Source: Brian Sylvester of The Gold Report (11/5/12)
The late summer rally in gold equities is the beginning of the outperformance that Joe Foster, portfolio manager of Van Eck International Investors Gold Fund, has been looking for. QE3 and other monetary policies will fuel both gold and gold equities. In the C-suite, more management attention to cost control, shareholder returns and return on capital will benefit both investors and the industry. Read more in this Gold Report interview.
The Gold Report: In the first decade of this century, the Van Eck International Investors Gold Fund gave its investors an annualized average return of about 25%. How has the fund performed since we last talked in August 2010?
Joe Foster: Gold stocks have had a tough time in the last couple of years and the fund was essentially flat during that period. The stocks have underperformed the gold price, which is up about 38%, and that is reflected in the fund performance.
TGR: How has the fund performed against the NYSE Arca Gold Miners Index (GDM), its benchmark index?
JF: Since our last interview in 2010 their performances have been similar, roughly flat.
TGR: How much does the fund have under management and how many positions does it hold?
JF: We have approximately $1.4 billion (NYSE:B) in the International Investors Gold Fund and have 55 stocks in the fund.
TGR: As of May 2012, the Van Eck International Investors Gold Fund was allowed to invest in a wholly owned Cayman subsidiary, which lets it invest directly in commodities and commodity futures. How has that changed your investment strategy?
JF: There are periods when gold outperforms the stocks and vice versa. Given the underperformance of stocks in 2011, we wanted to be able to invest in physical gold as needed. The Cayman subsidiary gives us the flexibility to invest up to 25% of the fund in gold bullion, gold exchange-traded funds or any commodity vehicle that we like.
TGR: In percentage terms, how much bullion is in the fund now?
JF: Zero. We have not yet used the Cayman subsidiary, mainly because we see the gold stocks as very undervalued.
TGR: In a September management commentary on vaneck.com, you suggested that adding liquidity to a heavily liquid market would not have a dramatic effect. Gold has been trending lower for weeks and is now just about $1,700/ounce (oz). Has the effect of quantitative easing (QE) 3 come and gone?
JF: The comments on liquidity reflect the pushing-on-a-string theory. The Federal Reserve can only reduce rates so far and can pump only so much money into the system. At some point, it no longer does any good. We may have reached that point.
The Fed's aim is to reduce unemployment and get the economy going, but the massive doses of liquidity already administered have not sparked the economy. We doubt further QE measures will have much impact.
Gold responds to debasement of a currency; it is a form of alternative currency. The QE does just that: it debases the currency and gives investors a reason to go to gold as an alternative. As long as the Fed continues this type of activity, it should be good for gold.
TGR: Then why are there signs of weakness in the gold price?
JF: The weakness in the last two or three weeks is simply a correction from the strong rally in August and September, leading up to the QE3 announcement. Things do not always go up in a straight line. We are just having a bit of consolidation in the short term.
TGR: You remain bullish long term?
JF: Sure. The Fed announced it would be buying $40B of mortgage-backed securities a month, on an open-ended basis. It will be keeping interest rates targeted at zero for two or three years at least. These policies are very bullish for gold in the long term.
TGR: You have suggested that one reason gold stocks have underperformed gold is rising production costs. What are the other reasons?
JF: That is the core reason and the other reasons are related to those higher costs. We have seen an unprecedented rise in operating and capital costs over the last couple of years. There is a global mining boom, and not just in gold. Gold miners have to compete with iron ore producers, tar sands producers and base metals companies. That has driven up the costs of labor, materials and equipment. I think the rate of cost increase caught a lot of managements off guard.
Because of those rising costs, many gold companies have missed expectations. Higher costs put the squeeze on earnings. The market hates it when companies miss their forecasts. Missed expectations may be the reason for underperformance, but rising costs have driven the missed expectations.
TGR: You have predicted better performance for gold stocks once the investing environment takes a positive turn. How far off is that positive investing environment and what will signal its arrival?
JF: I think it has arrived. With QE3 and gold breaking out in August, the gold stocks really kicked into gear. Our fund's performance in August, September and October is up about 20%; gold is up about 6%.
This breakout looks like the beginning of the outperformance in the stocks that we are looking for.
TGR: Do you expect that to continue?
JF: Yes, for a couple of reasons. First, the boards of the large gold companies that have been missing expectations have woken up to the fact that management changes are needed. Some very high profile CEOs and COOs have departed. There has been a shift in focus toward more profitability and less growth. That shift toward profitability, shareholder returns and returns on capital should bode well for the industry.
