would be if emerging market countries develop their domestic fixed income markets. If governments, particularly in Asia, were to issue more debt in their domestic currencies, they would be less dependent on U.S. dollar funding, reducing the so-called contagion risk in a financial crisis. Ideally, emerging markets would further develop both long-term bond markets, as well as short-term Treasury markets. The following example illustrates how global markets are so interrelated, and why such a development is so important: currently, a great deal of emerging market financing is U.S. dollar denominated, but originates from European banks. Those European banks, with trouble at home, are cutting their credit lines, to both shrink their loan portfolios, but also as their cost of borrowing U.S. dollars soared. That’s because European banks historically obtain much of their U.S. dollar financing through U.S. money market funds. On average, U.S. prime money market funds held about 50% of their assets in U.S. dollar denominated commercial paper issued by European banks. After lots of public scrutiny, including from us (see: Making the U.S. Dollar Safer: Return OF Your Money), those holdings fell to about 1/3rd of money market fund assets in late 2011. As U.S. money market funds reduced their appetite for debt issued by European banks, the Federal Reserve (Fed), in conjunction with other major central banks, put in place “central bank liquidity swaps”, a fancy way of describing U.S. dollar loans extended by the Fed to the European banking system via the European Central Bank (ECB) to alleviate U.S. dollar financing concerns and ultimately, contagion risks to the global economy.
A key attribute of liquidity is the ability to take money out of a country. An investor will be more willing to invest in a country when there are no capital controls, when there’s confidence in the rule of law, confidence that investors’ rights are protected. And while emerging markets are generally on the right path, it’s a path that takes a long time to build, as investors’ trust must be earned over many years.
As such, odds are the reserve currency status of the U.S. is likely to erode over time rather than overnight, if for no other reason than the lack of suitable alternatives. In our view, however, U.S. policy makers would be well served if they attempted to make the U.S. dollar as attractive as possible, rather than relying on the fact that foreigners have limited alternatives. As recent years have shown, the Chinese, for example, have gained operational experience in deploying their reserves into assets outside of U.S. Treasuries, in real assets, throughout the world: notably by investing in natural resources in Australia, Africa, Latin America and Canada.
For many years, until a month ago, the ECB, in its monthly communiqué, warned of a “potential for a disorderly correction of global imbalances.” That was central bank parlance for a dollar crash. For what it’s worth, the warning was missing for the first time in years in this month’s statement.1 Like the boy who cried wolf, when someone warns about something repeatedly, few may take that risk seriously anymore. Is it complacency when one drops the warning?
What many don’t realize is that we don’t need a low probability / high-risk event – a “black swan” event – to be concerned. Take the recent turmoil in the Treasury market: from the high on February 28, 2012 until the close on March 15, 2012, the U.S. 30 year bond had fallen about 8.5% in value (with declines continuing as of this writing). Many have previously been chasing yields: a lot of money had moved into longer dated securities, the so-called long end of the yield curve. In that process, volatility in that market had come down, providing the illusion of safety. We don’t need a crash, we need a return to a more normal environment to have what may be a rude awakening for investors. The plunge in the 30-year bond in just over 2 weeks should serve as a wake-up call. It turns out that foreigners appear to have piled into longer-dated Treasuries just before the recent correction (net long-term TIC flows of $101 billion in January vs. $38.5 billion expected), possibly making for a few very unhappy, but very important investors.
What is the relevance for the dollar? Foreign investors tend to own a large amount of Treasuries. When Treasuries fall in value, their investments may go down, unless the dollar increases by the same amount. While some pundits – in an effort to comment on short-term currency moves on any one day – point out that falling bond prices make the dollar more attractive as yields are higher, that’s little consolidation to those already holding Treasuries. Indeed, historically speaking, our analysis indicates that the U.S. dollar tends to weaken during early and mid phases of an increasing interest rate cycle. That’s precisely because the bond market turns into a bear market in such an environment. It’s in the late phases of a tightening cycle that foreigners come back to the bond market, in anticipation that the next bull market for bonds is around the corner; in that phase, the dollar may get a reprieve.
However, when rates are rising, investors may want to consider reducing their interest risk, moving from longer dated bond funds to shorter dated ones. Looking at it from an international perspective, the same relationship applies; it should not be a surprise that the volatility in shorter dated fixed income securities is less than that of longer dated ones:
Performance data in the chart above represents past performance and is no guarantee of future results.
For investors concerned about plunging bond prices, the obvious move may be to trim interest risk. Some may appreciate the perceived safety of U.S. dollar cash, although, as our discussion of U.S. money market funds above has shown, not all cash is equal. Investors concerned about the purchasing power of the U.S. dollar may want to consider mitigating the potential risk of a declining dollar by diversifying to other currencies. Be warned, though, that currency risk is then introduced. A money market fund will thrive to hold a stable net asset value in U.S. dollar terms; a currency fund will not. Indeed, much of investing is about trying to preserve purchasing power. By moving to cash in other currencies, one does avoid equity risk, and possibly mitigates interest and credit risk. But risk-free it is not. Indeed, we have argued for a long time that central banks may be eroding the purchasing power of currencies around the world – risk free assets can no longer be thought of as such. It was in 2006 when I first said “there is no such thing anymore as a safe asset: investors may want to consider a diversified approach to something as mundane as cash.”
Please sign up for our newsletter to be informed as we discuss global dynamics and their impact on currencies.We manage the Merk Funds, including the Merk Hard Currency Fund. To learn more about the Funds, please visit www.merkfunds.com.
1Former ECB President Willem Duisenberg mentioned “risks pertaining to external imbalances” in the first time in March 1999. But he didn’t reference it again until 2002. (Instead, he mentioned “there are no major imbalances in the euro area which would require a longer-term adjustment process” in 2001.) In May 2002, Duisenberg brought up this topic again at the press conference, saying “there are still a number of uncertainties such as those related to … and to the impact of existing imbalances elsewhere on the world economy”. He used the similar phrasing in June, October and December 2002 but not every meeting.
It was January 2003 that for the first time Duisenberg referenced “a disorderly adjustment of global imbalances” by saying “there are still risks relating to a disorderly adjustment of the past accumulation of macroeconomic imbalances, especially outside the euro area.” Then he reiterated it a couple of times during his remaining term as ECB president ended in October 2003. A note here, current Greek PM and then ECB vice-president Lucas Papademos hosted the September conference in 2003, where he also referenced “macroeconomic imbalances in some regions of the world persist.”
