fiat currency « Citizen Economists

OK, Yes, I'm a Gold Bug

By Thomas Knapp, on February 3rd, 2012

More of a silver bug, actually. But a metal bug. I like having the real stuff, and I particularly like having it already broken down into known increments that are reasonably spendable (or will be, as more and more people decide that precious metals make more sense than paper backed only by “the full faith and credit of” a bunch of politicians).

If you’ve seen gold and silver prices lately, you know that a one-ounce silver or even a 1/10th-ounce gold coin is a little much for normal exchange. So, I’m a big fan of Ron Helwig’s Shire Silver — laminated cards with small quantities of metal in them (0.5. 1 or 5 grams of silver; 0.05, 0.1 or 0.5 grams of gold):

Perfect even now for buying and selling stuff at freedom movement events. As fiat currency continues its unstable, decaying orbit around the black hole of politics, I expect it to come into use for more routine transactions.

You should probably get some yourself. If you’re interested in doing business with it on a regular basis, you might consider becoming a Shire Silver merchant (Disclosure: I’ve been one — through Rational Review News Digest — for more than a year).

The Reality of Central Banks

By Simon Grey, on January 30th, 2012

Karl Denninger:

Make no mistake, the problem does not lie with The Fed per-se. The Fed’s “low interest rates” are there to permit the profligacy of the government, yet the longer it goes on and the more the government abuses this deadly embrace the further into the coffin corner The Fed and Congress go. As the debt accumulation rises the maximum interest rate that can be absorbed goes down until finally you reach the boundary where even a slight increase in rates results in instantaneous bankruptcy.

Denninger is a smart man—well-versed in the law, particularly constitutional law, and has an immense knowledge of politics and economics. And yet, here he is once again calling for enforcement of the laws governing The Fed even though history has shown repeatedly and conclusively that it is politically impossible to manage inflation through a central bank. In theory, it is possible that a central bank will act prudently and responsibly, and not inflate the currency. In reality, though, a central bank is nothing more than yet another mechanism by which the government can tax the people.

This is why the solution to inflation is ending the fed, or at least government-mandated fiat currencies, and to allow multiple competing currencies. Relying on the government to properly manage a monopolistic money supply is an exercise in futility. Though it would be theoretically better to do it this way, history has shown quite clearly that a competitive currency market is preferable to a government-controlled currency, and it is therefore better to accept the fluctuations of market-based currency system over the guaranteed degradation of a government monopoly.

A Third Option

By Simon Grey, on January 24th, 2012

Karl Denninger:

In many ways the monetary policy issue is even more important, simply because we are running out of rope on our national debt-addiction rappelling adventure and the floor is still 100′ down. That’s a serious problem — and “gold standards” do not (in fact cannot!) fix it. The only fix that works is to demand and enforce a zero-CPI standard with honest statistics, along with an end to federal government borrowing — period. “Hard money” .vs. “Fiat money” is immaterial; if you permit fraud in the monetary and credit system, as we have, the rest simply does not matter and yet if you put a cork in the frauds and lock up the scammers then you quickly come to the conclusion that allowing a handful of producers of some metal, the majority of which are foreign entities, is the last group you want running your monetary policy!

The Paulites get this wrong and so does Ron Paul himself despite the historical fact that the United States had massive inflationary bubbles and detonations of them during the time it was on the Gold Standard. 1873 anyone (as just one example.)

The real problem in 1873 as with all other similar blowups was the issuance of bogus debt instruments unbacked by anything. In the case of 1873 concentration was in railroads and related construction all financed by long-duration bonds (and therefore subject to high degrees of price risk due to their duration) but which were entirely-speculative and in fact for which there was no actual demand in the economy for the services (transportation to be provided by said railroads) at a level sufficient to meet the intended expense. It didn’t help that we were playing games with our exports (and Europe with its imports) much as China and the US are today, effectively hiding the bubble’s impact for a period of time and allowing it to inflate to ridiculous size. When the over-leveraged positions became exposed the game collapsed and the Long Depression followed. [Emphasis original.]

Denninger correctly notes that a gold standard, in and of itself, is not enough to prevent a bubble of any sort. He also correctly notes that enforcing a zero-CPI standard would fix the current currency mess. However, what he seems to neglect in his analysis is that the real problem is not with the proposed solutions, but the fact that the government has to enact and enforce them.

This then begs the obvious question: given the government’s obvious failures to prevent bubbles by keeping money honest, regardless of the money is metal or digital, why then even bother to put the government in charge of the money supply? They can’t manage it properly when gold is money, and they certainly can’t manage it properly when paper is used as money. Why then trust them with it?

The better solution is to simply allow currencies to freely compete with each other, which will have a strong tendency to ensure that currencies remain sound, strong, and free from inflation. By the way, there is one presidential candidate who has proposed legislation that would do exactly this. We all know who he is.

The Coming Dollar Downleg And Gold Upleg

By Trace Mayer, on January 23rd, 2012

The 200 day moving average acts like the pull of gravity on prices. The FRN$ is currently very expensive while gold, silver, platinum and palladium have presented great buying opportunities. As the fiat currency and precious metals reassert their positions based on the 200 day moving average it will power the next gold upleg higher.

