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The market is like a kid
that can only ride a bike with training wheels on it, according to Robert
Cohen of GCIC Ltd. As portfolio manager of the Dynamic Precious Metals Fund
and the Dynamic Strategic Gold Class Fund (sold in Canada) and the Dynamic
Gold & Precious Metals Fund (sold in the U.S.), Cohen is expecting a new
set of training wheels in the form of a third round of quantitative easing.
In this exclusive interview with The Gold Report, Cohen suggests that, as
fear among investors continues to drive down stock prices, the market is now
primed for patient accumulation.
The Gold Report: Robert, British Prime Minister David Cameron
said that the European debt crisis could "get a lot worse." What's
your view on the likely outcome?
Robert Cohen: I think he's right. It
has the potential to get worse before it gets better. Europeans are going to
have to deal with some sort of Eurozone fracture. Greece could certainly exit
the euro within weeks rather than years. It has an election on June 17, and
it will probably be bankrupt by the end of June.
TGR: Can the Eurozone
survive without Greece?
RC: It can survive, but
other countries could leave or it could break into two parts, like a northern
Eurozone and a southern Eurozone.
TGR: Is the debt crisis in
Europe a continuation of the 2008 market meltdown?
RC: Absolutely. It's just
another chapter of the global financial crisis. There's been a buildup of
global foreign exchange reserves. I think that's the root cause of a lot of
the problems in the Western world. The foreign exchange reserve buildup
globally, probably generated out of China and Organization of Petroleum
Exporting Countries, circulated into the developed bond markets of the world.
The whole notion of the
Eurozone was poorly planned. It doesn't give individual central banks the
ability to manage their balance sheets to debase their own currencies.
Different countries with different economies have the equivalent of one Fed.
It's hard to get decisions made in Europe swiftly and effectively. It's
dysfunctional.
TGR: How long before it
spreads to North America—or does it?
RC: We're all connected to
the global economy. It can spread very quickly depending on how
interconnected the financial systems are with one another.
TGR: Was JPMorgan's $2
billion loss related?
RC: I think that was just a
rogue trader. However, it still has to be investigated.
TGR: How is what's happening
in Europe impacting your day-to-day fund management? How do you manage
against fear?
RC: What's going on macroeconomically is causing dysfunction in the stock
market, but not the underlying metals. I'm actually quite comfortable with
the gold price around $1,600/ounce (oz), oil at
$95/barrel (bbl) and copper at $3.75/pound.
Paper money is losing
its purchasing power. What's happening globally is creating fear and
contagion that's spreading into the stock market. We're at a unique place in
history where the metal prices are robust and yet the stock prices are the
cheapest I've ever seen them relative to the underlying commodity prices.
It's a behavioral finance issue. Investors are cranking up the risk premiums
and their perception of risk. It's manifested in the stock prices across the
board.
We use quantitative
models that statistically measure observations of the stock market. You
already know stocks are cheap. The model concludes when stocks are cheap, we
should to buy more stocks and less bullion. We run a secondary model that
actually brings in other effects, such as the U.S. monetary base. That model
has a bit more of a neutral stance between equities and bullion at present.
While one of the models is indicating to put the pedal to the metal because
equities are super cheap, the other model is saying to ease up slightly. I
take a neutral stance between the results of those two models and go 60%
equities and 40% bullion in our Dynamic Strategic Gold Class fund, which is
still fairly defensive.
The other fund strategy
is an all-equity fund. We keep it defensive by owning a tight number of
equities. Two-thirds of the fund is in 20 names. The remainder is in another
20–30 names. It's a very concentrated portfolio. We've hunkered it down into our favorite stocks because you
could be a genius stock picker and still miss in a market that is being ruled
by fear.
TGR: Was there any point in
the last 18 months when you wished you could have been invested in 100%
bullion in your strategic gold class?
RC: It would have been
doing a "George Costanza" of what our
models are saying. The models would indicate to go to 100% bullion when the
market is over-exuberant on stock valuations. Stocks have undoubtedly been
undervalued since 2007.
Our models don't
indicate if the market is going to get more fearful in the next chapter. We
can't predict that. We just observe and allocate accordingly.
TGR: Are precious metals equities still safe havens or is that status all but gone?
