Post #1000: for some reason Rick Rule writes things for Casey

I guess you shouldn't hate him just cos he writes for Casey.

Anyway, here's a nice long writeup by Rick Rule on why he likes the miners right now.

He's got some interesting points:

#1, those who decry fiat currency should really decry fiat equities - the way that gold companies print shares like there's no tomorrow. Zing! Take that bitchez!

#2 - remember "supply and demand"? Well, any demand for miner equities gets sopped up by this overprinting - so you get a supply glut, of miner equities, and prices collapse. Zing, bitchez! ECON 101!

#3 - he's actually read up on India. In fact, despite his few little forays into "fiat Weimar Zimbabwe", probably cos he's writing for Casey, he otherwise generally agrees with everything I've already been telling you the past few months.

Aw, heck, it's on Stockhouse, a site founded by the famous anarchist Jeff Berwick, so I'm sure they'd be happy if I reposted it. Especially since they repost other people's stuff all the time. So here you go:

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After a reasonably long period of sustained and occasionally dramatic escalations, commodity markets in general, and precious metals markets in particular, have declined. This is normal and healthy behavior, even if it is uncomfortable for some market participants. Readers with a long memory will remember the 1970s gold bull market, where the gold price advanced from $35 to $850 per ounce – though in 1975, in the middle of that epic bull market, the gold price declined by 50%. While a 50% decline is a near-religious event for many market participants, particularly those on margin, it is instructive to note that at the bottom of the retrenchment the gold price was up threefold from its $35 low, and that gold went on to increase eightfold in price after the bull market resumed. It is thus important to recognize that cyclical retrenchments are a normal and healthy feature of a secular gold bull market.

Readers should consider whether the reasons for the gold market are intact. Has gold's decline made it more likely that sovereign debts can be serviced or that unfunded obligations can be met? Does it mean that insolvent banks are now healthy? Does it mean that creating trillions of un-backed dollars and euros and renminbi will have no consequences? Of course not. We are simply uncomfortable with volatility.

Gold's current weakness

Let's examine some factors that may have contributed to gold's current weakness and think about the probabilities of those factors contributing to further weakening in the gold price.

For the past 10 or 12 years, the gold price has been in a steady state of advance. In the near term, some participants probably took some profits, and high prices also probably contributed to demand destruction in industrial fabrication and jewelry demand. A softening of the gold price is likely to reverse the effects of price-induced conservation and substitution, even while investment demand, measured by gold funds and the ETF industry, continues to be strong.

Equity and debt markets appear to be stabilizing as a consequence of quantitative easing in Europe, the U.S., and China, and the apparent easing of concerns in Greece. This flood of liquidity has forced interest rates down as well as bond and deposit yields, pushing savers into longer durations and riskier instruments – including equities – and lowering servicing costs for debtors, which in turn has lowered perceptions of default risk. The markets appear more confident, and hence gold's attractiveness as insurance is fading. Some of us believe that the root word of confidence is "con," just as I believe the correct phrase for quantitative easing is "counterfeiting." It would appear that in excess of $4 trillion of new currency units have been introduced into the system, with no concurrent increase in underlying wealth in the form of goods or services. This does not make me find gold less attractive relative to fiat currencies or sovereign debt. How about you?

Physical demand in India and Vietnam has been constrained by excise and import taxes on gold in the case of India, and increased regulation in Vietnam. The constraints on physical demand in India has had an important impact on overall gold demand, and has become a hot political issue in India. Gold merchants were on strike concerning the excise tax, further constraining demand. It is worthy to note that South Asian societies have a deep-seated, cultural attraction to gold, and that the fairly recent removal of the taxes they just reinstated was a consequence of widespread smuggling and informal trading in gold. I suspect that central government interference in the Indian gold market will be ineffective and ultimately inconsequential.

Small, commodity-oriented institutions such as hedge funds have experienced strong outflows of equity capital and constrained access to debt financing, which has caused them to engage in forced liquidation of precious metals holdings. This is true, and in my opinion will continue. I believe, however, that if black swan style events destabilize other markets, the gold ETF industry and gold trusts like Sprott Physical Gold will easily absorb the remaining institutional bullion hoards. Further, Sprott has firsthand knowledge of the strong interest among sovereign wealth funds in increasing their bullion holdings.

