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Enough Already!
As an astute gold market follower, you’ve no doubt been inundated with an
abundance of commentary on China and India this year. That’s essentially all
we’ve been writing about of late. It’s for good reason! China and
India’s surge to historic levels of physical gold demand are a major driving
force behind our bullish gold thesis.
Their story didn’t suddenly become less important this week. On the
contrary, several news reports highlighted favorable implications for gold
demand. For example, reports from India indicate that gold premiums are now
at $150 over the spot price.
This is very bullish news, especially heading into the Indian festival
season, while China’s imports of the yellow metal remain at historic levels;
reporting 109 tonnes for September. Annualize that figure and you get a
whopping 1,308 tonnes of gold imports.
However, this week we’ve chosen to feature another up and coming player in
the gold market game who doesn’t get that much attention, but maybe she
should!
A Quick Primer…
Mother Russia is one of the most resource rich countries on the planet,
with an enormous endowment of oil, natural gas, diamonds, and of course gold,
among many others.
She is the 2nd or 3rd largest oil producer, depending on who you talk to,
with the 7th largest reserves, behind only OPEC member states. The
country is neck in neck with Iran for the largest natural gas reserves and is
the world’s largest diamond producer. We’ll get to Mother Russia’s gold
profile in a moment, but first a very brief historical review.
Once upon a time there was a cold war era communist world power known as
the Soviet Union. During the 1980s, its large centrally planned economy
began to fall woefully behind its counterparts in the West.
Some enlightened souls within the government recognized that without
significant reform, their centrally planned experiment would crumble.
In this context began the Mikhail Gorbachev inspired initiatives of
Perestroika and Glasnost.
They were intended as a one-two punch to extend an olive branch to the
West politically and thereby encourage foreign direct investment and modern
technology transfers to provide a much needed jumpstart and upgrade to the Soviet
economy.
It was well intentioned but proved to be a little too late. In 1989
things began to crumble when a certain wall in Germany came crashing
down. You know the one. Then, in December of 1991 the bottom fell
out and the Soviet Union fractured, almost instantaneously, into 15 different
countries.
In the midst of the chaos, Boris Yeltsin rose to power with the goal of
leading Mother Russia out of the abyss and on to her former glory. His
efforts began with an unforgettable tank assault on Parliament to resolve an
intractable constitutional crisis.
This is a man who knew how to get things done. The shelling proved
to be a very persuasive argument as lawmakers gave way, allowing Yeltsin to
vest the Presidency with much greater powers.
With vigorous encouragement from the IMF, the U.S., Germany and others,
Yeltsin took aggressive steps to dismantle the central planning apparatus,
privatize large swaths of the Russian economy, and liberalize markets.
The steps were dubbed “Shock Therapy” at the time, and Yeltsin was
assured by the West that this was the answer.
Well intentioned or not, it was a miserable failure and plunged Russia
deeper into economic despair and created a colossal kleptocracy in the
process. During this period, GDP and industrial output fell 50%
while poverty levels rose from 1.5% to 45%.
Meanwhile, Russia’s oligarchs (many of whom had KGB roots) and bankers
took advantage of the privatization process to plunder Russian assets at
extremely discounted prices compared to those in the West. They
funneled their billions out of the country in eye-watering amounts making
many of them the wealthiest men in the world.
This dark hour in Russia’s history culminated in the 1998 Russian
financial crisis when the Russian government and the Central Bank devalued
the ruble and defaulted on its debt. In the wee hours of New Year’s Eve
1999, Yeltsin resigned and surprised many by leaving power in the hands of
his somewhat obscure Prime Minister, Vladimir Putin.
With the economic and political slate wiped clean, the stage was set for
this former head of the KGB, to shrewdly leverage Russia’s massive natural
resources to help launch the economic recovery on display in the chart below.
Russia is the largest country in the world, geographically, by a large
margin. Spread across this vast landscape, she is a major player in
uranium, coal, timber and agricultural cereals, in addition to oil, gas,
diamonds and gold.
Putin, exploiting Mother Nature’s gifts, grew Russian GDP by 7% annually
from 2000 through 2008. He also dropped the poverty rate to 13.7%, cut
unemployment by 50%, and raised the number of middle class by a factor of
7. He used Russia’s new found wealth and influence to restore the
country as a regional superpower, if not a global one.
That is admittedly a very simplistic historical summary, but we wanted to
provide some context to set the stage for our favorite topic.
Russia’s Gold Profile
According to the Russian Ministry of Natural Resources, the country has
the second largest gold reserves in the world at 12,500 tonnes (over 400
million ounces).
