Welcome to this week’s Market Wrap Podcast, I’m Mike Gleason.
Coming up later in today’s program is an exclusive interview with mining expert and metals market insider David Smith. We put the mining industry under a microscope and talk about how today’s sharply lower precious metals prices will impact mine production.
David makes a forecast about supply shortages that you really need to hear. Don’t miss my interview with David Smith.
But first, here’s this week’s market update.
Well, Republicans achieved what some are calling a landslide victory in the mid-term elections. They captured enough Senate seats to become the majority party in the upper chamber and extended their majority in the House of Representatives to their largest since World War II.
It’s also been a landslide of sorts for the precious metals markets. Prices for gold and silver have slid off a cliff. They continued sliding Wednesday as investors celebrated the Republican sweep by pushing the Dow Jones to a new record high. Metals were also hurt by the Bank of Japan, which vowed to engage in a “no limit” quantitative easing program. That buoyed the U.S. dollar against the Japanese yen, and it rallied against most other foreign currencies as well.
On Thursday, precious metals markets stabilized. As of this Friday morning recording the metals are experiencing a much needed rally in the wake of the recent bloodbath, albeit a small one. Gold is up about 1% on the day and now shows a weekly loss of about 1.7% to trade at $1,154 an ounce. Silver has swooned 3% on the week though it's above its lows from earlier in the week, prices are all the way down to $15.65 an ounce.
These incredibly low prices are sparking a buying frenzy in Silver Eagles and other popular bullion products. By mid week, the U.S. Mint was unable to keep up with the surge in demand and mint officials said they’re all sold out on Silver Eagles for the time being. We’ll be keeping a close eye on that situation but we should note that since Money Metals has a large on-hand supply and sells from inventory we still have immediate availability of Silver Eagles for the time being.
Getting back to the market’s reaction to election results, what will the sea change in Congress mean for money and metals over the next two years?
For one thing, Richard Shelby of Alabama is set to become chairman of the Senate Banking Committee, which oversees the Federal Reserve. Senator Shelby helped lead the opposition to Janet Yellen as Fed chair. But there’s little the Senate can do to affect policy at the Fed, which operates as an autonomous entity.
And with a liberal Democrat still occupying the White House, don’t expect any dramatic policy changes to become law. Both Republican and Democrat leaders have vowed to try to work together to achieve modest objectives. Successful compromise in Washington often means that Republicans get the tax breaks they want while Democrats and Republicans get the spending programs they want. It’s the path of least political resistance.
It’s also the path to more debt. The national debt will soon hit the $18 trillion mark. Over time, debt growth is positively correlated with gold prices.
During the manic precious metals run-up of the late 1970s, budget deficits got up to around $310 billion in inflation-adjusted dollars. You may recall that gold and silver prices were in the process of bottoming out in 2001, the last year the federal government ran a budget surplus.
By 2009, the government was running annual deficits in excess of $1 trillion. Since 2011, however, federal budget deficits have shrunk as revenues have increased. That’s helped lift the dollar and alleviate inflation fears.
Next year could see the deficit shrink slightly again – even though the annual shortfall would still be a staggering number. The Congressional Budget Office projects a $469 billion deficit in 2015. Nowhere near balanced. And that may be as good as it gets. The CBO forecasts annual budget shortfalls to rise steadily in the following years – ultimately back to more than $1 trillion by 2022. That timetable may be optimistic.
Precious metals prices have taken a shellacking amidst the popular perception that trillion-dollar annual deficits are behind us and a new normal will play out in the years ahead. But a debt crisis is coming.
Look, neither Republican nor Democrat members of Congress are going to be willing to call for cuts in entitlement programs and other “mandatory” spending. The reality is that the biggest portions of the federal budget are on autopilot to grow exponentially in the years ahead.
Some Republicans even campaigned on a vow to boost spending – at least on the military. If we get drawn into new wars in the Middle East, then it’s a given that military spending will grow and a possibility that commodity prices spike.
Perhaps the biggest threat to federal finances, though, is if interest rates spike. Uncle Sam can comfortably carry an $18 trillion balance on his credit card only so long as the interest payments remain super low. But if rates rise to more normal levels as seen in the 1990s, interest costs would explode, and so would budget deficits.
