Most investors have a tough time standing apart from the crowd. That's why Jeb Handwerger says, "To be successful in the market, 99% of the people have to think you're wrong." While most investors are chasing overvalued equities, the smart money is acquiring assets that will benefit from the next uptick in inflationary pressures. In this interview with The Metals Report, Jeb Handwerger, editor of Gold Stock Trades, explains how to benefit most from the coming "risk-on" trade.
The Metals Report: Recently, you've been writing about the beginning of a new inflationary cycle and an uptick in inflation. How does the new inflationary environment differ from where we've been since the financial crisis?
Jeb Handwerger: For several months, there has been a surprising rebound in the Chinese and Asian markets as evidenced by strong demand and associated price increases in iron ore, copper, industrial metals, uranium, the heavy rare earth elements [HREEs] and platinum. For a long time, investors predicted a hard landing in China-and they have been wrong. As a result, we're seeing a very powerful "risk-on" rally. Investor expectations over the past couple of years have been for deflation and the associated "risk-off" trade. The situation is beginning to flip and inflation expectations are beginning to creep back into investors' minds. The early investors and the smart money are making "risk-on" trades as equities hit new highs and as investors flee currencies.
The numbers show that the Chinese economy is rebounding strongly. Banks are lending, and investments for commodities are increasing. After almost two years of economic contraction in China, I believe the Chinese economy decisively turned upward as of year-end 2012. For approximately the last two years, metals prices consolidated while the bond and the equity markets rallied. Notably, the bond market rallied before the equity market. Times when bonds and equities outperform commodities are usually predictive of inflation. Eventually, profits should flow from equities to commodities in the traditional inflationary business cycle. It is only a matter of time before capital hits the commodity and junior mining markets.
I believe the strongest evidence that an inflationary rally has started is the outperformance of industrial metals, as well as precious metals that have an industrial component, such as platinum and silver. Copper is beginning to outperform gold. For the past two years, as markets were risk-off, gold outperformed. However, from 2000 to 2008 before the credit crisis, the industrial metals and the miners outperformed the risk-off assets. We're beginning to see a rotation from a deflationary cycle to an inflationary cycle. All the money that's been pumped into the system by central banks worldwide and this competitive currency devaluation in order to boost anemic economies may be unleashing the beginnings of a long-term inflationary rally.
TMR: Do you think platinum will outperform gold in an inflationary environment?
JH: Investors who understand the long-term inflationary cycle should diversify across the metals, but now is a good time to be overweight in the precious metals that have an industrial component, such as platinum. The supply-demand fundamentals are better for platinum than for gold. Three-quarters of platinum supply comes from South Africa, and the strikes and labor disputes there are widely covered. North American platinum group metals [PGMs] miners are an alternative to South African miners. The most prominent miners in North America include Stillwater Mining Co. (SWC) and North American Palladium Ltd. (PAL). [For more of Jeb's top mining companies in North America, click here.]
On the demand side, we are seeing auto sales as the largest driver of incremental platinum usage. Auto sales in China are at record levels, with China surpassing the U.S. as the largest consumer of automobiles and General Motors selling more cars in China than it's selling in the U.S. All this new automobile production requires substantial PGMs. It is interesting to note that automotive sector troubles pushed the platinum price down during the GM bankruptcy. The large reduction in U.S. auto sales caused a big drop in platinum demand.
The last consideration for platinum over gold is the historically low relative valuation. Not that many years ago, platinum was almost 2.5 times more expensive than gold. Since then, it has dropped below parity. That is rare and has only been seen a few times in the past 30 years. Whenever that has occurred, it's been an excellent buying opportunity for platinum. Considering that platinum production is much smaller than gold production, this represents an excellent buying opportunity.
TMR: Do you favor miners over bullion for PGM exposure?
JH: Absolutely. First of all, miners in a "risk-on" rally usually outperform the bullion. Second, miners provide great leverage to an increasing bullion price. If you find the right projects, the right management teams, in the right jurisdictions-all of which are crucial for mining investing-then these projects could be a great opportunity for early-stage investors. The majors are going to have to look for projects in mining-friendly jurisdictions, and there needs to be a secure supply of platinum for the North American automobile sector.
TMR: Could rare earth elements [REEs] benefit from the increasing "risk-on" trade and inflation?
JH: Yes, but not just REEs-most critical metals, too. Not only is demand growing, but supply is tight. Markets we follow include heavy rare earth elements [HREEs], tungsten, antimony, molybdenum, graphite, niobium, PGMs and even thorium. These are some of the metals with tight markets that investors should begin putting on their radars over the next few years.
TMR: What other types of miners do you believe will benefit?
JH: We've been looking at mixed deposits of uranium and REEs. The uranium price has begun trending up on supply concerns. There are two companies that I follow that have both the uranium and the REEs deposits.
TMR: Are there any strategic metals that you are watching?
JH: Antimony is also a strategic metal, most of which is supplied by China. The Chinese had a producing mine in Atlantic Canada called the Beaver Brook mine. It was a large producer of antimony, but it is not currently in production. There's a small company that's looking for tungsten and antimony in Atlantic Canada. It's early stage, but the company has a strong technical team. People who know Atlantic Canada may know it's an area with producing antimony and tungsten mines.
TMR: To bring it back to how these investments fit into a portfolio-what should investors be looking for in the market in this inflationary cycle?
JH: Investors must be willing to accept that these markets are extremely volatile. We have just lived through a long and painful downside. The reversal, when it comes, will be powerful. There have been trillions of dollars pumped into the financial system by central banks worldwide. This may be unleashing long-term inflationary forces. This challenge could be with us not only over the next couple of years, but possibly into the next generation, perhaps with gut-wrenching price increases.
This is why I maintain a long-term position of diversification across the precious metals, uranium and strategic metals. Short to medium term, we're in a consolidation phase. Eventually, the capital will flow to the quality, which are the cheap commodities and undervalued miners. It's important to be patient in these sectors and to realize that these may be excellent discount buying opportunities.
You have to understand that most bear markets last 18 months. In order to be successful in the market, 99% of the people have to think you're wrong. In order to make money in the market, you have to buy sectors that are undervalued and are off of the majority of investors' radar and out of the mainstream news. That's why we're in the hard assets. The smart money, the billionaires such as John Paulson and Carlos Slim, what are they buying? Miners. Precious metals. Hard assets. And they are not the only ones.
TMR: Thanks for talking with us.
JH: It has been a pleasure.
This interview was conducted by Alec Gimurtu of The Metals Report and can be read in its entirety here.
Jeb Handwerger is a newsletter writer who is syndicated internationally and known throughout the financial industry for his accurate and timely analysis of the equities markets-particularly the precious metals sector. Jeb Handwerger will be presenting his thoughts on how to select good investments in the resource sector at the upcoming PDAC 2013, taking place at the Metro Toronto Convention Centre March 3-6.
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