"Nowhere Near Enough Gold"

If managed funds keep raising their Gold allocation, there won't be enough gold to go round...

LIKE THE RUSH of prospectors from around the world caught in the grip of Californian gold fever in the mid-19th century, thousands of Gold Mining industry players no flock each year to the Prospectors & Developers Association of Canada International Trade Show & Investors Exchange in Toronto, better known as the PDAC conference, says the Gold Report.

Panning for nuggets of Gold Mining and other mineral production insight, however, is getting ever harder says Kaiser Bottom-Fish Report editor John Kaiser, interviewed here by the Gold Report on the last day of March 2010's PDAC conference.

The Gold Report: You're a long-time participant in the annual PDAC convention. Any compelling stories or particularly interesting tidbits that you learned this year?

John Kaiser: In the past few of the 20 years I've been going to this conference – and this year is no exception – it has become increasing difficult to pick up any prominent buzz, be it about a sector being red hot or be it about a major new discovery.

TGR: Why do you suppose that's happening?

John Kaiser: The reason is simple; this conference has become so big, so global. What in 1994 would have been the big Voisey's Bay's buzz that everybody was talking about or Bre-X in the following year, even if something like this did come along now, the collective size of 400 companies exhibiting would dwarf it. There are several hundred trade show exhibitors; numerous talks covering everything from country-focused issues to deposit models to new discoveries and so on. It's very difficult for any single thing to stick out.

Even worse, because it is now so large and dispersed, you do not have that intensity of networking of the past, the random networking where you would bump into people you hadn't seen for a long time and hear about this or that. By the end of the conference you had all these bits and pieces gelling in your head and you could say, "Oh, yeah, this was what was interesting." No, now it's the more you know in advance what you're looking for; you make the sessions; you track down those companies, and you have the face-to-face you planned with these. So, the old aspect of serendipity of bumping into stuff and stuff floating to the surface just does not happen in this environment.

TGR: Did you have any specific goals for your newsletter or your personal business that you were able to accomplish at the conference?

John Kaiser: I always take in the commodity talks on Sunday. This year I found that very helpful, and one theme that did emerge is the growing role of hard assets as a target for managed money. Martin Murenbeeld [of DundeeWealth Economics] emphasized that $40 trillion of about $117 trillion worth of financial assets in the world is so-called managed money. In other words, fund managers are running one-third of it. And of this $40 trillion, only about $200 billion is in what you would call hard assets such as gold, silver, copper, commodity ETFs, futures...the sorts of instruments linked to raw materials.

Martin suggests that the trend is going from this relatively small sum to nearly $1.3 trillion; in other words, 3% of the managed money going into this category. Should this happen, there's nowhere near enough Gold at the current prices.

In another talk on copper, a similar theme was raised. When you look at a 50-year chart, copper has historically followed this pattern when inventories in the warehouses build up – which is usually during a business cycle downturn such as we've just been in – the price of the commodity collapses along with it until all the inventories have been drawn down. And then they spike upwards.

After the spike downwards in 2008, copper prices are back almost where they were before the collapse. Warehouse levels – while not as bad as they were at the end of the '90s when inventories were very high and copper was at 60 cents – are about halfway there. Yet we have the higher inventories and higher prices tracking each other. The analysts are attributing this to the movement of investor capital into these hard assets that Martin was talking about, and they say that the inventories aren't just stuff parked in the warehouse because there's nobody to buy it. Instead, it's already allocated to investors speculating on higher prices down the road or even treating it as a hedge against a debasement of the currencies and so on.

TGR: So we're seeing that kind of growth not just in the precious metals space, but also in base metals. Did anybody address the idea of that kind of big money investment or fund investment in other metals besides even just base metals and Gold?

John Kaiser: Yes, for example, nickel is really not supposed to be back at $9 because the old pig-iron nickel, which helped bring nickel back down from the $22 levels, was working at $11 and $12. Now they're able to make it work at $7 and $8, so there's plenty of nickel supply coming into the system. Still, nickel has managed to climb back to $9, while inventories are very, very healthy.

TGR: So it's affecting copper, nickel and Gold.

John Kaiser: We are seeing it in all the categories. Even zinc, which is in surplus this year and is supposed to say in surplus next year, but then is expected to go into deficit. At that point, suddenly demand is greater than the supply. It is a $1 or higher and has bounced back significantly from the low reached during the 2008 meltdown.

TGR: Did you observe a lot of activity at the conference that you hadn't seen before, with fund managers sniffing around for compelling plays to work in what you're basically describing as a groundswell of money being diverted into these hard assets?

