Kevin MacLean's strategy to reduce risk in his Sentry Select Precious Metals Growth Fund and outperform his peers has helped him win Lipper awards in the precious-metals equity category for the three- and five-year periods ending Dec. 31, 2009. His fund posted an average annual return of 8.5 per cent over three years, and 25 per cent over five years.
He looks for companies that can thrive without depending on a rising gold price, and sticks to smaller-capitalization firms as opposed to giants such as Barrick Gold Corp. or Newmont Mining Corp.
“When you hold these equities, which are the benchmark names, you should really not expect to make any money at all in the absence of a significant discovery or a rising gold price,” “I consider these shares to be dead money in a flat gold price environment.”says the 54-year-old manager with Sentry Select Capital Corp. and a former gold-mining analyst.
Mr. MacLean prefers to invest in companies that have demonstrated the ability to significantly add to existing reserves and resources at their operating mines and advanced exploration projects – what he calls “high wealth-creation yield” firms. He doesn't buy miners in their higher-risk construction phase where wealth creation is generally negligible and value can be destroyed by delays, cost overruns and equity dilution.
Why are you so cautious during mine construction?
It may take two to 21/2 years to build a mine. Six months before it is complete, I try to get on a plane and fly down to the property. I'll have a look and see that things are hopefully going well – that there is money left to finish the construction, nobody is picketing the project, there are no environmental issues, the government is not trying to impose new taxes or royalties, etc. If everything looks to be as advertised, I can start buying the stock because typically they would be discounted in the market at 15 per cent or more of future cash flows.
What is your outlook for the market in general?
I am not expecting a severe pullback. Certainly the market can correct at any time, but the value is exceptionally good here … Having said that, we live in a fairly unstable world from a credit contraction perspective … so in effect you can't have as much confidence in data points as you would in a more stable environment.
My view is that monetary policy will remain easy in 2010 and into 2011. I am optimistic that 2010 will actually be a decent year so I am not taking any massive cash position in anticipation of a smash in the marketplace.
What about gold bullion?
If the global economy recovers, I think gold demand will pick up. There is no new supply of gold available so the gold price will rise. If things continue to worsen, then I think that gold as a non-default, hard asset will be an asset of choice in a world where credit risk is the dominant theme. So I think gold is in a win-win position, which is why I run my fund generally 100-per-cent invested.
Gold has retreated from record highs. Do you think it was in a bit of bubble?
No, I think the move up to $1,225 (U.S.) [an ounce] in December was helped along by Barrick. When it finished buying back its hedge book, the hedge funds started to liquidate some of their positions, and they have liquidated about five million ounces over the last two months. That is a hefty rate of gold liquidation so the market has been absorbing that.
I think the downside on gold is quite limited because this is a market that only produces about two-thirds of the demand for the products, and the rest of that supply has to come from scrap.
Why are you a gold bull?
We have the lowest supply of gold we have ever had. We have no central bank dispositions any more. And mine production is approximately 2,500 tonnes [a year] and not growing.
Demand for gold historically has run perhaps 3,800 to 4,000 tonnes a year. We are well below the amount of gold being produced that is needed to meet normal demand levels. Demand levels are depressed at the moment, but gold is not doing too badly with the lowest fabrication demand that we have seen in many years.
The other factor is that central banks are now scrambling to reverse their mistake over the last 10 years and buy back their gold because they see now that prospects for a strong U.S. dollar exchange rate are dim indeed. So as a reserve asset, [the greenback] is losing its shine and they want to replace it with something that really does shine, which is gold.
How high can gold go?
If things can hang together, I would expect gold to rise by at least the rate of debt [increase] in the United States at the federal level. At $2-trillion a year, it is rising at about 16 per cent a year.
Historically, gold has kept up with the rise of the twin deficits in the United States so I would think that gold could rise comfortably 15 to 16 per cent a year as a worst-case scenario. I have been forecasting $100 a year since 2004. I am now forecasting more than that because the central banks have walked away as sellers. If the direction is up, then you just pick the best stocks that you can in that sector and see how far gold takes you along.
What are some of your favourite plays?
The cheapest stock in my universe is Golden Star. GSC-T The second cheapest is Semafo, SMF-T and the third is Red Back Mining. RBI-T All three companies operate in West Africa, and have a high cash-flow yield, and they also have the propensity to find gold easily, in my opinion … So the wealth-creation yield for all three companies would be high. Golden Star is late to the party because of previous balance sheet concerns but it is now well-financed with lots of cash flow.
What is your outlook for the price of silver?
I think silver will keep up with gold. Silver is also a metal which is challenged in terms of supply. It will probably outperform gold if we get into a really focused precious-metals market where, let's say, the U.S. dollar is under severe pressure. I think silver will outperform simply because it is a much smaller market, and as investment dollars chase it, it would tend to pushed a little bit higher than gold would be. … But in general I just keep assuming that it keeps up with gold. I hold Silvercorp Metals, Hecla, Fortuna Silver and Silver Wheaton Royalty Co.
What do you say to investors who are curious but nervous about the gold sector?
Every investor should be exposed to gold, even the most conservative investor. It's a preservation tool for a portfolio in an environment where gold is, first of all, a win-win. Secondly, it might be a super win and absolutely necessary if the governments of the world, led by the United States, simply print their money into oblivion, which is what they are doing now.
The financial journals, when they analyze gold bullion as a component of your portfolio, suggest that a 5-per-cent weighting in gold improves your risk-adjusted returns … I have about two-thirds of my RRSP in my fund. It will be a very unhappy retirement for me if I don't continue on with some success.