Since Trichet took office in November 2003, it became almost a routine to reference “external/global imbalances” at the press conferences, though his wording changed over time. During November 2003 and June 2006, Trichet often used the word “persistent global imbalances” when talking about concerns and risks to growth. Then he referenced “a disorderly unwinding of global imbalances” for the first time in August 2006. He frequently used “possible disorderly developments owing to global imbalances” during 2007-2008 and “adverse developments in the world economy stemming from a disorderly correction of global imbalances” in 2009, and started to regularly reference “concerns remain relating to … and the possibility of a disorderly correction of global imbalances” since September 2009, through his last press conference in October 2011. During his eight years in office, the only times he didn’t mention “global imbalance” at all were August 2007, April 2005, and from October 2004 to January 2005.
Draghi continued the tradition of referencing “the possibility of a disorderly correction of global imbalances” in all of his press conferences from November 2011 to February this year. The past meeting in March was the first time he didn’t reference it.
Manager of the Merk Hard Currency Fund, Asian Currency Fund, Absolute Return Currency Fund, and Currency Enhanced U.S. Equity Fund, www.merkfunds.com
Axel Merk, President & CIO of Merk Investments, LLC, is an expert on hard money, macro trends and international investing. He is considered an authority on currencies.
The Merk Hard Currency Fund (MERKX) seeks to profit from a rise in hard currencies versus the U.S. dollar. Hard currencies are currencies backed by sound monetary policy; sound monetary policy focuses on price stability.
The Merk Asian Currency Fund (MEAFX) seeks to profit from a rise in Asian currencies versus the U.S. dollar. The Fund typically invests in a basket of Asian currencies that may include, but are not limited to, the currencies of China, Hong Kong, Japan, India, Indonesia, Malaysia, the Philippines, Singapore, South Korea, Taiwan and Thailand.
The Merk Absolute Return Currency Fund (MABFX) seeks to generate positive absolute returns by investing in currencies. The Fund is a pure-play on currencies, aiming to profit regardless of the direction of the U.S. dollar or traditional asset classes.
The Merk Currency Enhanced U.S. Equity Fund (MUSFX) seeks to generate total returns that exceed that of the S&P 500 Index. By employing a currency overlay, the Merk Currency Enhanced U.S. Equity Fund actively manages U.S. dollar and other currency risk while concurrently providing investment exposure to the S&P 500.
The Funds may be appropriate for you if you are pursuing a long-term goal with a currency component to your portfolio; are willing to tolerate the risks associated with investments in foreign currencies; or are looking for a way to potentially mitigate downside risk in or profit from a secular bear market. For more information on the Funds and to download a prospectus, please visit www.merkfunds.com.
Investors should consider the investment objectives, risks and charges and expenses of the Merk Funds carefully before investing. This and other information is in the prospectus, a copy of which may be obtained by visiting the Funds’ website at www.merkfunds.com or calling 866-MERK FUND. Please read the prospectus carefully before you invest.
Since the Funds primarily invest in foreign currencies, changes in currency exchange rates affect the value of what the Funds own and the price of the Funds’ shares. Investing in foreign instruments bears a greater risk than investing in domestic instruments for reasons such as volatility of currency exchange rates and, in some cases, limited geographic focus, political and economic instability, emerging market risk, and relatively illiquid markets. The Funds are subject to interest rate risk, which is the risk that debt securities in the Funds’ portfolio will decline in value because of increases in market interest rates. The Funds may also invest in derivative securities, such as for- ward contracts, which can be volatile and involve various types and degrees of risk. If the U.S. dollar fluctuates in value against currencies the Funds are exposed to, your investment may also fluctuate in value. The Merk Currency Enhanced U.S. Equity Fund may invest in exchange traded funds (“ETFs”). Like stocks, ETFs are subject to fluctuations in market value, may trade at prices above or below net asset value and are subject to direct, as well as indirect fees and expenses. As a non-diversified fund, the Merk Hard Currency Fund will be subject to more investment risk and potential for volatility than a diversified fund because its portfolio may, at times, focus on a limited number of issuers. For a more complete discussion of these and other Fund risks please refer to the Funds’ prospectuses.
This report was prepared by Merk Investments LLC, and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward-looking statements expressed are subject to change without notice. This information does not constitute investment advice. Foreside Fund Services, LLC, distributor.
Tags: Axel, Billions, Bond Market, Bond Prices, Business Days, Canadian Market, Cash Reserves, Central Banks, Current Account Deficit, ETF, ETFs, Eurozone Countries, Foreigners, Good Reason, Greenback, Guarantee Success, liquidity, Portfolios, Quality Considerations, Reserve Currency, Treasuries, Treasury Markets, Trillion, U S Treasury
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Tuesday, October 4th, 2011
It is not a surprise the dollar continues to be the preferred official foreign exchange reserve currency, but the share shows a gradual decline in the past ten years. According to Asha Bangalore, vice president and economist of The Northern Trust Company, the IMF’s Currency Composition of Official Foreign Exchange Reserves for the first and second quarter of 2011 places the greenback’s share at 60.6% of official foreign exchange reserves, down from a high of 71.5% in 2001.
“The euro’s role has grown from a share of 17.9% in 1999 (when the euro was introduced) to 26.5% in the first two quarters of 2011 (see Chart). It is largely a tussle between the dollar and the euro, for now. It is noteworthy that the share of ‘other currencies’ has risen threefold to 4.8% in the first-half of 20o11 vs. 1.6% in 1999. The IMF notes that details of this category are unknown,” said Bangalore.
Source: Asha Bangalore, Northern Trust – Daily Economic Commentary, September 30, 2011.
Tags: Composition, Currencies, Decline, Declines, Economic Commentary, Economist, Euro, Exchange Currency, Exchange Reserve, Foreign Currency, Foreign Exchange Reserves, Greenback, Imf, Northern Trust Company, Outlook, Quarters, Reserve Currency, Second Quarter, Surprise, Tussle, Vice President
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Saturday, August 27th, 2011
Is There Bounce Left in the Ounce?
August 2011 – Monthly Strategy Report
Alfred Lee, CFA, DMS, Vice President & Investment Strategist,
BMO ETFs & Global Structured Investments
BMO Asset Management Inc.
