This asset manager is amazed by Gold Mining stock investors who don't first own any Gold Bullion...
A FREQUENT guest on CNBC and the Wall Street Journal radio network, Adrian Day is a British-born writer and money manager.
Graduate of the London School of Economics – and now head of Adrian Day Asset Management – he specializes in global diversification and Gold Mining equities for individual and institutional clients.
Adrian Day's forthcoming book, Investing in Resources: How to Profit from the Outsized Potential and Avoid the Risks, will be published by Wiley this autumn. Here he talks to the Gold Report about the near-term outlook for Gold Bullion, mining stocks, and other US-Dollar hedges...
The Gold Report: Earnings numbers are up for US companies, the US Dollar is gaining strength, unemployment numbers are improving; yet, as you said in a recent newsletter, you remain cautious on the market and are generally looking for opportunities to sell. What do you see in the economy that makes you cautious?
Adrian Day: That's a good question. First of all, we have to recognize that the economy and the market don't always go hand in hand. The market tends to anticipate developments. That is very clear that at the bottom of recessions when the market turns around and starts moving up because it anticipates recovery. What perhaps we're seeing with the market's action this year – and particularly in the last six weeks – is a look ahead to a second leg down in this recession.
But what am I seeing? Clearly there's been some positive news on the economy, but there's also been negative news – especially if you look at consumer spending, which was up at the end of last year and the beginning of this year, but the most recent consumer spending numbers turned down again. I think that speaks to the psychology of people – they pretty much went a whole year without spending a lot of money, certainly not spending money on discretionary items. A lot of people said: "We gave up Christmas last year; we're not giving it up this year whatever we have to do." So people spent money on the holidays, but there's a limit. If you don't have the cash and your credit card company doesn't increase your limit, there's a ceiling on how much you can spend.
TGR: But the employment numbers are higher.
Adrian Day: We're seeing a little bit of improvement in the employment numbers, though we have to recognize that a lot of that is temporary jobs and government jobs; in last month's report, new jobs were almost entirely temporary census jobs. Unemployment still remains very high. It's a mixed picture but at this stage of the recovery, things should be considerably better than they are.
One of the things that concerns me is the lack of lending by the banks, particularly to small businesses – that is of grave concern for the economy. As for the stock market, you just have to look at a graph to see that it's stopped going up; it's rolling over. I am not a technician by any means; but you can that see it bounced right up against that 200-day moving average and fell, and you know the market just looks very much as though it is moving downwards and the risk in the market has gone up.
TGR: Are there any particular areas where you're looking to sell?
Adrian Day: It's generally across the board, and it's really a matter of valuation for us. Clearly, one tends to sell things either when – or I do because I am a fundamental value investor – things go wrong or when the company deviates from its strategy. But I certainly don't sell because a good quality company that is doing everything right goes down and becomes a better value. I don't sell on that. We're just selling things that look overvalued to us. We have also been selling some things in Japan, for example, because the economy in Japan appears to be turning downward again.
TGR: You said earlier that at this stage of the recovery things should be better and that you were specifically concerned about the lack of lending by banks. Is it a matter of a reluctance to lend or is it that there are few good lending opportunities for the banks?
Adrian Day: The banks have a good deal going frankly. Banks have been able to borrow from the Fed in almost unlimited amounts at exceptionally low interest rates. If you could borrow billions of Dollars at a quarter of a percent from the Federal Reserve, perhaps you wouldn't feel inclined to take risks. You'd just put it in Treasury Bills and make a nice risk-free profit. That's what the banks have been doing. That is one reason I like some of these business development companies. These are companies that lend money to small businesses; that's their job – the banks pull their horns in, which means that the business development companies (BDCs) are able to see better opportunities at higher rates of interest.
TGR: Yesterday, the European Central Bank (ECB) warned that the region's banks may face losses of 195 billion Euros in a second wave of potential loan losses over the next 18 months. In light of this, many investors are turning to gold as a safe alternative to paper currencies. Do you expect the Gold Price to soften for the summer, and where do you see it heading by the end of 2010?
Adrian Day: I would definitely say that the risk of a decline has increased in recent weeks. Clearly in the past five to six weeks gold has risen well above trend – a lot of it from frantic buying from Europe, particularly Germany. We're also seeing signs of scrap sales in India picking up; and, if that continues, it could put pressure on the price because that's a very large market for gold. Of course, seasonality is the foundation of the question. June, July and the beginning of August are typically the weak periods for gold. There is a risk of gold being soft over the next couple of weeks, but I am certainly not suggesting anyone sell. A little bit of caution is called for in chasing gold right now.
I always like to focus on the big trend, and the big trend for gold is up. A period like this might give me pause, but we want to avoid trying to be too clever in selling and buying back and that kind of stuff. I definitely think gold is going up by the end of the year, by how much I don't know. Someone once said: "Never predict the price and the timeframe, either one or the other." I definitely think it's going up. All the reasons people have been Buying Gold over the last six to nine months are still there; they haven't diminished at all, in fact, the reasons have even increased due to the sovereign debt risk.
TGR: You said people were frantic Buying Gold in Germany. Please explain why.
Adrian Day: With the bailouts, essentially from Germany to Greece, which is what it was, a lot of Germans are extremely concerned about the value of the Euro and what's next. Is Spain next? Is Italy after that? Is Portugal behind that? And so a lot of Germans have been moving out of the Euro and putting their savings into gold, gold coins. Most of the mints and refineries in Europe and the storage companies are sold out and way behind. Premiums on coins have gone up; premiums on Krugerrands – a popular coin in Germany – have gone from 3-4% to 7% or 8%. There is no room in storage vaults. Those are indications of a mania, but it's very new and very short-term. There's no sign of a mania in this country – increased interest, but not a mania.
TGR: Are you using currencies as a way to hedge against USD devaluation along with Buying Gold?
Adrian Day: Yeah, a little bit; I prefer gold for a lot of reasons, and let's not forget that every currency we look at is simply paper; there is no currency backed by gold. But clearly some are stronger than others, and it strikes me that the Asian currencies, outside of Japan, are the strongest of all. The governments have better balance sheets, the banking systems tend to be stronger. The Asian currencies tend to be less leveraged, and so we like some of the Asian currencies a lot. Two that we hold right now are the Singapore Dollar, which is extremely liquid and can be purchased in small amounts; the other is a little bit unusual – the Hong Kong Dollar. Some people might say: "Why buy the Hong Kong Dollar? It is tied to the USD." That's actually true, and that's partly the rationale to buy it. If you're a USD investor, the downside risk in buying the Hong Kong Dollar is extremely low. The thought that Hong Kong would break the link and that the Hong Kong Dollar would decline against the US Dollar is such a low risk that you can almost call it 'zero'. However, at some point given the stronger balance sheet in Hong Kong, one can easily see that it's going to rebound against the Dollar. I should point out that neither of these are investments; they're merely ways of holding savings.
TGR: There may not be any gold-backed currencies but there are ways to get exposure to gold. What are some of those?
Adrian Day: I think people should always start with Gold Bullion. I am always amazed at how many people own a bunch of tiny little Gold Mining stocks, but don't any bullion or own any of the big royalty, or more-established, companies.
TGR: What are some ways you recommend people hold bullion?
Adrian Day: There are many different ways to own it, and a lot depends on your timeframe for owning. Obviously, if you own bullion and store it, that's a very safe way – except there are costs to storage. We're perfectly comfortable buying the GLD, the ETF, which is extremely liquid and reflects the price of gold.
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