Mining Markets


Don’t get distracted by the negative news, says Frank Holmes

At times, Frank Holmes sounds more like a new age self-help guru than the chief executive officer of an investment management firm.

At times, Frank Holmes sounds more like a new age self-help guru than the chief executive officer of an investment management firm.

For instance, the CEO and chief investment officer of U.S. Global Investors often takes the time in his presentations at investment conferences to highlight the dangers of negative thinking on decision-making. Simply put, studies show that your intuition is more accurate when you’re in a good mood.

In the current negative environment for investors, who are constantly bombarded with more bad news about Greece or predictions of a hard landing in China, the implications are clear.

“If you allow your mind. . . to be consumed with negativity, you will miss opportunities that are right in front in you,” said Holmes in a recent presentation in Vancouver, pointing to a new study out of the Massachusetts Institute of Technology. “You’ll be oblivious to the facts and circumstances that are in front of you.”

So how does one immunize oneself from negativity when we’ve all been immersed in it for much of the past four years?

“The easiest way to deal with that is to have gratitude,” Holmes told the audience. “We’re all here. We all woke up this morning. We all have people that love us and we all have people that we love. And you must take that really, truly to your heart,” he continues. “Because investing is both the mind and the heart. It’s key that they’re in harmony and the only way to do that is to have gratitude.”

It’s an unusual pitch for the CEO of a San Antonio, Texas-based mutual fund company specializing in natural resources and emerging markets — or for any investment professional.

But, combined with his investment team’s rigorous macro and micro-level analyses of market conditions and individual stocks, it’s one that has earned him legions of fans. U.S. Global Investors boasts 40,000 subscribers in 70 countries to its weekly Investor Alert service.

A Toronto-born Texas transplant who was named mining fund manager of the year by Mining Journal in 2006 and whose funds have won 29 Lipper Fund performance awards since 2000, Holmes says he learned the value of gratitude early on.

“My mother was a social worker in Toronto and she was an elected board of education trustee for Rosedale to Cabbagetown — so she had the wealthiest community and the poorest community in the city,” Holmes said in an interview.

“She used to always show us how much we had relative to other people.”

At Christmas time, recruited by his mother, Holmes volunteered to hand out gift boxes containing small toys, cold weather gear and candy for underprivileged kids. The gifts  were put together by the Toronto Star newspaper under its Santa Claus fund program.

“It was basically like a shoe box and it was based on gender and age, and they got the name of all these kids in all these houses in Regent Park, in Cabbagetown, and I would be delivering these boxes in the snow,” Holmes says.

Regent Park is a social housing project in Toronto that has a long history of problems associated with poverty, including drugs and crime.

“So I got to know everyone in the community. . . and that’s when I said we’re wealthy — the fact that we can do this.”

Holmes says that’s how he learned wealth isn’t about money: “It’s in your mind and your heart.”

Holmes, who travels widely, and is as passionate about food and sports (especially boxing) as he is investing, pulls material into the investing realm from all aspects of life. The former research analyst, who graduated from the University of Western Ontario with a degree in economics, bought a controlling stake in the company and became CEO in 1989.

While this year looks more optimistic than last, U.S. Global Investors reported a less than stellar final quarter of 2011, partially because the resource companies and emerging markets most of the company’s 13 funds are invested in are more volatile. Assets under management at the end of 2011 shrunk to US$2.1 billion from US$2.85 billion at the end of 2010.

In a press release in early February, the company noted that outflows of money from mutual funds last year totalled US$130 billion.

“The second half of last year was similar to 2008 as uncertainty surrounding the U.S. debt ceiling and the unravelling of the sovereign debt crisis in Europe spiked,” Holmes said in a statement. “This lack of confidence caused the selling of equities across the board despite roughly half of S&P 500 companies experiencing revenue growth of 10% or greater.”

Holmes and his team believe the worst is over and now that central bank policies around the world, including China, are shifting from tightening to encouraging growth, there could be a significant rally on top of the rise in markets in early 2012 — especially among the oversold junior resource companies.