Second, costs could be coming more under control in the months to come. The slowdown in the global economy caused a slowdown in mining activity across base metals, coal companies and iron ore companies. More labor is now available. Lead times for equipment and materials are shorter. That should translate into less cost pressure as we move through 2013. That could be another catalyst for the industry.
TGR: How will you position the fund in the gold equities market? You have the majors, the midtier producers, developers and explorers. Where is the sweet spot right now?
JF: Throughout this bull market, we have been overweight in the midtiers and junior stocks. That is where we find better opportunities for growth. We have been underweight in the large-cap companies, the ones that have struggled to generate growth. We will have to see if the management changes being made by the majors will enhance their profitability and help them do a better job of meeting expectations.
In the meantime, we are happy to be overweight in the midtier and small-cap stocks where we find more opportunities for growth.
TGR: What are some of the midtier names you have positions in and their stories?
JF: Some of our top midtier holdings include New Gold Inc. (NGD:TSX; NGD:NYSE.MKT), Randgold Resources Ltd. (GOLD:NASDAQ; RRS:LSE), Eldorado Gold Corp. (ELD:TSX; EGO:NYSE) and Osisko Mining Corp. (OSK:TSX).
All of these companies are growing. They have good development projects, and they have managements that can deliver the growth. Another important aspect is awareness of the jurisdictions where these companies work. You want to see the CEO and the top management engaged at the ground level, ensuring targets are met and that any geopolitical or operating risk is mitigated.
TGR: New Gold just launched commercial production at its New Afton project in British Columbia. How is it performing?
JF: So far, the startup at New Afton has gone smoothly. The mill is running at full capacity. It expects to bring the conveyor on-line soon.
TGR: New Gold gives investors exposure to several jurisdictions. Is that one of the stock's attractions?
JF: That is the common characteristic of the midtiers we invest in. They have enough diversification to bring multiple mines into their portfolios. New Gold, for example, is focused on the Americas and has a mine in Australia.
TGR: Tell us about Randgold, which has most of its exposure in Africa.
JF: Randgold has probably done a better job of delivering organic growth than any other company on the planet. A lot of the deposits Randgold is mining it discovered and developed itself, rather than through acquisitions. It probably has the best geological staff in the business and knows West Africa better than anybody.
TGR: Things did not get off to a good start for Osisko's Malartic open-pit mine in Québec. Has Osisko worked out its issues related to grade and processing?
JF: Processing was the key there. Osisko underdesigned the comminution circuit. That resulted in startup problems that the company is working out. But Osisko is ramping up its mill production levels, and should reach capacity if not by year-end, then early in 2013. We anticipate Osisko will be at full production before long.
TGR: Eldorado Gold has been a star performer on the Toronto Stock Exchange for years. A few years ago, it made a run at Andean Resources Ltd. (AND:TSX; AND:ASX), but lost out to Goldcorp Inc. (G:TSX; GG:NYSE). Do you see Eldorado making more offers to juniors, given the low share prices?
JF: I do not expect that. It acquired European Goldfields Ltd. (EGU:TSX; EGU:AIM) early in 2012. That gave Eldorado some Greek assets it is developing now. It also is expanding at Kisladag in Turkey and has some new projects in China. Eldorado's development plate is very full right now. I think it will be focused on delivering that growth to investors.
TGR: In September you wrote, "There are some positive changes happening with the junior developers. Many of them have attractive projects with robust returns at current gold prices, but financing in the capital markets has been nearly impossible. We met with companies in Denver that are now re-engineering their high capital expenditure projects. By focusing on higher grades and slimming down operations, some companies are able to generate plans for mines with less output but higher rates of return and, importantly, lower capex [capital expenditures]." That sounds like a great investment thesis. Which companies in your fund fit that bill?
JF: Companies like Keegan Resources Inc. (KGN:TSX; KGN:NYSE.MKT) with its project in Ghana, Rainy River Resources Ltd. (RR:TSX.V) in Ontario and Guyana Goldfields Inc. (GUY:TSX) in South America have been re-engineering their projects and generating plans that have lower capex and often, better rates of return.
TGR: Keegan made some management changes recently. Did you welcome those changes?
JF: Sure. The company brought in management with a track record of building mines and putting them into production. That is definitely a positive.
TGR: Rainy is in northwestern Ontario, a very safe jurisdiction. What brought you to that name?
JF: The potential for a multimillion-ounce deposit in Canada is what attracted us. We have been invested in Rainy River for quite some time.
TGR: What is Rainy River's next catalyst for growth?
JF: I think it is the ongoing derisking of the project through the permitting process. If Rainy River is not acquired by someone else and gets through project financing, it can continue to take out the risk as it marches toward production.
TGR: Can Rainy River raise the funds needed to reach production or will it need a partner?
JF: We will have to see how it pans out. It may bring in a partner.
