KRO Summary April 2020: The Emerging Gold and Critical Metal Manias
KRO Summary: April 1-30, 2020
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The Emerging Gold and Critical Metal Manias
Everything except the death rate caused by Covid-19 is turning out worse than expected, thanks to global lockdown strategies deployed to "flatten the curve" which has prevented a Spanish flu scale pandemic. The result has been a flattening of the global economy and Donald Trump's re-election chances around which nearly every decision by the US leadership revolves. The race is on to develop both a treatment and a vaccine, though it is not clear how they will shorten the testing cycle for demonstrating reliable efficacy without side effects, manufacturing a meaningful volume of doses (America's testing response is no cause for optimism), and administering vaccines on a large enough scale to have the vaccine create herd immunity rather than the coronavirus achieving its own demise through infection. The extreme self-serving incompetence displayed by the leaders of the world's two biggest economies in failing to take seriously early warning signs will not be forgotten by future historians. The modern world has never experienced such a large scale cessation of economic activity. Although general equity markets are exhibiting a V-shaped recovery, this will not be mirrored by the economy because neither businesses nor consumers will have the confidence to resume normal activity.
The Covid-19 virus will be festering in the background, incubating itself wherever crowds gather voluntarily (churches, night clubs, sports events, airplanes) or involuntarily (aircraft carriers, slums, meat packers, hospitals, public transportation, grocery checkout stands, jury selection). Unless the United States bans inter-state travel, effectively by imposing an enforced 14-day quarantine, Covid-19 will most assuredly make a comeback absolutely everywhere when the 2020-2021 flu season in the northern hemisphere begins next October, regardless of different lockdown measures imposed by states. The knock on effects of revenue collapse, be it from employment income or business sales, is spawning a cascading wave of bankruptcy at all levels that will inhibit surviving businesses from full-scale re-opening. A tidal wave of private equity led foreclosure will make the 2008 real estate blowout look like a hiccup.
The problem for society today is that while consumers shared responsibility for the securitized mortgage driven boom of 2002-2008, they share none of the blame for the lockdown induced inability to pay their bills simply because their jobs evaporated. The rage of the people will have no limits as the realization sinks in that it will be a long time before the Covid-19 fallout will be undone. When the second Covid-19 infection wave surges later this year, there will be no lockdown response; it will be a "let her rip" herd immunity response. If early signs of harmful effects on children, which the CDC calls Multisystem Inflammatory Syndrome in Children, go beyond outlier status, the rage of the people will be infused with panic. There will no longer be glib talk about Covid-19 doing taxpayers a favor by cleaning out unhealthy elderly people sooner than later. But beyond the health risks there are so many things going wrong in the way the economy operates that cannot easily be reversed that the V-shaped recovery in the general stock market will fail over the next 6 months, just as it did in 1929 after the initial crash.
After the initial sell-off by gold when equity markets were tanking in March gold has recovered nicely, but it still isn't exhibiting Gold Mania in the market. But that will change as investors begin to understand the severity of the fallout from the Covid-19 demand collapse. The NYSE listed GLD gold trust, still much maligned by conventional gold bugs who have been notably subdued about the gold market since 2017 when Donald Trump became president and flushed all their talking points about free markets and government debt down the toilet, has steadily gained ounces during the past couple months, bringing the total gain for 2020 to 7,090,346 ounces. The current total of 35,809,262 ounces is still 17.7% below the peak of 43,511,415 ounces on December 7, 2012, but wait until the world starts to understand the implications of Trump's Blame China re-election strategy.
