The Gold Report: You and David Smith recently wrote a piece
titled "Gold and Silver: Heading for a Blue Screen of Death Event."
You compared the gut-wrenching panic of suddenly facing a computer that stops
working with a precious metals market that seems frozen, in the case of gold,
in sub-$1,200/ounce ($1,200/oz) limbo. But then you suggested that, like a
Windows operating system, the metal could be rebooted on its way to once
again hitting $1,900/oz. What would it take for something like that to occur?
How do you hit Control-Alt-Delete on a commodity?
David Morgan: The retail silver market is very tight and getting
tighter. India has historically imported a great deal of silver. As the
country became more prosperous and started building its middle class, more
gold started going there as well. On the supply side, low prices are
detrimental to the recycling of silver so there is less recycling in the
market. It has been reported that it is virtually impossible to get gold in
size off of the London Bullion Market, yet the prices don't reflect that
tightness.
TGR: What is keeping the prices down? What is causing the blue
screen of death?
DM: That is tough to answer without treading on the conspiracy
theory realm. I don't like to deal with conspiracy theory. I like to deal in
conspiracy fact. The fact is that the futures markets allow massive amounts
of paper contracts that represent silver and gold and, for that matter, other
commodities such as wheat or corn, to be manufactured at will for speculative
purposes. That satisfies the demand without changing the real supply. Someone
could buy what they think is a physical amount of metal through a major
broker-dealer, but in reality only hold a claim on the underlying asset. This
is fairly pervasive throughout the precious metals industry.
The Dutch bank ABN Amro had stored gold for clients for multiple years,
and when the bank got into problems, the clients were informed that they
would have to take a cash settlement for their gold. The Texas Teacher
Retirement System has requested gold be delivered from the Federal Reserve to
Texas. That's "in work" and could put more pressure on the paper
gold problem if it doesn't materialize. This problem has come to the fore
several times, and yet it has not yet disrupted the market. However, I think
that day of reckoning is closer because there is more of this going on and
the premiums are so high. That is a direct indication that prices are not
reflective of the true supply/demand fundamentals. However, to be fair, the
premiums can come back to "normal" once the market quiets down.
TGR: Short of banks not being able to deliver precious metals, are
there other black swans that could shake gold and silver prices out of their
current state? We had the Chinese stock market flash crash, and gold and
silver went up a little bit, but dropped back down again in a few days. The
market is still focused on a possible federal Reserve interest rate hike by
the end of the year. What could it take to reboot?
DM: Those things have an effect. Physical gold is the most
negatively correlated asset to the stock market. That means that we should
see an increase in the gold prices in a declining stock market environment.
This has taken place at very minor levels so far. We have seen in the past
that small events people would have brushed off in years gone by can
mysteriously rock the market if they develop momentum. Jim Rickards
talks about the avalanche theory where it's that one additional snowflake
that sends everything crashing down the hill. Naming that snowflake in
advance is difficult, but we are poised for some kind of disruption.
TGR: When it happens, how quickly could it happen?
DM: These things happen fast. The problem builds and builds and
builds, and then just a little bit more pushes the shift faster than you
might be able to adjust your portfolio.
TGR: How much higher does silver need to be before the primary
silver producers are doing more than just trading dollars?
DM: It varies from mine to mine, but I'd say somewhere around the
$22/oz level would be beneficial to most primary silver producers because
energy costs are so low currently. If energy costs increase then than number
goes up, of course!
TGR: Because silver is often a byproduct, it will probably continue
to be produced regardless of the price or the demand. Are there some
companies with accidental silver exposure that are worth considering for
someone who wants to get leverage on future higher silver prices?
DM: Big mining houses, like Rio Tinto Plc (RIO:NYSE; RIO:ASX;
RIO:LSE; RTPPF:OTCPK) or BHP Billiton Ltd. (BHP:NYSE; BHPLF:OTCPK) mine a lot
of silver, but they are not leveraged on silver prices. I've actually
calculated the impact $100/oz silver would have on their annual statements
and it is almost an insignificant difference. These are primary producers of
lead, zinc, copper, tin and nickel. The silver component is so small, it
doesn't really have much effect.
Some of the zinc properties have pretty good silver exposure. Trevali Mining
Corp. (TV:TSX; TV:BVL; TREVF:OTCQX) is one of those, and we're very happy
with that call. We were one of the first to call the upcoming zinc shortage
because some massive mines are winding down at the end of their life. Trevali
does have a pretty good silver exposure, so it is a win-win. That one has
done pretty well for us.
TGR: What about companies that were mining other commodities and
have shifted to silver?
