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Second Quarter
July 2011
This has not been a happy period for investors, with May and June seeing many markets and sectors collapse by 10% or more, wiping out first quarter gains. The reasons for this spring collapsewell rehearsed in the mediahave not gone away, and with valuations neither particularly compelling nor overly stretched, we are neither aggressive bulls nor bears for the next several months. We see a sideways market, with mini peaks and troughs along the way, for the next several months (or longer), in what the Financial Times columnist John Authers has called The Age of the Crab. We do, however, see some very solid companies selling at good prices, particularly (though not only) in the resource sector, on which we continue to be long-term bulls.
It was a disappointing period for us, with May and Junes declines wiping out all gains for the year. Though our gold accounts beat the index in the first half, losing only half as much, our resource accounts fell around 5%. Similarly, our global accounts lost some ground over the period, with the mid-risk growth account down, though less than 0.5%; our conservative accounts rose just 1.6%, while our aggressive accounts were down (though largely due to one anomalous account).* Although we mostly underperformed the indices in this period, we are comfortable with the value in what we own. The high allocation in our global accounts to resources, which were among the hardest hit sectors, is the primary reason for this relative performance, while the juniors, which dominate our gold and resource accounts, fell more than the big caps this quarter. Many of these juniors, however, are selling at compelling value and we expect them to rebound quickly when the resource sector recovers before the end of the year. Similarly, many of the other stocks that have fallen more than the broad market in the last couple of months also represent good value at these levels. I suspect that precisely these stocks will rebound the most.
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bit of luck will be able to. These are people who, for the most part, could not afford the house they bought and never will. So for all the houses currently in foreclosure, there are more lining up behind them ready for foreclosure if the backlog clears at all. Worse, there are eight million mortgages with a long-to-value of 95% or more, on top of the 12 million already under water. They may be current now, but if prices decline, they might think twice. This is why Fed and Administration policies are aimed at boosting housing prices, and why the Fed will keep interest rates low. But with the unemployment rate stubborn at over 9%, many people will find it increasingly difficult to keep their mortgage payments current, and a mortgage holder who gets behind, is underwater on his mortgage, and sees no near-term prospect of improvement, is more likely to stop making payments altogether. Despite the stalling economic recovery, inflation is inching up; the latest CPI report showed prices up 3.6% year-on-year, up from a CPI of 2% a year ago. Measures to restrain inflation growth will equally hurt the economy.
major OECD economies, solid banking systems, and undervalued currencies, so they are likely to withstand the problems in the major economies and resume growth sooner. Overall, most economies are seeing only moderate growth, sputtering in many countries, despite the easy money of the past few years, with negative real interest rates in most of the world. While rates will stay low for some time, they are beginning to go up; Europe, China, and Australia, as well as many emerging economies, have already increased rates this year. The major choice facing policy makers around the world will be how rapidly to increase rates to stem inflation against the risk of harming decidedly uneven recoveries.
horror. Of course, the rapid increase in margin requirements triggered the fall. But what has been lost by mostthough not by Ian McAvity to whom acknowledgements are dueis that silver has seen three other corrections of greater magnitude since 2004. Silver is, has been, and always will be volatile. People noticed this correction more because of the prior strong run up, and of course because it came from higher price levels, the absolute dollar drop was more. But 30% and more corrections in silver are nothing unusual, and (as we discussed last quarter), after a period of base building, we expect silver to resume its upward move. We dont necessarily expect significantly lower prices from here, but are prepared to have to wait just a little before it moves up again. So we have been accumulating slowly on dips. For the last two months, silver has traded in a fairly narrow range between the low $33s and the mid-$37s.
emphasis on value in Europe and growth in Asia, and always preferably companies with dividends. The next quarter or two is likely to see us trim some positions as markets move upwards.