Since the beginning of July, gold prices have enjoyed a strong move on the back of growing macro-economic anxieties, despite its recent correction. The political wrangling of whether or not to raise the debt ceiling south of our border brought the U.S. to the “brink of default” Although a deal was reached at the eleventh hour, in hindsight, the politics only attracted more attention to the country’s fiscal maladies. Investors and traders anticipating a relief rally once the hurdle was cleared were only disappointed as further volatility ensued with the market turning its focus on economic data that continued to be mixed, at best. In a surprise move, credit rating agency Standard & Poors (“S&P”) downgraded U.S. debt to AA+, a notch down from the coveted AAA status in which it has held since 1941. Gold rallied sharply as a result, as the market searched for a safe haven. In 2010, when sovereign debt issues began to spread through Europe, investors sought U.S. Treasuries and bullion as a hedge against a falling euro, leading to a positive correlation between the U.S. dollar and gold for a portion of last year, a rare occurrence. Now however, with the U.S. experiencing its own sovereign concerns, the market is losing confidence in the greenback as a safe-haven, despite no other market having equal size nor liquidity. Gold, as a result has been increasingly being viewed as an alternative currency, despite it not being a riskfree asset as investors have learned in the last few trading days. Although we have recommended gold several times in the past, with the number of questions we have received on the topic, this month we wanted to take a closer look at the precious metal, particularly given the aggressive sell-off we’ve seen over the last several trading days.
Over the short-term, technical indicators suggested gold was very overbought considering the aggressive move it’s seen up until last week. There’s been some exuberance in the asset class as of late, given the knee-jerk reaction of the market to the recent U.S. and European sovereign concerns. In recognition, the CME Group Inc. and the Shanghai Gold Exchange raised margin requirements for gold futures, in an attempt to shake out the more speculative positions. We believe, however, that the long-term fundamentals are still supportive of gold, particularly since the world’s sovereign debt issues will not subside overnight. Moreover, with the U.S. Federal Reserve (“Fed”) signalling to the market several weeks ago that it will hold interest rates at or near record (lows) levels until mid-2013, other major global currencies may need to devalue to keep their export markets competitive.
As we mentioned last month, gold tends to exhibit seasonality, typically strengthening in the back half of the year. At the time of last month’s report, even we did not expect gold prices to rise that aggressively. On a longer-term basis, looking at inter-market measures, indications are that the long-term secular run in gold still has legs. Examination of the Dow Jones Industrial Average (“Dow”) to gold ratio, a proxy of equities to bullion (or commodities), shows that the two asset classes have historically gone through long periods which one will outperform the other. These periods, have in the past lasted as long as 20-years and are indirectly reflective of inflation and interest rate cycles. Since the Dow to Gold ratio still trades below its 48-month moving average (“MA”), we believe gold (and commodities) will outperform equities over the long-run. In addition, monetary policy and the current low interest rate environment should remain favourable for commodities.
During presentations, we often get asked our thoughts on silver. Though we thought silver was extremely overbought earlier in the year, we believe the CME Group Inc. was successful in drawing out many of the speculative hands. At this point, we believe silver may offer more upside than gold since the silver to gold ratio currently trades below its one-year historical average. The BMO Precious Metals Commodity Index ETF (ZCP) is an efficient way for investors to access both gold and silver prices.
In addition to the silver question, we often get asked which will outperform: gold bullion or gold stocks? As we have pointed out over the last several months, gold related equities have not kept pace with bullion itself. This underperformance is a result of gold companies reacting more to market risk than the underlying fundamentals of the commodity itself. Although this may suggest gold related equities may offer attractive upside, it has also been troubling to see how long it has taken to close the gap, indicating a perception of risk on the horizon.
Several weeks ago, in our BMO ETFs: Trade Opportunities Special Report, we recommended investors de-risk their portfolios. (The report was sent to investors on our free distribution list, to sign up, email Alfred Lee or fill out form on www.bmo.com/etfs). Typically, when markets sell-off aggressively, investors act irrationally leading to some buying opportunities as assets fall significantly below their intrinsic value. Although, we wouldn’t be surprised to see markets bounce back when investor rationality resurfaces, we believe the risk/reward of equities over the short-term has increased. Recently, the S&P 500 Composite entered a “death-cross” pattern, where its 50-day moving average (MA) crossed below its 200-day MA, a key technical support level, where stop-loss orders may be placed and where programs may be set to sell. In addition, short-interest has risen over the last several weeks, which can compound volatility both on the upside and downside, leading to the further irrationality of investors. Another concern on our radar is that the CBOE Skew Index1 (Skew Index), currently sits at 124, a level that has historical preceded a weak 30-day return in the S&P 500 Composite. In the table below, we highlight the average 30-day return in the S&P 500 Composite after the CBOE Skew Index (“Skew Index”) hits various levels. As already mentioned, we would not be surprised to see a market rally, especially depending on the outcome of the Jackson Hole Conference, but we believe the potential for risk is now higher, especially as the market has priced in high expectations from the Fed. Furthermore, which type of precious metals exposure performs best going forward depends on how the market unfolds. Below we highlight four different market outcomes, in no particular order.
1) Economic recovery: Though economic data has not been promising, it is still possible that much of the weakness was caused by supply chain disruptions from the Japanese earthquake/tsunami earlier in the year. If economic data for the rest of the third quarter improves, making the recent data a blip, gold equities would likely quickly play catch up to gold bullion.
2) A normal bear market: Should the economy continue to weaken but we experience a normal slowdown rather than a crisis, both bullion and gold equities should fare well. This outcome would be possible should economic data continue to be weak, placing further strain on the global recovery. In order for this scenario to avoid a crisis of confidence, there needs to be more clarity on how the U.S. and Europe will solve their sovereign debt concerns.
3) A 2008 type of financial crisis: We do not anticipate a 2008 type of collapse, however there is a significant amount of margin debt in the financial system that could potentially cause a deleveraging event in the off-chance we experience a crisis of confidence. Given the heightened CBOE/S&P Implied Volatility Index (“VIX”)2, how reactive the VIX has been and the elevated SKEW Index, confidence has been put on shaky ground. This outcome may be the least likely and is really dependent on the market’s ability to remain relatively calm whenever volatility arises. So far, credit markets have remained very liquid when markets sell off, a positive take-away. However, in this scenario bullion would outperform gold related equities, though both would likely fall initially. In addition, both would underperform U.S. Treasuries in this scenario.
4) More quantitative easing (“QE3”): Should the Fed hint or decide on more quantitative easing at the August Jackson Hole Conference or later, gold equities will outperform bullion. More specifically, in this scenario, the small-cap gold companies should outperform as risk taking would increase and the juniors have a higher beta to gold prices.
Given the lack of clarity in macro-economic data and the unpredictabfility of the markets when investors become irrational, we believe having a diversified exposure to precious metals is important. Exchange traded funds (ETFs) are an efficient way for investors to access the various areas in the precious metals market. Gold may be an asset class that investors may want to consider for their portfolio strategy given it is uncorrelated to paper assets such as equities and bonds. Moreover, when the short-term volatility in gold prices dissipates, we believe then will offer an attractive entry point for long-term investors.
