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It's no surprise that Stephan Bogner, analyst with Rockstone Research Ltd. and CEO of Elementum International-a precious metals trading and storage firm-advises investors to hold physical metals outside the banking system, but he also advocates mining companies keeping gold on their balance sheets and forming a cartel. In this interview with The Gold Report, Bogner discusses which exploration and development companies will be ready to produce when metals prices rise and shares his interest in the diamond, potash and uranium space.
The Gold Report: Stephan, two years ago, Europe was awash in fears of debt defaults and countries exiting the eurozone. On a scale of 1 to 10, where are we today on Europe's "fear meter?"
Stephan Bogner: I think we are between 3 and 5. Inflation in the eurozone fell to 0.7% in October, its lowest level since January 2010. Deflationary risks, a stronger euro and economic weakness have motivated the European Central Bank [ECB] to cut rates to a record low of 0.25%. However, these unprecedented low interest rates substantially devalue savings in the eurozone and increase the danger of bubbles.
I believe the downward pressure will get worse and companies will suffer. Once the companies start demanding loans, the ECB will pump liquidity into the real economy, and inflation will pick up. The ECB seems to want inflation, but to justify that, it first must strangle the economy so people indirectly demand inflation. They then become the scapegoats during the upcoming inflationary times.
TGR: Are European investors embracing gold as a hedge against these weaknesses?
SB: Along with some central banks, only the smart money is moving into gold and silver at the moment. People should buy when prices are declining and low, but they are not. The masses buy when prices are rising and high.
I anticipate negative real interest rates ahead. Once that happens, people will take their money out of the banking system and look for safe vehicles like gold and silver. It only takes 5% or 10% of depositors withdrawing their deposits to push a bank into bankruptcy. Hence, I anticipate new laws to prohibit cash holdings and to prevent bank runs, especially if nominal interest rates go below zero.
People are increasingly looking for alternatives to banks. Independent vaults offer exactly that. Instead of holding your cash in a bank account, you can buy gold and silver and store it in an independent vault outside the banking system. My firm, Elementum International, stores precious metals in a high-security facility inside a mountain in central Switzerland. Our clients can sell the metals to us at any time if they need cash. That is banking backed by real values.
TGR: Should volatility of the gold price concern investors?
SB: Volatility is seen as something negative and the media is propagandizing that gold is not a safe investment anymore because it is so volatile. However, I somewhat like it being volatile because it shows that the market is alive and that the market forces are fighting a dead-serious war. I would be more concerned if the price moves sideways on low volumes. Volatility means action and investors want to be where the action is. People should not ask who is selling but who is buying.
TGR: How do you see paper versus physical gold?
SB: I see paper as an instrument to drive people out of holding bullion and to get their hands on that gold. Gold prices are beaten down to achieve one thing: redistribution of real values. If investors believe that inflation will come, they should want to hold gold and silver now. However, there are very few physical gold and silver sources from which to purchase substantial quantities, so investors must be smart on how to accumulate. They can accumulate most when buying into a declining price after it has been high.
A lot of speculative money has left the precious metals markets. Someone bought into all that. China is importing huge amounts of gold, and India now imports massive amounts of silver. I think China will back its currency with gold or somehow utilize gold as a monetary asset once gold prices have started to rise toward $2,000/ounce [$2,000/oz] and/or once there is nothing left to purchase from a dried-up physical market. Russia may very well do so, too. There is no other solution to the growing financial excesses but inflation, so investors have got to go for gold. Follow the smart/quiet money and not the dumb/noisy money.
TGR: Is China purposely trying to suppress the gold price, and, if so, how?
SB: Yes, I think it is. Why shouldn't it do so? China is a large buyer in a small market, so it has to play smart to get its hands on physical bullion. It may do so with paper money and by playing the futures markets and putting pressure on the markets.
However, as soon as the price picks up again and the physical market has dried up, China will no longer manipulate the price to the downside but to the upside. China doesn't mind price declines in the short term because it is buying for the long term and has an ever increasing interest to appreciate these assets relative to its dollar reserves.
TGR: You have advised gold and silver producers to hold onto their production in an effort to sell at higher prices. In a cash-hungry business like mining, is that feasible?
SB: It is sad that mines are coming into production or increasing output at these low prices.
Deposits should be exploited during high prices not low, when companies can only make losses or marginal profits. If I owned a gold mine, I would stop all operations and wait for better times. I know this is not easy or feasible, especially for public companies, but this is the time for innovation.
TGR: It's one thing if you own the company, but a CEO needs to have the company perform to keep his job. How does management balance those two priorities?
SB: As soon as a company mines gold or silver, it sells it into the market and trades it for dollars. Instead, the company should use gold and silver as the functional currency for the industry. I'm certain that most companies would participate if such a system was in place. Companies should look for ways to bank their gold as cash assets or take out gold loans, not dollar loans. They should buy physical gold and silver and store it outside the banking system. When they require cash, they can sell part of their holdings.
Many exploration, development and producing companies have millions of dollars of cash in the bank. If they all bought bullion and stored it in an independent vault facility outside the banking system, that would put upward pressure on the price, which would benefit the companies.
Such a system is already in place and it is only a matter of time until mining companies will hold their cash in gold and silver. Shareholders will appreciate such prudent companies that know how to play a depressed market for the benefit of the shareholders. This also would bring a lot of credibility and investor confidence back into this dried-up market.
There are oil and potash cartels; the gold industry should come up with something similar.
TGR: Most cartels, like the Organization of the Petroleum Exporting Countries [OPEC] are privately held businesses. This makes it easier to get consensus. How would that work with publicly held companies?
