Gold Market Radar (March 25, 2013)

Gold Market Radar (March 25, 2013)

For the week, spot gold closed at $1,608.58, up $16.63 per ounce, or 1.04 percent. Gold stocks, as measured by the NYSE Arca Gold Miners Index, rose 2.25 percent. The U.S. Trade-Weighted Dollar Index rose 0.14 percent for the week.

Gold Market

For the week, spot gold closed at $1,608.58, up $16.63 per ounce, or 1.04 percent. Gold stocks, as measured by the NYSE Arca Gold Miners Index, rose 2.25 percent. The U.S. Trade-Weighted Dollar Index rose 0.14 percent for the week.

Strengths

• The day banks reopen in Cyprus will likely mark the collapse of the Cypriot financial system. The feared runs on the banks will be back and the radius of contagion will only be known too late. After all, the tax on bank deposits will have the same real effect as an equal-magnitude currency devaluation; can you see how the European Central Bank (ECB) has found a way to depreciate the euro selectively? The frustration and fears of contagion will find their way into purchases of real assets, and of course gold, as more and more reasons pile up to avoid holding cash as savings or investment.
• Much has been published regarding the nearly four million ounce drop in gold-backed exchange traded funds year-to-date. Investors seem to have concluded that everybody is selling, but this is in fact incorrect. The U.S. Mint reports in its latest commentary that sales of gold and silver coins are soaring; in fact, gold coins reached 80,500 ounces in February up 283 percent year-over-year. Silver coin sales were temporarily suspended when the Mint ran out of stock mid-January. There is strong reason to believe gold-backed ETF selling comes from speculators and momentum players who want convenient proxies for short term gold investments. It is also important to put gold backed-ETF outflows into perspective; the $5.6 billion in outflows for February represent less than 4.5 percent of assets invested in the products, and a small reversal from the more than $70 billion inflows the sector attracted over the last three years.
• Argentines are buying gold in droves. As the fastest inflation in the western hemisphere ravages the country, its citizens seek alternative ways to protect their savings. Banco Ciudad de Buenos Aires is the only gold trader left following attempts by the central government to ban the purchase of gold for savings purposes. Demand has reached levels which threaten to exhaust the bank’s gold supply, leading to the bank starting direct conversations with mining companies to buy the metal directly.
• This week, ConvergEx published a note on some overlooked measures of the U.S. economy which led them to ask the following question. If the economy is doing as well as bulls claim, then please explain why: A record 20-plus percent of U.S. households are recipient of food stamps; Google’s top autofill for the phrase “I want to buy…” is not “a car” or “stock” but rather “a gun;” Investor purchases of U.S. equity mutual funds have reversed, with the last two weeks showing outflows of $1.6 billion; Why are inflation measures ignoring rampant increases in foodstuffs, like the 8.8 percent increase in livestock and crops over 12 months? Not all overlooked indicators are negative for the U.S. economy, they admit, but the negative ones are more numerous and certainly worrisome.

Weaknesses

• The Indian government has imposed new rules making it mandatory for jewelry sellers to collect a Know Your Customer (KYC) receipt from every customer purchasing jewelry worth Rs 50,000 ($919.60). At present, retail jewelers collect receipts from customers buying jewelry over Rs 500,000 ($9,196). Gold sales are expected to decline following the introduction of the duty, however, and as has been evident in India in the past, an ever-larger consumer shift to gold purchases in the black market seem more likely.
• In the first two months of the year not a single company went through the laborious process of listing on the TSX Venture Exchange. The last record of two consecutive months without any IPOs dates back to 2009 when financing was not widely available for juniors. Most recently financing has almost fully dried up for junior mining explorers leaving many of them struggling to stay liquid.
• A recent report by the National Research Council of the National Academy of Engineering shed some light on a concern that has been circling the industry for some time. The report concludes there are not enough young workers in the pipeline to replace a large number of aging workers in the industry, but more troubling is the fact that there is not enough time to capture and transfer the knowledge of experienced workers before they retire. Lastly, it has become evident that, despite the numerous academic programs delivering prepared students, the number of technicians expected to graduate and join the workforce would be insufficient to meet the industry’s needs.

