Mining Markets


Analyst John Lee sees a rising tide

Amidst much hand-wringing over the state of the global economy at the recent Cambridge House conference in Van...

Amidst much hand-wringing over the state of the global economy at the recent Cambridge House conference in Vancouver, one speaker, Mau Capital founder John Lee, appeared unruffled by the uncertainty. In an interview with Mining Markets in mid-January, the well-travelled analyst explains why he’s bullish on commodities — both short and long-term.

MM: You were much more upbeat than a lot of the other speakers at the conference. What makes you so optimistic about the global recovery?

 John Lee: I try to couple what I learned from the books and through school with what I see with my own eyes. Everywhere I go — whether it’s Thailand, the Middle East or China — they’re literally redesigning cities one at a time. So these are tangible assets they’re building with a long-term, 10 to 20-year investment horizon in mind.

Such planning was not possible merely 10 years ago, because all the growth was concentrated and focused on North America. But because there are so many dollars abundant throughout the world, for the first time, you have investors and builders and wealth creators going into emerging economies and starting to do some of the work that ought to have been done 20, 30 years ago. So what we’re looking at right now is very much an industrial revolution on a global scale.

You have an advanced economy of Europe and North America, but that’s not even 20% of the world population. At the same time, you have 80% of the world population living on infrastructure and housing that accommodates no more than 30% of their population.

So the bearish people many times are forgetting to see the progress that is being made, the real wealth that is being created, and to suggest that we’ll have a correction in the stock market that would tear back all the gains and have the Dow go back to 5,000 is simply not realistic, and frankly, it’s not being responsible.

MM: So you don’t see a double-dip recession being a possibility?

JL: In terms of recession, it’s a very hard measure. Even in Canada, all the provincial governments are running in the red and the unemployment rate is stubbornly high. In one of my talks, I mentioned the decoupling effect between economies and stock markets, so you could have a stock market that’s bouncing well but an economy that’s treading sideways. That is what we are witnessing in the U.S. and to some extent in Canada, where a lot of the companies in the stock market have rebounded and some have recovered upwards of 50% or 70% of the losses incurred during the financial crisis. But I don’t think the economy has really rebounded to anywhere near the pre-crisis level. So there are two things we’re talking about here. One is the economy and the other is the stock market and many times the two are lagging or leading each other, but they’re not directly correlated.

If you were to point to what happened in Russia or Brazil in 1999 or Argentina in 2002, what the U.S. is going through right now is no different in that basically, the debt has blown up, and the government cannot pay it and has resorted to printing money. The equity markets always suffered during the heat of the crisis, but within two to three years, all the equity markets in the aforementioned countries recovered the bulk of their losses. That’s obviously at the expense of something, and it’s at the expense of the currency — the currency gets permanently devalued for these countries. Those currencies were devalued against the (US) dollar, but in this case, it’s the dollar that’s being devalued by the U.S. government against hard assets. That’s why I’m so bullish on gold — and not only gold, all the commodities — copper, oil, zinc, lead and nickel.

MM: So you’re down on the dollar. What exactly does that mean for gold?

JL: The dollar still has a lot of room to depreciate against hard assets, such as gold.

If we’re to follow technical indicators, gold took out a critical resistance level of US$950-1,000 and went as high as US$1,250 (last year). It’s natural for gold to come back and retest what is now the support at US$1,000. My belief is the dollar rebound against other currencies is petering out and consequently, I see gold resuming its bull trend by the middle of February, and this time it’s going to make a run past US$1,250. My conservative estimate is US$1,350-1,500 and I believe that target could be reached by May.

MM: What about the fundamentals — do those play a factor at all in commodities prices right now, or is it just speculation?

JL: It’s the speculative demand that’s driving the short-term prices. It’s also the inflation factor.

To make money, we follow the relative ratio of how different metals and commodities trade amongst themselves and try to spot a temporarily overlooked commodity that we believe would have higher room to appreciate as opposed to the ones that have already had a significant run up. An example could be zinc, or nickel, or lead, which are still trading at more than 70% of their highs established in this decade, whereas gold is establishing an all-time high. The same could be spoken of copper, whose high was US$4 and now it’s trading around US$3.30. If you look at a historic ratio between copper and zinc, if copper stays above US$3, a fair price for zinc ought to be around 60% of the price of copper, which puts zinc at about US$1.80 and right now it’s at $1.15.

MM: Then zinc is where people should be looking at investing.

JL: If you really believe in the resumption of global growth, then instead of buying copper, you should buy zinc. If copper’s going to stay over US$3, the long-term ratio dictates that zinc and nickel should appreciate substantially to catch up with the price of gold and copper and oil. For the short term, we’re trying to guess where speculators are going. And if you were to pull up the charts of nickel and copper and lay them side by side, they would speak for themselves.

Then again, when the tide comes, all boats are going to float — and what I mean by that is the wave of inflation. Eventually you’re going to have such massive speculative interest because of this massive amount of liquidity and that’s going to override the underlying fundamentals of each individual commodity. That’s in the short term. In the long term, because of the cost of production and because of demand from Asian and the rest of the emerging economies, the floor of these commodities is going to be established at higher price levels.