Whatever the actual source of Covid-19, China without a doubt is to blame for its failure to heed warnings in December that something was wrong in Wuhan's hospitals. Since Xi Jinping became the leader in 2010 he has steered China back down an authoritarian path and engineered himself "leader for life". The Communist Party leadership is so obsessed with "Make China Great Again" that it suppresses anything that might suggest China is not so great. The culture of fear thus discourages all levels of government from floating bad news to the next level while external journalistic criticism is not merely dismissed as "fake news" but its writers are rooted out as "enemies of the people". China could have nipped Covid-19 in the bud if its leadership was more focused on the welfare of its citizens than preserving its power. The same, of course, can be said about the American leadership which not only ignored what the western media was reporting by mid January, but also what its Chinese listening posts would have been observing about a new virus problem in Wuhan. The lockdown eventually imposed by China's leadership was far more severe than anything done elsewhere, which crushed Chinese demand and shut down its export oriented factories. While the rest of the world watched the "China virus problem" from afar, businesses began to experience problems with those portions of their supply chains that originated in China. Covid-19 was about to give the backlash against globalization major legs that will drive Gold and Critical Metal Manias.
The free trade movement began in the eighties under US President Ronald Reagan and accelerated after the 1991 collapse of the Soviet Union under the header of "globalization" which rested on the Ricardo theory of "comparative advantage". Protectionism is "bad" because it protects inefficient industries and denies consumers the opportunity to benefit from cheaper prices. Capitalism is "good" because in the absence of protectionism it is able to locate productive capacity in the lowest cost jurisdiction and ship the output to the highest bidder. In theory this is good because it forces different parts of the world to specialize in production where it is the lowest cost producer, with the result that everybody benefits. So long as this variety of supply is balanced among diverse regions everybody benefits. Leftists, however, have long criticized globalization because "lowest cost" is achieved through regional disparities in the cost of labor and emissions. When China abandoned its hard-line Maoist stance in the nineties, offering a super-abundance of cheap labor by allowing the peasants in the hinterland to migrate to the coastal regions, and a virtual absence of pollution regulations, multinationals (aka American capital) rushed to China to escape the relatively high American cost of wages, health and safety standards, and emission controls. And so began the great hollowing out of America's manufacturing base, made palatable for most Americans by the resulting deflation in the price of imported goods, but devastating for those regions vacated by capital. Gold bugs with their free market rhetoric would have cheered the outcome as a Darwinian winnowing of the winners from the losers. It was thus very awkward when Donald Trump stole the anti-globalization torch from the left-wingers and turned it into a right wing cause so that today the left and right wings of the political spectrum are united behind Trump's goal of bringing manufacturing capacity back to the United States.
The right wing hijacking of the anti-globalization narrative is not so much interested in seeing a level playing field at a global scale, but it is single-mindedly determined to reshore manufacturing into the country where the right winger resides, even if it means cutting wages, easing health and safety regulations, and dumping emissions onto downstream victims. Capital, justifiably annoyed by China's theft of intellectual property, and by China applying different rules to foreign owned factories on its soil relative to Chinese owned ones, is more than happy to reshore because when it does it will do so with a very high level of automation to reduce the reliance on humans who do stuff like demand a bigger share of profits and catch Covid-19. But it will be years before the American worker recognizes this newer betrayal.
Trump channeled the globalization backlash into a trade war against China, and, rather unproductively, against everybody else with his America First and Only policy. He appeared to have a trade deal with China at the end of 2019, much to the relief of Wall Street whose allegiance is with the profitability of publicly traded corporations. China, however, is no longer an undeveloped nation that has to do capital's bidding. The shift of capital to China turned China from an economic backwater into the world's second biggest economy, and under Xi Jinping's leadership got rid of any illusions that China "would become just like us". No, China was hell bent on becoming greater than America, practicing a form of national socialism that gave it a distinct edge over democracies based on free market agents unaffiliated with the government. The main difference between China and Germany's 1930's variation is that China had read very carefully "Confessions of an Economic Hit Man" and was sinking its mitts into the economies of emerging nations without the American style of propping up puppet dictatorships or Germany's style of military invasion. So not only was China competing on an unfair basis with low labor and emission costs, but it was inserting itself into many regions through a multi-pronged strategy where sovereign and corporate entities got things done in a manner that was impossible for independent western corporations. Under Obama the United States undertook a "Pivot to Asia" that involved the Trans Pacific Partnership, a free trade alliance designed to counter-balance China's relentless expansion, but like anything linked to Obama the TPP was the first thing Trump scrapped when he came into office, foolishly turning it into a battle of America Alone against China even though the rest of the world was starting to have its own reservations about the one-sided relationships pursued by China.