RC: Gold bullion and gold
equities are two different asset classes. Gold is a monetary asset that works
through time. If you wanted to protect your purchasing power, you could have
put an ounce of gold in your safety deposit box in 1971 or 16.5
bbl oil in your garage, and today, 41 years
later, swapped them at the same ratio. That tells me that gold keeps its
purchasing power. Gold is an ideal way to protect your purchasing
power—not to mention that barrels of oil in the garage would have taken
up a lot of space and been a fire hazard.
We are going through a
period of the erosion of the purchasing power of money. We've always gone
through that—our parents, grandparents. One of the slides I use in my
presentations is a bunch of Vancouver kids in 1947 protesting a hike in the
price of chocolate bars from $0.05 to $0.08. You can look back on it today at
how laughable and cute that is, but it was a serious matter to them. Monetary
reflation is constantly chipping away at your purchasing power.
Now, are precious metal
equities safe havens? While equities are never safe havens by definition,
gold equities can provide the potential for capital appreciation over the long
term. However, the last four years have witnessed a change in the stock
market functionality. The financial crises unfolding in Europe, fiscal
deficits, government debt piling up in the U.S. and global trade imbalances
have put a lot of fear into the equity markets. It's going to bounce along
the bottom here for some time. Often quantitative easing (QE) is a trigger to
get the market functioning well. In January 2009, after QE1, functionality
returned to the market. Then it sort of wore off again. Then QE2 put some
more functionality into the market. QE2 has kind of worn off. Here we are,
wondering what the governments are going to do next.
We need the
functionality back in the stock market. QE could help. The market is like a
kid that can only ride a bike with training wheels on it. If the training
wheels start breaking or you try to take them off, the kid can't ride the
bike. We need new training wheels right now.
TGR: Are you expecting QE3?
RC: I am,
which presents an opportunity in itself between now and the time it comes.
It's a good time to accumulate patiently.
TGR: Most of your top equity
holdings in the Dynamic Strategic Gold Class Fund have flagship operations in
North America. However, one key holding, Perseus Mining Ltd. (PRU:TSX; PRU:ASX), has an operating mine in
Ghana that has been in commercial operation since the beginning of this year.
Perseus also has some exploration projects in Côte d'Ivoire. Why is it
your second-largest holding?
RC: I like up-and-coming
producers with quality assets. Over the years, we've bought things like
Perseus, Osisko
Mining Corp. (OSK:TSX) and Red Back Mining Inc. (RBI:TSX) that were the new kids
on the block. They're gradually transforming into household names.
Perseus' Edikan mine has been operating for a couple of quarters.
It is still working through some of its initial teething problems, but what
mine has started up without some sort of teething problems? It's worked
through a lot of the issues. It can produce more than 200,000 ounces (200 Koz)/year from Edikan.
The Côte d'Ivoire
is its next leg of growth. That should give it more than 100 Koz/year. It's a higher grade, so is even more
financially robust.
Because this name isn't
a household presence, we see an opportunity. It's a very well
priced stock right now. With the way the stock market is acting now,
we still think it's undervalued given valuations of similar peers.
TGR: How do the cash costs
of Edikan compare with similar mines in West
Africa?
RC: It's bang on at around
$600/oz. People complain that the costs are going up, but it's actually one
of those good problems to have. If costs are moving up, it probably means the
revenue line is moving up, which means the percent profit margin is also
expanding. An investor who thinks that the gold price should move up and
everything else should stay flat might be disappointed that the profit margin
is not expanding. That's not how things work. You can't hold your cost line
flat and have your revenue line flat. Take it for what it is. It's an
improved profit margin. Be happy about that.
TGR: What do you expect
Perseus to do with that tremendous amount of cash flow?
RC: Dividend it out, buy
back its shares or find other projects in West Africa to acquire and build.
This is the nucleus of an operating company. It could probably take on
another project. After all, it's assembled an engineering, construction and
permitting team. It could keep these people perennially busy doing new
projects, but in this market, it might be smart to find a good opportunity
and get the next leg of growth under its belt.
If it can't find a project,
it can certainly crank up its dividend. That might be another way to get
these equities fired up. Some of these companies can afford to pay north of a
5% yield. That could be a catalyst for the industry if they start paying
yields that get even grandma and grandpa interested in these stocks.