Commissions, management fees and expenses all may be associated with investments in exchange traded funds. Please read the prospectus before investing. The funds are not guaranteed, their values change frequently and past performance may not be repeated. This communication is intended for informational purposes only and is not, and should not be construed as, investment and/or tax advice to any individual. Particular investments and/or trading strategies should be evaluated relative to each individual’s circumstances. Individuals should seek the advice of professionals, as appropriate, regarding any particular investment. BMO ETFs are administered and managed by BMO Asset Management Inc., a portfolio manager and a separate legal entity from the Bank of Montreal. 1CBOE Skew Index: – referred to as “SKEW” is an option-based indicator that measures the perceived tail risk of the distribution of S&P 500 Composite log returns at a 30-day horizon. Tail risk is the risk associated with an increase in the probability of outlier returns, returns two or more standard deviations below the mean. Think stock market crash, or black swan. This probability is negligible for a normal distribution, but can be significant for distributions which are skewed and have fat tails. As illustrated in the chart below, the distribution of S&P 500 log returns has a sizeable left tail. This makes it riskier than a normal distribution with the same mean and the same volatility. SKEW quantifies the additional risk. Standard & Poor’s®, S&P® and S&P GSCI® are registered trademarks of Standard & Poor’s Financial Services LLC (“S&P”) and have been licensed for use by BMO Asset Management Inc. BMO Precious Metals Commodity Index ETF (ZCP) is not sponsored, endorsed, sold or promoted by S&P or its Affiliates and S&P and its Affiliates make no representation, warranty or condition regarding the advisability of buying, selling or holding units in the BMO Precious Metals Commodity Index ETF (ZCP).
Tags: Alfred Lee, Asset Management Inc, Bonds, Commodities, Debt Ceiling, Debt Issues, Economic Anxieties, Economic Data, Eleventh Hour, ETFs, Gold, Gold Prices, Greenback, Investment Strategist, Positive Correlation, Precious Metal, Rare Occurrence, Safe Haven, Sovereign Debt, Strategy Report, Structured Investments, Surprise Move, Treasuries
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Wednesday, August 24th, 2011
“Since the bursting of the tech bubble in early 2000, the dollar has been inversely correlated with risky assets,” says a research note from BCA Research. “However, the recent weakness in the dollar is at odds with the historical relationship.”
Notwithstanding the sharp declines on global stock markets and surge in volatility, the dollar has not strengthened and the trade-weighted dollar index remains near multi-year lows.
According to BCA Research there are three key reasons why the dollar strengthens during times of financial stress:
(1) global capital flocks to the safety of U.S. Treasuries,
(2) U.S. investors stop sending their savings abroad (and even repatriate capital), and
(3) the U.S. trade deficit narrows during recessions.
“This time around, however, the safe-haven factors have not turned in favor of the dollar thus far, even though it is premature to make definitive conclusions due to data lags. U.S. macro policies are the obvious reasons for the dollar’s diminishing role as a refuge: fiscal policy is a mess and the Fed is committed to devaluing the dollar.
“While economic policies outside of the U.S. are hardly picture perfect, foreign exchange is a relative game. Policies only have to be ‘less worse’ than the U.S. to win. Overall, the risks to the dollar are becoming increasingly asymmetrical.
The report concludes that reflationary U.S. policies will weaken the dollar with diminishing support coming during periods of “risk off” and recommends shorting the greenback.
Source: BCA Research – Daily Insights, August 23, 2011.
Tags: Declines, Definitive Conclusions, Dollar Index, Economic Policies, Financial Stress, Fiscal Policy, Flocks, Game Policies, Global Capital, Global Stock Markets, Greenback, Key Reasons, Lows, Macro Policies, Recessions, Risky Assets, Safe Haven, Trade Deficit, Treasuries, Volatility
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David Rosenberg Muses On Yesterday’s Market “Watershed” Event, Discusses The Chairman’s Lies Under Oath
Wednesday, November 10th, 2010
Rosie’s latest letter looks at yesterday’s events in the market and calls it the ‘watershed’ event. Alas, where Rosenberg sees a deflationary-driven event precipitating the move in gold lower, we see merely exchange intervention. Aside from that, Rosie’s skepticism is of course justified. More importantly, the Gluskin Sheff strategist focuses on the topic we pointed out a few days ago, namely that Dick Fisher has now opened up the door to Bernanke’s impeachment by confirming that the Fed is doing precisely what the Chairman swore under oath he would never do, i.e., monetize.
THE ANTI-QE MARKET
Yesterday’s manic performance in many asset classes may well have been a watershed event.
The U.S. dollar reversed course and rallied and all the program trading risk-on trades are correlated with the greenback. It could well be that some folks are beginning to pay more attention to what is happening in Europe where sovereign default risks and bond spreads within the periphery are blowing out again.
The stock market has not had two losing days in a row in two months. There were divergences at the recent highs, sentiment is overly bullish and the market is overbought. Cramer said yesterday that the charts are our friend to the bulls but we would beg to differ after what happened in yesterday’s session. The market is struggling at the April highs much like it was at the faulty peak in October 2007 as it failed to build on the prior July highs. The fact is that in both October 2007 and again in November 2010, the test of the highs was not confirmed by the financials. Remember that.
Bonds are supposedly the transmission mechanism for the Fed to deliver its QE-induced wealth effect. Well, at yesterday’s close of 2.66% on the 10-year Treasury note, it is now all the way back to where it was when Bernanke first hinted at QE2 back at Jackson Hole on August 27th. The yield on the 5-year Treasury note soared 13bps to 1.25% yesterday and that is where the Fed is supposedly doing the most buying. If you’re Ben Bernanke, something is backfiring.
We are long-term bond bulls but some technical damage has been done. It looks like a complete reversal can take the 10-year note yield to 3%. The long bond reached a key technical juncture yesterday breaking above the 200-day moving average, at 4.24%, which could take the long bond to a 4.6-4.8% and the stock market will have a good dose of trouble with that. But what a buying opportunity that would be for the long end of the curve, which is cheap, cheap, cheap, especially relative to where the cost of carry is.
Gold turned in a stunning reversal — is that a reflationary signpost? The yellow metal got as high as $1,424.60/oz, was as low as $1,382.80/oz, and closed at $1,392.90/oz.
So, the long bond broke the 200 day m.a., gold finished the day below $1,400/oz and the S&P 500 is now back below the April highs. Mr. Cramer — if this was a failed re-test accomplished by an exhaustion rally last week, then sorry, with any follow through to this reversal, the charts are not your friend at all.
