The mountains of debt engulfing Western economies is likely to lead to hyperinflation according to Clive Maund, president of clivemaund.com. In this exclusive interview with The Gold Report, Maund details the scenario he sees for collapse and reveals several gold stocks that could benefit.
The Gold Report: Clive, on clivemaund.com you said “for fundamental and technical reasons the U.S stock markets look set to plunge soon.” So, it seems we’re headed for either deflation or hyperinflation. The course seems set for hyperinflation, but what’s your best guess as to what’s going to happen?
Clive Maund: The key point to grasp is that the world needs a “reset” and sooner or later it is going to get it. By that I mean that all the dross of debt and derivatives that have accumulated over many years and are now dragging the world economy into the mire are going to have to be cleared away before the world can move forward again. Many readers will be familiar with the experience of working at a computer that “locks up” when too many applications and programs are open. When you arrive at this point, you cannot move forward or back, and there is nothing else for it but to hit the reset or restart button. That is the point the world economy has now arrived at with this debt crisis, and the longer business leaders and politicians take to grasp the nettle and write all this debt and derivative mess off, the worse it is going to get. So what if banks go bust? You can always create new ones later.
The debt and derivative mountains are now so enormous that there is no way they can ever be repaid, and that means that they either have to be written off—the drastic but most effective solution—or hyperinflated away into oblivion, which is the politicians’ preferred way of dealing with them because this route buys them the most time. The major underlying economic force at work is deflation—a period of severe contraction is required to purge the system of debt and to eliminate distortions and inefficiencies that have become a huge burden.
Deflation, however, involves widespread economic hardship, involving reductions in wages and massive unemployment and can create political instability, with the masses taking to the streets and rioting. This is why politicians fear it so much and will choose inflation or even hyperinflation over deflation. So they have been fighting tooth and nail to hold back the forces of deflation principally by expanding the money supply and bailing out failing entities.
The situation has now become dangerously unstable, as we are right on the cusp between plunging headlong towards a major hyperinflationary episode that would see most Western economies end up like Zimbabwe—hyperinflation is the route that politicians are trying to steer us along—and tipping back into severe deflation. The reason it is dangerously unstable is all the major world players have to play their part in staving off a liquidity crisis by printing money as necessary, flooring interest rates, and fighting hotspots, which flare up and threaten to create a liquidity crunch or drive up interest rates. Thus, Republicans not playing ball by trying to make a significant reduction in the deficit, or the discordant buffoons in Europe failing to stop interest rates on bonds skyrocketing are “letting the side down” and by so doing are risking a collapse in the markets, which will bring about the deflation they dread so much. This could happen any time, which is why the situation is so tricky for investors.
I believe that politicians will hold out for hyperinflation as long as they can, but at some point, which could be soon, they are going to lose control completely, and the world economy will collapse back into a deflationary depression, which is actually what it really needs to get this mess sorted out once and for all. Europe could well be the trigger for this, as its debts are totally unmanageable and its leaders lack the cohesion and decisiveness to flood the market with the liquidity needed to get things back under control.
TGR: You use a lot of technical charts to predict economic outcomes. One pattern you’re seeing on these charts are “Broadening Tops,” which you suggest are “notoriously treacherous and dangerous patterns that are little understood by the general investing public.” In simple terms, please explain how these patterns come about and why investors should be concerned.
CM: After a major uptrend, the market, in this case the precious metals sector, starts trending sideways in a series of increasing wide swings, as has been happening with both the AMEX Gold BUGS and PHLX Gold/Silver Sector indices, and I can do no better than to repeat what Robert D. Edwards and John Magee, the authors of the “bible” of technical analysis (TA), Technical Analysis of Stock Trends, had to say about these patterns:
“If the Symmetrical Triangle represents a picture of ‘doubt’ awaiting clarification, and the Rectangle a picture of ‘controlled conflict,’ the Broadening Formation may be said to represent a market lacking intelligent sponsorship and out of control—a situation, usually, in which the ‘public’ is excitedly committed and being whipped around by wild rumors. Note that we only say that it suggests such a market. There are times when it is obvious that those are precisely the conditions that create a Broadening Pattern in prices, and there are other times when the reasons for it are obscure or undiscoverable. Nevertheless, the very fact that chart pictures of this type make their appearance, as a rule, only at the end or at the final phases of a long Bull Market, lends credence to our characterization of them. Hence, after studying the charts for some 20 years and watching what market action has followed the appearance of Broadening Price Patterns, we have come to the conclusion that they are definitely bearish in purport, that, while further advance in price is not ruled out, the situation is, nevertheless, approaching a dangerous stage. New commitments (purchases) should not be made in a stock that produces a chart of this type, and any previous commitments should be switched at once, or cashed in at the first good opportunity.”
TGR: Part of your thesis for global economic demise involves American politics. On clivemaund.com you wrote: “(American) politicians are bowing to public pressure to do something serious regarding reducing the deficits, which is setting the stage for an economic implosion.” If you were with the Fed or part of the Obama Administration, what measures would you have taken to avoid an “economic implosion?”
CM: I would take exactly the measures they have taken up to now, which is to “kick the can down the road” in the hope that some other schmuck will have to clear up the (bigger) mess later. That has been their “modus operandi” up to now and the only reason they are considering the “nuclear” option of actually trying to rein in the deficits is because they are coming under massive pressure from their constituencies to do so. The best way to avoid an economic implosion is not to allow the debts to become unmanageably large in the first place, but that would have involved restraint and sacrifice—something they were not prepared to accept—they wanted to “party now” and to hell with the future consequences—now they, or rather we, are slipping into the massive hole they have dug for us.
TGR: Could we still see some version of quantitative easing 3?
CM: Yes, we could and all it will do is create an inflationary depression that is later followed by a deflationary depression anyway, instead of just “taking their lumps” and allowing the deflationary forces to proceed and do their necessary cleansing work and run their course, which is going to happen eventually whether they like it or not. They are pushing on a piece of string—economies are so beset with distortions arising from excess debt and excessively low interest rates that they can print all the money they like, it won’t drag the economy out of the mire.
TGR: That’s the American economic picture. Let’s look at Europe. Italy’s 10-year yield recently climbed above 7%, while Spain recently sold less than its maximum target of debt as financing costs went up. And the extra yield investors demand to hold 10-year bonds from France, Belgium and Austria instead of German bonds of similar maturity, all increased to euro-era records. It certainly doesn’t inspire investor confidence. What are your thoughts?
CM: I have long referred to European leaders as a bunch of self-serving buffoons and that is all they are. They have been assiduously digging a massive crater beneath Europe for years and now it is falling in and nothing can stop it. They have neither the money nor the ability to cooperate to stop Europe from sliding into chaos and disintegration.
The way to address the otherwise intractable European debt crisis is to simply write down all the debts to zero and say to the creditors, “Tough luck, you are not getting a cent.” Chaos would ensue, of course, and banks would collapse, etc., but it really is the only way—to wipe the slate clean and start afresh. They won’t do this of course. Instead, as in the U.S., they will possibly attempt bailouts and socialize the losses of large creditors like banks and major corporations and institutions by pushing the bill onto the general public in the form of austerity measures and tax hikes, and it is interesting to ponder the reason for this.
Why do European leaders put the interests of big business ahead of their electorates? The reason is that big business has much more power over them than the electorate has—big business essentially decides whether they have a chance at office or not, and how their careers develop when they are in office. We are all aware of the lobbying system in the U.S. and the persuasive power of campaign contributions, for example, and we can surmise that similar incentives exist in Europe. All the public has is its vote and its ability to protest, which only becomes a force to be reckoned with when the masses start to aggregate in the streets in sufficient numbers.