The USD is posed for the next downleg which will help power gold’s explosive upleg dragging silver and platinum with it. FACTA will drive more demand for BitCoins. Those who took my advice to buy bitcoins last month are sitting on a 56% gain. For those who want to spend some bitcoins you can buy RunToGold and HowToVanish products with bitcoins. Good job!

Hopefully we will do as well with the precious metals in this next upleg.

GoldMoney is no longer Gold Money

By Bron Suchecki, on December 22nd, 2011

Digital Gold Currency Magazine is reporting that GoldMoney is suspending the ability to make and receive payments in precious metals to or from other GoldMoney customers due to the “global increase of compliance requirements for payment service providers.”

This capability was the key differentiator of GoldMoney to other online precious metal storage businesses. It is an unfortunate development for gold standard advocates.

The decision was not entirely driven by increased regulations as GoldMoney also indicate that “our customers’ use of the metal payments and currency exchange services is not significant.” Looks like a case of disporportionate compliance effort for GoldMoney on something that didn’t drive business.

Interesting then that customers have voted and said they aren’t really interested in gold as money. Possibly this may change if those customers are faced with high inflation or banking system instability, but it will be hard for GoldMoney to restart the functionality and catch up with any regulatory requirements in place at the time (assuming there is any regulatory tolerance for alternative payment systems at that time).

Freegold anyone?

Has Gold's Uptrend Been Broken?

By Bron Suchecki, on December 20th, 2011

I have a post up on the corporate blog featuring a Sharelynx log chart of the gold price.

There is also a very good video of why gold was (is?) favoured as money over other elements/metals in this post The Science Of Gold

And in response to this cheeky question from JR re that post “Is the Perth Mint claiming that gold is money due to its unaltering quality!?”, the answer is No. The “What others are thinking” category on the corporate blog is for non official views and maybe the wording “gold is all but unrivalled as the outstanding candidate for money” could have been a bit more qualified in retrospect.

My thoughts on Freegold

By Bron Suchecki, on December 19th, 2011

A reader, LS, asked for my thoughts on the following topics:

1) freegold
2) the gold for oil trade
3) the current price is not a real physical price of gold because of happenings in COMEX/LBMA
4) do you believe the current world affairs will resolve itself towards freegold or something similar?

Firstly, I haven’t had the time to read FOFOA in depth given the amount of material and thus give it justice. My comments here are therefore tentative thoughts.

Freegold is very interesting and I can see the logic of the idea of leaving fiat to perform the medium of exchange role and gold the wealth store role. I have a feeling free banking (see also) and a restriction on maturity transformation would need to be involved for it to work. There is a hell of a lot of discussion condensed in that sentence, more than I have time for at the moment.

I would also argue that Freegold needs to allow gold leasing but not gold lending. By “leasing” I mean as in leasing a car, ie physical asset rented (not borrowed and sold). Manufacturers of gold products like the Perth Mint could not operate without leasing because with Freegold’s ban on lending of gold and other financialisations it would be difficult (impossible?) to hedge against gold price movements.

This leads to my next point, which is that the gold price under Freegold would not be stable and still exhibit some volatility. This is because under Freegold people can save excess wealth either in gold or by investing in productive enterprises (ie true investment). Human nature being what it is we will still have overestimation of the success of productive enterprises, thus failures, thus business cycles, ths varying preferences to store wealth in gold versus investments.

On the Oil/Gold idea, I don’t have an option as this is not an area of FOFOA I’ve looked at much.

The current price is a real physical price as physical buyers and sellers of size (giants) are willing to exchange at that price. When aversion to counterparty risk really hits market players (MF Global you’d think should have been enough), then we will see a divergence between paper and physical.

As to the fourth question, well this is bound to my answer in the paragraph above, which is a necessary condition, but not sufficient, for Freegold to emerge. You would also need consensus that a gold standard is not the answer, and there are strong forces working towards that end. Possibly the biggest problem is getting people to understand the reason why financialisation of gold needs to be banned. How it will end is impossible to predict.

Either way it is going to be exciting to see how it plays out.

Balancing Small Silver with Big Payoffs: David Morgan

By The Gold Report, on December 15th, 2011

David Morgan, publisher of Silver Investor, likes the balanced risk and growth that midtier companies provide, but even he can’t resist the pull of having a speculative pick pay off. In this exclusive interview with The Gold Report, Morgan talks about the tenets he lives by when investing in mining companies, be they small-cap or midtier or billion dollar companies.

The Gold Report: David, in August you predicted that the silver price could go as high as $75 an ounce (oz). It was recently at about $32/oz. Where is it along the path to $75/oz?
David Morgan: I don’t see the silver price going above the $50/oz level in 2011. In other words, the top is in for this year, and has been for some time. I do see silver’s price going above $50/oz in 2012. I forecast $65–75/oz silver by the end of 2012. I don’t foresee a big rush into price appreciation for gold or silver in the first quarter of 2012 (Q112), which is seasonal. Typically, there is a very strong boost to the price of metals in the first quarter of every year. However, this year I’m suspect because of what’s going on in the Eurozone and all the paper pushing between the central banks of the world. I’m reserved about what’s going to happen over the next three months.

TGR: What did you think of the recent move by central banks in the U.K. and Canada getting together to boost liquidity in the markets? It seemed to push up the gold price a bit.

