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Commodities / Gold & Silver Stocks Aug 13, 2011 - 07:24 AM GMT

By: The_Gold_Report


Best Financial Markets Analysis ArticleEven with the turmoil in today's markets, Louis James, chief metals and mining investment strategist at Casey Research and the senior editor of International Speculator, Casey Investment Alert and Conversations with Casey, says business really does go on. He stresses that even in the face of what he calls "truly economically suicidal behavior on the parts of world governments," he remains very bullish on precious metals. In this exclusive interview with The Gold Report, James discusses what we can expect for the rest of 2011 and 2012.

The Gold Report: You said that there were "warning signs" of a forthcoming correction in the gold price in the July issue of International Speculator. Given the last-minute compromise from the Democrats and the GOP to raise the debt ceiling in the U.S.; incredible amounts of poor economic data coming into focus that could possibly point to a double-dip recession; and the gold price dramatically topped $1,800/ounce (oz.) this week, what should we expect next?

Louis James: We remain very bullish on precious metals. For years to come that's likely to be the case. There will be ups and downs along the way, though. When I said that, it seemed that the powers that be were making noises about ending quantitative easing. The figures seemed to suggest that the recovery was underway and that the government wouldn't need to be quite so destructive with its monetary policy to prop up the economy. With these things in mind, it seemed prudent, for the short term, to deploy your investments with a possibility of a correction in mind, because without more quantitative easing, commodities could take it on the chin.

At the same time, we were saying that the long-term trend is very solid. If you see something that's a good value, play anyway. Don't stay out of the market because it could go lower. We are glad we did because the market did go the other way. In July, we saw gold appreciate quite a bit.

The whole thing with this debt ceiling was really silly in many ways. We've seen so-called government shut-downs before. But, really, business goes on. If you pull back and look at the bigger patterns, the fundamentals for precious metals remain very strong in the face of truly economically suicidal behavior on the part of the world's governments.

TGR: What happens for the rest of 2011?

LJ: We didn't see the great shopping season correction that you typically get over the summer. That doesn't mean it can't happen now. If broader market concerns affect the resource sector too, we could well see that. If not, then remember the longer-term trend. And remember that gold typically does really well in the fall. Be cautious and don't be out of the market.

TGR: You suggest that investors should expect a crash in the broad market sometime in 2012. With recent events, do you think this timeline has sped up at all?

LJ: There is fear in the marketplace. This could be a tipping edge that leads into a 2008-style slide. I suspect that if that's the case, we'll probably see a longer and deeper slide than we saw in 2008, but not as acute. This is why we use a tranche strategy to mitigate the risk of different possible outcomes.

TGR: Before we discuss tranche strategy, what would be some telltale signs in the market that would prompt you to tell people to cash out before the crash?

LJ: We wouldn't try to time the market. If we see our market drop, we'll just buy more. We have been very cautious about how we deploy our cash. We are not all in. And we have been taking profits quite aggressively along the way, which doesn't always enamor us in the eyes of companies (they see taking profits as a sell, even if we are not exiting a position). We have been hoping to see a more dramatic correction than any of these little dips so far this year. Our portfolio right now is pretty lean and focused on emerging production stories. Almost all of our picks have a resource in hand or they have drilled into something. These are stories that should pull through any corrections ahead. In general, we're not looking to sell at all. We are looking to deploy the cash we've been building in case we get such an opportunity.

TGR: How long did you wait in 2008 before you started buying again?

LJ: Things started coming apart in August. We were buying gingerly at first; by October we were definitely buying more heavily. November was when we really backed up the truck for great companies that went on sale like Osisko Mining Corp. (TSX:OSK) and Detour Gold Corp. (TSX:DGC). The companies were fine. They had great projects and lots of cash, but they were on sale for as much as 75% off. In the December 2008 issue of the International Speculator, there were some pretty bold capital letter buy signals, best buy signals, that sort of thing.

TGR: Eight weeks after the crash, I guess.