As we said last week, the markets are not trading on fundamentals. They are trading off the U.S. dollar. Yesterday may have marked a shift — not that anything is happening in the U.S.A. to cause any excitement, but rather, the fiscal problems in Europe are back on the front burner.
According to the latest Ceridian-UCLA Pulse of Commerce Index, the holiday shopping season could potentially be disappointing versus current market expectations
Some may claim that Obama sending strong hints of a compromise allowing for the extension of the Bush tax cuts is a big catalyst. It is quite a sad commentary that the economy is in such dire shape that it can’t withstand a tax increase that has been advertised for a decade. And, what’s even sadder is that the public purse can hardly handle another $4 trillion of debt. Come on — if the cuts get extended, there will never be a good time to end them.
And on what will most certainly be the topic of the first Ron Paul – Ben Bernanke tete-a-tete:
SO WHO IS TELLING THE TRUTH?
We thought it was intriguing to see how Fed Chairman Ben Bernanke said for the record, just over a year ago, that the Fed had no intention of monetizing the debt. Chairman Ben Bernanke, in response to a question during his June 3, 2009 testimony to the House Budget Committee, said, “Either cuts in spending or increases in taxes will be necessary to stabilize the fiscal situation…The Federal Reserve will not monetize the debt.”
Just the other day, Dallas Fed President Fisher stated (more like lamented as he knows this is an exercise in futility) that this is exactly what the Fed has chosen to do. The U.S. does not suffer from a lack of low interest rates. Nor does it suffer from a lack of liquidity. What it suffers from is a lack of policy credibility.
Dallas Federal Reserve President Fisher, in his November 8, 2010, speech titled Recent Decisions of the Federal Open Market Committee: A Bridge to Fiscal Sanity, said, “For the next eight months, the nation’s central bank will be monetizing the federal debt.”
From Gluskin Sheff
Tags: Asset Classes, Cramer, David Rosenberg, Exchange Intervention, Gluskin Sheff, Greenback, Impeachment, Jackson Hole, Periphery, Qe, Rosie, S Market, Sentiment, Skepticism, Stock Market, Strategist, Transmission Mechanism, Watershed Event, Wealth Effect, Year Treasury Note
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Monday, October 18th, 2010
by David Andrews, CFA, Director of Research, Richardson GMP Ltd.
If asked for a few words to describe the beginning of third quarter Earnings Season, we would probably offer “Has it started yet?” Earnings Season has indeed begun but investors and markets continue to take their cues from the macro driven events and the ever increasing prospect of further monetary stimulus from the Federal Reserve. Stock markets ended higher with the Dow firmly above 11,000 and the S&P500 up 0.98% in the past week. Canada’s S&P/TSX also moved higher led by rising Materials stocks seeing big moves by Agrium and Sino-Forest. Gold touched yet another record high topping out at US$1383.90 before a modest recovery by the U.S. dollar. The greenback remains under siege ahead of the Fed’s likely Quantitative Easing (QE) which was reaffirmed by Chairman Ben Bernanke, during a recent speech in Boston. Bernanke signaled further stimulus was on the way as inflation remains too low and unemployment too high, both of which violate the two mandates of the U.S. central bank.
Singapore fired the latest salvo in the increasingly volatile currency markets by widening the band within which they will allow the Singapore dollar to trade. The U.S. dollar sank on the news and the pressure is on policymakers ahead of the next G20 meeting (November). Global currency imbalances are expected to dominate the agenda. Developing markets are concerned their export industries will suffer if increased demands for their currencies continue. The demand is coming from investors moving capital into these markets and away from near zero yielding developed nation currencies.
Despite investors’ apparent lack of interest in the earnings results, the results themselves have gotten off to a good start. This week, we saw how several key bellwether names are dealing with the slow growth economy. Intel beat top and bottom line estimates as corporate and emerging market demand for chips continues to grow. JP Morgan maintained its number one ranking in global investment banking fees and showed a continuing decline in credit losses. The shares later fell following allegations the banking industry was using improper foreclosure procedures further setting back the recovery in housing. So far, 47 of 500 companies have reported third quarter results. 71% have exceeded consensus which sounds good, but is lower than the beat rate in the third quarter one year ago (79.5%).
The past three months has seen a massive realignment of currency values which in turn has significant implication for portfolios. The S&P500 is up almost 7% this year in local currency terms. When translated into Canadian dollars, U.S. stocks have returned a paltry 1.79% year to date.
Just in time for Halloween, Canadian investors will get their own version of the CBOE Volatility or ‘Fear Index’ on Monday. The TMX Group is launching a Canadian version of the famous ‘VIX index’ based on the TSX60 and should be widely used as a gauge of investor anxiety. Earnings Season will really kick into high gear next week with 12 Dow and 112 S&P500 companies due to report third quarter results. Our Earnings Calendar, on the right hand side, highlights the notables.
The Bank of Canada is likely to leave overnight interest rates unchanged at the next policy meeting on Tuesday. Having lifted rates three times since June 1st, Governor Carney is likely to pause given pending QE from the U.S. which would likely put more upward pressure on the Canadian dollar. The bank will use low interest rates to stimulate growth, but not too much growth from borrowing by over-indebted households. Carney is also expected to present a revised outlook for slower growth for the second half of 2010 on Wednesday.
Canadian CPI is expected to show a rebound for September as higher energy prices due to a weakening U.S. dollar are factored in. Canadian retail sales for August are expected to again show a
slight decline as they did in July indicative of an economy losing momentum, and hence no change to rates is expected next week.
U.S. data should once again confirm the economy remains adrift and in need of a shot of stimulus. Housing starts and building permits will show the housing market continues to struggle to stabilize. Investors will want to see if last week’s higher than expected weekly claims were an anomaly or the beginning of a trend.
Copyright (c) Richardson GMP Ltd.
Tags: Apparent Lack, Bank Singapore, Bellwether, Ben Bernanke, Canadian Market, Currency Markets, Earnings Results, Earnings Season, Emerging Market, Export Industries, G20 Meeting, Global Currency, Greenback, Growth Economy, Jp Morgan, Lack Of Interest, Quarter Earnings, S Central, Singapore Dollar, Sino Forest, Stock Markets
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Thursday, August 26th, 2010
A contact of mine was kind enough to send me a copy of a speech that Ben Bernanke delivered on Japanese monetary policy back when he was still teaching economics at Princeton — A Case of Self-Induced Paralysis. Imagine that he gave this speech 11 years ago, and everything he laments in his speech is part and parcel of the U.S. macro and market backdrop today.