DM: It was what I call “old school.” I’m showing my age, but we used to avidly watch the U.S. money supply. When there was a significant increase in the money supply, the gold price would reflect that because it is more dollars chasing a fixed amount of goods. It’s a clear indicator that papering over the problem is not a solution and gold is shouting that loudly. The increase in M1, M2 or M3 (not provided by the Fed anymore) is looked at, but not with the intensity it was in the 1970s.

TGR: In the November issue of Silver Investor, you report that China could become a significant holder of European debt. While any such move would devalue China’s significant holdings of U.S. Treasuries, it would provide leverage for China’s efforts to form a new global currency backed in part by gold. Could you expand upon that idea?

DM: China as a nation has become the creditor of last resort because it has money to recycle. The more debt that it owns, the more control it has over the debt. China would have a lot of leverage in any default negotiations. There was a conference about a gold-backed yuan about a decade ago. The idea about a gold-backed currency is probably going to take place at some point in the future. China has bought more gold all along than they publicly admit, but the amount is far too small at this point to do any real gold backing to their currency. The country continues to buy gold slowly and quietly. It’s hard to say when China would have enough to make a viable gold-backed currency out of the yuan. That’s where the negotiations would come into play.

TGR: Do you think it would take decades?

DM: It would take decades to accumulate enough to make a gold-backed yuan in the fashion China is acquiring gold now. However, if China dumped a significant amount of its money (U.S. debt) into gold at once it would drive up the price thousands of dollars an ounce overnight. Gold would go ballistic. On the other hand, China has the leverage of the debt. In other words, it says, “U.S., you owe us this much money, so what we’ll do is we’ll discount the debt. You send us this much gold and we’ll cancel out part of the U.S. debt we hold.” That is a lot of power. Remember, “The borrower is servant to the lender.”

TGR: You recently reprinted Ron Hera’s “23 Ways to Boost Silver Investment Profits.” It talks about risk versus growth.

DM: The best place to be in this market, after establishing a physical metals position, is on the mining side by balancing risk with growth. I like the midtiers because this is where the greatest growth is along with mitigated risk.

TGR: Hera also tells investors to take a 24- to 36-month time horizon.

DM: All markets move up and down, including the silver market. Investors have to take the long-term view of this market. There is still a major trend to the upside, but there’s going to be more volatility.

TGR: Hera tells investors to be greedy when others are fearful and be fearful when others are greedy.

DM: I was getting fearful while others were getting greedy when silver was around the $35/oz level on its way to $50/oz. I cautioned investors that if they had to buy silver at that level to only buy some because the market was temporarily overdone. I was getting a lot of blowback from even some of the better analysts for being too cautious. I called the top around $48/oz and I’m pleased with that call. In other words, looking from the perspective of this interview my call was a good one, yet you would not believe the flack I took from some in this business.

TGR: Hera also says, “No excuses.” If a company isn’t progressing, just get out.

DM: You have to hold every company’s feet to the fire. Ask what it plans to do next year and if it met its milestones last year. The idea is to strive to do everything it set out to, but if it can’t then it should report it honestly and move on.

I don’t really like the junior sector that much. There are a lot of companies that have gone by the wayside early in the junior mining cycle. There are still some good values out there, but it’s pretty tough to call these days.

TGR: He also advises that investors pay attention to value and don’t pay a premium to get on the bandwagon.

DM: I agree. For example, we did an update on Royal Gold Inc. (RGL:TSX; RGLD:NASDAQ) sometime ago that showed how valuable it was—even at an extended stock price. A well-known Wall Street stockbroker took the time to call me to say it was an over-the-top, great report. That stock has done extremely well while so many have not.

TGR: Hera also discussed the influence of inflation on real wealth. Given the hidden inflation in the market, he argues that to preserve or even grow wealth, investors have no choice but to seek higher gains of a minimum of 25% a year. What’s your perspective on it?

DM: Markets are volatile. They wax and they wane. The market is in a period of consolidation. Very few stocks are reflecting their true value. It’s a good time to gradually get into these stocks. They could go lower over the next few months, but they represent one of the best places to put money right now.

As far as what to expect in the future, let me just state that I agree with ShadowStats.com Editor John Williams’ prediction that we have 10% inflation. There will always be some dogs (stocks) that won’t move, but there should be some real gains in precious metals. If there’s truly 10% inflation, there could be 25% gains in a mining equity, which would be a 15% real gain versus the true inflation rate. Once the sector gets hot again, the gains could be huge.

Presently, stocks are undervalued, which means be greedy when everyone’s fearful. This is the time investors should be buying.

TGR: Some pundits are saying that the market’s going to go even lower before it heads higher. Do you believe that’s the case?

DM: I do, but to think that you can pick an exact bottom is an amateur’s game. A professional tries to get in and accumulate while the getting is good. I’m looking at December through perhaps as late as April.

TGR: If investors are trying to reach 25% returns per year, they’ve got to turn to the small-cap space.

DM: Not necessarily. First, to expect those returns every year is unreasonable. However, investors could make 17% a year just by holding a good company, like Royal Gold, and writing the options on it. The options writers win 85% of the time and the option buyers lose 85% of the time. An investor could rent a stock like that out to people that want to play the options game and smile all the way to the bank—even in a downtrending market.

TGR: Nonetheless, you have some speculative buys on a handful of small-cap silver plays.