LJ: It started in August and slid all the way down to late November. Then, 2009 turned into a good year starting from a low base. Gold started back immediately. The quality juniors that either had the gold, or you could see were going to have it, and had money, started back up again immediately. You could tell they were going to weather the storm without diluting the heck out of shareholders. The rest of the sector took a few months longer to head decisively north again.

TGR: Let's get back to tranche strategy, which is really dollar-cost averaging, but in a very specific sense. Tell us how it allows investors to boost gains. Let's start with the hypothetical ideal position of 10,000 shares in company X at an initial price of $1 a piece, which is the same example you used in the June edition of International Speculator.

LJ: The idea is if you like something and see it at a good entry point, you don't buy the whole 10,000 shares at once because no one can predict the future. Instead, you buy a first tranche, a first slice of the whole pie you want. We suggest 20%—2,000 of those 10,000 shares. Then, if the thing really takes off, you don't get left behind.

More likely is that the shares will fluctuate. You wait for that and buy your second tranche—another 2,000 shares—at some significant percentage lower than the first tranche. Now you have 4,000 shares or 40% of your ideal position at a lower price than you started with. If the thing then takes off, you've got a lot more exposure to the upside.

But, again, "things happen." 2008 happens or there is alarming news that hits the commodity sector specifically—like Fukushima hitting uranium stocks. Any number of things can happen and that can give you an opportunity to come in with a stink bid, an aggressive low-priced offer on a large block of shares. If the basic premise remains intact, and you can buy larger chunks of shares at a much lower price, now your cost basis is much lower. If you are proven right, your profits will be much higher. And if you don't get the chance to back up the truck on a cheaper large block of shares, you still have a substantial amount of exposure to the upside. It's win/win either way.

TGR: Here is a quote from 321 Gold's Bob Moriarty: "People buying gold at $252 in 1999 were paying the lowest real price for gold in a century. They were investors. People buying silver in late 2001 were buying at the lowest real price in 5,000 years. They were investors. You can almost never get hurt buying at record lows when the price of a commodity is below the cost of production. Speculators, on the other hand, get smacked on a real regular basis. They depend on more people coming into the market and are speculating on future prices. Regardless of what you think about the future of the U.S. dollar, $1,637 gold isn't a record low and you are not an investor by buying at that price. You are a speculator only." How do you respond?

LJ: Bob is talking about stock gamblers. Never mind the specific price information. The formula for making money—whatever kind of investment strategy you have—is to buy low and sell high. To buy high and sell higher—to rely on the "greater fool" theory—is what Bob is alluding to here. If you buy high, because things are on a tear, you're chasing momentum. Since we can't see the future, this is really just gambling.

A speculator is not a gambler. An investment speculator looks at any distortion in the economy and particularly government-induced distortions because these have highly predictable outcomes. The speculator sees the distortions and stands where the money will flow as a result. If the governments artificially lower interest rates, this has predictable outcomes. If the governments start printing up scads of new currency units, this has predictable outcomes. And so forth.

TGR: In the July edition of International Speculator you wrote, "There are good bargains on the table today and you can and should be filling your first and second trenches if you have not already." Can you give us a few names on that list?

LJ: One of those would have been Guyana Goldfields Inc. (TSX:GUY). That company sold off in June. Sometimes these things happen even to a fairly decent size junior like that one. An investor who decides he's got enough profit and needs to get out can whack a stock like this pretty hard. So Guyana Goldfields, over the course of June, dropped from over $9 to under $7 when there was nothing wrong with the company. It was, to all appearances, just a typical shopping season opportunity. We had bought at a higher price, so buying another tranche was a great opportunity to average down. And, low and behold, Guyana Goldfields came screaming back. Over the course of July, it went from under $6.90 to almost back up to $9 again.

TGR: What are some other names that you see as bargains right now?

LJ: Two come to mind. Exeter Resource Corp. (TSX:XRC; NYSE.A:XRA; Fkft:EXB) has a gigantic gold-copper discovery in Chile with over 40 million ounces (Moz.) of gold equivalent. It is low-grade. It's at altitude. It's in a desert and they need more water. It's a big project; not the sort of thing that a junior company is going to get a bank to finance.

