Gold: 3 Investment Tips

Evy Hambro: Hi. 

Wall: So you're here today to give us three investment tips; thematic tips, what's your first one?

Hambro: Well, I think that the thing to start with is just what's going on in the sector today. So, right now the companies are really struggling to raise capital because of depressed equity prices, the banks' unwillingness to lend to the space. So, the mid-cap through the small-cap part of the resources space just can't get the money they need to unlock the value in their businesses. The advantage we have in the Trust is because it's closed-ended we can be a patient long-term investor and provide that capital not necessarily in illiquid forms in a listed security.

So we've been doing this recently. Over the last couple of years we've been doing debt instruments with the companies directly and now we've kind of embarked on a combination of mezzanine finance and most recently going into royalties. So, we're buying royalties which is basically a revenue share on what's produced by a mine. We've got a direct cut of that without taxes, changes in the government, without any of the challenges around what management decides to do with the cash flow and how they reinvested; all operating cost increases, those all don't really contribute to the risk factors of a royalty.

So we're building up this royalty portfolio inside the Trust and I think that we're kind of laying the foundations; some really exciting value creation over the next few years, and it's really the opportunities that is opened itself up to us because of this financial situation in markets globally.

Wall: So, alternative instruments then. and what's your second tip?

Hambro: Well, the second kind of theme that we've got inside the Trust right now is that most of the – kind of mid-cap to large-cap companies have gone into the financial crisis with a high level of gearing. And when you look at the enterprise value of the companies, the combination of the market cap and the debt side of the balance sheet, in many cases, the debt side overwhelms the equity. Now we've seen this period of stability in commodity prices; so iron ore and copper in particularly, that debt is starting to disappear quite rapidly. And now we're starting to read reports by analysts talking about passing the peak of debt in terms of the financing needs of these companies. And as that debt starts to disappear the value shifts to the equity side, and obviously, is directly related to the share price. So, we're now starting to see these companies evolve out of perceived high risk situations with regards to balance sheet and then rapidly derisking because the cash flow margins are very strong. So, iron ore companies would be a classic case to look at there and some copper companies as well. So, there is two big themes inside the portfolio for us kind of deleveraging element.

Wall: What's the third?

Hambro: I think the third theme is the market today generally when it comes to resources is probably looking at it in the kind of despair phase or maybe moving from the despair phase into the kind of skepticism or pessimism phase. We're long, long way away from the optimism phases of 2007, 2008. So, I go and see my colleagues in BlackRock, or I can speak to clients in the market, and generally, people are interested to hear what's going on but don't really have an appetite to invest. So, this lack of interests that we're seeing today is really forcing the kind of the foundations of what we perceive as a very strong market in the future. Management has changed the way they run the companies. We're early on in the process. The mining sector is well ahead of the gold space in this; they started a year ago or so. So that promising capital returns, increase in dividends, cutting CapEx, cutting operating expenditure; all of the kind of good things that they should have been doing anyway are now doing aggressively, and all of this is likely to release value. So I think that the overall theme is just going to carry the sector.

Then, we've got the macro recovery going on in the world economy. And this is – as we move into 2015 – second half  2014, and 2015, we're likely to see synchronous global growth going on in the world. So, China is going to continue to be growing, Europe might start to recover, and the U.S. will be continuing to grow. So, we haven't had synchronous growth for many, many years and thinking back to the 1990s, synchronous growth is always associated with the commodity boom market, and when you overlay the lack of investment into new supply, the second half of this decade does look pretty strong.

Wall: So, pessimism can be a good thing?

Hambro: I think – well, as they say boom markets are born in periods of despair, thrive in pessimism, and peak in optimism; and we're in this transition from despair into pessimism right now.

Wall: Evy, thank you very much.

Hambro: Thank you.

Wall: This is Emma Wall for Morningstar. Thank you for watching.