This year's Hard Assets Conference was as big as they come. The last weekend in November always brings a ton of mining experts to the city. Enough time has passed for the information discussed there to be actionable in the markets, so now it's time to review the show. I'll summarize the main points of lectures I attended below, with my own observations in italics.
Ian McAvity, "Deliberations on World Markets"
- The euro was designed to blow up in a crisis and North American markets are amazingly complacent about its implications. All this time, I thought the euro zone was just another fox-hunting club for aristocrats.
- Alan Greenspan's money creation did not help the stock market, citing Shadow Government Statistics' revised unemployment numbers.
- Another debt ceiling showdown may shock markets.
- Retail investors are still selling equity mutual funds. Maybe so, but somebody's still buying. I wonder if pension plans and professional money managers are the dumb money.
- Ian predicts the DJIA will be under 8000 in 2012 and that gold is undervalued versus equities. Specific price targets are usually trouble for market commentators. I'll go along with a general bearish case but I'm not as brave as Ian to predict a specific goal for the market. Fair value based on mean reversion to a P/E ratio at its historic average of 14 implies DJIA may eventually go as low as 5000 or so. Whether gold is undervalued depends on whether it resorts to its own historic mean price in the low 600s per ounce.
- Plotting the price of gold against the DJIA indicates a technical trend of higher highs and lower lows. My MBA-trained mind says those price moves are just a random walk. The market doesn't do what you want it to do.
- Ian thinks gold mining stocks lag moves in bullion and that only majors will provide good buying opportunities. I think Ian should attend some of the company presentations at this conference. Juniors with properties that have decent ore grades and logistical factors can break out.
- The US and UK are arrogant to treat the rest of the world like colonies. China and Brazil may lead a currency revolt. True, but China would have to de-link the renminbi from the US dollar first, making its exports less competitive at a time when its main import markets - the US and Europe - are slowing down.
Keith Schaeffer, "Oil & Gas Investments Bulletin"
- Oil patch activity via horizontal drilling and fracking will change juniors. You betcha. This is already happening, with players in the Bakken formation and elsewhere paying top dollar for labor.
- The market prices the value of discoveries in mining more quickly than in oil and gas.
- Shale formations resemble potash plays; relatively uniform geology means the market can price discovery more quickly. Good observation, Keith.
- "Price per flowing barrel" juniors are picking up steam. My interpretation is that juniors who actually produce at a mature wellhead deserve better valuations than those still in exploration.
- The US has several years of cheap natural gas ahead, with more discoveries possible. We can thank fracking for this good news. Tell your elected officials to keep the EPA out of a proven technology.
Frank Holmes (U.S. Global Investors), "Looking For Super S-Curves"
- The average currency crisis lasts four years, based on 47 preceding crises in the last 400 years. "This time it's different." The last world reserve currency to be dethroned was the British pound after WWII, but the transition was eased by the ready emergence of the US dollar as a replacement. There is no such alternative on the horizon now.
- Many majors have such good fee cash flows they don't need to tap capital markets. I hear you, Frank. Too many juniors run out of cash too soon because they don't raise capital to match forecast spending. Majors usually don't have that problem.
- China and India will see their share of world GDP catch up to their share of the world's population. Not if they face resource constraints first. China has coal and rare earth metals but needs oil and hydroelectric power. India needs local infrastructure for "last mile" water delivery.
- Rising US interest rates today would destroy the price of gold. A surprise dollar collapse would cause such a spike. Gold bugs ignore this at their peril.
- Frank thinks gold is not a bubble now because the spike in gold prices in the early 1980s was driven by futures market buying, while today buying is cash driven. Really? What about allegations that GLD is stuffed with futures contracts and not bullion? I shudder to think what a crisis of confidence - even if unfounded - around GLD's holdings would do to gold bugs.
Adrian Day, "The Resource Boom: Is It All Over?"
- Long cycles in copper's price history imply the boom isn't over. But isn't Dr. Copper a reliable indicator of economic activity? Guess what happens to copper when the Great Recession gets cranking again.
- Adrian says even 5%-6% annual GDP growth in China makes it attractive versus the rest of the world. Adrian, China has needed at least 9% per year just to avoid social unrest, based on their population growth. If GDP doesn't keep pace with population, unrest will destroy much of what the country has built.
Axel Merk, "Currency Wars"
- The gold/inflation relationship implies inflation expectations are decreasing. If that holds, investors are in for a shock when the Fed and ECB try to save their respective sovereign solvency by printing away.
- Chinese companies have pricing power due to artificial government support, so companies that compete successfully in China can raise prices even if the US dollar declines. I'm not sure if the "successful" companies he means are those Western companies with operations inside China; I'm assuming so. Chinese companies selling inside China shouldn't care what the dollar does unless their supply chains have sources in the US.
- Central bank balance sheets are proxies for currency printing. The ECB has a different mindset than the Fed and is not necessarily inclined to QE-style printing. The Fed has no desire to mop up excess liquidity by raising interest rates, as that would be as politically suicidal here as in Europe. Interesting insights.
