Mining equity bargains abound, but buy with care: Ivan Lo

Ivan Lo: I’ve always been interested in the capital markets because they are the source of the world’s growth. Without them there wouldn’t be Google, Microsoft or Apple. My father was editor-in-chief of a prominent global newspaper, so I guess that’s where I combined the two ideas. There are some extremely able men in our industry and I get to have some great discussions about investment philosophies, strategies and market outlook. We often trade ideas and go through what works and what doesn’t.

These brilliant men don’t think like the average person; their thought processes are often beyond that of the average investor. That’s how The Equedia Weekly Letter got started. I wanted to bridge that gap and turn complicated investment philosophies into something simple that everyone could understand, from macroeconomics to mining 101. My job is to make it simple and start with macroeconomics, the big picture. For example, I believe the precious metal sector is undervalued right now.

First, I’ll look at the project. Does it have value or is it just a crapshoot? When it comes to mining, drill results alone aren’t enough. A company can drill spectacular numbers but if it is drilling in the middle of nowhere, those drill results are just shareholder dollars turned into geological numbers for reference. The likelihood of that project doing anything anytime soon is very slim. But if it is drilling great numbers near an already producing mine, its chance of success becomes a lot higher.

Then come the people behind it. If a project isn’t managed by great people, I won’t invest in it. I’ve been burned before by finding great projects only to have the management team destroy it because they didn’t understand the capital markets. They raise a few million here and a few million there. They get excited. They spend it all and yet produce no shareholder value. Good drill results alone don’t mean it’s a success unless it brings shareholder value with the money that is spent.

After that comes the capital structure. Who owns the paper and at what price? The last thing a lot of people don’t consider is management’s marketing ability. If a company is public, management needs to market it. The shares are only as good as what The Street says they are worth. At the end of the day, someone has to buy your shares from you at a higher price for you to profit. That’s how the stock market works. If no one knows about the company, no one will buy it and your shares are worthless.

TGR: Unfortunately, just because you get competent geologists running a company doesn’t necessarily mean they know what they’re doing when it comes to running a public company.

IL: Yes. I’ve seen it time and again, especially in the past couple of years where we had a bull market for about a year and all these geologists went out and spent all their money yet created no shareholder value.

TGR: So, what’s your assessment of the current precious metals markets? It’s been pretty frustrating for a while. What is it going to take for gold and silver to turn around and take the mining shares with them?

IL: I get asked that question a lot by our readers. Gold and silver are still much undervalued given the world’s current economic situation. Prices are on hold because politics and bankers are controlling its price action.

Despite what they may say now, they will be printing more money sooner rather than later. As I mentioned in one of my recent weekly letters, currencies are ultimately an epic failure, which means gold will remain king. Central banks are now purchasing back the gold they sold earlier. Yet people remain skeptical and talk about the big drop from $1,900/ounce (oz) all the way to $1,500/oz.

Investments rarely move in a straight line and gold is no exception. While we could see some downward pressure near term, I think a rally will happen. Throughout history, times of great inflation have always occurred when both money and debt levels rose during the natural deflation that occurred after inflationary peaks were reached. We’re there right now. Leading up to 2008, prices were skyrocketing. Prices are trending back down now. Real estate, oil and wages are all heading on a downtrend. Right now, people don’t want to believe we’re in a state of deflation, and the Federal Reserve is worried about that. But when we get out, inflation will be apparent. After that, hyperinflation becomes more plausible.

When gold hits close to that $2,000/oz mark again, I think the mining shares will finally follow. Until investors realize that gold hasn’t even come close to its peak, most mining shares will remain where they are right now, which is the best time to buy them, when nobody else wants them.

TGR: There are so many bargains out there now that it seems almost anything you buy could produce a nice profit, assuming the company can obtain financing without diluting itself into oblivion. What do you look for now in a potential mega-winner?

IL: That’s true, but just because something is beat up doesn’t mean it is a bargain. A lot of the stocks out there are still junk. As for a potential mega-winner, I go back to my investment philosophy. I look for a battered stock with a strong project and a management team capable of marketing its story to the world. I’m also looking for a company that is a potential takeover target.

It would have to be near a producing mine or be on the verge of some very significant milestones. Grades are important. People think that because you drill 100 meters and get 1 gram/ton that it’s an amazing grade. It’s not. High grade is the most important thing for projects nowadays, because the cost of exploration and production are rising like crazy.