Austerity measures won’t work, of course; they will simply reduce economic activity and tax revenues and so the debts will continue to grow and the vicious downward spiral will intensify. European leaders, by kidding themselves that they can ever pay down these debts, are like a man trying to swim with a refrigerator strapped to his back—he is going down and the only hope is to cut loose the refrigerator. Their only hope is to totally write off the debts and let the pieces fall where they will. If they are too mule-headed to do this, down goes Europe and the U.S. and the rest of the world into the bargain.
TGR: How should investors protect themselves from a plunge in global markets?
CM: Cash, bear exchange-traded funds (ETFs) and possibly options.
TGR: Moreover, is there a strategy or two that you’re using to profit from the plunge?
CM: Cash, bear ETFs and options.
TGR: Despite all the signs pointing toward a market crash, you continue to recommend precious metals equities. This seems counterintuitive. What is your rationale for continuing to support these equities?
CM: It is counterintuitive. We have had to contend with conflicting indications, the principal contradiction having been between the ominous broadening patterns forming in the precious metal stock indices and until now the strongly bullish commitments of traders (COT) data, particularly for silver, which led us to adopt a bullish stance in recent weeks. So far this has paid off, as the sector has rallied from its October lows. However, with the latest COT data looking less bullish, and an increasingly dangerous pattern emerging for the broad U.S. stock markets, we have been cashing in our chips and adopting a more defensive posture.
TGR: Clive, you’re based in Santiago and some Latin American countries, including Peru and Argentina, are imposing new royalties and/or taxes on mining companies. Do you believe this will prohibit direct foreign investment and deter the average precious metals investor? What’s your perspective?
CM: It depends on the magnitude of these royalties and taxes. If they get too greedy and keep raising them, it will turn out to be counterproductive. It also depends on what the raised monies are being used for. If the mining companies are doing nothing to help local communities other than paying wages and are not making provision to rehabilitate land after mining activities, etc., then these levies are justified if they are used to achieve these aims. But if they are simply siphoned off into government coffers, then it is nothing more than government parasitism, like airport taxes.
TGR: What are some juniors you’re following and that could offer some upside, post-plunge?
Although Alix Resources Corp. (AIX:TSX.V) has been drifting lower since early this month, technically its picture looks positive, as this reaction has been on light volume and it was preceded by two high-volume gap up moves, which is bullish. In adverse market conditions, it could drift back further towards the support at the early October lows at about CA$0.105, but with more drill results believed to be pending, it could turn higher again at any time. Around these levels and especially down towards CA$0.11, I like it as a speculative play with the potential for large percentage gains.
Following a big rise late last year and into this year, which led to its being very overbought, Aguila American Gold Ltd. (AGL:TSX.V) has reacted back and now appears to be basing above strong support at about CA$0.20. In adverse market conditions it could react back towards this support again, in which case it will be viewed as a buy. Volume and volume indicators are strong, which further suggest that it has bottomed and is basing.
Others that look promising include the Colombian gold explorer Galway Resources Ltd. (GWY:TSX.V), which is shaping up well on the charts with positively aligned moving averages. If it can take out the important resistance approaching CA$2, it should make further substantial gains. GoGold Resources (GGD:TSX.V) is well run, has been in a steady uptrend that shows no signs of ending and is viewed as attractive after its recent reaction between its August high and its low in mid-October at about CA$1.12. PMI Gold Corp.’s (PMV:TSX.V; PVM:ASX; PN3N.F:Fkft) recent big high volume gap up is viewed as a sign of higher prices to come. The gap move was due to a tripling of the company’s gold resource at its Obotan gold project in Ghana.
TGR: What’s your near-term outlook for precious metals, namely gold and silver, as we head into 2012?
CM: The near-term outlook for gold and silver is for a correction that should not see silver go below its recent panic lows set in September. Then everything depends on the manner in which the debt crisis is handled. If unlimited liquidity is created in an effort to paper over the cracks both in Europe and the U.S., then the sky is the limit for precious metal prices. But if deflation takes hold, then gold and silver are likely to drop with most everything else, although not as fast, as there will be few other safe havens in which to put your money.
TGR: Thank you for your insights.
Clive Maund has been president of www.clivemaund.com, a successful resource sector website, since its inception in 2003. He has 30 years of experience in technical analysis and has worked for banks, commodity brokers and stockbrokers in the City of London. He holds a diploma in technical analysis from the UK Society of Technical Analysts. He lives in southern Chile.
Economist Diane Coyle has noted that migrant workers in the UK tend to be either very highly skilled or low skilled, which suggests that they are filling gaps in specific areas of the labour market, not taking jobs from the native or resident population. And Bryan Caplan explains that by doing low-skilled work migrants enable more productivity in the native labour force. [Caplan’s post can be found here. –ed.]
Caplan argues that the native workers don’t have to spend time doing daily, menial chores and are free to focus on improving their skills, and working harder. And this increases wages.
For a fun little experiment, I propose that Britain deport 50% of its migrant workers and see what happens to unemployment. If Alabama is any indication, unemployment rates will decline.
Why? Because wages, aka prices, are determined by two things, and two things only: supply and demand. Increase the former without increasing the latter and wages decline. Decrease the former without decreasing the latter and wages increase. And so on.
Caplan’s fallacy, and by extension ASI’s, is that there is an ever-increasing demand for highly productive labor. This may or may not be the case, and I suspect that it’s the former. Labor laws make it difficult to determine how much demand exists for highly productive labor. Not only that, economists seem to forget that some employers are rather satisficing in their approach to hiring. Furthermore, many jobs are part of a sufficiently complex process that attempting to maximize labor productivity in one specific role is likely an exercise in futility. In essence, Caplan’s theoretical model bears little resemblance to the real world, which is why it is wrong.
The prospect of significant U.S. natural gas production may not be powerful enough to overcome the hot air coming from government quarters, but ShadowStats Editor John Williams identifies it as one bright spot in his otherwise dark outlook for the U.S. economy. As Williams tells The Energy Report in this exclusive interview, increased domestic shale production may not save the U.S. dollar from extinction but it just might have a major positive impact on the GDP, the trade deficit and employment.
The Energy Report: You’ve been tracking macroeconomic trends and their impact on energy commodities for decades and since 2004 through your Shadow Government Statistics newsletter. In a Nov. 10 piece on the trade deficit, you wrote:
Massive fundamental dollar dumping and dumping of dollar-denominated assets may start at any time with little or no further warning. With the U.S. government unwilling to balance or even address its uncontainable fiscal condition and with the Federal Reserve standing ready to prevent a systemic collapse so long as it is possible to print, spend, loan or guarantee whatever money is needed, it puts the U.S. dollar at increasing risk of losing its global reserve currency status. Much higher inflation lies ahead in a circumstance that rapidly could evolve into hyperinflation.
What would be the first sign that hyperinflation is taking hold?
John Williams: I’d look at the dollar. You’ll see massive selling of the U.S. dollar and dumping of U.S. dollar-denominated assets as an early indication. That will be very inflationary, and an indication of global loss of confidence in the U.S. currency. We’ve already crossed that bridge.
Based on generally accepted accounting principles, the annual U.S. budget deficit is running in excess of $5 trillion. Such a deficit is beyond control and containment and dooms the U.S. government to ultimate insolvency and a likely hyperinflation. Money is printed to meet obligations; the government cannot cover its debt otherwise. The efforts by the Fed and federal government to contain the current systemic solvency crisis have moved the onset of a hyperinflation from the end of this decade to the relatively near term.