DM: Of course. Nothing is more exciting than getting a speculation right. We had Western Copper before it was renamed Western Silver, and eventually bought out by Glamis. Glamis was eventually bought out by Goldcorp Inc. (G:TSX; GG:NYSE). When you get a 4,000% gain on something, you can’t help but smile.

We like some small caps. Silvermex Resources Inc. (SLX:TSX; GGCRF:OTC) is one that we’ve come back to. The stock did fairly well after our initial recommendation. Then we went into this financial situation that clobbered everything and Silvermex had to regroup. We sold it. We came back to it when it was very undervalued. I’ve done that on several companies.

TGR: Silvermex is down about 26% year-over-year right now. Is that just the market or is that fallout from the deal with Genco Resources Ltd.?

DM: It’s both. The Genco deal looks pretty good on paper, but the market is giving a different vote right now.

Sometimes persistence pays off in stocks, however. I’ll give you an example. We owned First Majestic Silver Corp. (FR:TSX; AG:NYSE; FMV:Fkft) for a very long time. We had it at $4/share, but it was under $4/share month after month. When that stock finally caught on it went like gangbusters. We could have missed a huge move in that stock if we weren’t persistent. Am I always right? No. Am I right on Silvermex? I don’t know yet. Does it look bad at this particular point in time? Yes, it probably does. But I know enough to know that there’s a strong probability that at some point the stock will catch up.

TGR: What’s your view of Silvermex’s management?

DM: It’s one of the better management teams out there. I know Mike Callahan, Silvermex’s president who was formerly an executive with Hecla Mining Co. (HL:NYSE). I also know Art Brown, who was also with Hecla. Silvermex has a strong board. They want to make this company viable. They have something to prove.

TGR: It’s trading at about $0.40/share right now. Is that a good entry point?

DM: We had it earlier than that, but it’s probably OK. Investors could slowly build positions between now and April to take advantage of any further market decrease.

TGR: You’ve done pretty well with some of the midtiers, too.

DM: Pretium Resources Inc. (PVG:TSX) stock is up 20% after it announced a much larger, higher-grade asset. We were into the stock at around CA$8/share. It’s well above CA$10/share, but it’s still undervalued. We love the management. Robert Quartermain has a proven track record. Investors see a stock move and they’re scared to buy it. That’s incorrect thinking. A lot of these stocks that make big moves make new high after new high. How else does a stock go from $5/share to $50/share?

TGR: Pretium is up about 45% so far in 2011. How much upside is left?

DM: I think there’s plenty left. Think about buying $1,000 worth of Coca-Cola stock in 1928. People worry about how much is left, but what if the stock goes up 500% or 5000%? You have to let the stock tell investors how much upside is potentially left. You don’t want to sell your winners. You want to sell your losers.

TGR: What other midtiers still have some upside?

DM: Tahoe Resources Inc. (THO:TSX) is a great company on my watch list with a lot of upside. It’s not very well known.

TGR: BMO Nesbitt Burns has a $26/share price target on Tahoe. It’s trading around $18/share now. Do you think that’s reasonable?

DM: I do, but I don’t like to use price targets because it’s a no-win situation. If it makes a target and it stops at that exact price, you’re a genius. If it’s under that or over that then you get nothing but flack. Do I think Tahoe is undervalued? Yes.

TGR: Tahoe is planning to produce about 316.9 million ounces of silver from its Escobal property in Guatemala over the next 18 years. Do you have any doubts that it will execute on that?

DM: There are always doubts in the mining industry. There’s jurisdictional risk in many South American countries. Am I confident that it’ll happen? No, not today. Investors should spread out geopolitically. It’s very important in today’s financial climate to expect the unexpected.

TGR: The company is run by Kevin McArthur, who was the president and chief executive of Glamis Gold, which was taken over by Goldcorp, and then headed Goldcorp. It’s hard to argue with that kind of track record.

DM: I’m not. You have to put a great deal of credence into that caliber of management. But the best management in the world in the wrong jurisdiction can have problems. Robert Quartermain is one of my favorite examples. He was involved in a project in Russia and got burned slightly.

TGR: Are there any other company stories you’d like to share with us?

DM: Prophecy Coal Corp. (PCY:TSX; PRPCF:OTCQX; 1P2:Fkft) is undervalued. Prophecy Coal was two companies. It’s a coal company, but it also had a platinum group metals company that was spun off. I still like the Prophecy Coal side.

It’s a long-term project with a lot of hurdles to overcome in the uncertain jurisdiction of Mongolia. However, I have been to Mongolia and met with some of the people heading up the project, which will be using the coal deposit to fuel a power plant. I got a pretty good feel for how serious they are. As a speculation, it’s one of the better ones.

TGR: Do you follow 49 North Resources Inc. (FNR:TSX.V) at all?

DM: Yes, it is on my watch list.

TGR: It’s a different kind of play. It’s a little like the Pinetree Capital model where it takes positions in companies involved in many different resources.

DM: What I like about that type of model is that it spreads risk out. These are run by professionals that know what they’re doing. That model is especially good for the retail investors who don’t have the time to understand what they’re buying. It’s a good way to play the market.

TGR: In a response to a readers’ inquiry about the frightening possibility of deflation, you replied, “I do see a deflationary scare and suggest you buy all the way through it—three to six months. These mining stocks are cheap, but could get cheaper. I do not see it as being as bad as 2008.” How bad do you see it getting?

