One of the major drivers of bullish sentiment toward gold, silver, and other precious metals is the speculation that the monetary easing policies from central banks around the globe will devalue currencies, thus resulting in higher inflation and higher prices for commodities. While the rationale on its surface makes for a very bullish case for gold and other precious metals, a deeper examination of the money supply and historical inflation trends might help to provide investors with a more balanced perspective and temper expectations.
One contrarian to the gold boom theory is Paul van Eeden, President of Cranberry Capital and the creator of the Actual Money Supply (AMS) indicator, which monitors the real rate of inflation. The AMS takes a comprehensive look at the total money supply and measures it against historical rates of monetary inflation. Equities.com spoke with van Eeden as he explains why he believes runaway inflation is not occuring, and as a result, why gold may actually be expensive right now.
Van Eeden will be joining a roster of notable and influential speakers and attendees at the upcoming San Francisco Hard Assets Investment Conference on November 16-17, 2012 at The San Francisco Marriott Marquis.
EQ: To start off, can you discuss your background and experience in the market?
van Eeden: I started in the investment industry around 1995 working with Rick Rule in San Diego at Global Resource Investment, which was subsequently merged with Sprott, Inc. I worked there for about seven years, then started the financial newsletter Exploration Insight, which focused on mineral exploration in particular. In 2008, when I became very concerned about the market, I tried to liquidate as much of my portfolio as I could and also sold the newsletter. Exploration Insight is now written by Brent Cook, who I worked with during my days at Global Resource Investments. Both Brent and I focus on mitigating downside risk and we both specialize in mineral exploration, which is an extraordinarily risky business. While the potential profits are staggering when you participate in mineral discovery, the reality is that by far the majority of mineral exploration companies don’t make economic discoveries. Therefore the majority of them are losing investments. This is why having a method of mitigating risk is critically important to investment success in mineral exploration.
EQ: Can you tell us more about Cranberry Capital and your focus there?
van Eeden: Cranberry is an investment holding company, and most of my time is spent looking for and analyzing investment opportunities in mineral exploration. It's not exclusively in that industry any longer, but it's still a very large part of what I do.
EQ: The Actual Money Supply (AMS) is an economic tool that you developed to measure monetary inflation. Can you tell us more about this metric and why it helps to address what most people don’t realize regarding the money supply?
van Eeden: When I become involved in the financial industry, and in particular natural resources, a lot of the exploration companies were looking for gold. Wrapping my head around the gold market became quite important to me, and when I started off in the industry, the analytical community viewed gold like how they viewed other commodities. Gold analysis was based primarily on mine production and fabrication demand, and offsetting these against each other to try to make sense of the gold pricing in that context. It occurred to me that because most of the gold that we have ever mined is still above ground in various forms--whether it's coins, bullion or jewelry--the gold market should be dependent on gold trading and not necessarily as it is related to the difference between mine production and fabrication demanded on an annual basis.
I started doing a lot of research and work trying to understand what it is that’s causing changes in gold price. Personally, I believe gold is a form of currency. It’s a form of money, savings, and a store of wealth. My premise was that if gold, is in reality, a form of money, then its price and market activity should be related to monetary aspects. The more work I did in this, the more sense it started to make to me. The problem was that if you’re trying to compare the price of gold you have to price gold in something. Generally around the world, we typically price things in U.S. dollars. So if you try to price gold in U.S. dollars, and they say the price of gold changes, then you have to understand if that change is due to a change in the market for gold, or is it due to changes in the market for dollars.
In order to do that, you also have to understand the U.S. dollar and the price dynamics like how many actual dollars there are in the system. The majority of people measure the money supply using using the M aggregates, which are M1, M2, and M3. The problem with the M aggregates is they’re not really measuring the total U.S. money supply. They are monetary aggregates that were designed for very specific purposes, and neither one of them is a comprehensive look at the total U.S. money supply.