We may not necessarily see anything dramatic happen over the course of the next year. But looking out 5 to 10 years, a strong likelihood exists that gold and silver will have an opportunity to shine as money metals. And in a national debt crisis, they may shine even brighter than they did in 2011.
Well, for more on the state of the gold and silver markets, and what a constricting mine supply and a hiatus from QE will mean for the metals, let’s get right to this week’s exclusive interview…
David: I’m good Mike, how are you?
Mike: Real good. First off David, before we get to broader topics I wanted to get your take on what's happening here in the precious metals markets. We've obviously taken out some pretty major support levels. So what do you see from here from a technical basis after the damage that's been inflicted on the charts over the last week in particular?
David: Well, you're right. Some support for gold and silver that was expected to hold was taken out. There are some levels of support below that, but sentiment seems to be the big driver now. Most of the newsletters that are out there writing are negative, so that’s putting downward pressure on. But what I find is really interesting is the volume of sales that people buying silver, American Silver Eagles and Canadian Maple Leafs; the volumes are just amazing. They’re also seeing a pretty heavy volume in Europe as well too, not to the mention the gold bullion coins. Kind of counter intuitive but it’s kind of interesting that people realize value when they see it I guess.
Mike: One of the largest wholesalers in our business is just not taking orders for Silver Eagles and Silver Maples right now. It’s really astounding. There’s going to be some real fireworks happening potentially. One of the main reasons I wanted to have you on this week is because you’re an expert on the mining sector and have dedicated much of your life to following that industry. We’ve got some real issues brewing here from a supply standpoint.
For instance, just last month one of the largest silver producers, First Majestic, announced that they would hold back a big portion of their third quarter production because spot silver prices are simply too low to make it worth their while to sell it. Their CEO Keith Neumeyer claims their cost of production is in the $15 to $16 an ounce range, but I’ve also seen other miners report higher all in production costs that are closer to $20.
What’s going to happen here? Will the mining companies follow the lead of First Majestic? Will they just stop production given these prices? Will they go out of business? What’s going to happen here with supply given these ridiculously low prices that are really just a result of all the paper market selling?
David: I think all of the above. It depends on the financial status of the particular company. You mentioned First Majestic, they withheld over 900,000 ounces from the market and they may withhold more. Not every company can withhold some of their production, because a lot of them are just trading dollars right not if that. A couple of other companies have done this a couple times before on a short term basis to get a better price and sometimes they’ve been able to sell for two or three dollars higher a few months down the line or a few weeks.
I think it would be very positive if some other companies took First Majestic’s lead and it wouldn’t surprise me if they did, because as you mentioned now just about all of them are selling at or below cost. Even some of the others that have kind of secondary silver supply coming from primary base metal production. I think in terms of the supply over the short term for people that want to buy silver the effect isn’t going to be too great.
What I’m concerned about is the intermediate to longer term with both silver and gold and especially gold, because I think that they are causing some systemic issues within the industry. Because as you probably know an awful lot of gold supply that comes in that is purchased as projects by the big gold miners; this comes from exploration companies from small companies that go out and take the risk and explore properties and drill a lot of holes and prove up a resource. Because the big companies they don’t do too much of that.
What these companies a lot of them going out of business, or basically having enough money to keep their quarterly filings but no drill holes, this is going to impact the ability of the big gold companies to replenish their supply. Don’t forget their mines are a wasting asset, their digging gold out of the ground, and each quarter there’s that much less gold in their project.
I think if we look at what’s happened over the last ten years with all of the high prices; we had gold from $300 to actually below $300 to $1,900, and there was only one major gold deposit discovered and the few intermediate sized ones. The biggest one that was discovered was nationalized by the country where it was discovered.
If all movement can only bring about a fairly small amount of new discovery, you have to wonder what the situation we have now is going to do where the money is tight for exploration. And where the few remaining of any companies that are around are not going to be able to fill the pipeline of the majors when they need to replenish their supplies.