DM: The mining equities market could drop another 10%. But it’s possible that the current market is as bad as it gets. I do not see the financial crisis of 2008 repeating in 2012. But something needs to be done that’s going to really strengthen the financial markets and confidence in the system on a global basis. If that isn’t done, I expect 2008 or worse to repeat at some point. But, again, I don’t think that will happen for a couple of years.

TGR: Thanks for taking the time to share with us.

David Morgan (Silver-Investor.com) is a widely recognized analyst in the precious metals industry and consults for hedge funds, high-net-worth investors, mining companies, depositories and bullion dealers. He is the publisher of The Morgan Report on precious metals, author of Get the Skinny on Silver Investing (Morgan James Publishing, 2009) and featured speaker at investment conferences in North America, Europe and Asia.

Deflation Is Coming: Jay Taylor

By The Gold Report, on December 7th, 2011

Jay Taylor believes the biggest challenge facing the U.S.—deflation—could mean a better year, or even decade, for junior gold stocks. Taylor, editor of Jay Taylor’s Gold, Energy & Tech Stocks, has ridden some equities to the bottom of this punishing market and is ready to pile more cash into small gold companies. In this exclusive interview with The Gold Report, he explains why market sentiment hasn’t shaken his faith.

The Gold Report: In the Nov. 4 edition of Hotline, you note that America’s ratio of debt to gross domestic product (GDP) is north of 350%. Our total debt as a society is somewhere around $57 trillion (T). That’s worse than Greece. Is deflation America’s biggest economic threat?

Jay Taylor: I believe it is, however, most of my goldbug friends wouldn’t agree. It is important to realize that the U.S. is not a third-world country. It still has the world’s reserve currency. The central bank, the Federal Reserve, doesn’t put money into the hands of the masses. It puts money in banks. It’s all about credit extension. That is very difficult to do now. With the debt-to-GDP ratio as it is, it’s unsustainable. The markets are telling us that—not only in the U.S., but clearly in Europe as well. We are undergoing one of the largest debt-deleveraging periods in a long time, which may be much larger than what we went through in the 1930s.

TGR: You believe there should be no more bailouts, let this debt wrench itself out of the system and let bankruptcies occur.

JT: Absolutely. Most people don’t understand the reason we’re in trouble is because the good times that we had were false. They weren’t based on savings and investment. They were based on money creation through credit extension. The nice homes, the big office buildings, fancy cars, everything—it wasn’t earned, it was based on debt. Now that the debt cannot be repaid, the expansion goes into a contraction. That process has a long way to go.

TGR: Bob Prechter of the financial forecasting firm Elliott Wave International is predicting that gold and silver “should decline in conjunction with the stock market selloff. Gold should work down toward $1,300 an ounce (oz), while silver should fall into the low $20/oz area.” What’s your position?

JT: If you believe that we’re in a deflationary environment, the nominal price of gold could go down and the purchasing power of it could go up a lot. The real price of gold is most important for gold mining companies. Before the Lehman Brothers failure in July 2008, an ounce of gold would have bought only 17% of the Rogers Raw Materials Fund. It rose to 44% by March 2009, but came back a bit to 30%. It was recently up to a new high of 47.5%. Gold’s purchasing power is rising much more dramatically than its nominal price. Gold has fallen off its highs and is around $1,700/oz. As Ian McAvity has said, an ounce of gold is an ounce of gold. A barrel of oil is a barrel of oil. What is a dollar? It’s a meaningless measure because Federal Reserve Chairman Ben Bernanke can create trillions of dollars out of thin air.

TGR: Silver’s purchasing power on the Rogers Raw Materials Fund hasn’t experienced quite the same gain. In June 2008 it was just below 1%. Now it’s just below 3%.

JT: Silver has done very well, but it’s much more volatile. It has outperformed gold in general since Lehman Brothers’ collapse, however.

TGR: The International Monetary Fund (IMF) has agreed to throw the Eurozone countries a lifeline of about $0.5T. Will that be enough?

JT: My view on Europe is the same as on the U.S.—the kindest, gentlest thing to do would be to allow the debt to implode immediately. We’re allowing sick entities to survive and eat up resources. It’s contrary to free market capitalism. It’s really fascism. Large corporate interests are being protected because of their cozy relationships with government. A half trillion is not going to be enough. Where does the IMF get its money? Is the U.S. going to be asked to pony up more money for Europe? Probably. Are they going to sell the rest of the gold they have? Perhaps. That’s what the Soviet Union did before it collapsed.

TGR: You’re biased toward credit market deflation, but you continue to be partial toward gold and gold mining stocks. What are the reasons for that?

JT: Margins are widening. There is an explosion of profits for major mining companies in production before 2008: Agnico-Eagle Mines Ltd. (AEM:TSX; AEM:NYSE), AngloGold Ashanti Ltd. (AU:NYSE; AU:JSE; AGG:ASX; AGD:LSE), Barrick Gold Corp. (ABX:TSX; ABX:NYSE), Goldcorp Inc. (G:TSX; GG:NYSE), Kinross Gold Corp. (K:TSX; KGC:NYSE), Newmont Mining Corp. (NEM:NYSE) and Yamana Gold Inc. (YRI:TSX; AUY:NYSE; YAU:LSE).

