(By JT Long) John Hathaway is the senior managing director of Tocqueville Asset Management, where he manages all gold equity products and strategies. In an exclusive interview with The Gold Report,
he shares why he is and will remain bullish on gold, the advice he most often gives mining companies and the investing advice that has stayed with him for almost 50 years.
The Gold Report: When we spoke last October, you were bullish on gold and gold equities. You blamed lagging gold-mining stock performance on competition from exchange-traded funds (ETF), lack of investor confidence and investor doubts on the sustainability of higher gold prices. Now that prices are hovering around $1,600 an ounce (oz), will that dynamic change?
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John Hathaway: The dynamic will change based on higher gold prices. When one looks at Newmont Mining Corp. (NYSE:NEM), which is trading at about five times cash flow, one has to scratch one's head and say, in a world of $1,600/oz gold, what is that discounting? The market expects gold prices to go lower. Otherwise, at $1,600/oz gold, a Newmont could trade at least at an eight or nine times multiple of cash flow.
I'm using that as an example. Looking at the research material on Newmont—we included input from 29 sell-side analysts—the consensus expectation for gold prices in five years is $1,270/oz.
That is just one example that not even $1,600/oz is considered to be a sustainable goldprice.
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But it is sustainable. Up to $2,000/oz is sustainable. It's something that we can get to. The monetary debasement that we're in the midst of is ongoing. Federal Reserve Chairman Ben Bernanke said on Feb. 29 that there won't be any more quantitative easing (QE). The Fed's minutes reiterated that about a month later. Both times gold took a hit, but it didn't go to new lows, which I thought was pretty interesting. Because for the average person, the narrative for the last two years has been all about QE.
TGR: So if there is no QE, what takes it to $2,000/oz?
JH: Gold was going up before QE was even a term in the English language. Gold went from somewhere around $300/oz to $800/oz before we had QE. The thing that drives gold is not dramatic—it's not like a new round of QE and it's not geopolitical; it's the fact that real interest rates are negative right now, close to 3%. So, if you have money that's saved up and you want to put it in a bank or want to put it in treasuries, you're losing about 3% a year. And you have to think about something else.
You could consider a lot of options. Gold is certainly on that list. Last summer, when gold got to $1,900/oz, the story was overcooked. The press was hyperventilating about the government shutdown over the debt ceiling and the downgrade of the U.S. debt rating.
We've gone from that situation, where it was basically boiling over, back to a simmer. The stove is still on. Real rates are still negative—with the promise of more of that. I can speculate as well as the next guy can on what's going to be the next thing, and it may be QE. QE could come about simply because the Fed has been buying 61% of all new treasury issuance for the last year. If it goes away, as Bernanke says it will at the end of June, what's going to happen to short-term rates? What's the market going to demand if the Fed's not there buying treasuries?
China's buying a little bit, but it's way down from what it used to buy. In theory, we've got the two biggest supporters of the treasury market, and the principal reason for low interest rates, not being around in a big way after June 30.
TGR: China has been a hot topic: Whether it's growing. . .whether it's shrinking. . .just not growing as fast. What impact can China, India, Russia and Europe have on the price of gold?
JH: Certainly, financial repression is not uniquely American. The Indians see it. The Chinese have it. So, yeah, there's definitely a non-U.S. bid for gold. It's not based on what's happening on the Comex. It's based on the fact that liquid capital cannot get a decent return.
If interest rates went to 5%, which would be a decent return in a world with 3% inflation, that would add in the U.S. $800 billion (B) to the budget deficit. So whatever fiscal rectitude we might be able to gather would be a drop in the bucket compared to another $800B. That would take our annual deficit to well over $2 trillion every year. It's hard to imagine that. I don't have any answers—I just know that this simple arithmetic doesn't show any path out, other than some kind of money printing.
TGR: I know it's hard to predict dates, but Dec. 31 could be an important date, because tax cuts are going to expire and there will be cuts at the Pentagon and there will be debt ceiling issues. Do you see a lot of hand-wringing leading up to Dec. 31, similar to last summer?
JH: Whoever gets elected in November is going to be on the hot seat. There will be fiscal drag in spades when the tax cuts expire.
TGR: We talked about companies being profitable at $1,600/oz gold. High energy prices have taken a toll on mining company performance. How many companies can be profitable at these current prices?
JH: At $1,600/oz gold, most existing mines are very profitable. Any company that has a producing mine that's out of the startup stage, where all the money has been spent, is gushing cash flow at $1,600/oz gold.
You'd have to go case by case for the new mines that they're building. But there are some new mines that are on the drawing board that require $1,600/oz gold or more to be profitable. The return on capital is likely to be less than anything that's in existence. The market sees that and that's a reason the gold stocks have been penalized, because in order to regenerate what they have, they may not be as profitable as they are right now.
TGR: So the lagging share price would be because they're forward looking?
JH: That's a possibility. When a Newmont says that it's going to add 40% to the current production base, you know that that's a big capital expenditure (capex). I talked to AngloGold Ashanti Ltd. (NYSE:AU) the other day. Last year it generated $800 million (M) of cash flow, which is pretty good. I think the market cap is around $13B.