Rick Rule discusses the arbitrage between the biggest streaming companies and the largest base metals companies. The precious metals by-product streams of the base metal companies are valued at 15 times the EBITDA multiple in the markets. The mining industry has come to rely on 'dumb' money which has all but dried up but there are billions of dollars of 'smart' money looking for the right deal in the best of the best products.
Rule advises on investing in the uranium market: The low price of natural gas is negatively impacting the price, and the best way to invest is to own the uranium itself via proxy. Global commodity demand is the weakest since the 1980s, but the recent gold HUI drop is a technically driven sell-off, as GDX violated long-term support.
Palisade Radio host Collin Kettell: Welcome back to another episode of Palisade Radio. This is once again your monthly market update with Rick Rule. We have a fancy new intro that you probably just saw we are really proud of. Thank you everybody for joining us and Rick, of course, thank you for joining us.
Sprott US Holdings CEO Rick Rule: Thank you Collin. It is a pleasure.
CK: I want to talk to you about some of the different financings that are going on in this market. We put a piece out a couple weeks ago examining how many streaming deals there were in 2015. There were quite a few as opposed to 2014. I want to ask you from an investor's standpoint, is this a creative way for mining companies to bolster their treasury or are you seeing them simply selling their futures away?
RR: I think depending on the deal both things are occurring. I think the arbitrage that is occurring right now between the biggest of the streamers and the large base metals companies is accretive to both parties. We have talked about this before, Collin, but the precious metal's by-product streams on base metal's mines present a tremendous arbitrage in the market. Those streams are being valued at about fifteen times EBITDA in the market caps of the streaming companies. At the same time that that cash flow in base metals mining companies attracts six or seven times EBITDA multiple in markets.
You have seen several billion dollars worth of transactions and it would not surprise me to see another ten or twelve billion dollars worth of transactions taking place otherwise. On the other hand, the precious metals streams that are being used as a component in constructions finance by some of the precious metals mining companies are clearly dilutive relative to the terms that they could get in the market. I do not think that you can answer the question easily. One needs to look at the nature of the transactions taking place.
CK: Rick, keeping to the alternative financing theme, quite a few strategic and financial investors are stepping up to the plate. Most notably, I saw CGN Mining announced an $82 million injection to Fission last week. That brings up an interesting question because that is a Chinese-backed group. With China's economy slowing, do you see that affecting negatively the commodities industry worse than It already has been so far.
RR: I think you asked me two different questions there. I do think the slowdown in the Chinese economy has certainly impacted commodity demand, and as a consequence of that commodity cash flow. In terms of capital available in the mining business, there are literally billions of dollars of capital looking for the right projects, looking for the right deal. The Fission deal was illustrative, I think, of what will happen with the best of the best projects. The best of the best projects will not want for money as the Fission deal showed. A parastatal, particularly a parastatal that is looking for access to commodities, has a much longer view than today's equity markets investor particularly institutional equity market investor who are experiencing outflows from their funds.
It is interesting to see a deal that can be 30% or 40% accretive in the market to the buyer while at the same time in the longer term the buyer is getting a good deal. It is not true that there is a shortage of capital in either debt or equity markets with regards to the mining business. What is true is that the mining industry has come to be reliant on dumb money and most of that dumb money is gone. There is lots of smart money around.
CK: Okay and since we are talking about Fission I want to get to uranium which we have talked about several times in the past. I know and our listeners know your fundamental approach being that the production cost currently far exceed the going rate for uranium on a per pound basis and that ultimately must resolve itself. But in the more near term, do you have anything that you are seeing playing out in the uranium space? I believe you are going to be giving a discussion about uranium at the upcoming roundup. I am not sure if that was public knowledge, but anything there?
RR: The near term outlook for all things energy is bleak. Not since the early part of the decade of the 1980s, that 1980s interest rate recession, have I seen global demand for commodities so bad. A lot is made of resource over supply, but it is really resource over supply in the context of demand under supply.
As an example, with regards to uranium, what you need in the near term to kickstart the uranium business is a restart of the Japanese nuclear fleet. This will occur but it will not occur quickly because the Japanese' need to restart their nuclear fleet has been reduced by a 60 or 65% decline in the price of seaborne liquefied natural gas, their alternative fuel. Yes, the Japanese will restart. No, they will not restart anytime soon. The consequence of that is the Iranian prices can stay soft until real supply destruction hits the Iranian market or until the new bills, particularly the Chinese new bills, overcome the softness engendered by the Japanese shutdown.