If you look at the debt-ceiling negotiations and the deficit-reduction deals that were in progress back in early August, it became clear to the rest of the world that the people running the U.S. government had absolutely no political will to address its long-term insolvency. You saw a very heavy selling of the U.S. dollar right after that. This was even before the Standard & Poor’s downgrade.
TER: The downgrade was an indicator of the loss of confidence, though—not the cause.
JW: The downgrade only exacerbated the problem. Once it was clear that there was no political will to address the fiscal issues, dollar selling became intense. Official actions followed that provided temporary support for the U.S. currency. You saw the Swiss franc soar relative to the dollar. The Swiss then intervened, with a quasi-tying of the franc to the euro, which effectively also meant intervention to support the dollar. Gold prices soared, and gold future margins were narrowed.
The lack of global confidence in the dollar underpins the extremely volatile markets since that time. We’ve seen all sorts of interventions and all sorts of rumors floated, but I believe the fundamental global confidence in the dollar has been mortally shaken. As you see mounting selling pressure on the dollar, you’ll generally see spikes in commodities that are denominated in U.S. dollars, particularly oil. That’s very important to the U.S. in terms of inflation. That’s where heavy dollar selling will be seen as a trigger for rising consumer prices and as an early trigger for hyperinflation to move into full speed.
TER: What happens to oil prices in hyperinflation?
JW: It depends on how they’re denominated. I suspect if the dollar becomes weaker, we’ll see a very rapid and strong movement to base oil pricing in something other than U.S dollars. The value of the OPEC (Organization of the Petroleum Exporting Countries) members’ income will drop very quickly as the dollar value drops in terms of international exchange. If oil were denominated in Swiss francs, you might not see too much of a spike, but looking from the perspective of someone living in a U.S. dollar-denominated world, the pace of increase in oil prices will be directly and proportionately tied to the weakness in the dollar against whatever the valuation base is for oil.
TER: The Department of Energy (DOE) reported that gas prices declined 0.8% in September. Are you seeing that gas prices are declining or increasing according to your statistics?
JW: I think the DOE aggregate prices are reasonably accurate on gasoline. You’re going to have ups and downs in the market with very volatile oil prices, as we’ve seen over the past couple of years. Various factors will affect it. For instance, a crisis in the Middle East can spike oil prices very rapidly. But as the dollar comes under massive selling pressure, oil prices will spike, and a rapid decline in the U.S. dollar will result in a very rapid rise in oil prices in dollar-denominated terms.
TER: September gross domestic product (GDP) numbers showed a slightly narrower trade deficit compared to August, partly due to declining oil prices and import volume. Your newsletter suggests possible inaccuracies in federal data. Can these numbers be trusted?
JW: I pay no attention to GDP as an indicator of what’s happening in the broad economy. There’s a major problem with the way the government adjusts its data for inflation. The way it comes up with the headline number, growth is deflated by its estimate of inflation. To the extent that the inflation is understated, you end up with overstated GDP growth. Perhaps not too surprisingly, government-reported inflation is understated, which causes significant overstatement of official economic growth. That’s one reason the GDP is out of whack.
The GDP inflation estimate includes what the government calls hedonic adjustments, where nebulous quality adjustments are factored in and subtracted from inflation. I estimate this takes about two percentage points off the annual inflation number. If you deflate the GDP corrected for that, you’ll see that we never recovered from this recession.
TER: Is that the case with oil price estimates?
JW: Oil price impact on the GDP is not obvious to the casual observer. If oil prices rise, that usually means a higher inflation number and, therefore, it could be expected to weaken the inflation-adjusted economic numbers. So in terms of domestic oil production reflected in the GDP, in nominal terms—before inflation adjustment—part of the production number increases because oil prices are higher, but that gets reduced out when inflation it is factored in. That’s what most people think of as the inflation effect. But remember, we import more oil than we export, and the imports are subtracted from the GDP. So high oil inflation, which would traditionally lower the rate of growth, actually increases the pace of total GDP growth because the negative effect actually is subtracted out as part of the aggregate negative net exports.
In other words, higher oil prices actually spike GDP reporting because of the way the net exports are handled. That’s the nature of the GDP. Again, I put no value in the GDP as an indicator of economic activity.
TER: That’s for prices of oil. What about volume? In September, oil volume was down according to government statistics.
JW: I believe the government has fairly good measures of the physical flow of oil. The reporting of the flows, though, does not always hit when it should. The paperwork flow on imports is better than it is on exports. Duties are sometimes assessed on the imports so they keep much better track of that than they do for goods where they don’t collect money.
TER: So if oil imports were down from September to October, is it simply because, as you said, we never came out of the recession? Or does it mean we’re going into a double-dip recession?
JW: I wouldn’t read much into that because you can argue it either way. You can make all sorts of stories from it, and the people who hype the GDP numbers for the market are pretty good at spinning their yarns.
TER: So if we’re looking at hyperinflation sooner rather than later—which would affect oil prices very directly—how can individual investors protect themselves?
JW: They need to preserve their wealth, assets and purchasing power by getting into hard assets. If you look at oil as a hard asset, it will tend to preserve purchasing power, but it’s a consumable and not easily portable. You can’t stick it in your briefcase and carry it with you if you move from one place to another. It’s difficult to spend physically. So in terms of hedging, I would look primarily at the precious metals and getting assets outside the U.S. dollar into the stronger currencies, particularly the Australian dollar, the Canadian dollar or Swiss franc—despite the Swiss interventions. I’m looking long term. We can expect a lot of volatility short term, but when massive movement against the U.S. dollar begins, those areas will do very well.
TER: Any other energy-related issues that our readers should be aware of to prepare for hyperinflation?
JW: I’m looking at the hyperinflation primarily in the U.S. dollar, not in other currencies, so it’s largely a dollar problem, and the basic protection for those living in a dollar-denominated world is to be out of the U.S. dollar. If you live in a world denominated in Swiss francs or one of the other stronger currencies, you need to think seriously about where you have your dollar investments. That’s the basic consideration from the standpoint of hyperinflation, whether you’re in the energy industry or you’re a farmer or Wall Street trader.
TER: Is there any way to create store-of-wealth value in agriculture?
JW: Farm land is a good hedge, but there’s a difference between holding hard assets with short-term liquidity, such as physical gold, to get through the tough times until after things stabilize, versus assets that may have short-term liquidity issues. Real estate may present liquidity problems at various times, although long term, it’s a fine hedge in terms of maintaining purchasing power. Up front, though, your core assets hedging a hyperinflation have to have enough liquidity so that you can respond to circumstances as they evolve.
In this environment, those invested in the energy sector also have to realize that demand for energy goods will tend to be lower than it might be otherwise, because the U.S. economy will continue to be weak, and not much is being done to fundamentally address that. On the other hand, if domestic oil production could replace foreign production, you could still have a positive domestic demand environment. I’d push for that as much as possible.
TER: Could drilling for natural gas in the U.S. really have an impact on the import/export statistics going forward?
JW: If we can increase exports, that would be a plus. To the extent we produce it domestically and import less as a result, that also would be good for the economy. To the extent anything is produced domestically, that’s a big plus for the economy.
TER: Can we pump and use enough natural gas domestically from the shales to actually make a difference or are we talking too small of a number compared to the amount of oil we import?
JW: I am not an expert on natural gas production. Of course volume is an important factor, and a major increased production would have a significant, positive impact on the GDP. Anything that increases U.S. production and reduces the trade deficit is a plus. Usually increasing domestic production would have the effect of decreasing the deficit. The deficit is a negative for the economy and for jobs. So anything that reduces the trade deficit will be a positive factor for U.S. employment.