In 2008, those companies recorded $5.77 billion (B) of earnings collectively. In 2009, that jumped to $7.05B. In 2010, it jumped to $13.62B. The analyst consensus is that it’s going to go to $20.22B in 2011 and $28.28B for 2012. Margins have increased in this deflationary environment because the real price of gold has risen relative to the cost of mining it.

Bob Hoy, a technical analyst in Vancouver, figures we are in the sixth large credit contraction in the last 300 years. In every case, the real price of gold has risen over 15 to 20 years. The real price of gold started to rise in 2007. We could be in the early days of a super bull market for gold mining shares.

TGR: Those majors probably average $500/oz in cash costs. However, you have a buy rating on small Australian producer Crocodile Gold Corp. (CRK:TSX; CROCF:OTCQX), which just reported a loss of about $6 million for the quarter. Its cash costs are above $1,400/oz and its stock is down about 80% this year. Why on earth would you still have a buy rating on Crocodile Gold?

JT: I believe in the long-term prospects of this company. It’s had a lot of problems. Its costs were $250/oz higher than projected this year because of lower-than-expected grades from its open-pit projects. Clearly, that’s a black eye for management because something went wrong. But I still believe that this company has extraordinary exploration potential and will get costs under control.

TGR: For example, silver producer Great Panther Silver Ltd. (GPR:TSX; GPL:NYSE.A). As of Nov. 18, it was up 355% since you took your initial position. Great Panther is down almost 20% this year despite a strong Q311, however. What’s your outlook for Great Panther?

JT: Its decline is in line with the general market decline. It keeps improving on a fundamental basis and expanding its resource. It’s a fine operation that’s earning money.

TGR: What other smaller gold and silver miners are you interested in?

JT: My favorite might be Sandstorm Gold Ltd. (SSL:TSX.V), which is a royalty play. It has one of the best looking charts in a horrible market. Sandstorm provides the capital to get companies into production and then it gets a royalty. It usually gets the chance to buy maybe 15% or 20% of a project’s production for the life of that project at cost. It has several properties that are producing now. Its projects are getting bigger and production is growing. This is a company that’s going to continue to earn more and more very rapidly. There are fewer risks involved in this model than if it was an operator, too.

TGR: Its production forecast for this year is from 16–18 thousand ounces (Koz). However, that will increase to more than 50 Koz by 2014. That’s certainly strong growth.

JT: The gold price, where it is relative to the cost of mining and the expansion of production, means that earnings are going to grow very rapidly, if not exponentially.

TGR: Do you think that too many royalty plays kill the goose?

JT: That could be the case. With increased competition, they might be paying too much for the deals that they strike. However, I’m not concerned about that with Sandstorm at this point. Royalty plays, like Sandstorm, Silver Wheaton Corp. (SLW:TSX; SLW:NYSE), Royal Gold Inc. (RGL:TSX; RGLD:NASDAQ) and others, generally sell at much higher multiples than mining companies because there’s less risk involved. An operator can have any number of things go wrong and have to put in more capital to get things moving again.

TGR: It’s more of a matter of vetting these projects and being sure the geological model works and the metallurgy is good.

JT: Yes. I have a high regard for the management of Sandstorm. They’re really sharp. They get involved in projects that have enormous upside potential. It’s not just the ounces that might be in a bankable feasibility study. They look at the exploration potential and the expansion of production, too.

TGR: Let’s move down the food chain to the explorers. The portfolio scorecard in each edition of Hotline doesn’t paint a very kind picture of gold and silver exploration plays lately.

JT: Nope, not this year.

TGR: As of Nov. 18, only 8 of 50 exploration companies on that list, or 16%, were up: American Bonanza Gold Corp. (BZA:TSX), Metanor Resources Inc. (MTO:TSX.V), Prodigy Gold Inc. (PDG:TSX.V), Aurvista Gold Corp. (AVA:TSX.V), Meadow Bay Gold Corp. (MAY:TSX.V; MAYGF:OTCQX), Pretium Resources Inc. (PVG:TSX), Nautilus Minerals Inc. (NUS:TSX) and Rye Patch Gold Corp. (RPM:TSX.V; RPMGF:OTCQX). You still have buy ratings on the other 42 companies, however. Why are you still recommending small-cap companies exploring for precious metals?

JT: I believe in the sector. I can’t explain why the markets have treated the sector badly this year. The majors’ profits are up very sharply, yet the share prices haven’t even begun to keep up. It tells me that most of the players in the equity markets don’t recognize this as a gold bull market and they don’t see the potential for turnaround. They don’t realize, as Bob Hoy points out, that there’s probably another 15 years to go.

Gold is going to be strong for a long time because the financial sector, deleveraging and the loss of confidence in fiat money is going to keep the real price of gold and real earnings high. I told my subscribers when things started to turn that they should build some profits and keep some cash on the sidelines because the entire sector is likely to decline in price along with the general market.

The gold sector is being hurt badly and that’s an extraordinary opportunity. Why would I sell companies that I believe in even if, like Crocodile Gold, they’ve lost 80%? It would be a stupid time to sell. It would be a great time to take some of that cash that I suggested investors put aside and start to buy some of these companies as they decline. I don’t see any reason to jump ship now because I believe so firmly in the fundamentals of this industry.

TGR: The biggest gainer on the list of the companies that are up this year is American Bonanza Gold. It’s up about 70% this year, but about 232% since you took your initial position. Why is that junior performing so well?

