Trust Gold & Silver, Not Governments
Thursday, 11/07/2013 20:54
But also dump all but the strongest stocks you own, says this analyst...
LEONARD MELMAN is publisher of
The Melman Report, and has been writing about precious and base metals for more than two decades.
Here, the monthly columnist for California-based ICMJ's Prospecting and
Mining Journal and Vancouver's Resource
World Magazine, talks to
The Gold Report about his focus on how political and financial considerations impact the world of mining and the prices of the metals.
The Gold Report: You've expressed astonishment at the record highs of world stock exchanges. Given the sluggish world economy, can we expect this trend to end, or have equities become completely disconnected from economic reality?
Leonard Melman: Equities have become somewhat disconnected from economic reality. We've heard comments from the European Central Bank, the US Treasury and the Bank of Japan calling for more inflation because dramatic action is needed to improve the world economy. How does that coincide with the bull markets in equities?
TGR: Is there a connection between these bull markets and quantitative easing (QE)?
Leonard Melman: People now believe that central banks like the Federal Reserve are the only means of stimulating economic activity. Therefore, because QE is likely to continue, investors are buying stocks. I cannot think of any other logical reason for these bull markets. Companies are not rapidly increasing sales. They're not rapidly developing new markets. They're not hiring massive numbers of new workers. It's a stagnant economy, and yet the Dow is up almost 20% this year.
TGR: You said during your presentation at the Cambridge House conference in Spokane that without visible inflation, a strong metals rally might be difficult. John Williams of
ShadowStats.com argues that the US is already undergoing highly visible inflation and that the official inflation measurement is so politically perverted as to be practically useless. What's your view?
Leonard Melman: I do agree with Williams that there is some underreporting of inflation. If inflation were reported accurately, all the automatic increases in benefit payments that would then ensue, such as higher Medicare payments, higher payments to doctors, and most important, higher Social Security checks, could bankrupt the government.
That said, I don't think we have anything like the inflation of the late 1970s and early 1980s. Back then, every two weeks you'd walk into a restaurant, and they'd have a new menu with higher prices. Interest rates were horribly high. Gasoline prices have actually been in decline now for quite a few months. There isn't the scary, visible price inflation we saw 30 years ago. Inflation of maybe 10, 12, 15% or more will generate the psychological background necessary for rampaging gold and silver bull markets.
TGR: To what extent can the US government continue to persuade investors that all is well, and thus keep
gold prices and silver down?
Leonard Melman: That is the absolute crux of the problem. Most people have tremendous faith in their government to solve problems. But I feel, I hate to say, that a major breakdown is truly beginning to develop. If it does, then we have the potential for massive disillusionment leading to panic. And when people panic, they turn to gold and silver because they begin to lose faith in their currencies.
TGR: A recent
New York Times article lauded inflation as good for people. What is your take on it?
Leonard Melman: Inflation, of course, accompanies virtually every historic gold bull market. There are some who say that more inflation means perhaps just 2 or 3% instead of 1%, but once you open that spigot, it is very hard to turn it off.
We're seeing that in the budgetary debates. The US is still running a $900 billion ($900B) per year deficit. How on earth is it going to cut out $900B in programs and still keep the government operating? It can't.
TGR: How long can the debt problem be managed?
Leonard Melman: For 150 years, the US had a currency of gold. And so the reputations of the US Dollar and the US government were unchallenged. If something was good, it was as sound as a Dollar. The Dollar itself was as good as gold. However, the Dollar is no longer backed by gold, and this has resulted in runaway debt.
TGR: What about the role of government in the mining sector?
Leonard Melman: Government has the capacity not only to do good, but also to do immense amounts of harm. An ocean of overregulation is having a terrible effect on mining. Some of the juniors I know are just in agony, especially now, when metals prices are weak. How in the world can they raise enough money to finance all the regulations, reports, applications and filing fees they have to pay in addition to important exploration work?
I'll give you some examples of how government regulations affect mining. In Mexico, Congress is seriously considering a 7.5% mining royalty. Companies have said that if this tax is enacted, they will pull many of their operations from Mexico and will not invest new money. In Quebec, the leftist Parti Québécois government has made prospecting so difficult that one oil company manager actually said that people are more likely to invest in Africa and Iraq than Quebec.
TGR: Several mining analysts interviewed recently by The Gold Report have argued that it's time for investors to dump all but the strongest stocks in their portfolios. Do you agree?
Leonard Melman: I do. There are two kinds of juniors that still retain investment consideration. The first has an adequate treasury to see it through the next year or two without having to raise money, if it takes that long to restore a major bull market.