- Axel advocates the "currency as asset class" philosophy. I'll only agree up to the point that currency falls under "cash," as I still subscribe to the classic asset class definitions of debt, equity, and cash. Everything else for me is a subcategory of those three things. I truly believe currency is only useful as a hedge of other cash positions, not a something to use as a long bet or portfolio diversifier.
- The S&P is not a true international diversifier, as 90% of S&P listed companies hedge their earnings in dollars. This is a good argument for owning international equities rather than international currencies as a diversifier.
Rick Rule (Global Resource Investments): Keynote
- He endorsed Frank Holmes' view that increasing freedom in emerging markets would lead to growth.
- Income growth in lower socioeconomic classes drives commodity growth because they buy more material "stuff" to improve their lives.
- Chinese per capita energy consumption has grown but is still only 9% of US energy use. Hey oil shale frackers, have you made any contacts in China yet? Just asking.
- Legacy supply issues from a bear market in 1982-2002 constrain resource supply now due to a lack of investment then. Investors in hard assets tend to ignore things like capex requirements, which is why they get burned on junior mining companies that can't fund their exploratory budgets. I'll say it again . . . the major producers don't have this problem.
- The two-three year lag between a mining company's preliminary economic assessment and its bankable feasibility studies bring arbitrage opportunities. Buyouts happen at the bankability stage but discoveries happen before then. I didn't know that. Thanks Rick!
- Another liquidity crisis can destroy production finance, especially for capital intensive sectors like resources. Rick Rule is far from the only speaker here to warn that another credit shock will create an enormous buying opportunity in stocks. I've noticed a common theme of "bumpy ride ahead" at the Hard Assets Conference.
- Investors should seek more advantageous terms from junior companies. Issuers like to give investors 2 1/2 year warrants but reserve five year full options for themselves. I would call that evidence of an asymmetric information advantage of the company over the investor.
John Thomas (Diary of a Mad Hedge Fund Trader), "Rare Earths In The Global Context"
- The stock market now discounts worse GDP growth.
- High frequency trading accounts for 80% of the trades in the oil market, driving huge price swings.
- Rare earth elements are illiquid; prices peaked on April 29, 2011, mainly driven by China's actions.
- The US dollar has been declining in value since the birth of the Fed in 1913. The many Ron Paul fans at this conference will like that one.
- Housing will fall until 2030 when Millennials will want to buy homes. Right now 85M Boomers want to sell their homes to 65M Gen-Xers.
- Fracking has unlocked a huge US natural gas supply. LNG exports to China will boom. This makes me think of Japan's dependence on US oil in the 1930s. The US oil embargo against Japan triggered their strategic decision to attack the US. There is a huge lesson here for strategists looking for an inflection point that can trigger US-China conflict. I believe resource access for China and India is one such inflection point, and possibly the single most severe one.
- John recently visited China to see if they were manipulating rare earth prices. Key leaders there gave the official line that they wanted to give manufacturers an advantage in finished goods. The Chinese government is tracking down unauthorized rare earth miners to get them to register in advance of consolidation.
- John is bearish on the platinum group metals because a likely recession next year will hurt the automobile market. PGMs are used in catalytic converters. Here's another expert forecasting a recession in 2012. Pay attention, investors!
- I asked John if he thought the Congressional budget "super committee" deliberately failed to come to agreement. John didn't think they conspired, but we shouldn't count on anything from our capital other than higher taxes. I do think some surprise budget cuts are in store for discretionary spending.
Mickey Fulp, "Mercenary Geologist"
- Rio Tinto wants badly to get into the Athabasca Basin and they've never lost a bidding war.
- Mickey doesn't like insiders who sell their own stock when the company is under duress.
Readers, I have to tell you that I've learned a ton from Mickey's lectures at the Hard Assets Conference and its predecessor events. His website is a terrific free education.
Paul van Eeden, "Looking for Value" Keynote
- The bottom four quintiles of earners have seen declines in their percentage of the economy's overall income, even while the top 1% has seen huge after-tax income growth. Don't tell the Occupy Wall Street crowd. They might try to enter the exhibition hall.
- The bottom 99% owes 73% of the debt in the US but their consumption drives the economy. This tells me that the postwar US model of debt-based consumption as a driver for growth is about to expire. No middle class can survive burial under huge college loans that can't be torn up in bankruptcy court. The next wave of growth - once Great Depression 2.0 has run its course - will have to be based on production.
- Metals prices indicate the equity bull market is over. China's new "ghost cities" drove its manufacturing growth; this is an unsustainable model. Construction of capital goods without demand is malinvestment. China's growth story experiment is thus destructive of capital. Finally, some sanity on China. I drank from the China punch bowl for long time until recently learning that much of the story is based on fraudulent finances, hidden debt, and trains to nowhere. Now I'm stuck with FXI until China jump starts its consumer economy, if ever.