A few weeks ago I sat down with MAG Silver Corp. (MAG:TSX; MVG:NYSE) CEO, Dan MacInnis. He’s a brilliant man and we talked about how grade affects projects around the world because so many mines are being shut down and projects are being shelved. We talked about Tye Burt, CEO of Kinross Gold Corp. (K:TSX; KGC:NYSE), and how the spot price for one of the new tires on his 250-ton trucks used to be $40,000. Today the same tire costs $100,000. That’s more than double the cost in 18 months and that’s what’s going on right now. So, if the grades aren’t there you aren’t going to have a project. But, if the grades are there, everything will take care of itself.

TGR: Lots of stocks are trading between a dime and a quarter. Some are going to survive and could become a ten or twentybagger. Other ones are probably going to be one-for-ten rollback candidates. How can investors figure out which are really alive and which ones are going to be dead?

IL: It’s funny you ask that question because I actually see a lot of these juniors being forced to roll back and many juniors going bankrupt or getting delisted. Investors need to know a company’s actual cash position and burn rate. How much of its cash is allocated and already committed for spending? Companies shouldn’t just stop their drill programs because the market stinks. But, they need to be more conservative with their spending and know when and how to cut back. That’s why they should focus on what will bring them results instead of drilling blind to see how far the mineralization extends. Management’s primary goal is to maximize shareholder value and know when to cut back. If a company has a staff of geologists on the payroll that aren’t doing much, I can bet you it will be a candidate for a rollback in this market.

TGR: Unlike many years ago, when most work was done on a contract and project basis, a lot of these companies have built-in overhead that doesn’t go away very easily.

IL: That’s why you need to know exactly how much of a company’s cash is being allocated or if it has already been committed to these drill programs. Does the company have to go out and finance in this market?

TGR: So, it’s important to not just get all excited about new drill results but to know how a company will finance the rest of its operations.

IL: Especially in this market.

TGR: So, talking about gold, a year ago it was around $1,550/oz. Now it’s about the same, give or take a couple percent. Silver, on the other hand, has come down quite a bit from $36/oz to around the $27/oz range now, which is down about 25%. Do you think there is better upside leverage in silver at this point? Or has it lost some of its appeal to speculators?

IL: You make a great point. Silver has always been in gold’s shadow and always will be. But, I’m a huge fan of silver and silver projects. The space is so small that you’re going to have some volatility, but that also means you’re going to have more upside when things turn. Silver will reach $50/oz long before gold reaches $3,000/oz. But I think you should own both.

TGR: You mentioned MAG Silver earlier. Do you want to expand on that a little in the silver mining area and on any other companies you think are worth considering?

IL: I really like MAG Silver as an undeveloped project. It has a 44% interest in Juanicipio, which is probably the highest grade undeveloped silver project in the world. And, it’s smack-dab in the middle of the world’s largest primary silver producer’s backyard. MAG’s grades are phenomenal. I’m pretty confident that MAG either will go into production or be bought out very soon. It just came out with a revised preliminary economic assessment on Juanicipio that clearly shows that, despite dramatically rising costs, it is an amazingly robust and economic project.

And, that’s not all. MAG has 100% interest in another project called Cinco de Mayo. It’s another high-grade silver system with strong base metal credits. You’re hearing it here first, but I think Cinco de Mayo will be a world-class silver project. And, based on the results I’ve already seen, it will get very big, very soon. I think MAG is on to something massive with Cinco de Mayo and the market just doesn’t realize it yet.

As far as mini-producers, I like Fortuna Silver Mines Inc. (FSM:NYSE; FVI:TSX; FVI:BVL; F4S:FSE). The company has done everything right from the get-go. It has increased resources, received permitting and commenced production from two mines, both on time and on budget. This is a rare feat in this industry, and it still has further exploration upside. So, these are the two companies that I like in the silver space right now.

TGR: Who do you think will be the potential buyer for MAG Silver? Fresnillo Plc (FRES:LSE) or another company?

IL: Fresnillo already owns 56% of the Juanicipio project. It has a mine shaft and a mill a few kilometers away. So, it just doesn’t make sense for Fresnillo to not take over MAG. But, there are other majors out there that would have a big interest in MAG right now.

TGR: Looking at gold now, there are certainly a lot of beaten-down gold stocks out there. What are some of your favorites in the gold area these days?

IL: I like a lot of the big guys that have been beaten down as well. I own Barrick Gold Corp. (ABX:TSX; ABX:NYSE) simply because it’s a bellwether stock for the sector. If we get the mania that we expect, Barrick will be one of the first ones to rocket out of the gates. I also like Eldorado Gold Corp. (ELD:TSX; EGO:NYSE), Detour Gold Corp. (DGC:TSX) and Yamana Gold Inc. (YRI:TSX; AUY:NYSE; YAU:LSE).

Among the smaller producers, Barkerville Gold Mines Ltd. (BGM:TSX.V) is looking promising at these levels. The company just received all necessary approvals for mining and milling at the Bonanza Ledge mine and the QR mill. It still has upside and the grades are pretty great. I’ve had it on my radar since earlier this month and it is already up 70% since then. I think it still has more room for growth.