“We think the stage is set similar to 2009, when these asset classes performed exceptionally well.”

The intellectual athlete

In an interview in January, Holmes spoke about his philosophy towards investing.

“If you’re going to be in investments, you really have to have a sports paradigm,” Holmes says. “Because it’s about performance — it’s about creating, not destroying wealth — it’s about creating positive outcomes, and if that company you’re interviewing or that CEO or that money manager doesn’t have that sports paradigm, then how will they attract capital if they’re not outperforming?”

He adds: “You want to put your money with an intellectual athlete. And those people have two qualities: they understand competition for capital, so they respect it. Two, they’re innovative, they’re creative. All great CEOs, they’re extremely creative people.”

Going further, Holmes says that great leaders and creators of wealth understand that explicit knowledge — the kind acquired through study and crunching numbers — isn’t enough. Tacit knowledge, the kind acquired through first-hand experience, is just as important.

“Life is all about this combination of explicit and tacit, tacit and explicit – and the true knowledge is in the middle. . . So if you just are nothing but the explicit knowledge person, you’re the geek. If you’re nothing but the tacit knowledge, you’re a social butterfly. The magic is to go back and forth,” he says.

“As a money manager, I believe that you can look at all your mathematical models, but you have to go to the countries, you have to taste the food. You have to hear the culture in the morning.”

That experience allows you to put things in context and make better investment decisions, Holmes says.

His travels have also solidified his belief that the commodities supercycle isn’t over.

Although media references to a hard landing in China spiked exponentially in late 2012, Holmes saw a different story on a recent visit to the country.

He took a new high-speed train (300 km an hour) to Beijing from Shanghai and saw healthy local retail demand during his trip, especially for American brands like Gap (GPS-N) — a retailer that is closing locations in the U.S. and opening new stores in China.

The ‘American Dream trade’

Despite the deleveraging that’s happening in the West, the big picture for commodities hasn’t changed. U.S. Global Investors pegs infrastructure spending in the next three years globally at US$6 trillion.

Therein lies the opportunity.

“Big money is always made at understanding big S-curves,” Holmes says.

An S-curve
is a type of curve that shows a rapid, exponential increase in growth for a period of time, followed by a levelling off. Such a curve is evident whenever governments invest big in infrastructure.

The last time the prices of many commodities, including oil and gold went to “stratosphere numbers” was in the 1970s, following huge infrastructure investment in the U.S. in the 1950s. But the two periods can’t be easily compared because we are now in a very different stage of the global economic cycle.

“In the ’70s, the world’s population was half of what it is today. Further to that, China and India had no global footprint. And Russia was behind the Iron Curtain. All those factors have changed,” Holmes says.

In 1973, China and India’s share of world GDP was 3%. Now, its share is 18%, and between them, the two most populous countries in the world have 40% of world’s population.

Not only is the number of consumers we’re talking about greater, but people in these countries want a much higher standard of living.

“They all want the American Dream — and that’s the big trade, it’s the American Dream trade,” Holmes says.

The scale and pace of growth that’s taking place in China has never been seen before.

The scope of the changes and massive urbanization that have taken place in Asia over the past decade are difficult to appreciate without having seen it first hand. That’s why Holmes and his team make frequent visits overseas. In the 1990s on visits to China, he saw people getting around almost exclusively on bikes, with few cars on the road. Now, there are cars everywhere.

Holmes believes the spinoff effects of the 24,000 km of high-speed rail being built in China will mirror those that the U.S. highway system, built in the 1950s, had on the U.S. economy.

“Eisenhower commissioned interstate highways in America,” Holmes said. “It was about 25,000 miles of super highway system and it changed social mobility. It allowed anyone to get a car, it created Dairy Queen, McDonald’s, motels — all (these things) came out of the creation of the interstate highway system.”

While Holmes says that Europe is a mess, he believes that Canada will be more affected by China’s situation because of its resource-based economy and the infrastructure spending that is still taking place in emerging economies.

