Gold Mining and ABCP Find Common Ground

The shaky ground upon which the Asset Backed Commercial Paper house of cards was built was the same ground supporting the over-valued prices that represented the peak of what is now recognized as the real estate bubble. Mortgages backing 90 to 100% of an overvalued asset are bad business in the first place. Securitizing such debt in support of complicated derivatives trading is piling misery upon woe.

In retrospect, it is surprising that such massive sums of money from top tier financial institutions could be committed to something so glaringly out of whack. But the fees generated by such compound structures and the derivative trades clearly had the effect of an opiate on the participants.

Add to that the duplicitous optimism of the so called Ratings Agencies, and the narcotic effect is complete.

The fact that the rescue mission for Wall Street is in full swing while Mom and Pop flounder in foreclosure is just another example of the imbalance that exists in our All Men Are Created Equal delusion, but that is a tangent upon which I shall not now embark.

While attending the Prospectors and Developers Association Convention in Toronto last week, (an unfortunate title for Canada's oldest mining association, and an even more confusing name of the world's largest annual mining convention), I received a telephone call from a gentleman who shall remain nameless, but who was not so long ago one of the arbiters of Collateralized Debt Obligations and Asset-Backed Securities for Goldman Sachs (NYSE:GS), arguably the world's most profitable investment bank.

He asked me if I could help identify and introduce him to companies that were at the feasibility stage and who might be interested in an uncomplicated credit facility for up to 15% of the Net Asset Value of the deposit on which they were building their shareholders' future.

He was contacting me because he knew, in my twenty-odd years of dealing with public companies in the mining sector, that I had developed good relationships with many company CEOs.

I asked him for more information, and I found the response intriguing to say the least.

In a nutshell, he had put together a group who were interested in structuring this credit facility in a mid-term note, which was to be paid out of cash flow when the project went into production. The note would then be securitized and traded just like the ABCP of last year, and the company who receives the funding will participate in the revenue flow from the revenue generated throughout the process.

"So let me get this straight," I said to him. "you are offering a non-dilutive credit facility for up to 15% of the NAV of the deposit, to be paid back with interest from cash flow upon commencement of production, and the financing is actually accretive?"

I had it straight all right. And it makes perfect sense, really.

Mineral deposits are always valued in terms of their Net Asset Value, which is typically calculated as 10% of the contained metal value of the deposit.

This is in direct opposition to the mortgage backed model, where the residential real estate is valued fully at the peak of its bull cycle. All it took to trigger panic in that arena was a slide in the valuations of the underlying assets to the negative, and Bingo! No takers for the refinancing of the CDO's and their underlying mortgages. Thus causing a contraction in demand for real estate, further contributing to the erosion of cross-the-board asset prices in the real estate market, triggering margin calls, foreclosures, and the soupy mess we now find ourselves in.

But if the securitization of a debt is supported by an asset valued at only 10% of its contained mineral value, then there is plenty of protection on the downside, especially when only a maximum of 15% of that discounted value is financed with this structure.

The closer the mining company moves to production, the more risk is diminished, until production, when the risk is then limited to a catastrophic change in market dynamics governing the commodity in question.

I canvassed the handful of mining companies exhibiting at the PDAC who were in the feasibility stage, and found they were eager to learn more. No doubt, the idea of accessing the value of the asset in a non-constricting line of credit with no conversions, warrants or other shenanigans prior to the end of the feasibility process is very attractive. Especially considering its non-dilutive and even accretive nature.

From a shareholder's viewpoint, I think the whole idea makes incredible sense, especially for commodities whose demand looks strong going into the future.

Like gold, for instance.

When I mentioned the names of a few gold companies nearing production, and their asset values, I was sure I could hear saliva drooling into the phone on the other end.

"That's a match made in heaven," my contact advised. "The fundamentals for gold going forward are very strong, so we'll have no problem finding participants."

What this means for gold mining companies, and what all gold bugs who have been proponents of gold before the bandwagon came along should rejoice in, is the fact that finally, at long last, vindication for all of our arguments for the inherent value of gold is at hand.

Now that the Ph.D. elites on Wall Street have had the tech and real estate bubbles blow up in their faces, comprehension seems to be dawning even in the dark canyons of New York's financial district. Gold is money. And what better way to seal a marriage?