Gold accounts
As have the global accounts, our gold accounts have swung wildly this year, and we have gone from buyers to sellers and back again. We entered the quarter with an already-low cash position of under 5%. Then we started trimming positions in the usual spring rally which came promptly to an end at the beginning of May, taking gold stocks to well under the years lows. We had not sold as much as we wanted, before the crash caused us to switch and buy again. If that sounds wild, think of a stock that we like, has potential but pays no dividend and goes from $1.15 to $1.90 back to $1.12. To benefit, one has to sell a little on rallies, and lock in the gain. Now, after topping up accounts fairly aggressively in June, we are now fully invested, with less than 2% of accounts in cash, and most of that set aside for puts. This is among the lowest we have ever
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been in any type of account, and we are looking to raise a little cash in coming weeks and months. Two new buys, including one trade Among the stocks we bought were our top picks, including Franco Nevada, Allied Nevada, Lara, Yamana, and Vista. We added two new companies: European Goldfields, which is developing projects in Greece; and Solitario, a solid outfit with half a dozen projects in Latin America. The former is more of a trade; we have already sold some of our position after the long-awaited permit was issued. With cash so low, we will be looking for such trading opportunities. During the quarter, we exited only one company, and that is Radius Gold, taking advantage of a strong move in April, which seemed to us to put it above fair value. The stock today is lower than where we sold it, and we could rebuy it. So in the coming quarter, while very positive on gold and believing the gold stocks are still undervalued relative to bullion, and with many exploration stocks at depressed value levels, we want to maintain a fully invested posture. But because these stocks are inherently volatile, and to ensure we have funds for new opportunities which will doubtless come along, we will be looking to raise cash, perhaps by trimming positions.
(the old Magma Energy after its merger with Plutonic). The first, because we are bullish on copper for the next year or two, contrary to market opinion at that time; the second because of internal corporate developments; and the third because it is exceptionally oversold. Bought depressed uranium stocks Our new buys were concentrated on the uranium sector, which we believe is oversold following the Japan-induced selloff. Despite Japan, and the grandstanding in some other countries, such as Germany (perfectly happy to buy its power from French plants), nuclear power will clearly continue to be a significant part of the energy mix in the years ahead; China for one is not going backwards. We bought Cameco, the worlds leading uranium producer; Paladin, a growing Australian producer and possible takeover target; Mega Uranium, a highly depressed explorer; and the Uranium Participation Certificate, for direct exposure. We are looking to add to our oil holdings, buying more Canadian Oil Sands this past quarter as the stock tumbled from the mid-30s to the mid-20s. We would like to increase our exposure to oil, but in the right companies at the right price. Overall, we expect to remain reasonably fully invested, though always looking for opportunities to monetize holdings and redeploy the cash when better opportunities come along. Our focus remains on gold, copper, oil, silver, agriculture and uranium. In sum, this has been a difficult year so far, and we do not expect that to change significantly, though we do expect the resource sector to perform strongly in the second half of the year. The broader stock market, however, will be more of a sideways market, albeit with strong moves up and down. We will look to use this volatility to acquire strong companies at good prices, companies that we can hold for a long time and enjoy the dividends along the way. Given our low cash holdings across all accounts, we will be looking for opportunities to raise cash in coming months, so we are ready for any exceptional buying opportunities that come along.
Adrian Day, July 8th, 2011
Resource Accounts
Similarly, our resource accounts, after trimming positions, topped up in the May-June decline. We strongly believe that the long-term resource story remains intact, both because of supply/demand fundamentals and the macro-economic environment. So our overall bias, as with gold accounts, is bullish, looking to buy when opportunities are available, but selling when a particular company disappoints, or when a stock or the sector gets overbought, in order to ensure we have cash available for the next downturn. This quarter we sold only one stock, Abacus, a junior copper company that has disappointed. We are now pretty fully invested after Junes buying. Most of that buying was adding to existing holdings, particularly this past quarter Freeport Copper, Reservoir Minerals, and Aterra Power
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