The Gold Report: Cash has flown out of gold funds and into non-gold equities during this bear run in gold. What's the current Gabelli Gold Fund pitch to investors?
Chris Mancini: Gold should be a long-term allocation to everyone's portfolio. Owning gold is an insurance policy against the malfunctioning of the world's monetary system. The current actions of the world's central banks are unprecedented. Any investor who is unsure of the ultimate outcome of these actions should have a larger percentage of his or her portfolio in gold.
We recommend that investors have a certain portion of that gold allocation in gold stocks. Gold stocks provide income, accretive growth and "optionality." That optionality is gold in the ground at a discount. Right now investors can buy gold in the ground, in some cases, at less than $100 per ounce ($100/oz) and if gold goes to $2,000/oz then they could see that optionality manifest itself in a big increase in the price of the stock.
TGR: So it's possible to have security and performance in the same fund?
CM: If you pick the right stocks and have that optionality and gold goes up, the performance of the fund will be really good. By the same token, if gold goes down and you own some of these stocks, the price of the fund will most likely go down. In owning a gold fund like ours investors are getting exposure to gold and leverage to a move in the gold price.
TGR: Gold witnessed modest safe-haven and inflation-hedge demand in June after U.S. Federal Reserve Chairman Janet Yellen said that low interest rates are here to stay. Should gold investors expect anything more than a temporary upward trend in gold prices?
CM: That depends on the expectation in the markets of where real interest rates are going. Yellen stated that interest rates would be lower for longer but that was coupled with data that showed that inflation in the United States could be accelerating. That shows that real interest rates might become more negative than they are now. And that means that holding cash is a money-losing proposition because cash is losing purchasing power. If interest rates become more negative, that will be positive for gold and it won't be a temporary phenomenon.
TGR: What's your price target for gold through the end of 2014?
CM: We don't have one. Our view is that the price of gold is going to be higher at the end of 2014 than it is now. And it's going to be higher in 2015 than it will be in 2014 and we're positioning the portfolio to take advantage of that.
TGR: What impact have redemptions from gold exchange-traded funds (ETFs) had on the gold price?
CM: Last year 900 tons came out of gold ETFs and it was a huge contributing factor to the price of gold declining by 27%. Total annual gold demand is roughly 4,200 tons so if the supply from ETFs goes to neutral then the supply/demand balance this year should shift in the other direction. This year we've seen a tiny negative outflow from ETFs, but they've been pretty flat. Inflows into ETFs would be a big positive for the price of gold.
TGR: How do the inflows and outflows in your fund compare with 2013?
CM: At the beginning of 2014 we had inflows into the fund, and then they flattened out. When we had the big one-day pop in the gold price in June when gold went up $44/oz, we actually had outflows from the fund. That might be telling us that we have some people who are playing gold for a quick bounce and aren't looking at gold from a long-term perspective.
TGR: A recent Gabelli Gold Fund report suggests that Russia may want to diversify its foreign exchange holdings and could look to gold.
CM: Russia has around $500 billion ($500B) of foreign exchange reserves in the form of U.S. dollar treasuries and euro denominated bonds, largely German, French and some other smaller European country bonds. If there is further geopolitical unrest in or around Russia and increased rhetoric from countries like the United States, Germany, and France meant to impede Russia from taking action in places like Ukraine, Russia might get the sense that the United States and other countries in NATO might impose financial sanctions on Russia.
If broad financial sanctions are placed on Russia, then there could be a question as to whether Russia would be repaid by the countries that they've lent money to. In a new Cold War scenario, you would think that Russia would want to diversify out of the bonds of those countries and into something else. What else is there? Gold is an answer. Gold is no one's liability.
TGR: Where is China in the gold demand picture?
CM: Chinese consumers are the largest buyers of gold in the world. That's related to their fear of holding their currency in the bank or holding it in their mattress. There's a significant amount of inflation in China, so real interest rates are negative. It behooves the Chinese to diversify out of cash, which is losing its purchasing power. Holding gold is a way to insure against inflation or some kind of issue with the Chinese banking system.
China has around $3.7 trillion of foreign currency reserves. The People's Bank of China also might want to diversify. If China were to diversify 10% of its foreign currency reserves, $370B, that would be a huge amount of gold to buy, or roughly 3.5 years of the world's total mined supply of gold.
TGR: A significantly higher gold price would float all boats. But until that happens, what's your method for picking gold stocks?