The second kind, even better, has a producing property and is bringing in cash, which allows it to explore and develop other properties, thus enabling expansion without ruinous share dilution. I have seen a great number of offerings in the last few months on the order of 10 million shares at $0.03/share just to raise $300,000. This keeps the office going for three more months before the company has to go to the market again and maybe offer 15 million shares at $0.02/share just to raise another $300,000. It's ludicrous.
TGR: After these companies pay their brokerage fees, they're not keeping much of this money, are they?
Leonard Melman: Exactly. Juniors are no longer cutting fat; they're down to the sinew and bones. Juniors once prospered by finding a project, immediately developing it and releasing a string of news releases. If these were exciting, share prices would rise. Juniors would use that capital to accelerate exploration and development, go quickly through to a preliminary economic assessment (PEA) and a feasibility study and then bring the property into production.
We just don't see much of that anymore. The Australian Stock Exchange and the TSX Venture Exchange have a whole host of companies that are dead in the water, and these exchanges may be at risk themselves because they need income (registration and filing fees) from active companies to remain in business.
TGR: You said at the Cambridge House conference that present stock price levels offer major opportunity and upside breakouts.
Leonard Melman: Let me explain that comment. When you consider the worth of all other investments versus precious metals, it's on the order of 99.4% to 0.6%. If even 3% of that 99.4% switched to precious metals, the leverage could be absolutely enormous: Multiples of 5, 10 or even 15 times present quotes could occur quite rapidly. That, I think, is the kind of potential that could exist at the early stages of a major bullish turn in the metals.
TGR: Regarding mining in Mexico, according to the Oct. 31 Financial Post, "Shares in several Canadian miners with Mexican operations are swooning after Mexico's Senate on Tuesday gave its general approval of tax reforms hard sought by President Enrique Peña Nieto."
Leonard Melman: I saw that. Some politicians still believe mining is nothing but a bird to be plucked, but mining production is often a goose that lays golden eggs, and such taxation measures could kill it. These politicians don't understand mining, which, to my mind, is the greatest creator of genuine wealth that exists on this earth. Take a place in Mexico like La Preciosa in Durango state. It once was a flat piece of territory that generated nothing. Then mining companies came, spent a great deal of capital and generated huge numbers of jobs and growing prosperity.
You would think governments would love that. Instead, they just try to milk every penny of taxation they can. It's short-sighted and destructive. I've seen it in other countries: Chile, Bolivia, Guyana.
TGR: Would Mexico's new mining regime threaten juniors?
Leonard Melman: I don't think it will have a very strong effect on them because most of the burden will fall on companies making very sizable profits. It's the long range that I don't like. Short term, I don't think there's a real negative impact.
TGR: Not that long ago, rare earths and other critical metals were all the rage among investors. How do you rate them now?
Leonard Melman: There is a great deal of uncertainty. After the Chinese announced they were going to start withholding supply to the West, rare earth stocks shot to the moon, and investors made a great deal of money. Then many of those shares came back down, virtually as fast as they went up. I'm a little leery of the group because three problems exist. The first is that refining rare earths is a very difficult process. Second, there is some difficulty in developing identifiable markets. The third problem is nanotechnology. As the size of end products keeps shrinking, so the quantity of metal needed for each electronic device is also shrinking.
TGR: When can we expect a resurgence in precious metals?
Leonard Melman: I remember very clearly one of the worst bear markets in stock market history. It was from 1971 to 1974. The Dow dropped from about 1,070 to 570 by June 1974, when it then hit bottom. It bounced back to about 700 during the fall and then fell again to about 600 in very late 1974. The key point is that the second selloff terminated above the first. Then the bull market began. This is a technical pattern called a spread double-bottom.
Picture gold now. It fell from a high of $1935 per ounce in August 2011 to $1175 per ounce in June 2013. It then rallied to more than $1400 per ounce and now it has fallen again. The low of the second decline so far has been $1260 per ounce. So we have a technical pattern that's identical in basic form to that giant reversal in the Dow I mentioned above. I believe if we can exceed $1400 per ounce, technically we will have completed a major spread-double-bottom pattern that could be the prelude to a major precious metals bull move.
There is also one other technical point. A lot of important market move retracements are about 50%. The present golden bull market started in 2001 with gold at about $260 per ounce. It ran up to $1935 per ounce before this retracement. That's a gain of $1675 per ounce. Half of that would be about $840. If you subtract $840 from $1935, you get about $1100, which also indicates we could be in a zone where there would be a natural rebound. There are no guarantees in technical analysis – I should note I'm a member of the Canadian Society of Technical Analysts – but we do have indications that are well worth watching.
TGR: Leonard, thank you for your time and your insights.
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