Gold as a weapon in the currency war

There is a war raging behind the scenes among the world's currencies. Chris Mancini, an analyst with the $400-million Gabelli Gold Fund, believes that gold will emerge the victor. In this interview, Mancini makes his case for why gold is a currency and not just a relic, and why his fund doesn't own bullion. He also shares names of companies operating around the world that offer great upside potential. The Gold Report: You recently wrote, "Gold mining companies are no different from any other company in that company managements must determine the most effective way to return capital to shareholders." In an environment where there haven't been corresponding increases in equity prices to the price of gold, how does a management group effectively grow per-share value for shareholders? Chris Mancini: If you're too big and don't think that you can grow on a per-share basis, the answer is to return some of the cash to shareholders through a dividend. If a company doesn't have high-quality, high-return-on-capital, low-risk projects to deploy that cash flow into, then a portion should be returned to shareholders as a dividend. TGR: We haven't seen a whole lot of that. CM: Take Barrick Gold Corp. (ABX:TSX; ABX:NYSE) as an example. It had a goal of eventually mining 9 million ounces (Moz) gold and should produce around 7.5 Moz in 2013, which is a difficult thing to do. Barrick has been focused on growing for growth's sake. It undertook two very capital-intensive projects, Pueblo Viejo in the Dominican Republic, which is complete and should be producing commercially sometime next year, and Pascua-Lama, which is an enormous, capital-intensive project in the Chilean/Argentinean Andes, which the company is doing a poor job of building. That being said, it will be very cash-flow generative once it's built. The question becomes at that point, once Pascua-Lama is built, what does it do with its cash flow? We're getting a sense that it wants to be a leaner, meaner company and that it's not going to focus on growing its very big production base. That's a good sign that it might start distributing more of its cash in a dividend. TGR: A lot of senior producers, and even midtiers, are focusing on grade. Irrespective of all things, the higher the grade, the better the economic return. CM: That's the key. A higher-grade deposit means processing fewer tons to get out the same number of ounces without the capital intensity of a big, bulk-tonnage, low-grade operation. The cost per ounce is also lower given that not as many tons need to be processed to recover the same amount of metal. TGR: You don't hear many pundits predicting a falling gold price in 2013, yet we continue to see volatility in the space. What's your forecast for the gold price in 2013? CM: We're very constructive on the gold price in all currencies. All over the world, money is being printed, and gold is the one currency that can't be reprinted or replicated. The money that's being printed will ultimately lose its purchasing power, and gold should retain its purchasing power. Gold should continue to go up relative to currencies that will be losing their value. More debt leads to more money printing, and more money printing leads to continued devaluation of currency. It's a positive macroeconomic environment for gold. TGR: Some investors don't view gold as a currency. They view it as a metal, a relic. CM: Historically, gold has been the ultimate currency and, at some point in the future, will again be the ultimate currency. It's not legal tender, but that still doesn't mean it's not something that will hold its value over time relative to paper. TGR: Utah and a couple of other states have actually passed legislation that gold is considered a currency. CM: In some states, you can bring in gold or silver and get goods for that gold or silver. The problem with that is federal tax. If you buy gold and it appreciates in value and there's a gain on that gold, when you sell or transfer that gold, then there is a federal tax on that transaction. Until that goes away, it will be hard to use gold as a real currency in the U.S. TGR: Even in a world that hasn't descended to a serious level of crisis, gold can still be appreciating as a currency. CM: It is a currency war. Currencies are devalued against one another. Recently, the Japanese elected the Liberal Democratic Party leader Shinzo Abe. One of his talking points during the election was that the Japanese economy is uncompetitive because the yen is too strong. Abe's theme is more monetary and fiscal stimulus, and a weaker yen. He and the Japanese people think that the country needs a much weaker currency in order to be competitive in the world economy. That's also why the Swiss agreed to their money printing exercise—in order to stop their currency from appreciating more and more. TGR: It does feel like a race down the hill when you talk about it like that. CM: If the Japanese, Swiss, and other Europeans print more and more money to make their currencies less valuable, ultimately the U.S. is going to be uncompetitive from a manufacturing perspective. It gives the U.S. impetus to also print more money. TGR: We're talking about trillions of dollars of deficit. It's almost beyond comprehension. Because you value gold as currency, why don't you hold any bullion in the fund? CM: Gold miners are undervalued relative to bullion, and investors can get bullion cheaper themselves. They shouldn't be paying us to own bullion. Bullion is a savings instrument. Gold equities are investments. TGR: The fund's No. 1 holding, at about 12%, is Randgold Resources Ltd. (GOLD:NASDAQ; RRS:LSE), which is heavily involved in Africa. I've traveled to Africa and was very impressed with the mineral wealth there. Yet some investors are not comfortable with that location. Why are you? CM: When a company comes into a community, builds a mine and employs people, it liberates those people from poverty. They're building skill sets that they have for the rest of their lives. A well-respected institutional mining company like Randgold comes into a region, employs people, educates people, liberates people—those people want that company to be there. It greatly reduces jurisdictional risk when you have that much local support. TGR: Yet, there are places in Africa without that support. There are roving bands of thugs that are creating problems in the Democratic Republic of the Congo and Mali. Do you see these as temporary blips in an otherwise bullish and opportunistic area, or do you see this as a long-term thorn in the side of companies working in those areas? CM: They're not necessarily blips, but they're not meaningful to the operations of Randgold. A place like Mali or the Congo is vast. As long as there are no specific problems near Randgold's mines, it's a non-event. TGR: There are hundreds of kilometers of distance between the places where the problems are occurring and Randgold's operations, and no connecting infrastructure. CM: It's extremely remote relative to political circumstances that may be transpiring around the country. TGR: Your second largest holding is Fresnillo Plc (FRES:LSE), the No. 1 silver producer in the world. In a report you wrote that one of the things you like about Fresnillo is that it acts like an owner. "Unlike many other large precious metals companies, Fresnillo is an owner-operator company that's 80% controlled by a family-owned Mexican conglomerate." CM: You have to ask yourself, as an investor, what's the management's incentive? For a large institutional-type precious metal mining company, their incentives may not be directly with the shareholders, whereas the owner of a company focuses on maximizing returns and cash flow. TGR: Do you routinely look for companies with a lot of management ownership? CM: That's something that's important to us. We look for skin in the game in the form of shares, not options, because we do want to see companies paying bigger dividends. If managers own shares, then they'll benefit when dividends are paid out, too.