CM: We try to own the companies that can survive and even benefit from this downturn and then prosper in the upturn. We look for companies that have good assets, good management and a good valuation. Good assets alone should allow the companies to survive; their management teams should help them prosper. We're looking to buy these companies at reasonable prices.
TGR: Do you visit mines and mining projects?
CM: Yes. I was recently in Quebec's Abitibi region where I visited Agnico-Eagle Mines Ltd.'s (AEM:TSX; AEM:NYSE) Goldex and LaRonde mines, and a couple of others.
TGR: Will Agnico ever recoup its capital costs at Goldex after the mine's underground instability issues?
CM: Probably not its initial capital costs. Agnico should be able to produce 100,000 ounces (100 Koz) a year for a few years at an all-in cost of around $1,000/oz. To get those ounces the company had to spend $80–100 million ($80-100M). It will more than recoup that incremental investment. The company has done a good job of making the best of a bad situation.
TGR: Ore from the Goldex mine won't last long. There are a handful of explorers working in the area. Do you think Agnico has eyes for one or two?
CM: We own a very small position in Alexandria Minerals Corp. (AZX:TSX.V), which just sold the Akasaba property to Agnico for $5M. Agnico is talking about open-pit mining Akasaba, with the low-grade ore being processed in the Goldex mill. Agnico is in the driver's seat relative to the explorers now because Alexandria needed capital and Agnico had capital to deploy. Agnico got that project at a really good price.
TGR: What else did you visit in the Abitibi?
CM: I also visited AuRico Gold Inc.'s (AUQ:TSX; AUQ:NYSE) Young-Davidson mine, and Primero Mining Corp.'s (PPP:NYSE; P:TSX) Black Fox. The big thing to take away from the Abitibi is that it is a mining region. There are families there who have been mining for generations.
TGR: What were your impressions of Black Fox?
CM: There's a lot of exploration potential there at depth. That mine was undercapitalized when Brigus Gold owned it. Primero has a lot of underground development work to do to get production up to 1,000 tons per day (1,000 tpd). Once it does, there is potential to go beyond that level. To go beyond 1000 tpd, Primero must first find more gold at depth and then develop underground. The company has the capital and it has committed to explore at depth to try to unlock that potential.
TGR: What stood out at AuRico's Young-Davidson?
CM: The ore body is similar to Goldex and is amenable to low-cost bulk mining but the grade is a lot better than at Goldex. It's a wide ore body with big stopes, so the company has put the infrastructure in place to allow the deposit to be mined cost effectively. The production shaft has been sunk; development work in the upper mine is mostly complete. AuRico's goal is to go from 2,700 tpd to 4,000 tpd, and then eventually to 8,000 tpd once the lower mine is fully developed.
TGR: Young-Davidson produced about 120 Koz last year and AuRico has issued guidance that could be as high as 160 Koz in 2014. Is that realistic?
CM: Yes, that's realistic. The ultimate goal is to get to around 230 Koz/year on a sustainable basis. Once AuRico gets there unit costs should decline to below $500/oz from around $700/oz because to get that incremental tonnage it won't have to add as many underground miners. The mine should reach full capacity by the end of 2016.
TGR: What are some other equity positions currently held by your fund?
CM: One that we've been buying recently is Mandalay Resources Corp. (MND:TSX). That's a company that is taking advantage of the downturn in the gold price. It has two mines that are generating cash flow. One is an epithermal vein system in Chile, the other is an underground mine in Australia. The company has done a good job of adding to the life of both mines through drilling. Mandalay recently bought a project from Silver Standard Resources Inc. (SSO:TSX; SSRI:NASDAQ), another epithermal vein system in northern Chile. And a couple of weeks ago Mandalay announced a friendly deal to buy Elgin Mining Inc. (ELG:TSX), which owns the Björkdal gold mine in Sweden.
TGR: Was that a good deal?
CM: I think so. This is an undercapitalized mine in Sweden that has a lot of exploration potential. If Mandalay gets the mine up to production capacity and then creates value through the drill bit again, we will look back on that as a good deal.
TGR: What else are you buying?
CM: Another one that we bought recently is Virginia Mines Inc. (VGQ:TSX). Virginia has a royalty on what should be one of the best gold mines in the world—Goldcorp Inc.'s (G:TSX; GG:NYSE) Éléonore deposit in northern Québec. It will become a high-grade, bulk-tonnage underground mine in a great jurisdiction with a lot of exploration potential on the entire land package. The gold deposit is getting bigger at depth and Goldcorp could find another economic deposit on the property. Virginia's royalty would be attractive to any of the gold mining royalty companies, including Franco-Nevada Corp. (FNV:TSX; FNV:NYSE) or Royal Gold Inc. (RGLD:NASDAQ; RGL:TSX). Even if Virginia chooses not to sell, the royalty will generate lots of cash flow. Hopefully, the company will pay dividends, too. Then there is the potential that Virginia finds something else that's minable.