Gold equities

Since late 2010, gold equities have underperformed the commodity, and this underperformance has continued, and perhaps increased, as the gold price has declined. These twin trends are uncomfortable to participants in the gold equities markets. Let's examine some of the factors that may have contributed to the underperformance of gold equities relative to gold, and the probable consequence of current market conditions.

It is important to remember that for much of the last decade gold equities outpaced gains in the metals. In fact, the escalations in gold equities pricing became so acute that Canadian analysts were describing companies selling at premiums to their net asset value as "undervalued," because their premium to net asset value (i.e., what they are worth) was less than the industry standard. Always remember, markets work! This prior overvaluation was an important cause of the sector's subsequent undervaluation. The expectations built into gold equities valuations, even relative to gold, were simply unsustainable. In particular, the valuations accorded the junior gold sector were best described as "a bubble in search of a pin." The pin was found. History has shown that markets cure periods of overvaluation; and I suspect that they will also solve this period of undervaluation, relative to bullion, as well.

The emergence of bullion-linked equity instruments like the Sprott Physical Gold Trust and the various Gold ETFs allowed securities investors a new, low-cost, convenient way to participate in the gold markets. These developments at once spurred demand for bullion to back these equity-like instruments and constrained demand for gold equities as investors switched from traditional gold equities to bullion-like equities. I believe this phenomenon was particularly evident as a consequence of the relative overvaluation of gold equities described in the preceding paragraph. Given that the relative attractiveness of bullion-like equities to traditional gold equities was greatest when the gold equities were overpriced relative to bullion, I suspect this attractiveness will lessen now that gold equities are more attractive relative to bullion.

Gold equities were punished, both absolutely and relative to bullion, by their relative corporate underperformance. Many analysts, myself prominently among them, were dismayed at the gold mining industry's abysmal corporate performance during the last decade. The industry's operating cash generation in the face of a gold price escalation from $260 per ounce to over $1,200 per ounce was inexplicably poor. The companies' continued equity issuances in the face of these increases in the gold price meant that existing holders were continually diluted, even as their earnings expectations were always disappointed. Investor fatigue – in fact, investor disgust – was the natural and healthy response to this performance.

Now, even though equities prices continue to decline, corporate performance is increasing, and increasing dramatically. A cursory look at producers' income statements tells a dramatic story: earnings and cash generation, on a per share basis, are rising in dramatic fashion. Capital expenditures are increasingly funded with internally generated cash rather than equity issuances or debt. In fact, even in the face of the gold equities decline, many gold producers are generating cash so fast that even after funding hefty capital budgets, they are able to return cash to shareholders in the form of stock buybacks and increased dividends.

The Juniors

The junior gold industry magnified these problems; and the market's response has been proportionately dramatic. It is critical for gold stock speculators to remember that the junior market, in aggregate, is always overvalued. If we were to merge every gold junior in the world into one entity (let's call it Junior Goldco), that company would lose (profits and corporate acquisitions less industry expenditures) somewhere between two billion and eight billion dollars per year. What should we pay for this enterprise – what is the correct price-loss ratio? Should the industry be priced at five times losses? Ten times losses? Higher?

The performance of individual junior issuers often attracts unwitting capital to the entire sector, and that phenomenon never ends well. Many gold bugs decry government-sponsored inflation, the profligate issuance of un-backed fiat specie (quantitative easing), but ignore the fact that the private sector (in this case the TSX Venture Exchange) is better than the government at everything, including counterfeiting. Many speculators hoped that the junior markets would respond the way they did in the late 1970s where a genuine shortage of equity led to amazing share price escalations, but they ignore the fact that the regulatory and industry infrastructure now exists to print away any amount of speculative demand for the sector. Beginning in 2009, the junior industry drowned investor demand in newly-issued equities at unsustainable prices. Speculators bought this paper without apparent regard to price or quality.

How do we address this problem? It is already being addressed by price. The price declines in the TSX Venture have been spectacular, and investors who've lost 50% on their portfolios are unlikely to welcome the opportunity buy newly-issued loss opportunities. Just as the unwary speculators previously bought issues without regard to quality or price, they are now selling them without regard to quality or price. Remember that it is the incredible performance of a small number of individual issues that attracts capital to the whole sector, and we see several very promising juniors marked down like so many of the Vancouver frauds. When irrationally exuberant expectations give way to irrationally negative expectations, opportunity is born, and a correction is at hand.