- Chinese consumers can't afford overbuilt apartments (bought by speculators), so they fall into disrepair. Yikes, looks like consumers will be on their backs for a while.
- Chinese GDP is calculated on production, not consumption. Wasteful production of unneeded goods counts toward China's growth miracle.
- Paul thinks the Fed isn't dumb enough to force inflation up to intolerably high levels. The thing about such high inflation is that it can come accidentally when you're just shooting for moderate inflation that will devalue sovereign debt. The Fed may not be dumb enough to force this, but I don't know if they're smart enough to avoid it.
- Gold bullion prices typically move first, then majors, then juniors. Juniors won't rally until the bullion price resets. Boy am I glad this guy was a speaker. The hits just keep on coming. Please bring Paul back next year for more contrarian wisdom.
Al Korelin, "What Twenty Years . . ."
- Al believes the equity markets are unsound and invests exclusively in hard assets. That's pretty harsh; he's even more of a skeptic than me.
- Middle East instability can make gold skyrocket. Always remember that oil is priced in dollars, for now anyway.
Jack Lifton, Technology Metals Research
- Jack restated the contentions of his recent article on junior rare earth companies. Jack's bottom line is that only handful of publicly traded rare earth miners can produce all of the world's needs. I won't repeat much of what Jack said because frankly the man is so brilliant that I don't think I could do him justice. Read his articles for yourself to get the best view in the world on rare earth metals.
John Kaiser, Kaiser Research Online
- He says gold's price rise is sustainable. I disagree. Everything reverts to mean sooner or later. That mean for gold is in the low 600s.
- Gold miners' low share prices (relative to bullion) reflect anxiety that hyperinflation will make cash flows evaporate. Excellent. I would add that the majors have hedged their dollar exposure and will suffer less than juniors in such a scenario. Pay attention, investors.
- The US's sovereign debt load makes us strategically weak and out military spending is unsustainable. However, a US recession will hurt "parasite economies" like China due to their export-driven models. That means the US can expect a GDP lead over China that will last another 20-30 years. Hmm, that last bit is interesting, original thinking.
Michael Berry, Morning Notes
- Michael covered a lot of familiar ground on unpayable sovereign debt, China's malinvestment, the Fed's balance sheet, coming austerity in the developed world, and emerging markets' booming demand for commodities. I frequently read his free "Discovery Investing" commentaries. They are a good look into junior miners.
Frank Trotter, EverBank Direct
- EverBank believes the big economies drive the world economy, not emerging markets. He sounds like a contrarian at this conference given the many speakers who think the future lies with emerging economies.
- The euro gave peripheral countries a "free ride" so they could borrow at lower rates. Germany is not necessarily willing to take a big hit to GDP just to bail out the PIIGS.
- Positive drives of a currency's value include budget, debt, and trade numbers all in positive directions. Norway is #1 by this standard but Canada and Australia also look good. IMHO, these fundamentals are a more valuable set of metrics for currency investors than the "pips" traders watch.
John Nadler, (Kitco), "Silver's Cloudy Lining"
- The silver market is in surplus with record volume in 2010. Government silver stockpiles have declined for years.
- Average cash cost of production for the top 30 producers worldwide is now $5.20/oz. This is extremely important to note. Producers in the bottom quartile of production costs are more likely to add shareholder value. It pays to be a cheap operator.
- Investment demand has absorbed all surplus production; almost all of this demand came from silver ETFs.
The final event is always the Bulls and Bears keynote panel. Rick Rule, James Dines, Paul van Eeden, Ian McAvity, and Adrian Day held court. Rick moderated and kicked off by asking his panelists to nominate black swans that kept them worried. Count the swans: the end of our Bretton Woods system; a bank crisis that shocks China's growth and causes social unrest; resource scarcity; India awakening; Africa developing; overnight euro destruction.
The panelists anticipate the failure of the euro zone. These are very well-informed experts who have made a living for decades by being on the right side of the markets. I take their conclusions seriously. They were also very strongly supportive of gold's continued rise, except Paul, who thinks it will collapse to $850/oz. I can't call the end of gold's bull run. All I can say is that I'm not in love with any asset; my GDX holdings are just another asset class. I reduced my concentration in GDX as gold climbed.
Rick ended this year's confab by asking for things that could go right. Where are the white swans? The panelists responded: Congress could enact an austerity budget; technology innovation over decades could solve the growth crisis; the Fed could return to sound monetary policy (yeah right IMHO!); an outbreak of fiscal integrity in DC and justice in due course for the victims of the MF Global collapse. That last comment got a rousing response from the audience of hard-core hard assets investors who remained until the very end!
Thanks for another great year, Hard Assets Conference. I should also note that Jim Dines once again had an excellent booth staffed with attractive female models. That's one investment that never goes out of style.
Anthony J. Alfidi is founder and CEO of San Francisco-based Alfidi Capital LLC. His Alfidi Capital Blog publishes periodic commentary on anything and everything related to investing.