TER: That makes sense and is very helpful. Thank you for taking the time to talk with us.
Walter J. “John” Williams has been a private consulting economist and a specialist in government economic reporting for 30 years, working with individuals and Fortune 500 companies alike. He received his AB in economics, cum laude, from Dartmouth College in 1971 and earned his MBA from Dartmouth’s Amos Tuck School of Business Administration in 1972, where he was named an Edward Tuck Scholar. Williams, whose early work prompted him to study economic reporting and interview key government officials involved in the process, also surveyed business economists for their thinking about the quality of government statistics. What he learned led to front-page stories in the New York Times and Investor’s Business Daily, considerable coverage in the broadcast media and a joint meeting with representatives of all of the government’s statistical agencies. Despite a number of changes to the system since those days, Williams says that government reporting has deteriorated sharply in the last decade or so. His analyses and commentaries, which are available on his ShadowStats.com website have been featured widely in the popular domestic and international media.
The Mortgage Bankers’ Association purchase index will be released at 7:00 AM Eastern time, providing an update on the quantity of new mortgages and refinancings closed in the last week.
The Challenger Job-Cut Report will be released at 7:30 AM Eastern time, providing an estimate of the number of layoffs in November.
At 8:15 AM Eastern time, the monthly ADP Employment Report will be released. Investors will be watching this number to get advance notice on the state of the job market in advance of the government’s report on Friday.
At 8:30 AM Eastern time, the revised Productivity and Costs report for the third quarter of 2011 will be released. The consensus is that non-farm productivity increased by 2.6% in the last quarter and labor unit costs decreased 2.3%.
At 9:45 AM Eastern time, the Chicago PMI Index for November will be announced. The consensus index value is 59.0, which is 0.6 points higher than last month, and is still above the break-even level at 50.
At 10:00 AM Eastern time, the pending home sales index for October will be announced. The consensus is that the index increased 1.5% last month.
At 10:30 AM Eastern time, the weekly Energy Information Administration Petroleum Status Report will be released, giving investors an update on oil inventories in the United States.
At 2:00 PM Eastern time, the Beige Book report will be released, giving us more information about economic conditions in each Federal Reserve district in advance of the next Fed meeting.
At 3:00 PM Eastern time, the Farm Prices report for November will be released, giving investors and economists an indication of the direction of food prices in the coming months.
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I’ve been meaning to comment on this
for a very long while:
Many people think life without the welfare state would be chaos. In their minds, nobody would help support the less fortunate, and there would be riots in the streets. Little do they know that people found innovative ways of supporting each other before the welfare state existed. One of the most important of these ways was the mutual-aid society.
Mutual aid, also known as fraternalism, refers to social organizations that gathered dues and paid benefits to members facing hardship. According to David Beito in From Mutual Aid to the Welfare State, there was a “great stigma” attached to accepting government aid or private charity during the late 18th and early 19th centuries. Mutual aid, on the other hand, did not carry the same stigma. It was based on reciprocity: today’s mutual-aid recipient could be tomorrow’s donor, and vice versa.
One critique of libertarianism is that it has no regard for poor people, as if only the government is capable of showing concern for poor people. Of course, governments have historically ignored the plight of the poor, and thus it is an historical anomaly in the first place that the government even offers any aid to poor people.
That aside, the historical norm, at least in America, is that poor people were generally helped by mutual aid societies. Or, stated another way, welfare was primarily a market function. In keeping with this, the market served admirably in this capacity, encouraging poor people to engage in thrift and to comply with certain social norms. In many ways, then, mutual aid societies are superior to their state-run alternatives because they encourage positive behaviors instead of subsidizing counterproductive behaviors.
The current system does indeed leave much to be desired. It does not go far enough in tying aid to productive behaviors. Even with the recent reforms, there are still some who successfully game the system. Welfare workers are understaffed, preventing them from policing recipients as they should. Recipients, then, are able to get money without having to work or in some way improve their life. The government is, in many ways, impotent to address this problem because there are many interest groups who would charge the government with targeting minorities by requiring that they change their culture. In essence, the government is hamstrung by multiculturalism.
As such, the current form of welfare is not only expensive, but it is considerably inferior to its free market alternative because it cannot offer near the same amount of accountability that market-based forms of welfare do. Thus, the libertarian doctrine that welfare should not be a state activity is actually quite reasonable for the free market has actually done a better job at charity than the government has.
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In India, NGOs are fashionable. It is almost never wrong, in the Indian discourse, to give more money and more functions to NGOs.
Many people have worried about the extent to which NGOs are being used to supplant failing State machinery. This may seem expedient, but no country every became a developed country on the back of NGOs. There is no alternative to fixing the core mechanisms of the State.
In recent days, two pro-NGO policy elements seem to be in the pipeline:
- A new Companies Bill seems to require that 2% of profit be spent on corporate social responsibility (CSR).
- SEBI decided to force listed companies, starting with the top 100 firms, to describe measures taken by them along the key principles enunciated in the ‘National voluntary guidelines on social, environmental and economic responsibilities of business,’ framed by the Ministry of Corporate Affairs (MCA).
When the government grabs 2% of the profit of a company, and hands it out to any purpose (no matter how good or bad), that is called expropriation. The fact that it satisfies some bleeding hearts does not change the fact that it is expropriation. In a good country, property rights would be fundamental, and the Supreme Court would block such expropriation.
The job of a corporation is to efficiently organise production, and send dividends back to shareholders. It is the individual, the shareholder, who has to then make a call about whether he would like to give money to charitable causes or not. We do wrong by expropriating this money even before it reaches the individual.
We do wrong by placing the burden of charitable works upon the corporation. Corporations should not be organised to be do-gooders. They should be organised to obey laws, have high ethical standards and then power India’s way out of poverty by efficiently organising production. Anything that corporations do, other than focusing on efficient production, is a distraction from the main trajectory of India’s growth and development.
When a country is run by bleeding hearts, things start going wrong. If such a tax is enacted, it reduces the post-tax return on capital that Indian firms generate. Foreign investors and domestic investors have choices about where to invest. They will demand that firms only invest in a smaller set of high-return projects, which are competitive on the rate of return by global standards, even after being taxed. In other words, many projects will not be undertaken. This can’t be good for India.
To make progress in India, we need to be hard headed. We should not let the urge to do good crowd out intelligence and analysis. We are falling into this trap too often.
One key element that I blame is the Indian college education. We fail to teach political science (so we get things like the Anna Hazare phenomenon; too many people who have not read The Republic). We fail to teach economics, so we get the education cess. Given the absence of a positive strategy for what India should be doing, in the mainstream, we are willing to turn away from the hard work of fixing the State, and feel satisfied by funding some do-gooding NGOs.
Intellectuals are the yeast that make a society rise, and we in India have been skimping on this yeast.
Among the specters lurking in ShadowStats.com’s Editor John Williams’ gloomy outlook for the U.S. are the demise of the dollar, hyperinflation and the ongoing lack of political will to take sound corrective measures. Still, as he tells The Gold Report in this exclusive interview, investors have options. Williams contends that turning to gold, silver and strong foreign currencies would protect wealth and position savvy investors to take advantage of extraordinary opportunities likely to flow out of the turmoil ahead.
The Gold Report: When we talked in May, you predicted that hyperinflation could be a reality as soon as 2014, something you addressed at length in your Hyperinflation Special Report. Have six months of euro debt crises, Middle East revolts and U.S. Treasuries’ downgrading altered your outlook?