So, there are technical hurdles to solve, but it's a real monster of a gold deposit that makes it worth solving these problems. The market seems skeptical, but I think these problems will be solved. It's hard to find this much gold selling this cheap. The gold in this project is selling for about $6.50/oz. in the ground. There are people buying grassroots projects with much more iffy gold in the ground at higher prices than this.

TGR: But it requires a lot of water.

LJ: It does. There are neighbors like Andina Minerals. (TSX:ADM) who have water. Exeter has enough water right now in water agreements locked up to build the smaller, oxide portion. And, by the way, capital expenditures on that oxide portion are modest enough that a junior company could build that and start cash flowing.

TGR: Where you don't need a mill.

LJ: You need a different plant, a different process. But you can look at the oxide thing as being a pre-stripping operation for the sulfide mine that pays for itself. The point is it's a ways before the water problem could possibly kill this project. There are solutions. If it comes down to it, whoever builds the mine could just buy the water.

And, by the way, 40 Moz. of gold is not the end of the story. More areas are being explored as well as upgrade drilling on the existing area. This is how you buy low to sell high. You buy something other people don't want, but that you believe will succeed in the end.

Another one that has extreme leverage, but has a specific company-related scare to it, is East Asia Minerals Corporation (TSX.V:EAS).

TGR: It's in Indonesia?

LJ: Yes, and there is some concern on the environmental front. The company hasn't had problems so far, but part of the area is in a national forest. It's a multiuse area, however; if you go through the proper steps, you can get permitted. This same stock went to almost $8.50 even with that environmental question mark. The story here is a growing gold resource being drilled off, and there are similar gold showings on rocks kilometers away. We don't know yet exactly how big it's going to get, but there's potential for another monster gold deposit.

TGR: And you have a Newmont Mining Corp. (NYSE:NEM) and Freeport-McMoRan Copper & Gold Inc. (NYSE:FCX) operating not too far away.

LJ: Yes, the Grasberg Mine in Indonesia is one of the largest in the world.

TGR: One of the other things that is interesting about that play is that management has, in the past, taken a somewhat different philosophy about mineral assets. They sold one off and dividended that money out. I have talked to some people about East Asia who suggest that this could happen again with these assets. Is that realistic versus a full-on takeover?

LJ: I don't want to handicap myself on what management might do. The stock got clobbered when they came out with a mere 3 Moz.+ of likely low cost to produce gold and there have been changes in management. Unfortunately the company needed to raise money at lower prices and that's never good. So, the stock got beat up even more.

More directly pertinent to your question, the company just did dividend out one of its non-core assets. Miwah, the big project that we've been talking about, is now the main focus of East Asia Minerals. The company spun the number two gold prospect, Barisan, into a new company called Barisan Gold. Now that Barisan has been dividended out, there's no point in buying EAS for that extra bonus of dividended shares. Right now, I think what you can expect from East Asia Minerals is simply work on the ground, expanding the current gold resources, testing the monster gold hypothesis and seeing where we go from there.

TGR: In the July edition of International Speculator you had what you called shopping season specials. On that list was Pretium Resources Inc. (TSX:PVG), which recently got some high-grade drill results back from the Valley of the Kings zone at the Brucejack project in British Columbia. What can you tell us about that company?

LJ: Pretium is run by Bob Quartermain, a member of our Explorers League of successful mine finder types. It has the first and most important of Casey Research's Eight P's of Resource Evaluation checklist (People, Property, "Phinancing," Paper, Promotion, Politics, Push, and Price) covered with the right people in place. Its two projects, Brucejack side and Snowfield, are side by side and have tens of millions of ounces of gold. The Brucejack side has this Valley of the Kings area where there is exceptionally high-grade gold. It tends to be fairly narrow, less than a meter, but we are talking kilos per ton of gold, not grams. It's an exceptional resource, which could be mined underground. But that high grade occurs within a lower grade envelope. It could be that the high grade just functions as a sweetener to make for a much larger and very profitable mining scenario. We don't know yet.