The Covid-19 pandemic has provided Trump with an opportunity to isolate China by seeking to blame China for the economic calamity that has arisen from his failure to acknowledge that the virus emerging from Wuhan in January needed his prompt and undivided attention (yeah, yeah it was always somebody else's fault, same old song, which may be why he relies on relatives and bootlickers rather than experts). The supply chain problems created for the rest of the world by China's own Covid-19 response has already illuminated the danger of relying on hyper-optimized, just-in-time supply chains preached by free market textbooks as the key to profitability in a globalized economy. Any company that created supply chain redundancy to hedge against supply shocks that never occurred would be punished by Wall Street. Now there is a scramble afoot to establish supply chain resiliency by diversifying supply chains and bringing them closer to the end user, which will result in a higher price for goods, but will at least assure continuity of supply through various shocks. And there will be a lot of them because the anti-globalization backlash is taking place at the national scale, with nations likely to forge strategic alliances that subvert free market principles and leave some empty-handed. The main showdown, however, will be between China and the United States for the allegiance of the rest of the world, and both countries have adopted self-crippling strategies in the form of thuggery rather than collaboration.
If you visit my Metals Criticality Center, whose global supply maps for specific metals are organized from metals with greatest supply concentration to least concentration, it will quickly become apparent why the Rest of the World would be wise not to throw its lot in with the United States which has been smart enough to acknowledge its metals import dependency through the recent Final List of 35 Minerals Deemed Critical to US National Security and Economy. China dominates in the supply of quite of few of them, of which rare earths are the most notorious example because China's geopolitical bungling in 2010-2012 while anti-globalization was still just a leftist critique created Rare Earth Mania 1.0. The critical minerals list is not unique to America, which, ironically, tends to import manufactured goods in which these metals are already embedded, whereas other nations need these inputs for their domestically manufactured goods. If the conflict with China escalates it could result in a disruption of shipping channels, especially if the South China Sea becomes a flashpoint. When it became clear that the United States was woefully under-equipped to deal with Covid-19 infections, America thumped around the global stage intercepting shipments and bullying countries to ship to the United States rather than other parties already contracted to take delivery. America is not going to be anybody's friend when it comes to critical metal supply shortages, which will become acute once the reshoring process gains momentum.
The black swan for America nobody bothers to imagine is the possibility that China's Communist Party as run by Xi Jinping undergoes an overhaul that ditches Xi Jinping and his authoritarian strategy in favor of a more open society. On April 26, 2020 there was a peculiar article in the Financial Times by Michael Pettis who is based on Beijing. He argues that China's failure to liberalize its economy and society has stifled the capacity of its population to shift the economy away from export dependency to greater domestic consumption of goods and services. Instead, its policy of deepening state control of all aspects of China has become self-reinforcing in the sense that the more authoritarian China behaves, the more reluctant becomes the bottom half of China's population to spend, forcing Beijing to focus on pointless activities like more residential construction and infrastructure. Covid-19 temporarily collapsed China's export capacity, but now that China is trying to return to business as usual, it is encountering a global import collapse as the rest of the world deals with the fallout from Covid-19 for which Beijing's authoritarianism bears responsibility. Trump's Blame China campaign and China's belligerent response to criticism will make it tougher for China's export economy to rebound, thus increasing domestic pressure. Turning China into a pressure cooker would be a plausible US strategy to gain the upper hand in the rivalry between China and the United States, but what if less power hungry members of the Communist Party who recognizs China's self-inflicted trap move to oust the Xi Jinping cabal? What if China makes a great leap forward to become much more like America thinks it is right at a time when America is doing its best to be much more like China? Such an internal rebalancing could stimulate domestic Chinese consumption at the same time that the Rest of the World excluding America settle on a modified supply chain adaptation that still includes China, thus keeping China's export economy operational? What if this happens at a time while Trump's blue-red state pot stirring is fueling a state based rebellion that brings into the forefront talk about the breakup of the United States? It will be a long time before anybody will really trust China, but not as long to lose trust in the United States and leave it standing alone. There will be no stopping gold if China were to make a real attempt to reform itself as part of a grand bargain with the Rest of World to rebuild the global economy in the wake of Covid-19. But it can't happen there, can it?