John Williams: Not a bit. We still seem to be moving down that road to a relatively near-term break toward hyperinflation. The most important thing that’s happened since we last talked was the global response to the U.S. legislators’ negotiations over the debt-limit ceiling and the deficit reduction problems at that time. Clearly, no one controlling the White House or Congress was serious about addressing the nation’s long-term solvency issues. That sparked a panic selloff on the dollar against currencies such as the Swiss franc, and of course gold, which made the gold price rally sharply.
TGR: Did the politicos learn anything from those “negotiations,” as you just described them?
JW: Not at all. In fact, I’ll contend that everything that’s happened since then has been just a playing out of what resulted in a complete collapse in global confidence in the dollar. The ensuing rapid shift of market focus to crises in the euro area was really more of a foil to distract the global markets from the dollar. Following that horrendous performance by Congress and the White House, the global markets indicated a major loss of confidence in the dollar that had been coming. I think that’s now established and in place. The dollar is doomed to lose its reserve status eventually, and any day now, we may see things heat up again over the deficit negotiations.
TGR: What steps would we see on the way to the dollar losing its reserve status?
JW: Probably the biggest thing would be heavy selling pressure against the U.S. dollar, along with a spike in the stronger currencies such as the Swiss franc. The more the pressure builds for selling of the dollar, the more expensive and disruptive it will be for the Swiss National Bank to keep supporting the euro so I don’t think that intervention will last long.
As heavy selling of the dollar develops against the Swiss franc, the Canadian dollar and the Australian dollar, and the gold price rallies, we’ll see a very strong effort by those who are dependent on the dollar—such as the Organization of the Petroleum Exporting Countries (OPEC)—to have the dollar removed from the pricing of oil. Along with that will come a movement to change the dollar’s reserve status.
TGR: If other countries start demanding payment in alternative currencies, how can investors protect themselves against a shift from the dollar standard?
JW: I’m not a day-to-day timer in this. My outlook has been consistent that we’re heading into U.S. dollar hyperinflation, and the effective purchasing power of the currency as we know it will disappear. If you’re living in a U.S. dollar-denominated world, you don’t want to be in dollars—you want to move to protect the purchasing power of your assets, your wealth.
To do that, I look very specifically at physical gold, preferably gold coins and silver, and assets outside the U.S. dollar. The currencies I like the best are the Swiss franc, the Australian dollar and the Canadian dollar. This is something you do for survival over the long haul because you’re likely to see all sorts of volatility in the short term.
But once you ride through the storm, if you’ve been able to preserve your wealth and assets in terms of their purchasing power and to maintain liquidity—which the physical gold and the currencies will give you—you’ll be in a position to take care of yourself and take advantage of some extraordinary investment opportunities that likely would flow out of the turmoil ahead.
In the interim, I wouldn’t start betting that next week we’re going to see the dollar do this or that. This is a long-term hedge strategy, an insurance policy against the hyperinflation that I view as inevitable due to the long-range insolvency of the U.S.
TGR: Is that long-range insolvency also inevitable?
JW: Severely slashing social programs such as Social Security and Medicare would be the only way it could be avoided. I don’t have any problem per se with Social Security or Medicare, but you can’t bring things into balance without addressing them. If you look at the U.S. annual deficit on a GAAP basis—generally accepted accounting principles—with accounting for the year-to-year change and the net present value of unfunded liabilities in Social Security, Medicare and such, you’re seeing a federal deficit in excess of $5 trillion per year.
Putting that in perspective, if you wanted to raise taxes, you could take 100% of people’s salaries and the government would still be in deficit. You could cut every penny of government spending, except for Social Security and Medicare, and you’d still be in deficit.
You can’t escape the eventual hyperinflation if those programs are not addressed. Originally, I was looking for hyperinflation by the end of this decade. I’ve advanced it to 2014, and it may well come before that. I think we’re already in the early stages of going through what has to happen for this to break.
TGR: But would politicians touch those entitlement programs in an election year?
JW: No one wants this, but the federal government and the Federal Reserve have backed us into a corner and there’s no other way of escaping. There’s no political will to address the long-range insolvency, so they kick the proverbial can down the road. They did that in 2008. They did everything they could to prevent a systemic collapse by creating, spending and guaranteeing whatever money they had to.
We’re coming to another point where we face risk of systemic collapse, and we’re likely going to see another round of quantitative easing (QE) as a result. That also could pull the trigger for massive dollar selling, moving us into much higher inflation. That will start the final process.
TGR: One of your recent newsletters showed that annual core inflation had risen for 12 straight months, ever since QE2. What would QE3 do to some of the indicators you watch—gold, silver, commodities?
JW: Gold tends to anticipate the inflation problems. All sorts of factors hitting gold create tremendous volatility, but generally it will continue to move higher as the broad crisis deepens. Then as we get into the high inflation, it will start soaring. People have to keep in mind that they’re preserving the purchasing power of the dollars that they put into gold. If gold gets up to $100,000/ounce (oz) as you start breaking into the hyperinflation, and they bought gold at $2,000/oz, it isn’t that they made $98,000 per ounce. Instead, they’ve maintained the purchasing power of the dollars they put into gold.
They’ve also lost the purchasing power of the dollars that they didn’t put into gold or some other hard asset. That’s a different view than most people look at with investments, but this is not a normal investment environment. Again, this is one where you batten down the hatches and look to preserve wealth and assets, as opposed to trying to make money day to day in the markets. Once you have your basics covered, then you take gambling money and go play Wall Street’s casino.
As to core inflation, the Fed likes to ignore energy and food prices, using the rationale that those prices are too volatile and don’t hold over time. Yet, oil is probably the most important single commodity in terms of domestic inflation. Not only does it hit basic energy costs, but it also affects the cost of transportation of all goods. Beyond what is defined as basic energy costs, oil is also the basic raw material for many products, ranging from chemicals to fertilizers to pharmaceuticals and plastics.
As oil prices rise, the Fed just takes out the energy component in so-called core inflation. But the inflation still spreads to the broader economy. When they started to jawbone on QE2 in October of 2010, year-to-year inflation on a core basis was at 0.6%. In the consumer price index reporting of October 2011, despite a drop in the gasoline prices, core inflation was at 2.1%. In response to QE2, gold rose against the dollar and the dollar weakened against other currencies. The weaker dollar, in turn, spiked oil prices. The higher oil prices spiked gasoline prices and broader inflation, which still is boosting consumer inflation in the U.S.
With the next round of Fed easing, the dollar problems will intensify again. That will put new upside pressure on oil and gasoline prices, further intensifying the spreading broad inflation pressures in consumer goods and services.
The Fed’s mandate from the government is to try and sustain reasonable economic growth and contain inflation. From the Fed’s standpoint, however, those are secondary to maintaining the solvency of the banking system. Nothing in the outlook for the system has changed meaningfully since the crisis in September 2008. The banking system still is in a solvency crisis, the economy continues to worsen and we’ve had no real recovery. The stopgap measures to prevent collapse of the system did nothing but kick the crisis a little further into the future, and now, we’re coming to peak period of crisis again.
TGR: You’ve repeatedly said that the global economic crisis is not Europe’s fault but part of a pending systemic collapse that started with the manipulation of the U.S. financial markets—the moves you’ve been talking about. What countries or sectors will suffer the most if the crisis continues?
JW: The more closely they’re tied to the dollar, the greater the inflation impact will be in other areas, but the runaway inflation I’m talking about will be largely in the U.S. and for people living in a U.S. dollar-denominated world.