TGR: How is Virginia putting its royalty cash to use?
CM: It has the Coulon base metals project that it believes has a very good chance to be feasible. Virginia is trying to define that project more completely and put economics around it so that it could eventually become a mine or perhaps another royalty stream. Virginia is one of the best explorers in northern Québec's James Bay region.
TGR: What are some other small-cap gold equities that the Gabelli Gold Fund owns?
CM: We own Comstock Mining Inc. (LODE:NYSE.MKT). Comstock is primarily an exploration company, but it did a good job of bringing its Lucerne project into production so that it could weather this downturn relatively well. The company should be cash flow positive from Lucerne while it explores and defines the Dayton deposit in Nevada—still one of the most prolific gold and silver bearing regions in the world. We're waiting to understand the economics of the company's total mineral inventory in the region before taking a larger position.
Last year Comstock mined around 20 Koz gold. It should increase to around 40 Kt this year, but the real key is the economics around the millions of ounces that Comstock has found in the district. Can Comstock become a 200 Koz heap-leach producer in a great jurisdiction with some underground exploration potential? This is the Comstock Trend in Virginia City, just south of Reno, that was mined in the 1800s. The city of San Francisco was essentially built from the cash that was generated from the Comstock mine.
TGR: Do you have other positions in equities with projects in Nevada?
CM: We own Newmont Mining Corp. (NEM:NYSE) and Barrick Gold Corp. (ABX:TSX; ABX:NYSE). A lot of the value of those two companies is in their Nevada operations. I think Newmont and Barrick should merge and then spin off their combined Nevada operations into what would be one of the biggest gold mining companies in the world. Call it Nevada American. It would be huge. The market would love it.
TGR: What are some sub-$1 billion market-cap names that you are buying?
CM: We've been buying Midas Gold Corp. (MAX:TSX). Midas has a very good asset and very good management. Golden Meadows is a multimillion-ounce deposit in Idaho with an antimony byproduct credit. It should be a long-life, low-cost operation once built. If and when the gold price does turn around, that's the type of deposit that the major producers will want to own. There's a lot of exploration potential there, too.
TGR: What steps is Midas taking to develop Golden Meadows?
CM: Midas has some cash on its balance sheet and is focusing on optimizing the deposit; it's no longer drilling. It is getting the permitting process started. Once the gold price goes up, the value in the Golden Meadows project should become more and more apparent to the market and the stock should do well.
TGR: Some of your largest positions are in royalty companies. Tell us about those.
CM: Our second biggest position is Franco-Nevada. We also have big positions in Royal Gold and Silver Wheaton Corp. (SLW:TSX; SLW:NYSE). I mentioned Virginia, and we also own Osisko Gold Royalties Ltd. (OR:TSX), a spinout from the Osisko takeover by Agnico-Eagle Mines and Yamana Gold Inc. (YRI:TSX: AUY:NYSE). These companies are perfect examples of being able to survive the downturn and benefit from it.
Franco-Nevada, for example, purchased a royalty on Midas Gold's Golden Meadows project. Midas needed some cash so Franco-Nevada bought a royalty on the property for $15M. Midas survives because it has a very good asset. Franco benefits by getting a royalty on what could ultimately be one of the best gold mines in the world. Franco, Royal Gold and Silver Wheaton are taking advantage of the downturn. And when the gold price turns around, these companies will be generating more and more free cash flow.
TGR: What are some royalties that give Royal Gold and Silver Wheaton leverage to a dramatic rise in the gold price?
CM: Both companies have royalties on Barrick Gold's Pascua-Lama gold-silver-copper project on the border of Chile and Argentina. Royal Gold has a sliding scale royalty that at this gold price would be 5.23% on the gold on the Chilean side of Pascua-Lama, whereas Silver Wheaton has a stream on 25% of the silver.
It would cost another $4B for Barrick to build Pascua-Lama, even if it gets the environmental permit and green light from the government, but at $1,300/oz gold and $21/oz silver the project is not viable. Once it's built it should produce 800 Koz/year gold at zero dollar cash costs (after silver byproduct credits) and should have a 20-year mine life. It's a great project at a higher gold price.