In any event, without getting too critical, this is the earliest piece we can find — three years ahead of his famous “What If” speech on November 22, 2002. What really caught our eye — on the same day that gold prices rose another $10 an ounce — was the section on “How to Get Out of a Liquidity Trap”, which we are clearly in considering that record-low mortgage rates have not stopped home sales from cratering to record-low levels. In particular, the subsection that contains one of the solutions to a deflationary debt deleveraging cycle, which is what he was advocating for Japan back then: “Depreciation of the Yen”. Indeed, instead of depreciating, the yen has strengthened 15% since Mr. Bernanke gave that speech, and look where Japan is today. So, it would go without saying that embarking on investment strategies that are inversely correlated with the greenback would seem to make good sense, and the gold price would certainly fit that bill (we should add silver into that mix as well).
YOU CALL THIS CAPITULATION?
Short interest on the Nasdaq down 1.6% in the first week of August?
The Rasmussen investor confidence index at 80.4? Call us when it hits 50, which in the past was a “classic” washout level.
Investors Intelligence did show the bull share declining further this past week, to 33.3% from 36.7%. But the bear share barely budged and is still lower than the bull share at 31.2%. Are we supposed to believe that at the market lows, there will still be more bulls than bears out there? Hardly. At true lows, the bulls are hiding under table screaming “uncle!”.
Yes, Market Vane equity sentiment is down to 46, but in truth, this metric is usually in a 20-30% range when the market correction ends. We are waiting patiently.
As for bonds, well, Market Vane sentiment is 73%. Now what is so bubbly about that. Call us on extreme positive sentiment when this measure of excessive bullishness is closer to 90%, and we’ll be in the correction camp hopefully by the time this happens.
In any event, the extent of the denial over U.S. double-dip risks is unbelievable. These are quotes from economists and strategists in yesterday’s print media — and just a select list at that for there was just so much surreal commentary:
“I’d be shocked if you don’t make a lot money in U.S. stocks over the next decade.”
“If yields rise, then 30-year bonds will suffer.”
“It won’t be a double-dip recession but it might feel like it.”
“There is a global perception that we are not necessarily going into a Japan-type scenario, there is a recognition of a slow recovery.”
“People shouldn’t panic.”
At market lows, the recession rhetoric becomes more intense and indeed it’s when people do panic that the best buying opportunities generally occur.
Copyright (c) 2010 Gluskin Sheff
Tags: Bear Share, Capitulation, Confidence Index, Gold, Gold Glitters, Gold Price, Gold Prices, Good Sense, Greenback, Investment Strategies, Investor Confidence, Investors Intelligence, Japanese Monetary Policy, Liquidity Trap, Low Mortgage, Lows, Mortgage Rates, Nasdaq, Ows, Short Interest, Silver, Teaching Economics
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Thursday, August 26th, 2010
“Markets are in a risk-off mode, and the US dollar usually rallies in these circumstances,” Robin Griffiths, technical strategist at Cazenove Capital, told CNBC. He added that “the Aussie dollar has to go quite a bit lower against the greenback.”
Source: CNBC, August 23, 2010.
Saturday, May 15th, 2010
This article is a guest contribution by Brian Sylvester and Karen Roche of The Gold Report 5/14/10
In this exclusive and revealing interview with The Gold Report, Mackie Research Capital’s Barry Allan, always among Canada’s top-ranked mining analysts, says the European currency crisis and crippling debt problems will push gold—and the U.S. dollar—higher throughout the rest of 2010. But gold and the greenback may not be the biggest winners as a result of a faltering euro. Allan suggests other currencies could have the most to gain as investors seek other havens. Allan also sheds some light on why the best bets in the gold sector are intermediate and development plays.
The Gold Report: Barry, the last time we spoke, you told us gold typically has a rough first quarter. Tell us how the yellow metal fared in Q1.
Barry Allan: It’s typically the end of the first quarter where gold gets into problems, and then into the second quarter. We’re kind of still in that process. What we did see was a rather good gold price relatively speaking; it largely held, and the price went more laterally over the last short while with the whole potential bailout of Greece. By that, I mean it didn’t have a sharp correction, but it did go sideways.
TGR: And where do you see the gold price heading later this year?
BA: We will be looking at a better gold price environment. I think the variable that we now have, which we didn’t have previously in our discussion, is the impact of the potential desegregation of the euro, and the whole notion of what that will do for the gold price vis-à-vis the currency crisis. With the euro crisis, you’re going to get a flocking to the U.S. dollar and gold. With the rise of the U.S. dollar, you’re also going to get a rise in the gold price, which is a bit of an unusual feature—and we’ve already had that.
TGR: So you think the sovereign bailout of Greece is likely to fail?
BA: Certainly in my travels—I was just in London, England and New York—there’s a general belief that the whole concept of a bailout of Greece is going to fail, and it will take some time, but it will ultimately fail. And that will cause further dislocation of the euro and hence benefit gold and the U.S. dollar. So later this year, we fully expect a better gold price.
TGR: Do you see a dramatic rise?
BA: Certainly, the elements are there. I think we’re all dealing with the same hand to a certain extent, in the sense that what will ultimately happen with the euro remains to be seen. The indications are that Greece is definitely having issues. But there are also other weak parties in the euro that may show some problems. If that happens, that’s just going to accelerate the whole crisis of the currencies, which will be a positive for the U.S. dollar or other world currencies and for gold.
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TGR: In the same way people are talking about Greece, people are talking about Portugal and Ireland; people are even talking about England. If England shows any kind of debt issues, will people really flock back to the U.S. dollar or look to alternative currencies as a safe haven?
BA: The practical part of it is that you can move huge amounts of currency in a pretty short period of time, and what typically happens is money will slosh around in different currencies and go from one currency to another as circumstances change. I saw it a while back by virtue of friends of ours in Ireland who were wanting to move money out of Ireland and saying, “Where do we go?” and their first impulse was to go to the U.S. dollar. I said, “Well, I’m not so sure that is your best place to go. Would you consider putting money into gold?” Their immediate response to me was, “What you say might all be true, but you don’t understand how bad the prospects look for the Irish currency.”
TGR: How long can we expect this situation with the euro to last?
BA: It will occur until such a time as the situation in Europe stabilizes, and then we will find a more moderate exchange rate. But there will be—and there has already been—a movement to world currencies, and other potential currencies might emerge as world currencies.
TGR: As far as gold investments go, what sort of vehicles are you most likely to recommend to people?