SB: Public companies are part of the American and Russian potash cartels. A gold cartel would work like the potash market. Mining companies should collectively refrain from selling into the market at spot prices but should instead find buyers themselves, as there are definitely investors worldwide-especially from Asia, as well as the Middle and Far East-that would pay high premiums on the spot price to get their hands on physical bullion.
What is there left to lose for the deeply depressed mining industry but to take revolutionary steps and to fight back smartly? I hate to see the miners just waiting and hoping for better times, getting increasingly beaten up, defenseless. Now is the time to get their act together before the banks force them to hedge and sell forward their business for peanuts, rendering them incapable of benefiting from rising prices in the future.
TGR: Your research reports suggest that you favor small-cap precious metals companies over larger producers. Why are small caps worth the added risk?
SB: During down markets when metals prices are below production costs, producers struggle to stay alive. I only buy producers leveraged to a rising metal price, as they tend to rise stronger by a factor of three to five.
However, if you believe that the gold price will now recover quickly above $1,600/oz, I would recommend buying producers with the highest production costs. They've been beaten down the farthest, so they will benefit the most.
If you bet, as I do, that the gold price will go sideways or down for some time before rising, you should look for exploration and development companies active in bringing their deposits into production in the next few years when prices will be higher. When a junior discovers and develops a deposit, its share price will definitely rise because real value has been created. Right now, I see less risk with explorers and developers than with producers.
TGR: Which small-cap precious metals companies are you following?
SB: I like stocks with prospective deposits that are heavily discounted and trading below or near cash levels. For example, some companies are trading almost 50% below cash value despite owning highly prospective deposits in Serbia and Bulgaria. More than 58 Moz gold has been discovered in the Tethyan porphyry copper-gold belt that runs through Serbia, Bulgaria and Turkey. This underexplored belt is similar to the well-explored porphyry Maricunga belt in Chile or the Greenstone belt in Ontario and Québec.
The corporate tax regimes of Serbia [15%] and Bulgaria [10%] are better than Ontario's [30%]. It's no surprise that senior miners are active in this neglected part of this world, such as Rio Tinto (RIO) and Freeport-McMoRan Copper & Gold Inc. (FCX).
TGR: You believe that silver could decouple from gold in the medium term. Can you explain why?
SB: Silver, unlike gold, is both a currency metal and an indispensable industrial metal. If the gold market is very small, the silver market is tiny. Central banks worldwide hold some 25,000 tons [25 Kt] gold, which has a market value of around $1 trillion. Central banks do not hold silver, but some 30 Kt are held as reserves for silver ETFs, stocks in warehouses from the London Bullion Market Association and COMEX or minted coins from the U.S. and Canada. Those 30 Kt of silver have a market value of only $20B.
If a drop in liquidity hits the silver market, the price will explode upward. Aboveground silver stocks are depleting quickly. A strongly rising or falling silver price does not affect demand or supply-both demand and supply are largely price inelastic, which is somewhat unique in the commodity sector and important to understand. If silver trades at $100 or more tomorrow, industry will not consume less because silver is mostly indispensable or nonsubstitutable. Typically, silver is a relatively small component of a product and thus, a fraction of its total cost. Price escalation is just a matter of time, in my opinion, especially when looking at the depleting warehouse stocks.
TGR: Which silver equities do you follow?
SB: I like companies that brought mines into production during this depressed market and are still profitable, such as Aurcana Corporation (OTCQX:AUNFF) [AUN:TSX.V], which owns 100% of the low-capital cost and low-risk Shafter silver mine in southwest Texas. It has an NI 43-101 resource of 25 Moz silver in the Measured and Indicated category, with an average grade of 265 g/t silver and 23 Moz in the Inferred category averaging 327 g/t silver. Production started last year, but was suspended pending replacement of some parts. It should start up again in Q4/13.
Modifications to the plant will allow throughput of 1,500 tpd by mid-2014. This is an excellent entry point, as the stock was beaten down severely in October.
Aurcana's second mine is La Negra, in Mexico. Starting in 1970, Industriales Peñoles S.A. de C.V., discovered, developed and operated the mine, until putting it on care and maintenance in 2000. Peñoles produced 36 Moz silver, 323 Mlb zinc, 70 Mlb copper and 161 Mlb lead. The 2000 NI 43-101 resource estimate shows 150 Moz silver, 270 Mlb copper, 540 Mlb lead and 1.4 billion pounds zinc, so there is more to be mined.
In 2012, Aurcana produced 2.5 Moz silver equivalent and in H1/13 produced 1.4 Moz silver equivalent. In Q2/13, total cash costs per silver ounce, net of byproducts, were $7.79. I like Aurcana's substantial production upside potential. It's a nice coincidence that the company didn't produce at maximum while the silver price weakened.
TGR: How do you stay so positive in this bear market for precious metals?
SB: After the bear comes the bull; there is no other solution to the globalized financial excesses but gold and silver. Given global population growth, especially in emerging countries, coupled with the natural and inexorable human drive to improve one's standard of living, when you look at the vanishing supplies of commodities, the question is not when the commodity bull market will end, but if it can end.
TGR: Stephan, thank you for your time and your insights.
This interview was conducted by Brian Sylvester of The Gold Report.
Stephan Bogner is mining analyst at Rockstone Research, where he has independently analyzed capital markets and resource stocks for more than 11 years. He is also CEO at Elementum International AG of Switzerland. Bogner earned his degree in economics in 2004 at the International School of Management in Dortmund, Germany. He spent five years in Dubai brokering and reselling physical commodities and now resides in Zurich, Switzerland.
1) Brian Sylvester conducted this interview for The Gold Report and provides services to The Gold Report as an independent contractor. He or his family own shares of the following companies mentioned in this interview: None.
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3) Stephan Bogner: I or my family own shares of the following companies mentioned in this interview: Aurcana Corporation. 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. 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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