As far as a non-producer in the junior space, I like Balmoral Resources Ltd. (BAR:TSX.V; BAMLF:OTCQX). The team at Balmoral, led by Darin Wagner, has a time-tested business model with a really high probability of leading to major rewards.

Less than two years ago these guys sold West Timmins Mining to Lake Shore Gold Corp. (LSG:TSX) and gave investors an amazing return. Back in 2008, when times were tough, management continued to do exactly what they’re doing right now and deployed my investment strategy, bang on. They had a great project and managed their treasury just right at a time when the world was screaming death in 2008. They also continued to market when no one else would. As a result, West Timmins was one of the first companies to come out of the gate with a bang in 2008. It went from $0.13 to $3.00 in less than 12-months. That’s a return over 2,200%.

I think Balmoral is a second chance for investors who missed West Timmins. It currently controls one of the largest land positions in the Abitibi, which is home to the second largest accumulation of gold in the world. It continues to hit high grades everywhere along the properties with a greater than 75% success rate. Not only does it have one of the largest land packages in the Abitibi, it’s right beside what will become Canada’s largest gold mine next year—Detour Gold’s 15.6 million ounce Detour Lake mine. As I said before, I’m looking for potential takeover targets—companies like MAG and Balmoral. Both of these companies are smack-dab in the middle of what’s either a producing mine or one that’s going to be the biggest producing mine in Canada. That means Balmoral has the ingredients to be a prime takeover target. It just needs some more drill results to blend it all together.

Detour has already publicly stated that its strategy is to focus on high-grade mineralization within a 50-kilometer radius of its processing plant, and Balmoral fits right in. Last year Detour Gold also said it wouldn’t be looking to acquire other companies until production began in 2013. Then, last September, it went out and acquired Trade Wind Ventures. So, it’s not its first takeover and I can guarantee you it won’t be its last. If you’re Detour and you’re about to become Canada’s largest gold miner, what would you do? I think Balmoral, especially at these prices, looks very interesting.

TGR: What about some other companies offshore, not in North America, that you think are interesting?

IL: There are quite a few of them. But, for now I’m looking mainly at North America, because of the way things are now in the rest of the world, with wars and political changes. If you’re a Canadian company operating in Canada, you avoid a lot of those issues.

TGR: So, can you give us a little wrap-up and summarize what our readers should be doing or not doing at this point to try to make money and avoid losing money in this market?

IL: The big one for most people is trying not to lose money. If you want to play it safe you buy the big names, the Cokes, the Apples, the Barricks of the world and, of course, straight bullion. But, if you’re looking for the best bang for your buck, I would continue to look at the beat-up junior market and follow my investment philosophy. Focus on management, takeover candidates, capital structure and marketing ability. A lot of these juniors still have some downtrend. But, many will be trading a lot higher two years from now, or even sooner.

An easy way to start filtering them is to look for the ones that have already bounced from their 52-week lows on good volume. Those are a good start because it shows they’re in an uptrend. If you’re going to invest in juniors, you have to have the stomach for it. No risk, no reward. None of us invest in juniors to make a few bucks here and there. We invest to change our lives. If you have the patience and the guts, the junior market is going to give you the best bang for your buck.

TGR: You’ve given us some valuable information. Now it’s up to individual investors to decide what they want to do. Thanks a lot for speaking with us.

Ivan Lo is the editor and founder of Equedia.com and The Equedia Weekly Letter, an online publication focused on investing in mining and resource stocks. With over 50,000 subscribers of high net worth investors, brokers, analysts and fund managers, The Equedia Weekly Letter has become one of Canada’s most trusted investment newsletters, providing information on stocks that have earned returns of over 100%. As a result of his performance, Lo now works closely with brokers, money managers and industry reporters to bring them new ideas and insights on the market.

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DISCLOSURE:
1) Zig Lambo of The Gold Report conducted this interview. He personally and/or his family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Gold Report: MAG Silver Corp., Fortuna Silver Mines Inc. Detour Gold Corp., Barkerville Gold Mines Ltd. and Balmoral Resources Ltd. Streetwise Reports does not accept stock in exchange for services. Interviews are edited for clarity.
3) Ivan Lo: I personally and/or my family own shares of the following companies mentioned in this interview: Barrick Gold Corp., Balmoral Resources Ltd., MAG Silver Corp. I personally and/or my family am paid by the following companies mentioned in this interview: MAG Silver Corp. Balmoral Resources Ltd. was also an advertiser, but no longer. I was not paid by Streetwise Reports for participating in this interview.