BA: It really all depends on one’s tolerance for risk when it comes what vehicle you choose or how you gain that exposure to gold. On a recent trip through Europe, as well as New York, for the first time ever I found almost no interest in senior gold stocks. People are saying to me, “If I need that kind of exposure, I will just go to the ETF, thank you very much, and not take on operating risk. If I want to invest in equity, I want something that is going to give me a 20%-30% rate of return; hence I am going to look into the smaller tier of gold stocks where there’s something that’s got more sex appeal, with exposure to the kind of company as well as gold.” That struck me.
TGR: What are the reasons behind it?
BA: I think there are probably two reasons behind it. One has been the evolution of the ETF as a viable instrument and one that factors in people’s thinking; the other is exposure to the gold price without taking on operating or political risks. You may have some element of counter-party risk there, but you certainly don’t have the operating risk aspect. Until recently, the senior gold stocks had not really distinguished themselves because they were not able to show really good increases in bottom-line performance with this rise in gold. They were largely wrestling with operating costs, the growth in cash flow and earnings as a result of better commodity prices. I think the backlash was people saying, “Fine, if I’m going to buy an equity, I want something that’s going to give me good, solid rates of return, and that’s something more than just 10%”
TGR: An April research report from Mackie says you’re bullish on Barrick Gold Corp. (NYSE:ABX;TSX:ABX) and Newmont Mining Corp. (NYSE:NEM), but less so on some of their competitors. What are Barrick and Newmont doing that others are not?
BA: What I had recognized in making that statement is that certainly both Newmont and Barrick would give us good bottom-line performance. In other words, show us good leverage in a gold price environment, give us earnings, give us cash flow. Both Newmont and Barrick did handily outperform street expectations in Q1 based on much better commodity prices.
TGR: What’s your view of Goldcorp Inc. (NYSE:GG;TSX:G) and Kinross Gold Corp. (TSX:K;NYSE:KGC)?
BA: I was only a little bit more moderate on Goldcorp because of the fundamental fact that Goldcorp has a very big mine it is developing, called Peñasquito in Mexico, which really doesn’t hit full stride until the end of 2010. I thought the share price would tend to lag initially, but certainly get better toward the end of the year.
In the case of Kinross, again it was a fundamental issue that I wanted to see, which I have not yet seen. One of the major mines it has developed—the Paracatu mine in Brazil—has some operating issues. It’s been a recovery problem, and sometimes recovery problems can be systemic. I was being a little bit more cautious with Kinross; as with Goldcorp, their major portion of growth is yet to come.
TGR: What are some of the mid-tiers best positioned to capitalize on the stronger gold price like Barrick and Newmont have?
BA: The two we have selected within that group are El Dorado Gold Corp. (TSX:ELD;NYSE:EGO) and Agnico-Eagle Mines Ltd. (TSX:AEM). What I recognize in both of those names is a tremendous growth profile—when I say “tremendous,” I mean quite dramatic growth profiles over the next two years, whereby the companies are effectively transformed from where they are to where they ultimately should end up.
In the case of Agnico, that’s probably going to be the year-end before we see that transformation. In the case of El Dorado, it’s probably going to be more into 2011. But both of these companies have a tremendous growth profile, so they’re going to dramatically increase production. We are not alone in looking at them; they’re probably the two names in the intermediate space that the “Street” loves to love, and so they tend to be expensive. You’re paying up front for growth that’s going to happen later this year or next year. We’ve been a little bit more “nimble,” if you will. We’ve always bought Agnico-Eagle on bad news; we try to get a better value based on whatever startup issue it might have. In the case of El Dorado, we try to do the same. We recognize that both of those companies are exceedingly well positioned for the next 18 months to deliver spectacular growth rates.
TGR: You place gold companies in four groups: senior equities, intermediate equities, junior equities and development equities. Could you explain what differentiates companies in the last three categories?
BA: When we talk about a junior mining company, we’re probably talking something that has a production capacity of less than 500,000 ounces. An intermediate would be 500,000 ounces or more. Typically, the market cap is, in the case of Agnico-Eagle, a $10 billion market cap type company, whereas if you get down into the juniors, the market cap will be more into the $2-$3 billion kind of range. The junior mining company probably has one or maybe two operating assets in its portfolio, whereas the intermediate guys will have more and that provides them with more production base diversity.
TGR: And the risks of each?
BA: The intermediates probably have a lower liquidity risk. And because they have multiple mines in production, they have a bit more portfolio-type flexibility in managing their production base. So a little bit lower risk there as well.
In the case of the juniors, you tend to be leveraged to a particular mine. So you have a higher degree of operating risk associated with the junior, and you may have an element of political risk, depending on where that mine is located. From our perspective, the risk profiles are a little bit higher on the juniors than on the intermediates.
TGR: There was also a “development” category. Describe those companies.
BA: Companies in that tier are not producing. They’re companies either building mines or at the early stage of mine assessment. They’re companies that have advanced beyond exploration but don’t have a mine in production.
TGR: And the risks?
BA: They have incumbent risks associated with them depending on where in the development cycle they are. For companies that are reasonably well advanced as far as having mines under construction—Osisko Mining Corp. (TSX:OSK) is an example—it would typically have a lower-risk profile than a company like Oromin Explorations Ltd. (TSX:OLE;OTCBB:OLEPF) or Sandspring Resources Ltd. (TSX.V:SSP), which really have just a National Instrument 43-101 resource estimate and are conducting pre-feasibility studies of those resource ounces and trying to get to the feasibility stage. So it is a much higher-risk profile.
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TGR: What types of risk?
BA: There are lots of different types of risks. You clearly have a funding risk because most of these are unfunded projects. You have a construction risk in the sense that if you have a reserve, then you have to start building the mine. In some cases, we don’t even have a reserve; we have a resource, and we’re not sure how much of that resource is going to convert into reserves, so you have a geological risk. In that tier, you’re going to want a much better return to compensate you for the risks.
TGR: Some companies in the development category have been doing quite well. Tell us about those.
BA: In the development equities, it’s about taking those risks that we talked about and removing them from the equation. A company that was our top pick for this year was called Comaplex Minerals. It’s been taken over by Agnico-Eagle. That’s a classic in what we really are looking for in this group of companies. What Comaplex did was de-risk the project to the extent that there was someone out there, in this case Agnico, who felt that this would be a good fit for its asset base. We got a good valuation as a result.
We’re looking at a couple more that fit into that category, albeit much further behind than a Comaplex, like an Oromin or a Sandspring. We would say Oromin is probably a year or so behind where Comaplex was; we expect there will be some form of take out there as well, but it won’t be until the end of this fiscal year until we’ll be in a position to really see that.