These ounces in the ground are selling cheap, even though Pretium stock had been up today. Pretium took a big hit with everything else recently: it's back down to about $9.50 where it had been up to $11 just a couple of days ago. We have a lot of upside and it is another big gold find. These projects are in an area that has been regarded with some skepticism. It's very remote in northwest British Columbia, but there are a lot of things going on there. Not only are these two projects together, but right next door is Seabridge Gold Inc. (TSX:SEA; NYSE.A:SA), which has basically another half of the same large meta-system. It's not the same single deposit, but it's an adjacent project with millions of ounces of gold. Some consolidation in this area seems likely at some point. And there is a government-approved project to bring power through the area. Things are changing.

On a value-per-ounce basis, on July 29, Pretium was getting just over $15/oz. for the gold in the ground. That's pretty cheap. The average inferred ounce these days, according to our numbers, is getting more than $60/oz. in the ground. So, Pretium has this high-grade potential that has big bulk-grade potential and is trading at a substantial discount. It's a clear value proposition.

TGR: Bob Quartermain was once with Silver Standard Resources Inc. (TSX:SSO; NASDAQ:SSRI) and played a big role in that company's success. Do you believe Brucejack is a company maker project?

LJ: What's not to love about kilos per ton of gold? That is what really made the difference for me. I had been aware of Snowfield/Brucejack when it was still in Silver Standard. We never bought because we just weren't sure a mine would ever actually get built in this remote part of the world, especially with the low grades. But when you have really high grades, you can build a mine anyplace. Places like Eskay Creek were once very remote, but average grade was over an ounce per ton. That's what it took to operate in that area. Grade solves a lot of problems and Brucejack certainly has that potential.

TGR: What's the next catalyst for Pretium? What's going to take the share price to the next level?

LJ: Pretium will respond to gold prices. More value-adding steps will help—feasibility work on both the bulk scenario and the high-grade scenario, power requirements, contingency plans in case the government power project doesn't go through, etc. If those things are in the feasibility report, that will reassure people.

TGR: When we talked last March, you told us about Sunward Resources Ltd. (TSX.V:SWD) and the multimillion-ounce potential of the Titribi Gold project in Colombia. Sunward remains on that same shopping list as Pretium. What has Sunward done since you talked about it in March to advance the Titribi?

LJ: Sunward delivered more long, bulk-grade results. They drilled into mineralization closer to a gram in some areas, which for this particular system is very good. Between the time we last spoke and now, the company has actually delivered some of the highest grades for the project. It is not high grade, mind you; it's just high grade for this project, over significant widths. It is quite clear that the 3.5 Moz. estimate is going to get substantially larger. The reason it went on the shopping list was because the price retreated from over $2.10 a few months ago down to $1.20. It is now back in the $2 range. I still think it's going to come out with a much larger gold resource than it has now. But, anytime things go back up again, then I want to wait for the next dip to add to my position.

TGR: It was a pleasure speaking with you.

LJ: Thank you.

Louis James is chief metals and mining investment strategist at Casey Research, where he is also the senior editor of Casey's International Speculator, Casey Investment Alert and Conversations with Casey. When not in meetings with mining company executives in Vancouver, B.C., James regularly travels the world evaluating highly prospective geological targets and visiting explorers and producers getting to know their management teams.

For more than 25 years, Casey Research, headed by investor and best-selling author Doug Casey, have been helping self-directed investors to earn returns through innovative investment research designed to take advantage of market dislocations.

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 Exclusive Interviews page.

1) Brian Sylvester conducted this interview. He personally and/or his family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Gold Report: Sunward Resources Ltd., Exeter Resources Corp., Guyana Goldfields Inc., Detour Gold Corp., and Pretium Resources Inc.
3) Louis James: I personally and/or my family own shares of the following companies mentioned in this interview: None. I personally, and/or my family, am paid by the following companies mentioned in this interview: None.

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