A Critical Metals Mania will blossom once supply of critical metals in which China dominates starts to decline and everybody scrambles to secure a non-Chinese source. Gold Mania is already on track to becoming a reality due to the extreme monetary measures taken to deal with the collapse of revenues caused by the Covid-19 lockdown response. When hope vanishes that the economy will have V-shaped rebound matching that of the stock market, more extreme measures will be taken, such as negative interest rates. If the flattened Covid-19 curve erupts this summer and accelerates as the November election and regular flu season approach, the V-shaped market recovery will vanish. When that happens there will not be a sympathetic sell-off in gold, but rather an acceleration of the gold uptrend, taking it beyond $2,000 into new territory which will be the trigger for a Gold Mania that brings new audiences into not just physical gold, but into the gold company sector, starting with producers, then optionality plays, and finally discovery exploration juniors.
It was stunning to hear that in April the smartphone based trading platform Robinhood that charges zero commissions attracted 3 million new accounts, half of them first time investors. Robinhood is the preferred platform for millennials who place bets on the basis of their own instincts or third party advice. Robinhood only allows trading in NASDAQ or NYSE listed companies because it needs liquid markets in order to capture a spread in the absence of collecting commissions from its clients. Most of the new accounts were for individuals hoping to capitalize on the volatility created by the market crash and Covid-19 uncertainty. That will last only until these new traders have no money left. What they really need is a momentum based trade such as was cannabis, which was a product they understood and which had a winner-take-all dynamic that bestowed herd immunity until it didn't. At the moment Covid-19 related treatment and vaccine related stories generate momentum trades, but this narrative has no staying power because a vaccine when it becomes available will be a "public good" with limited profitability and shelf life. A Critical Metals Mania could run for years because it will take years to rebuild new critical metal supply if Chinese supply becomes unavailable. But critical metals are complex and quirky. A Gold Mania is much simpler and has no obvious supply-demand limits like metals used in the real world. Gold, however, already represents a $10 trillion asset class, so in the absence of heavy inflation or fiat currency debasement it at best can deliver a double or triple from current levels. The leverage will lie in gold companies, whose market valuation can expand exponentially if the gold price shoots past a critical level where existing gold production or ounces in the ground become profitable.
It might be better to call it a Gold Company Mania. To make it easier to watch unfold I have created the KRO 2020 Gold Producer Index which currently consists of 52 gold producers with at least 100,000 oz gold production and listed on the TSX, TSXV, ASX, NYSE or NASDAQ. Each company was equally weighted by value based on the price on December 31, 2019. The index has been backdated to January 3, 2017 so that we can see how gold and gold producers have fared since Trump took office, which was very poorly. However, the trend is changing. After a sharp dip in March the KRO 2020 Gold Producer Index is up 19.9% since the start of 2020.
The strongest movers so far have been the bigger and better gold producers like Barrick Gold Corp which is up 62.2 % for the year. Because producers like Barrick have relatively low average "all-in-sustaining-costs" for their production, the modest gold price move has had an immediate impact on cash flow. The leverage lies with the weaker producers with a higher AISC that requires a more dramatic gold price to create a big cash flow boost. A gold price move so big it has a leveraged impact on the valuation of a smaller producer like New Gold Inc, which is up only 27% this year, will carry with it a perceptual inflection that gold has a lot more upside left. That in turn will constitute a Gold Company Mania breakout, creating the momentum craved by Robinhood style traders. It is important that New Gold has a NYSE listing which will make it easy for millennials using the Robinhood platform to trade. Analyzing gold mining companies is not something I am trained to do nor am overly interested in, but I have assembled the KRO 2020 Gold Producer Index as a research and tracking platform for those KRO members interesting in playing this emerging trend.