DM: Prophecy Development Corp. (PCY:TSX) is an interesting
situation. I've been involved with the company and owned stock in it. It's
primarily a bet on CEO and Chairman John Lee, a man I've known for years, and
I value his ability to manage well, get things done, think outside the box
and buy value. When Prophecy took over the coal project in Mongolia, which I
visited, it was very impressive. It was a good buy at the time, but very few
people, if any, foresaw the devastation throughout the commodity sector that
has occurred. However, Lee continues to look for value. He found Apogee
Silver Ltd.'s (APE:TSX.V) Pulacayo project and bought it last year. David Smith
visited and it is one of the highest-grade silver projects on the planet. I
compare it to Silvercorp Metals Inc. (SVM:TSX; SVM:NYSE). This was a very
rich mine in the beginning and had grades that were phenomenal relative to
what we see in today's market. He bought that property for an extremely good
price relative to silver's potential. I think Prophecy Development is doing
it the right way. When things turn around, it could be one of the more
significant small companies in the silver space.
TGR: Are there some silver-focused stories that would be well
positioned if people started to gain confidence and the price started to go
up?
DM: We have followed MAG Silver Corp. (MAG:TSX; MVG:NYSE) for a very long
time. In fact, before anyone even knew the name, I was given a preview to the
company by Dr. Peter Megaw, MAG chief exploration officer, whom I consider a
friend and mentor. MAG Silver has two projects in the Mexican Silver Belt,
the Valdecanas and Juanicipio properties. The company did get into a problem
with joint venture partner Fresnillo Plc (FRES:LSE) that has been
straightened out. You don't need to look much further than MAG Silver if
you're really a silver bull to put something in your portfolio that I think
for the longer term will certainly do well.
Bear Creek
Mining Corp. (BCM:TSX.V) was on the recommended list for quite some time,
but with the devastation of the commodity sector, we listed it on a
speculative basis. The Corani project in Peru just released an updated
feasibility study and it's exceeding our initial expectations. Everything has
just gotten better except the share price. That's what's so frustrating in
this business. Companies do so much work to bring value to the shareholders,
yet the price is lower than ever. The good news for people who have patience
and willingness to stand by their convictions is if a company is a good price
at X and now it's selling at 50% of X, it's obviously a better buy. That is
the case for Bear Creek.
TGR: At this stage in the market, is the streaming model both an
opportunity for the streaming companies to get deals and for investors to
invest in streaming companies?
DM: We have always favored streaming companies because there is
less risk. We still like them. We have several in The Morgan Report
from the top tier, midtier and even the speculative section.
Sandstorm
Gold Ltd. (SSL:TSX; SAND:NYSE.MKT) has top-quality management. The stock
has been beaten up. I think it's underrated compared to its potential. We're
still holding on because we know that 1) the model works and 2) when a
company has the ability to do financings at low prices that gives the
investor extra leverage. We like the idea that you're "safe"
relative to other situations. The company isn't depending on one mine
development going smoothly. A streaming company is more likely to stay in
business.
Silver
Wheaton Corp. (SLW:TSX; SLW:NYSE) is also extremely undervalued by almost
any metric. The Canadian authorities have brought up the tax situation. The
company has always answered consistently. So I think its stock price movement
is overdone, which makes it a great value investment. We still like the
company a great deal.
TGR: I understand there's a new story about a mobile mill that
you're including in The Morgan Report. Do you want to mention that?
DM: It's something that we have been following closely. It's really
a technology company for a self-contained unit that recycles the water and
goes almost anywhere. This mobile mill allows miners that have gravity feed
material—gold that could be separated in a gravity process—to use this
technology and produce gold. This mobile mill could be brought on a site, and
within a few weeks the rock is milled and sold with part of the profit going
to the technology company and the rest going to the company that utilizes
this process. The beauty is that a mining company wouldn't have the capital
expenditure for a mill that dilutes shareholders. This is something that's
never been experienced in the junior sector before to my knowledge.
The problem is that the company is making some structural changes that are
significant to shareholders, and we had to put the report on hold. But once
we are allowed to, we will do a complete write up for subscribers. I want to
stress up front that I own it and it's a highly speculative situation. It
also could be a spark that gets investors excited about the juniors again and
perhaps even the entire sector.
TGR: You are going to be speaking at the New
Orleans Investment Conference in October and the Silver Summit in San Francisco in November. What do
attendees need to understand about investing in silver in 2015?
DM: We still like silver as a part of a balanced investing
approach, and it is undervalued. If you take the true money supply versus the
amount of silver aboveground, we're at as low a price today as we were at the
bottom of the market in the early 2000s. This means that the amount of paper
money that has been printed is the same on a per-ounce equivalent. Based on
the overspending that all the world's governments have done, you're actually
buying in a very safe zone. We're also very undervalued in the gold market.
Both of these sectors have lost a lot of interest from the investment
community. A lot of them have left the sector, but those who really analyze
the markets have a little bit of an edge. They realize what the true picture
is. So I would say the remainder of this year is a good time to be buying
into these markets.
I've always advocated that precious metals should be a part of your
overall strategy, not your only strategy. Because of that, my early
recommendation was about 10% in the precious metals. Early on, I upped that
to about 20% because the world had become more uncertain. If you average the
two, that's 15%, the amount recommended by Ibbotson Associates Inc. for the
highest return for investors at large. That is still a good place to be.
TGR: Thank you for your time, David.
The Morgan Report on precious metals, the author of "Get the
Skinny on Silver Investing" and a featured speaker at investment
conferences in North America, Europe and Asia.