That’s from an inflation standpoint. Yet, it also will have an extremely negative impact on the U.S. economy, and problems in the U.S. economy indeed will have a global impact. The U.S. economy is still the largest in the world, and you can’t push it deeper into a depression without having negative economic consequences outside the U.S.
But while the global economic problems will worsen, systems can ride out bad economies. We can’t ride out a hyperinflation because the currency becomes worthless. That’s an ultimate crisis that forces a resetting of the system.
TGR: Can Europe or China do anything to counteract what’s going on in the U.S.?
JW: Dump the dollar. China needs to delink from the dollar, and it will be forced to do so. It’s importing inflation. If China doesn’t want that inflation problem, all it has to do is cut its link with the dollar, and oil suddenly becomes a lot cheaper.
TGR: But how practical would it be for China to sell off all the U.S. dollars and U.S. Treasuries it holds?
JW: In terms of insulating itself against U.S. inflation, all China has to do is delink its currency from the U.S. dollar. That’s true of other currencies as well. The Swiss franc is artificially linked to the euro now, but because of the general weakness in the dollar, it’s ironically also intervening to support the dollar against the euro.
Whenever major holders of dollar-denominated assets decide to sell those assets, that will determine how large a loss they will take on the U.S. currency.
TGR: Will the euro survive?
JW: I wouldn’t bet on a long-term survival of the euro, but I think it will survive the current crisis as long as its survival is needed to prevent a systemic collapse in the U.S. The Fed will do whatever it has to do to keep Europe’s problems from imploding the U.S. banking system. It can create whatever money it wants to do that.
Long term, I would not look at the euro as surviving in its current form. The loss of the dollar eventually will force a reexamination of the global currency structure. That might be a time when other currency disorders get resolved and we may see the euro break up. It was never practical to think that all the countries within the euro would be able to align their economic and fiscal policies in a way that would enable them to operate together. The euro was doomed from the beginning.
TGR: Let’s go back to gold. According to your research, the September 2011 high of $1,895/oz gold was below the historic high of $850/oz in 1980, if the 1980 figure was adjusted for inflation. The $850/oz in 1980 would have equaled $2,479/oz in Consumer Price Index–all Urban consumers (CPIU)-adjusted dollars, or $8,677/oz Shadow Government Statistics (SGS)-alternate-CPI-adjusted gold prices in 2011. Is gold underpriced if you put it into that context?
JW: On that basis, yes, it is. It also depends on when you measure it. My hyperinflation report looks at what has happened to the dollar over a longer period. Since President Roosevelt took the U.S. off the gold standard domestically in 1933, the dollar has lost 98–99% of its purchasing power. People tend to forget that. But if you look at the gold price movement since 1933, it actually has moved a little more than the government-reported pace of inflation. My estimate of what inflation should be if we had consistent CPI reporting shows that the loss of the dollar’s purchasing power against gold is the same as it is measured by the CPI.
So over time—and this is true over millennia—gold tends to maintain purchasing power, which means it holds its value net of inflation. Not that you’d break a piece of gold down to a small enough unit to buy a loaf of bread, but if you did, it also would have bought a loaf of bread in ancient Rome.
TGR: For the same amount of gold.
JW: Same amount of gold. Gold has a long tradition as store of wealth. That’s why—globally—gold generally has been viewed as such. It only got bad press in the U.S. because private ownership of gold was outlawed after Roosevelt’s action. It became legal for Americans to own gold again after Nixon abandoned the international gold standard. Yet, even today, some on Wall Street discourage investment in physical gold, largely because they cannot make a commission on it, as they do with stocks and bonds.
Given the gold ownership limitations after 1933, those in the U.S. who wanted to buy gold turned to buying gold stocks. But because of what happened in the 1930s—that’s now two generations or so ago—gold as an investment and as a hedge to protect wealth lost some of what had been its commonly recognized value in the U.S. Outside the U.S., almost everyone views gold as a traditional hedge.
TGR: That’s physical gold. What about exchange-traded funds and gold equities in the juniors? Will those investments also preserve wealth?
JW: I wouldn’t count on the financial system working as it should. I look at physical gold, preferably sovereign coins, not only as a store of wealth, but also for purposes of liquidity.
Gold stocks also should preserve wealth over time, but I would look at them as longer-term holdings. There could be periods of systemic failure with resulting interim liquidity issues.
TGR: You talked about hyperinflation coming as early as 2014, or even before that. But 2012 is just weeks away. What can people expect next year in terms of the data you watch and maintain versus some of the government-issued statistics?
JW: I can tell you that the economy is weaker and will remain weaker than the government reports. We don’t have an economic recovery in place. We’ll tend to see higher inflation.
TGR: Something to watch out for. Thank you, John.
Walter J. “John” Williams has been a private consulting economist and a specialist in government economic reporting for 30 years, working with individuals and Fortune 500 companies alike. He received his bachelor’s in economics, cum laude, from Dartmouth College in 1971 and earned his masters in business administration from Dartmouth’s Amos Tuck School of Business Administration in 1972, where he was named an Edward Tuck Scholar. Williams, whose early work prompted him to study economic reporting and interview key government officials involved in the process, also surveyed business economists for their thinking about the quality of government statistics. What he learned led to front-page stories in the New York Times and Investor’s Business Daily, considerable coverage in the broadcast media and a joint meeting with representatives of all of the government’s statistical agencies. Despite a number of changes to the system since those days, Williams says that government reporting has deteriorated sharply in the last decade or so. His analyses and commentaries, which are available on his ShadowStats.com website, have been featured widely in the popular domestic and international media.
At 7:45 AM Eastern time, the weekly ICSC-Goldman Store Sales report will be released, giving an update on the health of the consumer through this analysis of retail sales.
At 8:55 AM Eastern time, the weekly Redbook report will be released, giving us more information about consumer spending.
At 9:00 AM Eastern time, the monthly S&P/Case-Shiller home price index report will be released. Given that most economists don’t expect the overall U.S. economy to improve until housing prices end their decline, the market will be watching this number closely.
At 10:00 AM Eastern time, the monthly report on Consumer Confidence for November will be released. The consensus index level is 45, which would be a 5.2 point increase from last month’s number.
Also at 10:00 AM Eastern time, the State Street Investor Confidence Index will be released, which looks at changes in the amount of equities held in the portfolios of institutional investors.
Also at 10:00 AM Eastern time, the FHFA House Price Index for September will be released, providing more information about the direction of the housing market.
It is a widespread problem: the article reports survey results showing that 83 percent of manufacturers reported a moderate or severe shortage of skilled production workers. The shortages include such categories as machinists. Wages for skilled labor are rising, in some cases at double-digit rates.
Unskilled labor is complementary to skilled labor. If skilled labor cannot be hired, there is no demand for unskilled labor. Some firms report that the inability to hire needed workers is their greatest impediment to growing their business.
Malinvestment in labor markets is the counterpart to malinvestment in capital goods. Higher education is a bubble, and colleges churn out graduates with degrees that have no application in the workplace. Student borrowing to acquire such degrees is malinvestment in the same way that constructions loans to build homes in Las Vegas was malinvestment.
On-the-job training is mostly inevitable in virtually every business because employers do tend to want some core processes done a certain way. Yet, many employers often expect job applicants to be as smart as the person they’re replacing. This seems rather foolish, as careerists generally amass a large amount of very specific information related to their specific jobs. When they retire, they’re going to take their very specific knowledge base, and no other applicant is going to be able to replicate that on day one.
