The Gold Report: When you last spoke with The Gold Report in early March of last year, gold was trading around $1,420/ounce (oz) and silver was around $36/oz. Silver peaked about $49/oz in late April and then gold hit around $1,900/oz in September. Now we’re back up above $1,700/oz on gold and about $33/oz on silver. Where do you see these prices going this year, after it appears that they have likely bottomed out?
Matthew Zylstra: We’re long-term bulls on both metals. Gold has been correcting since September and it looks like it bottomed out around $1,500/oz. We believe the recent decline is a normal pullback in a longer-term uptrend where nothing has really changed to the outlook. We see a perfect environment for the metal-concerns over our currency debasement, negative real interest rates, geopolitical friction, etc. I expect gold will reclaim the 2011 highs and could reach $2,000/oz.
For silver, the picture is less clear. Silver is, in part, an industrial metal accounting for around 50% of demand and less of a currency. Silver peaked at almost $50/oz in April 2011 and the price has been very volatile. We think the move is a correction, again, in a longer uptrend going back to 2003. I expect silver will trade around the mid-$30/oz range this year.
We actually feel platinum has a lot of potential. South Africa, Zimbabwe and Russia account for about 90% of platinum production and there’s a scarcity of good platinum metals group (PMG) projects outside those countries. We expect increased investment demand and believe that supply disruptions, as well as resource nationalization concerns, will drive the price higher. We note that Sprott Asset Management has formed a physical platinum and palladium trust, which could boost investment demand.
TGR: So, what really happened to the platinum market? Historically, platinum traded at a 30-40% premium over gold. Does it have to do with industrial demand or what happened to cause it to trade below gold?
MZ: The main industrial use for platinum/palladium is automotive catalysts. With fears of a global slowdown, their prices came off. But our view is that supply is not going to be able to meet the demand going forward. And, as you mentioned, platinum has historically traded at a significant premium to gold but the value is now only about 95% of the price of gold.
TGR: Getting to the actual equities, the gold and silver stocks certainly didn’t track the metals prices very well the last year. What’s been the problem?
MZ: Gold stocks have performed poorly compared to the metals. We believe this has to do with investors being leery about another period similar to what occurred in 2008 when credit markets froze. Exploration and development companies, in particular, are sensitive to what’s going on in the capital markets since they require capital to continue exploration. People are nervous, but that creates opportunity especially with what I believe will be a catch-up in equity prices.
TGR: I hope with metals prices staying up, the credit markets will be a little more optimistic and will loosen up a bit.
MZ: We certainly don’t expect another period like 2008. I think that was an aberration.
TGR: So, I hope the stocks start picking up here and not continue acting like gold is $800/oz and silver is $15/oz.
MZ: That is what we expect and the precious metals stocks could really get a boost on QE3 or other stimulus programs.
TGR: So, what do you think is going to be some sort of catalyst to get people more excited faster? Or is this just going to have to be a gradual progression and we are going to have to wait for $2,000/oz gold and $50/oz silver for people to really get into this market?
MZ: The disconnect between gold/silver prices and mining company equities has grown considerably. The sector is cheap by historical standards when you consider the price of gold miners’ shares relative to the price of gold. The Philadelphia Gold and Silver Index (XAU), which is an index of 16 precious metals and mining companies, is close to the lowest level it has been since the 2008 crisis relative to gold. We expect this ratio to gradually work its way back to the average. If we see gold mining stocks move up to even the low end of their historical range versus gold, it will mean a significant gain for many of these companies.
Increased merger and acquisition (M&A) activity in the sector will get people interested in a lot of these companies. As the price of gold and silver continues to rise, the economics become very compelling, especially for large- and mid-cap companies to acquire smaller players.
More interest in precious metals will help too. With what I see as a developing currency war-a race to devalue-I think more investors are going to turn to precious metals and related equities.
TGR: It certainly seems like there are a lot of smaller companies out there with some interesting looking projects that may be sitting ducks for being taken over. If they have to keep going back to the market to raise more money and create more dilution, that could be a problem. What’s your thinking on that?
MZ: Small exploration companies are going to continue to need funds to advance their projects, and costs have been increasing. That’s a major problem. The need to raise capital isn’t going to change but we are seeing alternative ways of financing such as gold and silver streams, alternative debt arrangements and joint ventures, which mean less dilution.
TGR: A lot of companies that were able to load up with plenty of cash at reasonable prices are obviously happy in this market. Do you think they’re going to get pushed to go out and do acquisitions?
MZ: I think what we’re seeing now are mining companies with the ability to acquire languishing juniors taking advantage of the environment. The seniors and intermediates, which have filled up their treasuries with robust gold and silver prices, certainly have the ability to do the same. We see this trend intensifying, especially if mining company valuations don’t keep pace with rising metals prices.
TGR: So, are you expecting that 2012 is going to be the year that mining stock investors finally wake up and smell the gold and realize it’s time to get into this market?
MZ: I think this is the year! Investors have been cautious and focusing just on the downside, holding their money in cash. I think investors should be opportunistic and look for well-run companies with strong management and great assets.
TGR: Well, we’re certainly hoping for that also. We appreciate your joining us today and look forward to talking with you again.
MZ: Thank you and I appreciate the opportunity.
Analyst Matthew Zylstra joined Northern Securities in 2010 after having worked at Sprott Resource Corp. and investment counsel firm Foyston, Gordon and Payne Inc., a unit of Affiliated Managers Group Inc. He is focused primarily on junior precious metals producers and also follows some base metals miners. Zylstra has worked in the finance sector since 1999.
Article published courtesy of The Gold Report – www.theaureport.com