From Fraser when we were discussing Mining Stocks. I thought it was excellent analysis and as a far better
trader than I - I thought id share his views
What the market missed about the
latter end of 2011, was the degree of leverage over Gold & Silver physical
derivatives and other exchange traded products. When looking at the price of a
product, the 'only' true price is one that meets demand with "true"
speculation built in (meaning unleveraged). Gold has for a long time had a
declining leverage, for which most people/funds have ignored for whatever their
reasons. The final elements leveraged to
buy gold are closing quicker than planned, thus the drop…this also presents an
opportunity to long as these positions close, albeit catching a falling knife.
When leverage starts to decline
and margins need to be increased, or funds are margined out or put under-stress
generally the speculators a) cut their losses and close positions b) close
positions to protect profits or c) increase their margins. The latter is a
point of denial, for which the likes of Paulson are now suffering. Having
chosen to ignore all the indicators that he suggested were evident within the
financial system, it's now showing he doesn't understand the indicators of
"gold stabilisation" and a real price being determined for precious
metals.
Not only does the Gold drop have
an impact on speculators, it also promotes people to 'run' to safer stocks that
infer dividends. Gold, it has been assumed will show vast returns and people
have naively invested in gold companies assuming those returns will come in the
form of profits. When in reality there is a stark differential between Gold and
a Gold Miner, 90%+ of all the risk is with the Miner with little of the upside.
Why people have opted and become
fixated with Gold Mining Companies is anyone's guess, perhaps a misguided
belief that if gold is going up, then Gold Miners should. History has rarely
shown this to be the case, with monies leveraged during "commodity"
gold rushes. The danger is for those leveraged and with higher cash costs that
they are unable to see any form of financial return.
Very little work is put into
companies analysis of 'true capital and cash costs' where they find themselves
in a bear/falling market having bet on a leverage asset that will struggle in
the depreciating environment.
Paulson believes gold is an
inflation protector, this is at the very least naive and best a weak
justification for large exposure. The only elements that truly protect against
inflation are items grown for food or industry. So people should have been
purchasing land rather than gold as this is the base model.
When people realise the
difference between a Miner and a Commodity, they'll perhaps essentially admit
why they should not have been in the Miners since late 2010. Hindsight is a
wonderful thing, but generally the 'signposts' for those not in denial is clear
very early on. All the signposts were there…leverage reducing, costings
increasing, supply increasing and demand reducing…Including other items such as
“more cash required for day-to-day living” thus less to invest in the likes of
gold. Remember investments are based on a hierarchy of needs, as Maslow
suggested, but with a few twists!
I fail to see why people are
investing in companies with such poor Investment Rate of Returns. There are
good companies out there with 25%+ IRR but not often commented on and avoided
by speculations betting on high risk (but without the ability to assess what is
high risk). Petropavlovsk (LSE:POG) being a prime example. Investors or Funds don’t
understand the model, because most are only moderately qualified to do so. This
is why I prefer more historic results and higher returns towards the 80+
percentile per annum including investment in International Arbitration Claims.
Likewise, people need to look at
essential products and minerals, such as Iodine and Lithium etc...where demand
is outstripping supply significantly.
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