TGR: What are some of the
other stories in West Africa that you're following?
RC: We're following quite a
number of stories in that region. Geologically, it hasn't been as well combed
over as other parts of the world. Political risk isn't as bad as the worst
places in the world. It's not a bad risk-to-return ratio. You have to select your
countries. There are obviously going to be problems in West Africa, usually
infrastructure related—be it power, water or skilled labor. Even with
those hurdles, there are some robust projects with decent internal rates of
return (IRRs), good payback and relatively fast payback periods. West Africa
is where the interesting up-and-coming companies are working.
We're following Ampella Mining Ltd. (AMX:ASX), Papillon Resources Inc. (PIR:ASX), Gryphon Gold Corp. (GGN:TSX; GYPH:OTCBB), Volta Resources Inc. (VTR:TSX) and Drake Resources Ltd. (DRK:ASX) out of
Australia; and Roxgold Inc. (ROG:TSX.V), PMI Gold Corp. (PMV:TSX.V;
PVM:ASX; PN3N:FSE), Azumah
Resources Ltd. (AZM:ASX), and Canyon Resources Ltd. (CAY:ASX) out of Canada. Perseus
is still one of the most advanced ones, so that's one of our favorites.
TGR: Volta has the Kiaka project in Burkina Faso that has about 4 million oz (Moz) in the Measured and
Indicated category and another 1 Moz Inferred. What
do you see happening with that project?
RC: I do see a mine at some
point, but the share price could do all kinds of weird and wonderful things
in the meantime. Investors are putting a lot of extra risk premiums on
companies. It doesn't matter if it has a great project if it's not yet
financed. Volta has to raise the better part of $600 million in equity and
debt to build this. I still see a decent payback period of just over three
years without even including the discovery at South Kiaka.
I see something there that looks financially robust.
The bigger macro picture
with Volta, and many other companies just like it
that have good projects, is that it has to finance these things. Meanwhile,
this is still a project that should be at the top of the shopping list of
bigger companies looking for a new project that's already well advanced in
that region.
TGR: I'm sure you have a
similar view of Roxgold, but Roxgold
is interesting in that its Yaramoko project is a
high-grade gold project in West Africa, which doesn't generally happen. These
are generally large, low-grade deposits with an open-pit signature. Have you
visited Yaramoko and seen it firsthand?
RC: There is not much to
see there other than the drill core. I've gone through the drill holes in a
lot of detail in multiple meetings with the company and a few of the
sell-side analysts who have gone over there, seen it and keep close tabs on
it. I look at things like ounces per vertical meter (oz/m).
It put down Hole 69 that was about 650 meters (m) deep. It even reported
before the assay came in that it saw 34 flakes of gold in the core, which
would normally correlate to some sort of high-grade assay. That got the stock
fired up.
What is somewhat
perplexing is that the grade of that particular hole didn't return anything
all that significant. There was some background grade there. Even the company
was a little perplexed. It took the remaining half of the drill core and quartered
it just for another round of assay to see if something different comes back.
The market reacted quite violently on the downside when Hole 69 didn't return
a high-grade assay.
It would be nice to see
more vertical extent on the Yaramoko deposit, but I
haven't ruled anything out yet because it has to do a lot more drilling to
understand it. I certainly like what I see in the top 250m, which is one
reason why we own it. If this one works out down deep, great. If it doesn't,
the fat lady hasn't sung because there are still things to look at laterally
as well.
TGR: Does it have the right
people in place to gain a full understanding of that deposit?
RC: The geologists are
good. I'm not one to praise or criticize anyone. Are there smarter people out
there who might be able to hone in on the gold faster? Perhaps. I don't know.
I like what I see so far.
That's what early-stage
exploration is all about. We don't know exactly how this is going to wash
out. But as you pointed out, this is high-grade gold in Burkina Faso, which
keeps me pretty curious.
TGR: Continental
Gold Ltd. (CNL:TSX; CGOOF:OTCQX) owns the Buriticá project in Colombia, which has
demonstrated tremendous grade. Intercepts outside of the resource model are
sitting at 50 grams per ton in some drill holes. Is the gold going to be easy
to recover from that type of mineralogy?