Now, the current college bubble does tend to distort the labor market since those possessing college are nominally qualified for certain careers and jobs. Unfortunately, the college bubble has led to the very unfortunate side effect of dumbing down curricula, and thus graduates, making it more difficult for employers to tell who is actually qualified for certain jobs.
But, beyond that, a highly educated labor market is going to have certain (inflated) requirements for the jobs they wish to accept. For example, college-educated labor market participants are not going to be particularly likely to work as unskilled labor, nor are they ass willing to work for low wages in exchange for job experience and knowledge. (And who can blame them? They’ve been told their whole lives that they should go to college so they can have high-paying high-status jobs.)
As such, the labor market is experiencing failure right now, due mostly to government intervention. The continual and sizable subsidies of college education has for many years encouraged potential labor candidates to avoid learning trades that, though low status, are somewhat easily mastered and decent-paying. The companies that are interested in hiring these sorts of people are finding quite a shortage at this point in time, causing a relative spike in wages to incentivize people to take these jobs.
One thing that companies needing low-status skilled workers could do is recruit directly from high schools by offering a job, complete with on-the-job training, for those who have an inclination for certain skills as well as the ability to learn. The colleges have failed at producing a workforce adequate to meeting the needs of the current labor market. It is therefore time for businesses to bypass them altogether.
Gold stocks may have been underperforming investor expectations for many months, but that could be changing very soon. In this exclusive interview with The Gold Report, Jordan Roy-Byrne, CMT, explains how he uses relative strength analysis to pick winners for the readers of The Daily Gold Newsletter. His technical work points to a turnaround in precious metals stock prices in the coming months, leading to a huge market top near the end of the decade. In the meantime, investors can feast on some of his favorite recommendations, which he describes in detail.
The Gold Report: Based on your technical analysis, you called the bear market in December 2007 and the bottom, followed by a rally in February 2009, weeks before the market turned. Your Daily Gold Premium market portfolio was up 10.5% in June of this year compared to an overall junior gold stock market that was down 9.5% during the same time. How have you fared in the last five months and what trends are you seeing in the next year?
Jordan Roy-Byrne: At the end of last week, our premium service model portfolio was up about 9% on the year. Market Vectors Junior Gold Miners ETF (GDXJ:NYSEArca), the junior gold stock exchange-traded fund (ETF) I use to compare performance, was down about 18% and Market Vectors Gold Miners ETF (GDX:NYSEArca), the large-cap gold stock ETF, was down about 1%. The last few months have been difficult for a lot of equities. As far as the trends, I try to focus on relative strength. The large-cap gold stocks have been consolidating for most of the year. Silver had that intermediate top early in the year with a parabolic blowoff move. Since then I’ve been focusing more on gold. In the near term and into next year it looks like gold is going to outperform silver. The larger gold stocks have been showing better performance than silver stocks and juniors. Relative strength is very important. You’ve got to find and focus on the leaders because they will lead the next move higher.
TGR: In a recent newsletter, you said that gold stocks are moving closer and closer to a major breakout, which is likely to produce a multiyear acceleration that would set the stage for the birth of a bubble. Can you explain what you mean by that statement?
JR-B: The Market Vectors Gold Miners ETF and the AMEX Gold BUGS Index, used by some analysts, reflect the large-cap unhedged gold stocks. They’ve been in a consolidation phase since the fourth quarter of last year. Even a three- to five-year chart shows that the consolidation has been in a tight range, which is generally bullish. Every time the consolidation makes a low or goes to the bottom area, the weak hands are selling out. So, the stronger hands accumulate more and more shares and eventually the buying demand overwhelms the selling and you get a very strong breakout.
Sentiment indicators, such as how much money is invested in gold stocks, tell me that it’s an under-owned sector. There may be more and more people moving into the metals, and gold specifically, but the gold stocks really haven’t performed well in the last year or two. So, if we get this breakout, it’s going to produce a strong move for probably two years.
A bubble would start after a strong move for a couple of years followed by a long consolidation or a sharp pullback. The next move higher would signal the beginning of a bubble. Looking at market cycles and at other people’s research, a lot of market cycles tend to last 17 or 18 years. This bull market for precious metals is in its 11th or 12th year—a point when it is going to start to accelerate. So, we’re not that not far away from the beginning of the bubble, which could be in two to three years.
TGR: Did gold stocks really get that far ahead of themselves that they needed to be in this long consolidation?
JR-B: They did need to be in a long consolidation because we had a very strong move from the 2008 bottom. Market Vectors Junior Gold Miners ETF went from about 15 to 65. That’s a large move in only about two years. After a very strong advance, it takes a lot of time to work off the overbought condition. It can be worked off either as a sharp, short correction or over time with consolidation. Market Vectors Junior Gold Miners ETF or the AMEX Gold BUGS Index has not had a sharp correction to work off those huge gains. So, the consolidation has gone on over time. I do think that these stocks are very undervalued, with improving fundamentals. I look at the gold:oil ratio as a leading indicator for what kind of margins you could expect for the gold producers. Oil represents 25% of the cost of mining, so, it’s critical that silver or gold outperform oil and do better than the other cost inputs.
TGR: The performance of the juniors versus the established companies seems to indicate that there’s not much speculative interest yet in the juniors. What’s going to happen there?
JR-B: That’s a great point. The sector is still very under-owned and the juniors are underperforming. It also depends on how you classify the juniors. Personally, I prefer the established juniors—companies maybe with a $200 million (M) market cap or a little larger, because at that point you know that they’ve made it. The true juniors, with a $20–30M market cap are stocks that are really risky. They perform well when you get a huge increase in speculation, as we saw in ‘06 and ‘07 and obviously, early ‘09 when everything came off the bottom.
That sector of the market should do very well in the next couple of years and when the bubble begins. A lot of people who invest in those types of situations just assume that because gold is going up, juniors automatically do well and you can pick these penny stocks that are going to go up fivefold or tenfold immediately. To be really significant, a junior has to find well over a million ounces (Moz) in a good area where there are no political and permitting issues. Or a junior needs to be able to put one large mine into production or multiple smaller mines.
TGR: The junior gold index in your newsletter shows a descending triple-top pattern. Is that building into an upside breakout or will it continue going to lower highs?
JR-B: I do think the bottom is in. My index classifies juniors. A lot of the companies in my index were juniors two years ago and they’ve been very successful, so the average market cap may now be $500M to $1 billion (B). A junior index is going to go up over time and the companies are not going to be cheap juniors forever. Let’s just compare it to Market Vectors Gold Miners ETF, which has been in a strong consolidation where the lows have remained the same over time. It’s like a rectangle. My junior index has a downward sloping channel, with lower lows and lower highs. But, I do think the index has bottomed and it had a nice rally in the last month. It’s just going to take a little bit of time for it to work its way back up to the highs. Obviously, I believe the large caps are going to break out first, followed by my junior index, and then the true juniors and the exploration plays.
TGR: You have a model portfolio in your publication with a pretty broad cross-section of resource stocks. Tell us a little about your selection criteria for assembling this portfolio.
JR-B: We look for a combination of strong fundamentals, technicals and management teams with a proven track record. We want companies that are well funded and are not going to do a dilutive financing anytime soon that puts pressure on the shares. We like companies that are involved in the right areas including Alaska, Nevada and some very successful ones in Mexico. Fundamentally, we’re looking for good value. If it’s a producer, we’re looking at cash flow. If it’s not a producer, it’s the price per ounce in the ground, the potential for expansion and the potential profitability of the project should it become a mine. If a company is in a good area, it may get taken over, as a couple of our stocks have been and that’s why they’re no longer in the portfolio.