And although emerging economies could experience a slowdown, unlike Western economies, they aren’t saturated in government of personal debt.

That means there’s purchasing power. Holmes points out that half of the growth of luxury brands such as Hermes, Coach and Tiffany & Co., is coming from China. Hermes stock, for one, was up around 50% last year.

“Why are these stocks performing so well when Europe’s a disaster? Because people in these other parts of the world want their products,” Holmes says.

Money supply, another factor that is highly correlated to GDP growth, is rising at an average of 16.1% a year in the top seven emerging economies compared with 4.5% on average in the G7.

Holmes did the math in a recent presentation: “If you have 50% of the world’s population with money supply growing at 18%, that means the GDP of these economies will double over the next five years. . . The world’s population has grown from 3 billion to 7 billion – what do you think is going to be the need for commodities?”


While we are still in a commodities supercycle, there can be short-term periods of tremendous volatility within that, Holmes says.

That volatility is caused by two different stories playing out at the same time: a debt contraction in the West and the rapid and large-scale economic growth of the emerging world.

Judging by previous 20-year supercycles, U.S. Global investors sees the commodities supercycle running for another 10 years. At the same time, the average debt contraction takes four years — or up to six when it’s a credit crisis, Holmes says.

The result is the volatility that we last saw in the second half of 2011.

Holmes says that every time we see a fear trade out of the U.S. or Europe, all small-caps, including gold stocks, “take it on the chin.”

That provides an opportunity.

In 2006, the average takeover offer for a resource company was 6% over its 20-day trading average, Holmes says. Last year, that premium was closer to 60%.

As the cheapest gold ounces are now on the stock exchanges — not in the ground — and Holmes predicts we’ll see a lot of M&A this year, with gold-hungry miners snapping up quality juniors.

But investors must be prepared for volatility before they invest, Holmes says.

“It’s for you to understand, to anticipate before you participate. . .” he told an audience recently. “Anytime, like last summer, when gold was up 40%, it mathematically meant there was a 98% probability of a correction.”

He added: “It’s just math — things will become overbought and oversold.”

Gold’s ‘love trade’

While Holmes is not a gold bug, he does believe that the price of the yellow metal could double over the next five years. Gold will stay strong for several reasons, according to Holmes.

One is that governments around the world are fighting deflation, and so are setting interest rates that are lower than the rate of inflation. Whenever that happens — when real interest rates are negative — gold always goes up in that currency, Holmes says.

“With $8 trillion (in government debt) being rolled over in Japan, America and Europe this year, that’s going to be done at negative real interest rates. That’s why you want to have real assets and real commodities.”

The widescale devaluation of currencies that’s taking place is part of the “fear trade.” Along with the “love trade,” the two are the main factors that influence the price of gold.

And while fear of the eurozone breaking up or other potential crises have investors looking to gold as a safe haven, Holmes argues that the culture of giving gold for religious holidays, weddings, birthdays and other occasions in emerging nations such as China and India, is a bigger factor in gold’s decade-long rise.

“The fear trade dominates all the media, but what’s really important is the love trade,” he says.

The year of the dragon in China and rising GDP generally in populous Asia will mean more demand for gold.

When the fear trade coincides with the love trade, as it has a couple of times in the past year, the gold price spikes.

“This past year when gold hit US$1,900, it was the beginning of Ramadan — that’s the love cycle, and you at the same time had the debt crisis in Europe and Obama fighting Congress over the debt ceiling. So you had the fear trade and the love trade show up at the same time and gold hits a new high.”

Lastly, Holmes says there’s no sign of a bubble in gold — it hasn’t yet had the exponential move that could signal the end of a cycle.

Not coincidentally, fear is the main feature Holmes sees in the West right now, while hope is the general attitude in the emerging world.

“When you visit (emerging) countries, there’s so much hope. There’s poverty like you’ve never seen when you go to countries like India, but there is hope. It’s not an economy built on fear,” he says. “(Hope) is the most significant factor in having a sustainable economy.”

— This story originally appeared in the March 2012 issue of Mining Markets magazine.

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