JT: It’s on the verge of production at the Copperstone gold mine in Arizona. There were a lot of skeptics and the stock was extremely cheap. The costs are very low. It’s not a big mine and the production levels are fairly small, but it has really good exploration potential that can be built into a much bigger mining operation over the long term.

TGR: When is initial production expected?

JT: I believe in Q112.

TGR: American Bonanza should be generating some cash flow at that point.

JT: It should, with the caveat that more often than not startup operations have some kinks to work out. However, this was a previously producing mine. That reduces some of the metallurgical risk and other risks of a new startup. I’m confident it’s going to get the job done.

TGR: You recently interviewed management from Merrex Gold Inc. (MXI:TSX.V; MXGIF:OTCQX), which is not doing too badly this year. What did you learn about Merrex?

JT: Merrex is exploring the Siribaya deposit mine in Mali with IAMGOLD Corporation (IMG:TSX; IAG:NYSE) as its 50% joint venture partner and largest shareholder. IAMGOLD is there because it believes this is going to be a multimillion ounce deposit. And IAMGOLD is committed—it spent about $10 million to earn a 50% interest.

It has about 460 Koz from a relative high-grade open pit at a quarter grams per ton. However, that’s based on less than 5% of the total strike length of two major zones, plus another zone was discovered, too.

Moreover, some of the assays recently from the south end of the zone that was drilled have been much higher grades. The average grade may be even higher than 2.25 grams.

The only real downside is that the company has to rely on diesel fuel for now. There’s some vulnerability to spiking oil prices.

TGR: IAMGOLD is effectively using Merrex as an exploration arm.

JT: IAMGOLD is the operator of the project. It has a joint committee that decides on the strategy and drill programs. In fact, one of the management members of Merrex who I was with in Switzerland was going to Toronto on his return to talk to IAMGOLD about the next drill program.

TGR: You also have a buy rating on Calico Resources Corp. (CKB:TSX.V; CVXHF:OTCQX), which is drilling the Grassy Mountain gold project in Oregon. Oregon is generally not considered the most mining-friendly state. Why does Calico make your scorecard with a buy rating?

JT: Washington is probably considered one of the most difficult states in the country for mining. California had been very difficult, but it’s getting tougher everywhere. Calico management discovered by doing research that Oregon is no more difficult than any other Western state.

Politicians with common sense know the local people want jobs. Where are the jobs going to come from? Mining is a wealth-creating activity. It’s not going to be easy. Getting permits moved through the pipeline can be difficult, but I have confidence in the management team at Calico led by Chairman Buck Morrow, for whom I have a high regard.

Grassy Mountain was worked on during the last gold bull market. The potential there is extraordinary. It has gotten some really nice assays back.

TGR: What are some other precious metals explorers that you’re following closely and remain excited about?

JT: I love Rye Patch Gold in Nevada. It has 3.1 million ounces (Moz) gold, but it has 3.9 Moz gold equivalent including silver. Rye Patch clearly has a shot at building something much bigger than that with its good management and miniscule market cap.

I also like Metanor Resources a lot. Since Sandstorm provided capital, the company has been focusing on its underground Bachelor Lake mine in Le Sueur, northeast of Val d’Or, Québec. Bachelor Lake is going to be put into production within the next six months to a year. It should do very well with that. It also has the Barry deposit, which has the potential to be a very large deposit similar to Osisko Mining Corp. (OSK:TSX).

Québec is one of the best provinces in which to run, explore and develop projects. Aurvista Gold in Québec has 2 Moz and huge exploration potential. Pretium Resources also has a huge deposit up there next to Seabridge Gold Inc.’s (SEA:TSX; SA:NYSE.A) gold-silver deposit. Pretium is headed by Bob Quartermain and a very strong management team. It’s actually been one of the winners this year.

TGR: Do you have any parting thoughts?

JT: It’s painful sitting with stocks in this kind of a market, but that’s the nature of the beast. You hold a junior mining company and all of a sudden it takes off. You just don’t know when. You have to believe in the fundamentals of the story and the chance to come up with something big. A couple of times I’ve walked out of a stock and a day or two later the company made a great discovery—that is really painful.

TGR: How would you respond to someone like Rick Rule who says it’s not about the 80% you lost, it’s about what you do with the 20% that you have left?

JT: I suppose that’s right. Rick is a very conservative investor. He really likes to buy stocks when they’re cheap. He’s a very disciplined trader. You want to protect that 20%. When you get a market that’s on the upside, you can make that 80% back very quickly if you’re in the right stocks.

Of course, I’d never recommend that investors back up the truck and bet the farm on any one company. I have a lot of companies on my list because I believe in diversification. These little penny mining companies, the miniscule market-cap companies, can be tenbaggers in a hurry if they’re successful. Whenever you invest in a deal, you can lose 100%, but you can’t lose 1,000%. The upside is limitless.

With 20/20 hindsight I should have sold everything and waited until now to buy, but I didn’t know for sure how the markets were going to treat gold stocks this year. But I’ve been telling investors to build some cash for this kind of environment. Now is the time to be buying.

TGR: Thank you.

As he followed the demolition of the U.S. gold standard and the rapid rise in the national debt, Jay Taylor’s interest in U.S. monetary and fiscal policy grew, particularly as it related to gold. He began publishing North American Gold Mining Stocks in 1981. In 1997, he decided to pursue his avocation as a new full-time career—including publication of his weekly Gold, Energy & Tech Stocks newsletter. He also has a radio program, “Turning Hard Times Into Good Times.”