And then with a Sandspring, which is even further behind than Oromin, that’s likely going to be a 2011 event. But this is about expanding the resource size beyond what we currently believe it to be; then taking those resource ounces and de-risking them into reserves; and then about looking at the economic prospect of developing them into an operating mine. That’s where you have your highest risk; but if you get it right, you also get your best returns.
TGR: What are some other development-stage juniors on your radar?
BA: We’ve been deep into Rubicon Minerals Corp. (NYSE.A:RBY; TSX:RMX); we were their first financiers. But let’s be clear, Rubicon has the highest risk profile of probably any company out there. It was pure exploration, and they’re still in exploration at this juncture. Rubicon has found something of very significant size and proportions, and the real question is: what have they found? That’s what the market is debating. They’ve got well over 150 holes drilled into something that is holding together very nicely. We’re clearly, and have been for some time, on record as saying that we think there is something very material to Rubicon. We have put some numbers around it, but we’re ahead of where the company is.
TGR: Any others?
BA: Detour Gold Corp. (TSX:DGC) has the Detour Lake project. It will be a big project to build so there’s a big funding requirement. The market has taken a little bit of a slower response in looking at Detour because of those issues. It’s really a question of how they are going to fund this thing. Are the shareholders going to be diluted, or is it going to be a very large debt position? That’s a major part of that story that needs to be de-risked before you see the next increment. They’ve got an economic assessment of what all those ounces mean, and it’s now time for them to actually fund and build a mine.
TGR: Do you still see share price upside on either Detour or Rubicon or both?
BA: Definitely; probably more so on a Rubicon than on a Detour, but that’s a personal judgment. I think Detour has more significant issues to deal with in the development cycle than its compatriot, which would be Osisko. Osisko and Detour are direct comparables, and there’s a third one, which is called Rainy River Resources Ltd. (TSX.V:RR), which would fit into that category as well. These are the large, low-grade, open-pits in Canada.
TGR: The track record of these projects is somewhat sketchy, no?
BA: That’s absolutely correct. The mining industry takes a very cautious view on these large low-grade pits when they get up to this size in this part of the world. We have not had a successful track record in Canada of running and operating these large low-grade open pits. So there’s a bit of a technical hesitation among the mining companies about getting involved in a takeover bid, but there’s also a very significant entry price, because we’re talking about some big market caps to buy and build.
Sandspring’s Toroparu is much smaller and more modest in an area—Guyana—where there have been a number of these deposits developed over the years. Historically, they’re a little easier to mine, so there’s a better track record there.
TGR: Are you saying Sandspring is a more likely takeover target than Detour?
BA: Our view on Sandspring is more about adding ounces to the resource than it is about an imminent takeout. Detour has done all that work; they’ve shown the economics, and now the market is saying, “Alright, let’s see you build it.”
TGR: Among some of the risks you highlight, you say that share liquidity has impeded some valuations, at least in the short term. To what extent has the merger and acquisition activity overcome the restrained evaluations?
BA: Well, for instance , we can point to the recent purchase of Comaplex by Agnico-Eagle. Comaplex had quite a good market performance over the fiscal year. I know that just prior to the purchase by Agnico-Eagle, the stock was in the $8 range and Agnico offered them $10. There was a 20% premium right there. That reflects a little bit of that valuation you get off of better liquidity and the better values at which senior golds will trade—or an intermediate in this case—relative to a junior. They can offer those kinds of prices and still show accretion to their shareholder base. So that is another way of looking at that element of liquidity: what can it do for you? Now, there’s also the possibility that the senior mining company is prepared to be more aggressive with the purchase price. But I would suggest to you that generally speaking, the valuations on a more liquid stock are better; thus, they are able to offer the junior a premium and still be able to show accretion to their bottom line.
TGR: What about some noteworthy junior golds?
BA: Aurizon Mines Ltd. (TSX:ARZ; NYSE.A:AZK) is a steady-as-she-goes type of company. They’ve done a good job building their mine, which is Casa Berardi. They have reached a steady level of operation and they’re not going to embarrass us. I think the market has started to ask—and we have asked this as well—”Alright, where do we go to from here other than the gold price? We’re a producer of 160,000 ounces. Where’s my sizzle? Where’s my joy? To get off into that intermediate category, I am going to have to double my size; so how is that going to happen?” That’s really been the issue for Aurizon at this point. They know that; they have a development team that’s been out looking at new acquisitions. Aurizon has a property called Joanna that probably is not sufficient at this point to get them to that level, but they are spending. Lately they’ve had a little bit more success drilling there. And they’re drilling Casa Berardi to get additional mineralization. Those are kind of organic things, and the market is looking for something that is a bit more of a step change.
TGR: Are there some other junior companies that are steady producers with some upside?
BA: Alamos Gold Inc. (TSX:AGI) is similar to Aurizon to a certain extent, except it’s a Mexican producer. Alamos fits into that category with a Gammon Gold Inc. (NYSE:GRS; TSX:GAM) as an operation that is in Mexico that is producing gold and silver. It’s an open pit; it had initial start-up problems, but the practical part of is that they got it right, and they’re doing very well on an operating front. They’re producing consistent operating results from quarter to quarter with good operating costs, and now what they’ve done is they’ve gone out and tried to leverage their operating talent into two properties in Turkey.
The catch with Alamos is it’s a big step for a one-mine company going from Mexico to Turkey, and that’s just sheer politics of jurisdiction. The assets look like they’re similar; I have not actually seen them.
Barry Allan joined Mackie Research’s Investment Banking Department in 1998 as a mining specialist, and transferred to the Research Department as a Mining Analyst in 2001. Barry has over 15 years of experience in the mining sector. Prior to joining Research Capital, Barry was a Gold and Precious Metals Mining Analyst with Gordon Capital, BZW, and Prudential Bache. Prior to equity research, Barry was a member of the specialist finance group at CIBC, one of Canada’s largest financiers of mining projects. Barry earned his B.Sc. (Geology) and MBA degrees from Dalhousie University.
Want to read more exclusive Gold Report interviews like this? Sign up for our free e-newsletter, and you’ll learn when new articles have been published. To see a list of recent interviews with industry analysts and commentators, visit our Expert Insights page.
1) Brian Sylvester and Karen Roche of The Gold Report conducted this interview. He personally and/or his family own shares of the following companies mentioned in this interview: None
The following companies are sponsors of The Gold Report: Aurizon Mines Ltd., Detour Gold Corp., Sandspring Resources Ltd., Rubicon Minerals Corp., Goldcorp
2) Barry Allan: I personally and/or my family own shares of the following companies mentioned in this interview: None. I personally and/or my family are paid by the following companies: None.
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