RC: It is actually
operating a small mine there right now, so we already know that the gold is
easy to recover. These are narrow-vein systems. It will probably use
shrinkage stoping in selected areas. Of course,
with mining methods like shrinkage stoping, the
skill level of the workers goes up commensurately. Colombia doesn't have a
history of underground mining, so it may have to move some skilled Canadians
down there to train the locals. But there is enough high grade
here for it to still be robust.
TGR: Continental has started
work on its preliminary economic assessment at Buriticá.
What are you expecting from that?
RC: It's yet to be seen,
but I think we'll see something that should be more robust than a lot of
other discoveries. I think we have the grade. I think we have the vertical
extent and continuity. Let's wrap some real line plans around it. Let's wrap
some real dilution around it and some capital costs for building a plant.
Obviously, the higher the grade, the smaller the plant it needs to build, so
it should have a good rate of return. I would hope for a rate of return north
of 20% after tax.
TGR: Osisko
has been topical lately because it missed its first-quarter estimates and had
a fire in its mill. That is a low-grade project at first world costs. I think
there are a lot of investors on the Street who would say they saw some of
these things coming. What's your view?
RC: I don't have any issues
with the grade. It's a homogeneous deposit. It's easy to mine compared to
other low-grade deposits. It may have worse start-up problems, but once it's
engineered its way through the mechanical crushing of the ore, it will be up
to nameplate capacity. For a low-grade project, it's still robust. It's just
in the early stages of operating. It has a lot of flexibility, too.
TGR: Torex Gold Resources Inc. (TXG:TSX) is developing the
Morelos gold project, which is relatively close to Mexico City. Is that going
to be a big cash-flow producer once it's in operation?
RC: Yes, it's one of the
better discoveries of recent years. It's into its final stages of engineering
and so on. I see a project that should have approximately a three-year
payback after tax, so that gives it a fairly healthy IRR and a good long mine
life of 11 years.
TGR: Do you believe it's a
takeover target?
RC: If I were running a
mining company, it would definitely be at the top of my shopping list.
TGR: Can retail investors
still make money when the markets go down and sideways as they have in 2012?
If so, what strategies would you suggest?
RC: That's the
million-dollar question. If markets are flat to oscillating, investors can
make money with short-term trading, but I don't encourage that. Like Warren
Buffett, I encourage investing in good-quality businesses because just
picking the right projects doesn't guarantee that you'll make money.
Let's go back to 2007.
Here's a situation where you can pick the right projects and still lose
money. Ron Little's Orezone Gold Corporation (ORE:TSX), between 2006 and 2008,
was a $2/share stock. It had the Essakane project.
Fast forward to today. Essakane is now a flagship
mine of IAMGOLD Corp. (IAG:NYSE).
It fit the bill as a
good project in 2007. An investor would have asked: Is this project robust?
Check. Is it something a big company would want? Check. And sure enough, Orezone was actually vindicated. A big company did want
it. Is it an operating mine as predicted? A robust mine? Check. But the
company wasn't financed at the time and the share price went down a corkscrew
because investors perceived more dilution coming.
When the crisis hit in
September 2008, the market took it all the way down to $0.14/share. Then in
December of that year, IAMGOLD smartly swooped in and bought it for
$0.50/share. The only investors who made money on it were the ones with the
stomachs of steel during the crisis. Investors could have checked off every
box, but the stock market still killed it.
TGR: Thanks, Robert.
A mining and mineral
process engineer by training, Robert Cohen is vice president and portfolio
manager for GCIC. His experience in the mining industry is extensive and
includes work as an engineer and a corporate development adviser for an
international gold mining firm. Cohen completed his Bachelor of Applied Sciences
in mining and mineral process engineering at the University of British
Columbia in 1992. In 1998, he received his Master of Business Administration
and, in 2003, Cohen received his CFA designation.
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DISCLOSURE:
1) Brian Sylvester of The Gold Report conducted this interview. He
personally and/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 The
Gold Report: Roxgold Inc., Continental Gold
Ltd. and Orezone Gold Corp. Streetwise Reports does not accept stock in exchange for services. Interviews
are edited for clarity.
3) From time to time, Streetwise Reports LLC and its directors, officers,
employees or members of their families, as well as persons interviewed for
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