John Kaiser: I polled exhibitors as to what kind of traffic they were getting, and yes, they are receiving a lot of inquiries. They're coming from a range of sources, from the traditional European and North American institutional fund managers to a lot of overseas Asian-style managers. Of course, there's also interest from the end-user crowd.

A big theme has been China's movement to convert some of its foreign reserves into hard assets in terms of ownership of physical deposits. That's why we have seen buyouts and significant investments or large equity stakes in a number of important projects stranded during the 2008 meltdown. That was the nature of feedback I got from exhibitors.

TGR: Do you then anticipate more of the global relationships blossoming and developing as we saw last year with a major Asian investor – actually Japanese rather than Chinese – coming in as a strategic partner with a North American company?

John Kaiser: There was no irrational exuberance at all at this conference. In fact, it's a bit like a teeter-totter poised to go either way. There is hope that China will pull the global economy back on track and reinvigorate Europe and the United States. On the other hand, there also is concern that this will fall apart, and that as the fiscal stimulus packages come to an end interest rates start to rise that we will see a double dip recession in the North American markets. And if that happens to coincide with a problem in China, which has been going hell-bent at an incredible pace thanks to its $585 billion fiscal stimulus program, there is concern that his could end very badly.

So we are almost in the eye of a hurricane, and everybody's wondering where we will be next year.

TGR: Which way are you leaning?

John Kaiser: My own feeling is that if we come out of this with the global economy back on track and the disparate signs of life that we see in the North American economy are actually more than just flickers, next year we should see the super-cycle that dominated the talk at this conference from '03 to '08. This time it will be taken seriously, and massive amounts of money will flow into the sector. But as I say, it all hinges now on where the global economy goes.

TGR: In that context, it's interesting to see a lot of the money still going into the hard assets as we wait for the global economy to recover.

John Kaiser: We may have to stumble for a couple of years; in which case commodity prices will sag. But if that happens, all the talk about fiscal austerity and so on will go out the window. Every nation in the world will start to print money to reflate their economy and through brute force get liquidity in the economy going again.

And when that happens, because of the conservatism that on the mining side – the supply response – there is now money ahead of that curve saying, "Okay, we don't really need to buy copper right now. We need to buy a copper development story and put up the capital and give them the money to push it closer to the feasibility stage. Then, when we have greater clarity on the direction of the economy, we plunk down the billion dollars or whatever is needed to put this asset into production."

That's actually a very bullish sign for the companies exhibiting at the conference because it's a shift away from just, say, buying physical gold to buying the ounce-in-the-ground companies. Pierre Lassonde, in his talk ("Is $1,000 Gold Sugar Coating Peak Gold?"), had an interesting chart that plotted the average cost per ounce, which had been rising steadily for the past two decades. But in the last year, that cost per ounce flattened even as the price per ounce of gold went up significantly. Now, what he's saying is that a real margin is reappearing. It's not as if the companies are finding higher-grade deposits; they are not. They have simply been able to contain costs in the aftermath of this meltdown.

TGR: What made that possible?

John Kaiser: This meltdown was very different from past economic busts because the industry had spent the entire cycle worrying that this would happen. As a result, when it finally did happen, their supply response was immediate. They cut marginal operations; they laid off people; they stopped it on a dime. This has made the cost structure quite robust, and the producers are set to benefit significantly if the metal prices stay where they are and/or perhaps go even higher.

For investors seeking larger returns, these development projects look quite good at these current prices in terms of ounces or pounds in the ground, but the companies are not reflecting valuations that take these prices seriously. These types of projects are attracting capital on the basis of speculation that today's higher commodity prices stay and go higher in the long run.

TGR: Bargain shopping.

John Kaiser: In a sense, but it's speculative bargain shopping. It's speculating that your particular Beanie Baby that is cheap now is going to be very dear three or four years from now.

TGR: That takes us back to what, the '90s? Back to the future now, what else caught your eye at the PDAC this year?

John Kaiser: I was checking out the rare earth space. Quite a few of the rare earth companies were represented, there were several rare earth receptions and a whole morning devoted to talks about the rare earth deposits, geology, market and so on. These were surprisingly well attended for a Wednesday morning, when traditionally 90% of the delegates are still in bed. So that is actually a pretty good indicator of the interest in this space.

Particularly with the assistance of one of the stocks listed going up during the days of the conference, I would say that the rare earth space is probably on the threshold of achieving a whole new level of serious attention from investors.

TGR: Any companies in that space that you find particularly interesting?

John Kaiser: The interest has been a lot of talk and a lot of tire-kicking, but not really a lot of money going into the treasury. This may change in the not-too-distant future, though.

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