Technically, a lot of mining share prices consolidate for a long time and then have a very strong move higher. You don’t want to buy anything that has gone up too far, too fast because that’s very dangerous. At the same time, we don’t want to buy anything that is showing persistent relative weakness, because if it keeps trending down, there’s a reason. There are more sellers than buyers and the company is not doing enough to attract more buyers. This is a pretty strict criterion for us, which is why we’ve had decent performance in a year that’s been difficult for a lot of people. I don’t want to have more than 15 companies in the portfolio and right now we have 11.
TGR: Two of your most recent additions are Franco-Nevada Corp. (FNV:TSX) at the high end of the price spectrum and Corvus Gold Inc. (KOR:TSX) at the low end. Why did you add those now?
JR-B: I decided to add Franco recently when I believed the market was bottoming. It was an easy call because it’s been a great company and a great performing stock over the last couple of years in terms of relative strength. It makes new highs ahead of its peers. It came down from about $48 to $34. We got in at $35. Today, the stock was trading close to $42. You want to buy this type of company when it has a correction like that. That’s why we bought Franco rather than a risky junior.
Corvus is following the project generator model. I have visited all of the company’s projects. Its flagship is the North Bullfrog project in Nevada and it also has a portfolio of projects in Alaska, which it has joint ventured out. Corvus Gold’s management team has a tremendous history. It ran International Tower Hill Mines (ITH:TSX; THM:NYSE.A), which made a substantial discovery in Alaska. The head of Corvus, Jeff Pontius, and his partner Russell Myers have worked together for a long time and had huge success with Tower Hill and have since moved onto Corvus.
When we recommended Corvus, it had about a $20M market cap with $8M in cash. The new NI 43-101 on North Bullfrog shows 1.4 Moz Inferred and I think there’s potential there for more than 2 Moz. Corvus also has the Terra project in Alaska where its joint venture partner is going to start small-scale production next year giving them some near-term cash flow. When we visited the project last summer, the company was just about to begin constructing the mill. Corvus also has another project in Alaska called the Chisna project, where the scenario is really spectacular and some good drilling results were reported a few days ago. With the amount of cash it has, Corvus is not going to need to raise money any time soon. I’m just really optimistic about Corvus and if someone has a two- or three-year timeframe, I think this is one of the top speculations in my book.
TGR: First Majestic Silver Corp. (FR:TSX; AG:NYSE; FMV:Fkft), Fortuna Silver Mines Inc. (FSM:NYSE; FVI:TSX; FVI:BLV) and Argonaut Gold Inc. (AR:TSX) have been your top portfolio performers, in that order. What are your expectations for them now?
JR-B: I’m more optimistic on Argonaut and Fortuna Silver than First Majestic, which has been a huge winner for us. The relative performance of First Majestic has really tailed off in the last few months. Remember this company had a massive rise in its share price in the last 18 months or so. When you have a very strong rise like that, it’s going to take some time to digest those gains.
Fortuna Silver has a new mine in Mexico called the San Jose, which began commercial production in September. Its silver production is going to see substantial growth in the near future. Fortuna Silver has been the strongest silver stock this year. In 2008 and 2009, Silver Wheaton Corp. (SLW:TSX; SLW:NYSE) was the best performer. From the second half of 2010 until a couple of months ago, First Majestic was the strongest performer.
I have a hunch that in the next 12 months or so, Fortuna Silver could be the big winner in the silver group. The company has very strong fundamentals, is making a lot of money and has tons of cash.
Argonaut Gold came to the portfolio from Pediment Gold because Argonaut Gold acquired Pediment, which was a recommendation of ours back in late 2009. Argonaut is showing exceptional relative strength and a few days ago made a new 52-week high. The stock has been trending higher this year while most juniors have been trending down and large caps trending sideways. Argonaut has fantastic management. It’s the former management team that was with Meridian Gold when they sold Meridian a couple of years ago to Yamana Gold (YRI:TSX; AUY:NYSE; YAU:LSE) for about $4B.
When Argonaut acquired Pediment, the market cap of the company was around $300M. Here’s a management team that sold a previous company for $4–5B and now they’re starting up a new company with a low market cap. Argonaut is a textbook example of a company that we see becoming $1B market cap some day.
Argonaut has one mine in production at about 75,000 ounces a year. It has two other projects, which it acquired from Pediment. I believe both of these projects are going into production in the next 24 months. The company is highly profitable, has a lot of cash and has warrants out that will bring it a significant amount of cash. It’s a really fantastic company and it continues to be my favorite gold stock.
TGR: Which other ones do you like in your portfolio at this point?
JR-B: On the silver side, I also like Endeavour Silver Corp. (EDR:TSX; NYSE:EXK). It’s been a very strong performing stock. Endeavour’s relative strength is right there next to Fortuna. It’s a profitable company that has grown very consistently, both financially and operationally, over the years. It has two mines in production and over $100M in working capital, mostly cash. I believe the company is going to need to make an acquisition at some point to get a third mine into production.
We do have a couple more speculative ones in the portfolio. One is a company named CMC Metals Ltd. (CMB:TSX.V), with a market cap of only about $15M and about $2M in cash. The company’s focus is on two properties. The Silver Hart project in the Yukon is a very high-grade silver property with significant base metals. A year ago, it took a bulk sample from it and received a nice amount of cash flow. This summer it extracted a 1,700-ton bulk sample with a grade that could be 100 ounces per ton (oz/t)—potentially 170,000 oz silver, which could gross the company about $5M with a $3M profit. CMC could do similar bulk samples for the next couple of summers.
Earlier this year, CMC acquired 50% of a past producing gold mine in California called the Radcliff mine in the Death Valley area. Echo Bay Mines owned Radcliff in the early 1990s and had an internal resource estimate (non NI 43-101 compliant) of about 280,000 oz gold. Some 100,000 of that is high grade at about 0.75 oz/ton gold. CMC Metals also owns a mill nearby called the Bishop Mill. It has partnered with the private company that owns the other 50% of this operation. Ore has already been stockpiled there and CMC is looking to start milling in the next couple of months. We should probably hear more news in the coming weeks or after the holidays.
If CMC is able to get this gold production up and running, it’s going to be very profitable with substantial cash flow relative to its market cap. This is a speculative stock, which is trading well off its highs. I believe it has limited downside with upside potential that could produce a five or tenbagger. But, this is one that you really need to do your own research on.
TGR: Is there anything else you’d like to mention or any final thoughts that our readers can take away as to how they should be playing this current market situation?
JR-B: We’ve had a difficult year but I think we’re coming to the end of the sector consolidation. Market Vectors Gold Miners ETF has a strong support that’s well defined. Over the next month or so, I’m expecting more consolidation, but with an upward bias. In the next three months, you should probably expect a breakout to new highs. At that point you’re going to see a lot of the juniors start to get a bid and perform better. But, right now I think you want to focus on the more established companies that are showing some relative strength. Make a list and look to accumulate your favorite stocks on weakness.
TGR: And, wait for the year-end selling to subside.
JR-B: That is also true with juniors who’ve had a tough year. There’s probably going to be some tax-loss selling there. So, that’s definitely something to keep in mind.
TGR: Thank you for your insights and for some very good ideas.
JR-B: Thanks for having me.
Jordan Roy-Byrne, CMT, is a Chartered Market Technician, a member of the Market Technicians Association and a former official contributor to the CME Group, the largest futures exchange in the world. He is the editor of TheDailyGold Premium. His work has been featured in CNBC, Barrons, Financial Times, Alphaville, Yahoo Finance, BusinessInsider, 321gold, Gold-Eagle, FinancialSense, GoldSeek and Kitco.