Opportunities

• Rick Rule, Chairman and Founder of Sprott Global Resource Investments gave his comments on the current state of the economy and what is coming for commodity prices. He argues the debasement of the U.S. dollar is the most likely outcome of the current situation, which he describes as follows: The U.S. Federal debt exceeds $16 trillion, off-balance sheet liabilities exceed $60 trillion, annual deficit is close to $3.6 billion. This means the country is attempting to service $76 trillion in debt with $2.5 trillion in revenue, while spending $3.6 trillion annually. He insists that no matter how many dollars we “counterfeit” by printing, the math simply does not add up. A U.S. dollar debasement will increase commodity prices around the world, making the outcome of the “unnerving” commodity markets quite predictable, even though the timing is not predictable.
• Mark Bristow, CEO of Randgold Resources commented earlier this week that unbundling large gold producers is likely to be the next trend in the industry. He argues that any more than five or six mines is not ideal for a mining company in terms of operational control. George Topping of Stifel Nicholaus agrees that an industry restructuring in which the biggest producers are split would likely result in higher valuations. Most recently, billionaire John Paulson, head of Paulson & Co. and largest shareholder of AngloGold called for the company to split its South African assets from the rest of its operations, believing the split would result in greater valuations for the parts.
• Shareholder activism has risen dramatically in the energy sector and is quickly spilling over to the mining industry. Recently, the Clinton Group hedge fund made a hostile bid to throw out management of Stillwater Mining. Clinton asserts the Board of Directors has doubled the CEOs pay, as well as its members’ compensation while engaging in ill-conceived acquisitions. The resulting destruction in shareholder capital is a pursuit of misguided strategic objectives. We welcome the fact that real money is being invested in the industry with the aim of addressing the mistakes of the past, while reminding investors that valuations are depressed to levels where this type of deals become appealing.

Threats

• The recent proposal by the ECB and the Cypriot government to raise €6 billion by implementing a one-time tax on bank deposits can only be referred to as theft. It is a wonderful life – Cyprus style, ironically stated David Zervos of Jefferies. Whether the tax is passed by parliament, or implemented is not the issue here; rather the motive and will by a government to deprive its citizens from their own wealth. Critics from all sectors rushed in, but none mentioned how the situation is not too unfamiliar for U.S. citizens. In the U.S. the government is stealthily taxing its citizens’ savings in a more preposterous manner; the record low interest rates and Bernanke’s financial repression has left most citizens’ savings exposed to rising inflation. As inflation rose past interest rates, the real rates of return turned negative and investors are faced with locking in loses on their government debt investments.
• Aboriginal protests are threatening Canada’s coveted reputation as the friendliest mining jurisdiction. First Nations, as Canadian aboriginals are known, are seeking to renegotiate old contracts and regain control over some areas they designate native reserves. Recently, there have been blockades at Hudbay Minerals’ Lalor Project in northern Manitoba, as well as a De Beers producing property in northern Ontario. There are reports that First Nations have succeeded in impeding the development of at least six energy and mining projects in the province of British Columbia in the past. The word is getting out, and Canadian provinces failed to land the top spots in the most recent survey of best global mining jurisdictions.
• As if aboriginal opposition were not sufficient to keep mining CEOs awake at night, the Quebec provincial government will attempt to pass legislation that seeks to alter the current tax structure for the mining industry. Although the plan is not yet finalized, it appears the legislation will replace the current 16 percent tax on profits with a 5 percent royalty on gross revenue and a variable tax on operating profits – read potential “Windfall Profits Tax.”

• The day banks reopen in Cyprus will likely mark the collapse of the Cypriot financial system. The feared runs on the banks will be back and the radius of contagion will only be known too late. After all, the tax on bank deposits will have the same real effect as an equal-magnitude currency devaluation; can you see how the European Central Bank (ECB) has found a way to depreciate the euro selectively? The frustration and fears of contagion will find their way into purchases of real assets, and of course gold, as more and more reasons pile up to avoid holding cash as savings or investment.
• Much has been published regarding the nearly four million ounce drop in gold-backed exchange traded funds year-to-date. Investors seem to have concluded that everybody is selling, but this is in fact incorrect. The U.S. Mint reports in its latest commentary that sales of gold and silver coins are soaring; in fact, gold coins reached 80,500 ounces in February up 283 percent year-over-year. Silver coin sales were temporarily suspended when the Mint ran out of stock mid-January. There is strong reason to believe gold-backed ETF selling comes from speculators and momentum players who want convenient proxies for short term gold investments. It is also important to put gold backed-ETF outflows into perspective; the $5.6 billion in outflows for February represent less than 4.5 percent of assets invested in the products, and a small reversal from the more than $70 billion inflows the sector attracted over the last three years.
• Argentines are buying gold in droves. As the fastest inflation in the western hemisphere ravages the country, its citizens seek alternative ways to protect their savings. Banco Ciudad de Buenos Aires is the only gold trader left following attempts by the central government to ban the purchase of gold for savings purposes. Demand has reached levels which threaten to exhaust the bank’s gold supply, leading to the bank starting direct conversations with mining companies to buy the metal directly.
• This week, ConvergEx published a note on some overlooked measures of the U.S. economy which led them to ask the following question. If the economy is doing as well as bulls claim, then please explain why: A record 20-plus percent of U.S. households are recipient of food stamps; Google’s top autofill for the phrase “I want to buy…” is not “a car” or “stock” but rather “a gun;” Investor purchases of U.S. equity mutual funds have reversed, with the last two weeks showing outflows of $1.6 billion; Why are inflation measures ignoring rampant increases in foodstuffs, like the 8.8 percent increase in livestock and crops over 12 months? Not all overlooked indicators are negative for the U.S. economy, they admit, but the negative ones are more numerous and certainly worrisome.