MM: When do you see prices going up?

JL: We could be looking at US$1.50 zinc within six months (by July) and US$2 a pound zinc by the end of 2010 and that would translate to an 80% appreciation. And I’m very bullish on nickel. Nickel right now is trading at US$8.50 and I think once it takes out US$10, it could make a run at US$12-15 a pound. I see that happening within six months. So by July, we should see a nice run by both zinc and nickel. Toward the end of the year, it’s anybody’s guess how high these commodities can go.

Sri Lanka — the bottom of the totem pole in terms of size and influence and affluence — about two months ago, gold went up US$50 when they announced they were diversifying their foreign reserve into gold. So you can see we’re really in a very delicate situation for the commodity market. The least likely place for gold to go is down. There may be some correction for oil and copper, but that will be in the range of 10-20% at most and the overall trend for all commodities, in my view, is up.

MM: You talked about the decoupling of the economy from the stock market, but what about the West and Asia? How much does growth in the West depend on growth in Asia and vice versa?

JL: When I talk about decoupling of the stock market versus local economie
s, a couple of factors are at play. A lot of people are speculating on the stock market because it’s better than parking money at the bank and earning 1% interest. Another thing to note is the S&P 500, America’s largest 500 public companies, are making 60% of their earnings from outside of North America, outside the U.S.

So in many ways, the relative good performance of the North American stock market is a reflection of the recovery on a global scale.

Now the question is, does American growth depend on Asian growth and does Asian growth depend on American growth? That’s been the perennial question and a lot of people say the Chinese economy is a direct play on the U.S. economy because the Chinese economy is export-oriented. My answer to that is when China ships their goods to the United States, they get U.S. dollars in return. China has $2.3 trillion of U.S. dollars sitting in its coffers and it’s raking in US$100-150 billion a month. The last thing they’re concerned about getting enough of is U.S. dollars.

The picture now is very different from 10 years ago, when every country was short on foreign reserves, investors had no confidence in their currency, in their economies, and therefore needed a pillar to support the economy — and that pillar was the U.S. dollar through a trade surplus. But now, it’s a complete 180: they’ve got enough U.S. dollars, and to suggest that Chinese growth depends on the U.S. recovery is complete hogwash in my view.

MM: If the dollar loses its reserve currency status, what will replace it? Is it going to be gold?

JL: China is now talking to a number of Asian countries to settle trades in their own currency. It used to be all U.S. dollars — if China wants to buy, say, cotton from Vietnam, it has to pay U.S. dollars — and now they’re talking about settling in Chinese currency. The way I see it is you will see a regional currency used for regional trades. So for Asia, it could be the Chinese currency, North America could be a North American currency, Europe, the euro.

I’m doubtful that gold will come onto the spotlight as a reserve settlement currency because it’s too volatile. If you have a Wal-Mart that’s doing international business that demands to be settled in gold — I mean these are low-margin businesses, 1% or 2% margin — they couldn’t possibly choose a reserve settlement currency that fluctuates — doubles then halves then doubles again — which is what gold has done.

At some point, the dollar’s going to stop its bleeding against the other fiat currencies and reach an equilibrium level.

MM: What timeframe are we talking about here in terms of regional currencies?

JL: That’s really a political decision, but we have to see how the dollar plays out. The U.S. government is really testing the patience and intelligence of dollar investors. I do see a runup of gold at a minimum of US$1,400-1,500, but if inflation persists and comes to the front headlines and then a couple of prominent investors make a move on gold, or central banks, you could be looking at US$2,000 gold — that’s what Rob McEwen predicts — at the end of the year. And at that time, the talk about jettisoning the dollar as a reserve currency is really going to start picking up steam.

MM: One last question: You became the CEO of Prophecy Resource last year. What made you want to go from researching and investing in juniors to leading one?

JL: I saw a very good opportunity to invest in the junior sector in spring 2009, when you had excellent assets with a lot of value and defined resources selling at pennies on the dollar. But a lot of them were held by companies that were trading at pennies and with a lot of baggage — management back pay and issues with the corporate side of the company. So I said you know what, this is a once in a lifetime opportunity, why don’t I just buy assets?

It took me about six months to find the right property and the right vehicle. I finally found the Lynn Lake nickel project — it’s as advanced as a project can get. The project changed hands for $40 million in 2008 and I was able to get it for $4 million. It was incredible.

Since then, Prophecy has just been on a rampage. In January, we raised $3 million and made three more acquisitions.

We have half a billion tonnes of copper, 250 million pounds of nickel, 200 million pounds of vanadium, and (if the latest merger with Red Hill Energy goes through), 1.5 billion tonnes of coal. All these are hard assets that we can put a price tag on. And we’re not finished yet — we’re still very actively negotiating to make two or three more acquisitions by hopefully the end of summer.

And if my belief and my world outlook is right in that the global liquidity glut is going to continue, the federal banks are going to keep printing, and keep interest rates low and the Asian economies are going to continue to grow, along with the rest of the world economy, while the U.S. and European economies stagnate — I think that our investment in Prophecy is going to do extremely well.


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