From the May 7 J. Taylor's Gold, Energy & Tech Stocks newsletter.
Yes, I know. For marketing purposes I’m supposed to be positive. Most of the angry mail I have received since I started writing my newsletter on junior mining stocks way back in 1981 has been in response to sell recommendations and bearish comments. My suggestion that you sell 75% of your shares and build cash when the TSX Gold Share Index (shown on your left) fell a few weeks back when it was valued in the neighborhood of 330, went over like a lead balloon as well. But, given 20/20 hindsight, my only regret is that I didn’t suggest cashing up in the 360 area when that level of support was taken out early in March of this year. It seems clear now that what we see, at least in the junior gold mining sector, is a cyclical bear market with lower highs and lower lows. At the end of the week, the index closed at 299.43. That was up from a May 3 close of 295.98, which is more than 34% lower than its September 2011 high of around 450. That kind of decline certainly qualifies as a cyclical bear market.
People want to keep their dreams alive, even when their dreams are no longer realistic. They get angry when what they have invested so much time, money, and emotion in, turns out to be a losing proposition. But if you hang on to unrealistic dreams, you do so at your own peril.
Gold bullion has had one heck of a run. It has risen 10 years in a row, and, as Jim Liles said at the Wealth Protection Conference, there has never been a commodity that has risen 11 years in a row. That doesn’t mean gold won’t rise this year for 11 in a row. But one would think the odds favor a decline of at least some magnitude in 2012, and, as the monthly average (red line) in the chart on your left suggests, the trend for bullion is down so far in 2012.
Once again, as I point out week after week, it isn’t the nominal price of gold that really matters, but rather the “real” price of gold. In other words, gold’s purchasing power. Since gold has been selected by markets as opposed to being forced on us over the barrel of a gun by politicians, gold is in fact a true measure of value, as opposed to fiat currencies like the dollar which are being increased at an ever increasing rate, not from some asset containing intrinsic value, but from debt, which has negative value. As Ian McAvity wrote in one of his newsletters, “A barrel of oil is a barrel of oil. An ounce of gold is an ounce of gold. What is a dollar?” And so in fact, we should get used to thinking of prices in terms of a real monetary metal – namely, gold and, secondarily, silver. I say silver should be secondarily because it is the second-best monetary metal after gold.
While we are on the subject of lower gold prices, let me remind you that Paul van Eeden will be on my radio show this coming week and Paul’s view is that gold is worth only about $900 at this time. I’m not at all saying I agree with Paul. But he is a very bright analyst who views the world independently. I think you ignore people like Paul at your own peril.
Now, back to the TSX Gold Share Index and gold shares in general, which is still the main topic of this newsletter. Above, I showed you a one-year chart so you could see the recent price activity more clearly. But taking a longer-term view of the TSX Gold chart, a very important base would appear to be around 300. But as noted, the index closed a hair under 300 this week so it looks like we could be headed for around 280, and if that doesn’t hold to around 260. If that level doesn’t hold we could be looking at something in the 180 to 160 range, which was more or less the post-Lehman Brothers bottom. I do not see why those levels are out of the question, which is why I suggested liquidating up to 75% of your equity positions and building cash so we can buy quality stocks at bargain basement prices. (See my comments about Allied Nevada below).
Whether we see post-Lehman Brothers lows any time soon, I do not know. But even if we don’t, I can’t help but think a major consolidation of the gold share industry is overdue and we may in fact be seeing the start of that now. For example, one junior company I am aware of and that I personally took down a small private placement in is Plexmar Resources, an exploration company with a market cap of less than $10 million. Although I think it has properties of value, at 4 cents a share, Plexmar can’t raise capital to stay alive. So this tiny company is being acquired for 4.8 million shares of Dia Bras Exploration, which is now enjoying growing production and cash flow growth in South America.
In other words, in a market like this, the strong get stronger and the weak either are eaten up by the stronger companies or they simply become weaker themselves and significantly reduce upside potential by continually diluting shareholder value through endless share issuance to simply stay in business. We want to avoid those kinds of companies to a great extent, and focus on companies that have positive cash flows, to enable them to feed off of the weaker companies. Focus your portfolio on most of the companies in our Progress A listings, starting with Sandstorm, which is my favorite for reasons I have discussed often in the past.
That said, we still want to keep our eyes on some of the miniscule penny stock plays with good management and projects having intrinsic value. The key is price to value, and one such company that I want to highlight this week is Bravada Gold Corp. (TSX-BVA- $0.05), (featured in the newsletter). Bravada’s low price of 5 cents brings with it considerable risk of dilution. But what makes this an attractive speculation is a new preliminary assessment that suggests a 5% discounted present value of the company’s former gold mine in Nevada, Wind Mountain, is worth seven or eight times the company’s current market cap. The company has in my view a strong management team and very considerable exploration potential. It is hugely undervalued but even if the markets don’t see it that way, being located in Nevada the chances of an acquisition that would result in a loss to buyers of the stock at these levels are hard to imagine, while the upside could well be along the lines suggested by the recent PEA or higher with growing resources and/or more favorable market conditions.
While gold shares from top to bottom have not fared well over the past year, gold share profits continue strong, albeit not as firm as we had anticipated a few months back. What is needed for optimum profits in the gold sector is another Lehman Brothers-like debt contraction. I think we will get either a violent decline like that or a more gradual one. In either event, credit contractions have been historically bullish for gold mining profits. Ultimately that should be good for gold mining share prices. While analyst estimates of profits for 2012 and 2013 have been declining slightly of late, due I suspect to rising commodities prices relative to gold, the real price of gold as measured by the Rogers Raw Materials Index remains very strong, as the chart below on your left suggests. Coinciding with that has been the rise in major gold mining company profits, as evidenced by the summation of per-share profits of the seven major gold producers, shown below on your right.
Since mid-2011, gold’s nominal price as well as its real price has tended somewhat lower. The “real” price of gold shown above has declined from 48.5% of the Rogers Fund to about 42.5% currently. But note that thetrend since its post-Lehman Brothers peak has been higher highs and higher lows.
It is my strongly held view that the strength in the “real” price of gold will continue until this horrendous debt/GDP ratio is brought down to more normal levels. But given government’s reluctance to fight the natural deflationary tendencies of markets, it is my view that we could be at least another 10 to 15 years away from the end of a bull market in the real price of gold and in gold share profits.
Jay Taylor will speak at the New York Hard Assets Investment Conference on "Why Gold Shares are in a Bull Market of a Lifetime" on Monday, May 14, and participate in a Bulls and Bears Keynote Panel on Tuesday, May 15.
Taylor Hard Money Advisors Inc, Box 780555, Maspeth, N.Y. 11378 Tel. 718 457-1426
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