Weaknesses

• The Indian government has imposed new rules making it mandatory for jewelry sellers to collect a Know Your Customer (KYC) receipt from every customer purchasing jewelry worth Rs 50,000 ($919.60). At present, retail jewelers collect receipts from customers buying jewelry over Rs 500,000 ($9,196). Gold sales are expected to decline following the introduction of the duty, however, and as has been evident in India in the past, an ever-larger consumer shift to gold purchases in the black market seem more likely.
• In the first two months of the year not a single company went through the laborious process of listing on the TSX Venture Exchange. The last record of two consecutive months without any IPOs dates back to 2009 when financing was not widely available for juniors. Most recently financing has almost fully dried up for junior mining explorers leaving many of them struggling to stay liquid.
• A recent report by the National Research Council of the National Academy of Engineering shed some light on a concern that has been circling the industry for some time. The report concludes there are not enough young workers in the pipeline to replace a large number of aging workers in the industry, but more troubling is the fact that there is not enough time to capture and transfer the knowledge of experienced workers before they retire. Lastly, it has become evident that, despite the numerous academic programs delivering prepared students, the number of technicians expected to graduate and join the workforce would be insufficient to meet the industry’s needs.

Opportunities

• Rick Rule, Chairman and Founder of Sprott Global Resource Investments gave his comments on the current state of the economy and what is coming for commodity prices. He argues the debasement of the U.S. dollar is the most likely outcome of the current situation, which he describes as follows: The U.S. Federal debt exceeds $16 trillion, off-balance sheet liabilities exceed $60 trillion, annual deficit is close to $3.6 billion. This means the country is attempting to service $76 trillion in debt with $2.5 trillion in revenue, while spending $3.6 trillion annually. He insists that no matter how many dollars we “counterfeit” by printing, the math simply does not add up. A U.S. dollar debasement will increase commodity prices around the world, making the outcome of the “unnerving” commodity markets quite predictable, even though the timing is not predictable.
• Mark Bristow, CEO of Randgold Resources commented earlier this week that unbundling large gold producers is likely to be the next trend in the industry. He argues that any more than five or six mines is not ideal for a mining company in terms of operational control. George Topping of Stifel Nicholaus agrees that an industry restructuring in which the biggest producers are split would likely result in higher valuations. Most recently, billionaire John Paulson, head of Paulson & Co. and largest shareholder of AngloGold called for the company to split its South African assets from the rest of its operations, believing the split would result in greater valuations for the parts.
• Shareholder activism has risen dramatically in the energy sector and is quickly spilling over to the mining industry. Recently, the Clinton Group hedge fund made a hostile bid to throw out management of Stillwater Mining. Clinton asserts the Board of Directors has doubled the CEOs pay, as well as its members’ compensation while engaging in ill-conceived acquisitions. The resulting destruction in shareholder capital is a pursuit of misguided strategic objectives. We welcome the fact that real money is being invested in the industry with the aim of addressing the mistakes of the past, while reminding investors that valuations are depressed to levels where this type of deals become appealing.

Threats

• The recent proposal by the ECB and the Cypriot government to raise €6 billion by implementing a one-time tax on bank deposits can only be referred to as theft. It is a wonderful life – Cyprus style, ironically stated David Zervos of Jefferies. Whether the tax is passed by parliament, or implemented is not the issue here; rather the motive and will by a government to deprive its citizens from their own wealth. Critics from all sectors rushed in, but none mentioned how the situation is not too unfamiliar for U.S. citizens. In the U.S. the government is stealthily taxing its citizens’ savings in a more preposterous manner; the record low interest rates and Bernanke’s financial repression has left most citizens’ savings exposed to rising inflation. As inflation rose past interest rates, the real rates of return turned negative and investors are faced with locking in loses on their government debt investments.
• Aboriginal protests are threatening Canada’s coveted reputation as the friendliest mining jurisdiction. First Nations, as Canadian aboriginals are known, are seeking to renegotiate old contracts and regain control over some areas they designate native reserves. Recently, there have been blockades at Hudbay Minerals’ Lalor Project in northern Manitoba, as well as a De Beers producing property in northern Ontario. There are reports that First Nations have succeeded in impeding the development of at least six energy and mining projects in the province of British Columbia in the past. The word is getting out, and Canadian provinces failed to land the top spots in the most recent survey of best global mining jurisdictions.
• As if aboriginal opposition were not sufficient to keep mining CEOs awake at night, the Quebec provincial government will attempt to pass legislation that seeks to alter the current tax structure for the mining industry. Although the plan is not yet finalized, it appears the legislation will replace the current 16 percent tax on profits with a 5 percent royalty on gross revenue and a variable tax on operating profits – read potential “Windfall Profits Tax.”