As the gold price has improved, companies are beginning to be able to finance. Torex Gold Resources Inc. (TXG:TSX) recently raised more than $300M for its project in Mexico.
With continued improvement in the gold price, there is no reason to doubt that Rainy River would not be able to finance its project.
TGR: Guyana Goldfields has a massive gold deposit in Guyana, South America. But it is in the middle of nowhere with very little infrastructure. How does the company plan to get around that?
JF: It has scaled the project back. The company is talking about mining just the saprolite the first couple of years, which would be a very low-cost operation and then bootstrap in the larger-scale, hard-rock operation.
Guyana has very good grades. Keegan and Rainy River have large, low-grade deposits, so they have to finesse that, to figure out how to generate something with a higher grade and a quicker return. Guyana has very good grades to begin with, so it is just a matter of scaling the project properly in a place that is very remote and requires a lot of infrastructure.
TGR: Guyana plans to publish a bankable feasibility study by the end of 2012. Will that get the share price moving in the right direction?
JF: I think so. As Guyana Gold progresses toward production, it is derisking the project at every step. Derisking also makes the company more attractive as a takeover candidate.
TGR: Your fund has a fair bit of exposure to West Africa, which is rapidly becoming a gold mining district. Are there some names there you could share?
JF: We have positions in a handful of large, low-grade properties in West Africa in various stages of development. Gryphon Minerals Ltd. (GRY:ASX), Orezone Gold Corporation (ORE:TSX) and Volta Resources Inc. (VTR:TSX) have great projects. Some may need a slightly higher gold price or more engineering to enhance the rates of return. We see them all moving forward in the course of this bull market.
TGR: Volta has an open-pit mine at Kiaka in Burkina Faso in the prefeasibility stage. Recently, it had one really stellar drill result.
JF: It recently announced a long intercept of 1.9 grams/ton (g/t); the overall grade at Kiaka is 0.96 g/t.
TGR: Do the recent drill results at Kiaka give you hope that there is a higher-grade element to this deposit yet to be discovered?
JF: Not that hole in particular, although it certainly helps. Volta has been finding some higher-grade material to the south of the Kiaka ore body that would make a very nice starter pit. Finding more high-grade material outside of the Kiaka deposit would definitely sweeten the deposit.
Volta has several targets peripheral to Kiaka that it plans to drill in the coming year. We will see what it comes up with.
TGR: What is happening in Burkina Faso?
JF: Roxgold Inc.'s (ROG:TSX.V) discovery of a high-grade, quartz-vein deposit in Burkina Faso is very exciting. The company has done quite a bit of drilling and appears to have identified enough to support a small-scale underground operation. That means Roxgold already has something of value, and with more exploration and drilling may locate more high-grade veins. It could even develop into a gold district, but it is early days yet.
TGR: Roxgold has $65 million in cash, a lot of money for a junior of its size.
JF: Yes, Roxgold's cash can support a lot of drilling, and the company will not have to worry about financing for quite some time.
TGR: Could you give our readers, some reasons to stay positive about investing in precious-metals equities?
JF: All of the things that have been driving gold prices throughout this bull market remain in place. The U.S. is still running trillion-dollar budget deficits. Central banks all over the world have incredibly easy monetary policies in place. They are printing money in one form or another, holding interest rates at extraordinarily low levels and generating negative real interest rates.
These trends are not going away any time soon and are creating the financial risk that is driving the gold market. We expect that to continue in the longer term. Gold stocks will reflect the underlying gold price. While the gold stocks have underperformed over the last couple of years, we see reasons to believe they are reversing that underperformance. If the gold price trends higher, these stocks could do very, very well.
TGR: Joe, thank you for your time and your insights.
Joseph M. Foster joined Van Eck Associates' hard assets team in 1996. He currently serves as lead investment team member for its flagship fund, Van Eck International Investors Gold Fund, and investment team member of Van Eck Global Hard Assets Fund and Van Eck Worldwide Insurance Trust's Worldwide Hard Assets Fund. Foster earned his MBA at the University of Nevada-Reno and holds a masters in geology from its Mackey School of Mines.
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1) Brian Sylvester of The Gold Report conducted this interview. He personally and/or his family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Gold Report: Goldcorp Inc., Guyana Goldfields Inc., Orezone Gold Corporation and Roxgold Inc. Streetwise Reports does not accept stock in exchange for services. Interviews are edited for clarity.
3) Joe Foster: I personally and/or my family own shares of the following companies mentioned in this interview: Van Eck International Investors Gold Fund. I personally and/or my family am paid by the following companies mentioned in this interview: None. I was not paid by Streetwise Reports for participating in this interview.
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