CK: Okay and on the point of uranium, for investors looking to participate in a potential upcoming uranium bull. We just discussed Fission, and if you do not want to point out particular names that is okay, but maybe you can just tell us what level of the uranium company makes sense for you? We have Cameco (NYSE:CCJ) at the top which is an actual cash flow producer. There are some developers which you could throw, Denison and Fission maybe in that group. But then just pure exploratory companies, what, at this point, with the market the way it is, is most interesting to you?
RR: Well, I think the simplest way for most people to start, if they think the uranium price is going to go up - which I do - is to buy the uranium itself or the proxy which is Uranium Participation Corp., of course, on the Toronto Stock Exchange. Your viewers should not confuse this with a recommendation which would require my knowing their individual circumstance. But, certainly, an investor who had a year or two to watch what I consider to be the inevitable unfold, and who believed that the uranium price was going to rise, would want to follow it up by buying uranium itself.
The second place to be, of course, for that same investor would be Cameco. One of the interesting things about the last move in uranium is that although the juniors move the furthest, Cameco moved the first. I would expect the rebound this time to work the same way: uranium moves then Cameco moves, then the rest of the market moves.
For investors who are fairly risk-averse, which is most after a four-year bear market, the order of magnitude and the move that you can get from Cameco may well be a penny stock move. There is a certain school of thought that says if you can make 300% or 400% with the best in the business, why take the risk in the worst? Now the market is doing a very good job of thinning out the rest, so that one's choices among the secondary sector are getting smaller and smaller. It is easy to look to names like NexGen, which is, of course, enjoying success, and Fission. For speculators, those names are worth looking at.
My friend, Steve Sjuggerud, has an interesting observation with regards to resources, an observation that, sadly, I have not elected to pay too much attention to over the last thirty years. It is find a sector that is cheap, that is uranium. Find a sector that is completely unloved. Boy! Is that uranium? But then wait for that sector to technically be in the beginnings of an upturn. That may not be uranium. Yes, the thesis is 100% intact. Investors should consult themsel ves probably with regards to timing.
CK: Okay, thank you for that. I have what is maybe a difficult question, but probably more so an ignorant question on my part. With so much potential leverage in the uranium equity market, why would one want to isolate themselves to just a commodity price move, because uranium stocks are arguably the most volatile of the commodities. There are so few proxies via public companies to invest in that when I have seen them move in the past, they have really moved a lot. Just wondering where the Uranium Participation Corp. would fit into the portfolio?
RR: I suspect that a classic resource investor understanding that the commodity move before the equity would go into Uranium Participation Corp. first to limit his or her downside, and then as the uranium's price market started to move would transition from the material to the more leveraged bets. Remember, Collin, that leverage works both ways. Leverage is a lot of fun when it is working for you. But as overleveraged homeowners found out in 2008 it can be truly ugly when it works against you.
That same thing is true certainly with regards to micro-capitalization natural resource stocks including those in uranium. It is a lot of fun when the trend is your friend, but when the trend goes against you it can be messy indeed as many have learned.
CK: Note well taken on that, Rick. I want to ask finally about the gold stocks. We are recording this on Tuesday, January 19th. Kind of an interesting day in the market today for me and that gold is about flat, and yet you have an absolute crushing blow in the gold stocks with the HUI down 6.5% right now. It looks like it is going to close pretty badly. Have you seen this sort of thing happen near a bottom before or is it just another blip today it does not really matter?
RR: I think this is technically driven selling and I think it does matter in the near term. I think gold itself is at long term support and I think the GDX probably violated long term support. Those participants who are trend followers and who regard technical analysis as a good tool with regards to timing certainly would have become unnerved today with the GDX breaking through support. Fundamental investors probably have a different point of view although I note that many fundamental investors like myself are increasingly intrigued by the high yield debt market rather than by the equity so there may be some disintermediation out of equities in the debt even in the gold sector.
CK: Okay, well, Rick, I am going to leave it short this week. I know you have a busy schedule. Thank you so much for your comments as always and thanks for coming back on the show. We will talk to you again next month.
RR: Thank you for your insightful questions, Collin. They are an unfortunate rarity in this day and age.
CK: Thank you for that.
RR: Alright, bye.
Rick Rule began his career in the securities business in 1974. He is a leading investor specializing in mining, energy, water, forest products and agriculture. Rick founded California-based Global Resource Investments, Ltd., which grew into a much larger organization with significant affiliated companies. As director, president, and chief executive officer of Sprott US Holdings, Inc., Mr. Rule leads a highly skilled team of earth science and finance professionals who enjoy a worldwide reputation for resource investment management.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.