Mike: You alluded to sentiment earlier there. You’re talking to the people in the mining industry. What are hearing? What are they telling you right now given what they’re seeing in this paper market?
David: I think all of them are tightening up their expenditures and some of them are closing unproductive mine shafts, and adits. Others are cutting overhead, that’s the responsible thing to do in any kind of environment. The big majors are selling off a lot of their assets, some of them are pretty good assets. Others are just not going to keep exploring them. You can’t just turn around and wrap these things back up when the price goes up.
Right now with the sentiment being really negative and a lot of it has to do with people that have been disheartened because the price has dropped to where it is now. But as you alluded to a lot of this is paper selling, it isn’t that the demand isn’t there, because the demand in many cases is higher than it’s been in the last couple of years. China and India continue to purchase large amounts of gold, both above and below the radar.
It’s really the paper market that’s the tail wagging the dog on this thing. That’s the thing where people deferring buying physical, they think they can spot the bottom, but oftentimes this like pouring liquid down a beaker and it comes up the other side just as fast. I don’t know if that’s what will happen, but it wouldn’t surprise me if it did. When you get down into the area like this now, people that want to add more or that haven’t take a position, I mean it’s certainly a price that makes a lot of sense to consider buying physical at this point.
Mike: How long do you think this supply/demand imbalance can continue before we get some sort of a pop and see higher prices to dry out the additional exploration and more supply, more scrap, what have you. How much longer do you think this can go on before we have to see something like that?
David: I think when the price turns around there’s going to be, not just the investors are going to doubt that those prices are going to hold up, but the actual producers themselves and the explorers. Just because silver goes up to $18 or $20 that doesn’t mean everybody is going to break out the champagne and start mapping out these big exploration projects. They want to see the price hold for a considerable time, so they’ll be a lag. No matter what happens to price, it will take a while for the investors and the producers and explorers to believe that this is real and it will be sustained.
Mike: Switching gears here a little bit, you’ve said before that the fear trade is what got you into gold and silver, but the love trade is what can make an investor rich. Explain your philosophy there, because you say that gold and silver can also be “good news metals” as well; talk about that.
David: It’s true, and Frank Holmes was probably the first one to popularize what you just mentioned about the fear and the love trade. Of course a lot of trade has to do with buying jewelry for your relatives and creating a dowry for your wife, especially in India, not your wife but I mean your daughter who’s going to get married at some point. The beauty of having gold jewelry and being able to give it as gifts and have it yourself; there’s a tremendous amount of demand for that and not just in Asia, but also here as well.
When the price gets down like this it really is appealing to people and you can see the volume go way up in the jewelry stores. Even if you’re not buying jewelry, if you’re buying an American Silver Eagle, or if you’re buying a Canadian Gold Maple Leaf, or a Gold Buffalo, American Gold Buffalo, these are beautiful, beautiful coins. They are pleasing to look at, to hold in your hand, and to have as a store value. They do both of those things. They’re not just something like you buy a fancy TV set or something. They’re actually true money in addition to having value for their beauty.
Mike: You’re colleague David Morgan has often quipped that markets can be irrational for a lot longer than you can stay solvent. I guess that’s speaking more specifically to those that are trading with leverage and in the futures market and so forth. Markets do act irrationally for a lot longer. You can reach these extreme oversold levels, just like we could reach an extremely overbought level on the other end of this that investors will be reaping the benefits of. Explain that, talk about that mindset, sort of give a little bit of advice I guess to folks who are feeling a little bit worn out right now.
David: David Morgan has often said that these markets will either wear you out or scare you out. Silver has usually bigger percentage moves in both directions than gold. Of course, now we’re seeing pretty good size moves in both of them. I think the thing for people to remember is that when markets are going down, especially when they’re going down in a sustained manner like this, you’re going to see, most of what you’re going to see is negative reporting. When they’re going up you’re going to find all sorts of reasons why they’re supposed to keep going up.
The only way to really come out really well in these things is to try to be a contrarian and when the market is really lopsided, when everybody’s on one side of boat, then that’s when you want to take the other side of the position. Especially if it fits into your financial circumstances and you’re plan, and you’re ability to handle risk in this sort of a thing. By the time just about everybody you talk to or read about is saying, “It’s time to buy gold and silver,” well a lot of that potential profit will be gone, because gold and silver will be much higher than where they are now.