Russia has a handful of major gold producing regions in the east;
Krasnoyarsk, Irkutsk, Magadan, Amur, and Chelyabinsk. Krasnoyarsk in
particular is one of the more prolific gold mining regions in the
world. As you can see, many of these areas are remote in the extreme
sense of the word.
Interestingly, since 2008, Russian gold production has risen
dramatically. In 2009, 2010, and 2011 production figures were 185, 202,
211 metric tonnes respectively. In 2012, gold production jumped to 226
tonnes and is estimated to reach 237 tonnes in 2013, based on production
figures through September.
There are three major Russian domiciled gold miners, Polyus Gold,
Polymetal, and Petropavlovsk. Polyus is the largest, in terms of
output, producing 1.6 Moz of gold in 2012. Polymetal and Petropavlovsk
produced 1Moz and 700Koz respectively last year.
The only major foreign gold miner in Russia is Kinross. They operate the
Kupol Mine in far eastern Siberia, which produced an impressive 578Koz all by
itself in 2012.
Russia is 4th in terms of world gold production since it overtook South
Africa in 2012. They now have their sights set to surpass the U.S., who
currently sits in 3rd place, and whose major producing state, Nevada, has
recently reported lower production numbers.
Supporting the Russian push for 3rd place is the Russian Ministry of
Natural Resources who is working to relax regulations that limit the amount
of gold reserves that can be produced without federal government approval.
Currently, if a gold deposit has over 50 tonnes, the amount over this
limit is considered federal property. The Ministry is looking to
increase that threshold to 250 tonnes to stimulate mining project
development.
Another contributing factor is Polyus’ Natalka project located in the
Magadan region. Considered one of the largest gold deposits in the world, it
has 32 million ounces of proven and probable reserves and a total resource of
60Moz+. The mine is expected to begin production in mid-2014 and could
reach up to1.5 Moz per year.
Aside from production, the Russian Federation’s Central Bank has been a
steady buyer of gold since 2007. They currently sit 8th in official gold
holdings, however, their rate of accumulation has been significant, as you
can see in the chart below.
Russia, the U.S, China, Gold, and the Implications
In his excellent book, Currency Wars, Jim Rickards retells the story of
Pentagon sponsored economic war games, in which he was invited to participate
a few years ago.
In order to give them (the Pentagon) their money’s worth Jim and
his teammates decided to coordinate a scenario where Russia, who is tired of
the U.S.’s dominant currency position, would move its gold to
Switzerland, start a new bank in London, and issue a new form of currency
that was backed by gold.
Initially Russia would own all of the new currency but others would be
able to deposit gold and receive the currency. However, the key feature
was that any Russian exports of oil or natural gas would have to be paid
for in the new currency.
The eventual take away from the war game was that a potential disruption
to the dollar’s hegemony is possible.
Putin is on record saying, at the World Economic Forum in 2009, that “the
one reserve currency has become a danger to the world economy: that is now
obvious to everybody.” Putin believes that the world should have
multiple dominant currencies and Russia’s aggressive activity in the gold
sector supports his sentiment.
The picture below does a much better job communicating the state of U.S.
Russian relations than I could.
In contrast, the Russian Federation reached an agreement, in June of 2011,
with the People’s Bank of China, entering into a swap agreement that allows
economic entities from both countries to settle trade in either Yuan or
Rubles.
Once again, a picture is worth a thousand words.
Considering Putin’s declaration that the dollar’s days at the top of the
monetary pecking order are numbered, their currency swap agreement and close
trade relationship with China, and both country’s rapid accumulation of gold,
it seems a strategic initiative is underway in the monetary realm.
As we pointed out in last week’s piece, “China’s Tentacles Grip World”,
in the modern era, reserve currency status shifts to the dominant economic
and monetary power of the day. It seems as though a transition is taking
place and gold will play a part in the change.
Since both Russia and China think it’s a good idea to accumulate gold.
Shouldn’t you to?
As we never tire of pointing out, a great way to take advantage of a
rising gold price is by accumulating the shares of promising and deeply
undervalued gold miners, like those in our Model Portfolio. Their gains
significantly outpace the yellow metal itself, as shown in gold’s must recent
rise between June 27th and its short-term peak on August, 28th.
For this reason, you should check out our Comparative Analysis Table
below.
It provides many critical metrics to use in evaluating and comparing gold
mining companies. Its purpose is to help discerning investors separate the
wheat from the chaff.
(Click the image to enlarge)
That’s it for this week. Thanks for reading!
Regards,
RJ Wilcox
Jeremy@goldminersreport.com
www.goldminersreport.com
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