Both companies also have royalties on Peñasquito in Zacatecas, Mexico. Peñasquito is Goldcorp's biggest mine and it is currently mining a higher-grade portion of the mine. The mine also has underground potential.
Royal Gold can benefit if Goldcorp brings a copper circuit into production because it gets a portion of revenue from all metals produced. If precious metals prices go up, both companies will immediately start accruing lots of cash flow from those royalties.
TGR: What about some small gold and silver explorers that you either have positions in or that you're following?
CM: We like Eastmain Resources Inc. (ER:TSX). Eau Claire, its primary asset, is just south of Goldcorp's Éléonore deposit in the James Bay region. Eau Claire is a high-grade deposit that could be mined using open-pit methods. The defined resource in the open pit is small, but the company has been conducting exploration drilling for two years and should publish a new resource on that deposit by the end of the summer. Eastmain could define a deposit that has over 1 Moz gold at relatively high grades—more than 4 grams per ton. The company hopes it can delineate a deposit that can produce 100 Koz/year for 10 years at relatively low cash costs. There is also greenfields potential in Eastmain's land package and the company has had some good high-grade intercepts at depth. It's virgin territory in terms of exploration.
TGR: How about a silver play before we let you go?
CM: We own MAG Silver Corp. (MAG:TSX; MVG:NYSE) and we have owned it for a while. Its Juanicipio deposit is a great asset in Zacatecas, Mexico. I visited the Fresnillo Plc (FRES:LSE) silver mine and saw the Juanicipio drills spinning up on the ridge from Fresnillo's Saucito mill. The deposit is a very high-grade epithermal vein system with further exploration potential.
Fresnillo has been mining in the Zacatecas region for decades. There's almost zero risk with building the Juanicipio mine because Fresnillo is the majority partner. It should generate lots of cash once it is up and running. MAG Silver also has exploration potential in its Cinco de Mayo project in northern Mexico where the goal is to define another economic silver deposit. It's nice to have a good asset and management that has proven that it can add value.
TGR: What's one thing a gold investor should know about the current market?
CM: The best thing to keep in mind is that even though this market is extremely volatile, you're in it for the long term. It was very volatile to the downside last year; so far this year it's been volatile to the upside. Don't lose hope or exit on a quick run up. You're getting insurance at a relatively cheap price by owning gold and gold mining companies.
TGR: Buy and hold still works?
CM: Yes, if you have the stomach for it.
TGR: Thanks, Chris.
Chris Mancini is a research analyst for the Gabelli Gold Fund, specializing in precious metals mining companies. He has over 15 years of investment management experience, including research analyst positions at Satellite Asset Management and R6 Capital Management. Mancini earned a bachelor's degree in economics with honors from Boston College and is a holder of the CFA designation.
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1) Brian Sylvester conducted this interview for Streetwise Reports LLC, publisher of The Gold Report, The Energy Report, The Life Sciences Report and The Mining Report, and provides services to Streetwise Reports as an independent contractor. He owns, or his family owns, shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of Streetwise Reports: Comstock Mining Inc., MAG Silver Corp., Mandalay Resources Corp., Primero Mining Corp. and Virginia Gold Inc. Goldcorp Inc. and Franco-Nevada Corp. are not associated with Streetwise Reports. Streetwise Reports does not accept stock in exchange for its services.
3) Chris Mancini: I own, or my family owns, shares of the following companies mentioned in this interview: Agnico-Eagle Mines Ltd., AuRico Gold Inc., Goldcorp Inc., Franco-Nevada Corp., Royal Gold Inc., MAG Silver Corp., Comstock Mining Inc., Barrick Gold Corp., Osisko Gold Royalties Ltd. and Eastmain Resources Inc. I personally am, or my family is, paid by the following companies mentioned in this interview: None. My company has a financial relationship with the following companies mentioned in this interview: None. The Gabelli Gold Fund holds the following companies: Agnico-Eagle Mines Ltd., AuRico Gold Inc., Goldcorp Inc., Franco-Nevada Corp., Royal Gold Inc., MAG Silver Corp., Comstock Mining Inc., Barrick Gold Corp., Osisko Gold Royalties Ltd., Eastmain Resources Inc., Primero Mining Corp., Mandalay Resources Corp., Virginia Gold Inc., Midas Gold Corp. and Silver Wheaton Corp. I was not paid by Streetwise Reports for participating in this interview. Comments and opinions expressed are my own comments and opinions. I had the opportunity to review the interview for accuracy as of the date of the interview and am responsible for the content of the interview.
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