Although there are signs of emerging Gold Company Mania, the resource juniors farther down the food chain do not yet reflect an influx of new capital. This is evident in the traded value of TSXV resource sector listings which is better than the first couple weeks of January, but not yet depicting an uptrend in daily traded value. However, the better quality resource juniors have recovered from the March sell-off. The KRO 2020 Favorites Index is now up 17.3%, still short of the 22.4% peak achieved on February 21, 2020. There is a new positive mood about the resource juniors, not limited to those with a strong, advanced gold focus.
During the past few weeks the percentage of traded value on the TSXV has been higher for resource listings than non-resource listings. The best explanation I can offer is that non-resource listings are tied to the real world economy where a positive outlook today is a product of wishful thinking. Earlier stage resource juniors, in contrast, are a better proxy for long term optimism because whatever they discover today won't be in production before Covid-19 is just a bad memory. Each one can become its own island of speculative activity if a discovery begins to emerge, and if we start seeing individual juniors knock the ball out of the park, the glass will switch to half-full because if one or two can hit a homerun, then most assuredly nearly every other resource junior could do the same, or at least deliver a base hit. The geological story needs to be good and the size of the prize big.
Aurion Resources Ltd was initially assigned a Bottom-Fish Speculative Value rating on December 14, 2018 at $1.10 based on a strong working capital position in excess of $10 million and the potential of its 100% owned Risti project in the Central Lapland Greenstone Belt (CLGB) of Finland to turn into a rich high grade gold vein district similar to the Timmins district of Canada. The rating was shifted to Fair Speculative Value effective July 10, 2019 following a 50% price increase in H1 of 2019 a...
Outcome Visualization Project as of Apr 9, 2020: James Bay
Project:James BayLocation:CanadaStage:4-Infill Drilling
Net Interest:100% WIUncapped NSR:2.0%Target Metals:Niobium
OV Project ID:1000020OVP Posted:4/10/2020OVP Retired:
Current OV ID:1000060Current OV Confirmed:4/10/2020Visualizer:JK
NioBay Metals Inc (NBY-V)
Key People: Claude Dufresne (CEO), Serge Savard (Chair), Antho...
NioBay Metals Inc effective April 9, 2020 is upgraded from a Bottom-Fish Spec Value Favorite to a Good Spec Value Favorite with an immediate price target in the $1.17-$2.35 range based on an Outcome Visualization which envisions a 6,000 tpd underground mining scenario for the James Bay niobium deposit (OV frozen as Tracker). That is the operating rate contemplated by NioBay for the PEA it hopes to complete by the end of 2020 now that it has completed a 7 hole drill program which will allow NioBa...
Eagle Plains Resources Ltd has had a Bottom-Fish Spec Value Rating since December 31, 2018 and is a KRO 2020 Favorite because this junior is the best practitioner of the prospect-generator-farmout model focused on British Columbia and Saskatchewan. Headed by CEO Tim Termuende and exploration VP Chuck Downie, Eagle Plains has operated without a rollback since 1995, still has only 106 million shares fully diluted, a portfolio with a couple dozen projects farmed out or available for farmout plus a ...
Northern Shield Resources Inc has had a Bottom-Fish Spec Value rating since December 14, 2018 based on its focus on the Shot Rock low sulphidation epithermal project in Nova Scotia optioned 80% in late 2017. On April 29, 2020 Northern Shield published the results from an initial 8 hole 2,189 m drill program in the Highway Zone portion of the 30,000 ha property which significantly elevate this project's potential to deliver a high grade gold discovery. Effective April 30, 2020 Northern Shield Res...