European Bank Runs And Underestimated Physical Gold Demand

By Trace Mayer, on December 6th, 2011

The demand for gold is vastly underestimated. About 18 months ago I wrote about Euro Gold and the Euro Zone and Euro Evaporation Leading To Credit Default Swaps and IMF Gold. One key excerpt was:

The Euro is broken. This was its destiny. This is the destiny of all fiat currencies. These bureau-rats cannot stop this anymore than Cnut the Great could command the tide to halt.

And here we are.

THE GREAT CREDIT CONTRACTION

The Great Credit Contraction has been in relentless advance for years. This is a massively deflationary period as capital, both real and fictitious, burrows down the liquidity pyramid into safer and more liquid assets. The fictitious capital that does not move fast enough evaporates. Poof goes trillions of wealth!

In the Information Age bank runs happen with the click of a mouse and not lines outside the physical branches.

FRACTIONAL RESERVE BANKING

Fractional Reserve Banking is the banking practice in which banks keep only a fraction of their deposits in reserve (as cash and other highly liquid assets) and lend out the remainder while maintaining the simultaneous obligation to redeem all these deposits upon demand.

Fractional reserve banking occurs when banks lend out any fraction of the funds received from demand deposits. Despite being a form of embezzlement and fraud this practice is universal in modern banking.

This mismatch between time, borrowing short-term and lending long-term, is what creates the potential for a bank run. But an even larger looming problem lurks in ‘cash and cash equivalents’. Yes, those pesky Tier I, II and III distinctions.

As a bank’s assets evaporate their ability to make new loans, even extremely short-term loans like overnight, becomes impaired. When an entire banking system knows that all the major players have assets on their balance sheets, assets which are not accurately priced or accounted for, then there is an extreme reluctance to lend.

This is what happened when Lehman Brothers evaporated. The credit markets seized up. People acting in their own self-interest according to principles of praxeology moved into safe and liquid assets and refused to lend.

Liquidity dried up overnight. Mortgage backed securities, auction rate securities and plenty of other assets which had for decades been treated as ‘cash equivalents’ were suddenly shunned. The bid evaporated from a loss of confidence, the prices plunged, investors were snookered and bank balance sheets were massively damaged.

The gears of industry are seizing up.

EUROPE’S WORTHLESS BANK DEPOSITS

The European banks have balance sheets with trillions of Euros in value recorded but assets which every rational non-ignorant person knows are severely impaired. The credit markets are freezing, trust is evaporating and as a result liquidity is drying up.

Sure, the central banks of the world have joined in a massive illegal effort to lubricate the system but it will fail. Years ago when QE1 was announced I wrote The Federal Reserve Will Fail With Quantitative Easing. They are still failing just on a grander scale.

To recapitalize and lubricate the European banking and financial system would take at least €25 trillion and maybe upwards of €100 trillion. The failure is a mathematical certainty. The gears of industry are seizing up.

The Greek and Italian democracies were assassinated by banksters Lucas Papademos, Mario Monti and Mario Draghi who will attempt to prolong the failed banking and financial system by privatizing the gains and socializing the losses with inflationary tactics and bailouts in a vain attempt to prevent the credit liquidation. They will only succeed in prolonging and exacerbating the necessary correction.

What holders of capital should understand is that European bank balance sheets are caught in an unrecoverable credit contraction spin, the appropriate emergency maneuver is to Run To Gold and only a few will make it with their purchasing power intact.

The vast majority of assets will become charred wreckage as their purchasing power evaporates into worthlessness. Sure, there may be a few near miss recoveries between now and the ultimate failure but why take the risk?

LATENT GOLD DEMAND

There is massive latent gold demand as a ‘cash or cash equivalent’ asset. Why should a holder of capital store their wealth in bank deposits with counter-party risk when they can completely eliminate it by moving into unencumbered physical gold bullion?

Plus, by moving into physical gold bullion they eliminate the risk associated with fiat currency becoming worthless through the deflationary event called hyperinflation. Really, hyperinflation is just the next step in The Great Credit Contraction after capital has moved almost entirely down the liquidity pyramid.

The money managers allocating trillions of FRNs, Euros, Yen, etc. have not even begun moving into the monetary metals. In most cases it is only beginning to become acceptable to speak of them. Some fallaciously argue there is not enough gold to go around.

Sure, there is enough gold for it to be used as the world reserve currency but it is only a matter of price. A price that Jim Rickards argues the case for in Currency Wars of being between $8,000 and $54,000+ per ounce.

CONCLUSION

The European banking and financial system is imploding before our eyes in a massive credit contraction which is just the latest wave in The Great Credit Contraction. The European banks are in an unrecoverable deflationary spin. There is only one acceptable emergency recovery procedure and that is to Run To Gold.

Because so few have, therefore, the real gold demand is completely hidden and obscured from view. It will come when people lose confidence in the current banking and financial system by turning to and using alternatives that do not possess the same kinds of risks. In the Information Age bank runs happen with the click of a mouse and not lines outside the physical branches.

DISCLOSURES: Long physical gold, silver and platinum with no interest in DOW, S&P 500, the problematic SLV ETF, gold ETF or the platinum ETFs.