Who knows if this is the bottom; prices could go lower. Nobody knows and the best in the business will tell you honestly that they didn’t know they were buying at or near the bottom until sometime after. I find it really works well, whether it’s buying mining stocks or the physical, to have people consider buying in tranches. If you were going to buy “X” amount at a certain price and you think it could fall further, buy half of that or one-third.
The thing is you’re taking action regardless of the size of your purchase, as opposed to trying to wait and then think you can time it. Because once it really starts up either you won’t believe that it’s going up, or it will go up quite a ways, and you’ll think well gee I could have bought it so much lower but I didn’t. But if you’ve been buying in increments, whether it’s a particular mining stock you’ve researched or the physical itself, you won’t feel like the train left the station without you on board.
Because you’re continually adding at better and better prices, in a logical, rational, calm manner and it really makes a whole difference in the perspective that a person has with market action when that’s going on. Because the market could be really moving in a big direction one way or the other and frothy, and you can be quite calm, and that’s what you want to try to achieve.
Mike: QE ended last week, which caused a big downdraft in the metals, and then coupling that with the GOP’s big victory on election Tuesday is maybe a bit of a one-two punch against precious metals. Is there a perception now that there’s going to be a newfound fiscal responsibility in Washington, an improved economy now that the Republicans controls both the House and Senate.
Is that going to be a drag on the metals going forward do you think? Is inflation no longer a concern at this point given the recent Fed announcement…a bit of a loaded question there, but what are thoughts on all that?
David: There may be a perception that things are really getting better, but you know the systemic problems have not even been addressed by either party. To think that there’s going to be a sea-change because of what’s going on, I think is overly optimistic if not downright naïve. Because we have about two years before the next Presidential election, we have a lot of legislators that are up for election in 2016 that weren’t now. Their primary focus is to get reelected and to get themselves committee chairmanships and things like that. I would be surprised if we see anything major that really solves any kind of a problem coming up any time soon.
The issues of overleveraged banks and other entities, and the tremendous debt that we’re carrying and the slowing economy globally, all of these things are going to be a drag on any kind of a big turnaround. When you look at the DOW having new record highs and how much of that money is actually coming from Fed stimulus money and from high frequency trading as opposed to individuals and large entities that are actually buying stock because they feel it represents value.
You can see that if you look at the metals right now, which is about as contrarian as you can get, to buy the DOW versus the metals it looks to me like a no brainer that you would want to be very, very careful buying the DOW and less careful buying the metals. Because you’re getting real value that over a really short period to intermediate time I think you’re going to be pretty happy you picked up some, rather than just trying to wait for the all clear to go.
Mike: I couldn’t agree more. Things seem to be teetering and maybe we are on the brink of some sort of a collapse and so forth. Very well put indeed. We always appreciate your thoughts and words of advice at times like this.
Before we go we want to urge our audience to check our David’s latest article on MoneyMetals.com. He wrote about how metals investors can learn a thing or two from the recent Ebola scare and makes some great comparisons there in a thought provoking article. We didn’t have time to talk about it here today, but folks should definitely check that out at MoneyMetals.com.
Well, David thanks again, enjoyed it as usually and we look forward to catching up with you real soon.
David: It’s been great to speak with you Mike and you have a great day.
That will do it for this week. Thanks again to David Smith. Check back next Friday for our next weekly Market Wrap Podcast. Until then this has been Mike Gleason with Money Metals Exchange. Thanks for listening and have a great weekend everybody.
About the Author:
Mike Gleason is a Director with Money Metals Exchange, a precious metals dealer recently named "Best in the USA" by an independent global ratings group. Gleason is a hard money advocate and a strong proponent of personal liberty, limited government and the Austrian School of Economics. A graduate of the University of Florida, Gleason has extensive experience in management, sales and logistics as well as precious metals investing. He also puts his longtime broadcasting background to good use, hosting a weekly precious metals podcast since 2011, a program listened to by tens of thousands each week.