“Junior Resource Investors Keep Making the Same Mistakes”: Sprott’s Rick Rule

Sprott Global Resource Investments Chairman Rick Rule provides his thoughts on the current state of the junior resource market at the recent Vancouver Resource Investment Conference and why most speculators/investors keep losing money. He also explains why he thinks gold doesn’t need to win the war with the U.S. dollar and believes investors will look back to 2015 as being “the good old days.”

Narrator: Live from the Vancouver Resource Investment Conference, it’s the Small Cap Power Expert Interview, today featuring Rick Rule.

SmallCapPower: Welcome, Rick. It’s January 2015. Can you give viewers your thoughts on the state of the current junior market?

Rick: Absolutely, and thanks for the opportunity. Let’s begin with gold. We’ve seen a bit of a move up in gold recently, and we’ve heard a lot of discussion here at the Vancouver conference about the reasons for the state of the gold market, both positive and negative. 

I think people are over thinking the gold market. My personal belief is that gold is locked in a war with the U.S. dollar. It’s denominated in dollars and it competes for investor attention with the dollar. I don’t think that gold needs to win the war against the dollar. I think that gold needs to lose the war less badly, and I think that’s going to happen. 

I think that the strength in the dollar has an awful lot to do with confidence, and I think that some of that confidence is misplaced. Let me give you a little bit of the arithmetic. The world’s dominant security is the U.S. ten year Treasury. The U.S. ten year Treasury yesterday was yielding about 1.69%, which means that the U.S. government absolutely positively guarantees to give you 1.69% a year for ten years. Now, the official stated rate of inflation in the United States, the CPI rate of inflation, is just about the same, which means that the U.S. Treasury guarantees you that they will pay you nothing for ten years. Jim Grant calls that return-free risk, and return-free risk doesn’t sound, to me, like a particularly attractive investment alternative. But, the truth is far worse. The people who construct the CPI don’t shop where you shop, where I shop, or where your readers shop. My own estimation of the price inflation of the basket of goods and services that I buy shows that my own currency is depreciating at 4% or 5% a year.

It’s interesting to note, as an example, that when they construct the CPI, they don’t include tax. Now, if I didn’t have to pay the tax, I promise you I wouldn’t complain so much about the index. But, the point is if you use real numbers, not constructed numbers, the value proposition of the U.S. ten year Treasury is if you give them $100,000 today, they give you back $60,000 in purchasing power ten years from now. 

That is gold’s adversary. That is why what I’m trying to say is arithmetically I think that gold is in a war that it cannot lose over time. When will this occur? I have no earthly idea. Will it occur? To me, the math’s compelling. 

Let’s move on to the resource equity markets, and let’s say two things: there is a gold market, and then there’s a materials market, the materials market being things like copper and oil which are very, very, very bad. Let’s talk about that for a second, because we’ve already talked about gold. In the materials market, we need an economic recovery, we need a good economy. The strength that you’ve seen in the U.S. large cap equities markets, at least until the last two weeks, supposes that we have an economic recovery underway in the U.S., and there are some interesting statistics that say that that may be the case – increasing auto sales, increasing employment. But, the truth is it would appear that the recovery, if we’re having one in the United States, is a recovery that doesn’t include things like workers’ incomes or consumption.

If we were having a real recovery, it seems to me that the copper price wouldn’t have fallen by a dollar and that the oil price wouldn’t have fallen by $40. If we do get a recovery, the snap back that you’re going to see in materials prices – in the oil price, in the natural gas price, in the copper price, in the zinc price – will be dramatic. But, notice I said if. That is not a prediction, absolutely not a prediction. 

With regards to the junior equities, which is I think after this long soliloquy what your people are really interested in, it’s interesting to note that in the period 2011 to 2015, the nominal pricing on the Toronto Stock Exchange venture is off by 83%. The real pricing is probably off by 90%, because the index kicks out losers and reincorporates winners. 

A market that has fallen by 90% in four years is arithmetically precisely 90% cheaper and 90% less risky. It’s interesting that people are much more aggressive at a market that’s nine times over priced and very, very, very cautious in a market that’s 90% cheaper. Why is that? 

That’s pretty simple. People’s expectation of the future is driven by their experience in the immediate past, and our experience in the immediate past over the last three years has been atrocious. So, our expectation for the future is very, very constrained. In 2010, we had had, with one exception, nine good years. Our expectation for the future was very rosy, and we drove our actions on expectations that were extremely aggressive. 

If we take the midpoint in those two psychological experiences, there is enormous room in this market to go higher. Will it happen in 2015? I don’t know that. But, this is my fourth market cycle, and the truth is this I do know. Bear markets are the authors, they are the causes of bull markets, and bull markets are the authors, they are the causes of bear markets. If we interview here five years from now, I guarantee you that I will be looking at you saying 2015 was the good old days. You make money by buying low and selling high, which presupposes that you have the courage in a bear market to buy low. 

SmallCapPower: Can you summarize your speech from today’s Vancouver Resource Conference for viewers?

Rick: The speech was entitled ‘The Best of the Best.’ The truth is at a bear market bottom, which we are at or approaching, equities, all sorts of assets, move from weak hands to strong. My friend, Doug Casey, says that a bear market doesn’t cause wealth to go away, it just redistributes the wealth to the rightful owner – the wise, the courageous. 

The truth is when the market recovers, I want you to visualize a circus master’s whip. The beginning of the whip is the best assets. They move first, not furthest but first. So, first of all, if you think the gold price is going higher, which I do, buy gold. Don’t leave yourself any room for operational error by buying a stock. Buy the physical metal. The next thing that moves are the biggest companies, and we have shown at Sprott statistically that 7 or 8 of the 39 companies that populate the senior or intermediate golds generate all of the performance. Don’t buy the whole index. Buy the best of the best.

With regards to the juniors, people make the same mistake time after time after time. They buy the unproven people. They buy the unproven properties. The truth is in this market 5 cent stocks are generally much more expensive than $5 stocks. Some $5 stocks have the probability of going to $20, while most 5 cent stocks have the absolute probability of going to zero. Buy the best of the best, the best people, the best projects, the best balance sheets, the best income statements. Do the work and you will prosper in this market.

SmallCapPower: Thanks for that. Finally, can you tell our viewers a little about your newsletter, Sprott’sThoughts.

Rick: I’m delighted that you brought that up. I would encourage your readers and listeners to go to our website, www.SprottGlobal.com, and click on subscribe for Sprott’s Thoughts. It represents the best thinking of the Sprott organization and also many outside commentators, and I guarantee your listeners will get their money’s worth, because it’s absolutely free.

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