So I created a monetary aggregate, which I call the Actual Money Supply, which is in my opinion, the sum of all the money in the United States banking system without adding anything that’s not money and without omitting something that is money. So by looking at this monetary aggregate, I can then derive what the U.S. dollar inflation rate quite accurately. Now it's important to know the difference between monetary inflation and price inflation. When people talk about inflation today, people think of consumer price changes being inflation, but that is price inflation. One of the causes of price inflation is monetary inflation. So in order to understand price inflation, you need to know what the monetary inflation is and what the money supply really looks like.
So if gold is a form of money measured in U.S. dollars, then in order to understand the value of gold, I need to understand their relative inflation rates on the exchange between gold and the dollar.
EQ: The bullish case for gold in recent years is the expected hyperinflation that many investors believe will result from aggressive stimulus and loose monetary policy. Do you disagree with that sentiment?
van Eeden: There is no doubt what the Federal Reserve has done has caused monetary inflation. That’s why they did what they did. They wanted to create monetary inflation and the reason is because they absolutely did not want monetary deflation. Monetary deflation is what occurred in the 1930s and is widely blamed for the Great Depression. So central bankers will do almost anything in their power to avoid a prolonged period of monetary deflation. So it is absolutely correct that the Federal Reserve created monetary inflation, but that was their intent. What we have to consider is how much monetary inflation they created, and what is the long-term impact of that monetary inflation. That’s why looking at the Actual Money Supply and the actual inflation of the U.S. dollar is so critical. The reality is since 2008, in spite of the large amount money that the Fed has created, they have not yet created any kind of runaway inflation, nor does it appear to me that they’re on the brink of creating runaway inflation.
Without getting too technical with all the reasons of why the expansion of the Fed’s balance sheet isn't causing a massive amount of U.S. monetary inflation, it really has to do with where the money resides and how the banking system uses it. The very bottom line is, we are looking at annualized U.S. monetary inflation of approximately 7 percent, and since 1900, the average annual inflation rate is roughly 6.5 percent within the order of accuracy of that data. So we're looking at 112 years worth of data, and its suggesting that we're not sitting at an abnormally high rate of inflation. So we’re nowhere near any kind of danger zone with regards to inflation. So in my opinion, the concerns of hyperinflation are completely unfounded. In fact, I think that the price of gold has already reacted to that fear, and the reaction has been overdone. So in my opinion, gold is actually expensive.
EQ: As a prominent investor in the area of mineral exploration and development companies, can you talk about the value you see there and how it differs in holding the actual commodities?
van Eeden: For almost 20 years, I've been investing in mineral exploration businesses and not necessarily just in gold. I've invested in copper, lithium, and other types of exploration businesses as well. The reason I invest in exploration is because it’s a very small segment of the mining industry, and it is one that I happen to enjoy and am interested in. When you invest in an exploration company, it’s not like I’m buying a gold stock. A gold exploration company that’s looking for gold doesn't have any gold; they have ideas. Now if we make a discovery and we discover an economic gold deposit, we go from not having any gold to perhaps having several million ounces of gold, and it’s that discovery process that produces the value creation, which is beneficial to shareholders who owned the stock prior to discovery. That value creation exists regardless of whether gold is at $2,000 an ounce, $1,500 an ounce, or $1,000 an ounce. Obviously, more value is recognized if gold prices are higher, but it doesn't detract from the fact that the value creation is in the discovery process. So when I invest in gold exploration companies, I’m investing in the discovery process and the intellectual capital of the people who are running these companies. That is different than specifically investing in the price of gold. So I don’t buy these opportunities because I’m bullish on gold, I buy these companies because I’m confident in the management that run these companies.
EQ: You are a keynote speaker for the upcoming San Francisco Hard Assets Conference. Can you tell us about your participation at these events and how they have helped you as an investor?
van Eeden: It so happens that my first public speech was the one I gave in 1999 at the San Francisco Hard Assets Conference. So this particular conference is dear to my heart. In 1999, if you recall, gold was under $300 an ounce, and I had this great idea that the price of gold had to go up and would ultimately go up to $700 an ounce or more. So I started my public speaking career in San Francisco in 1999 with gold under $300 trying to tell the audience that gold was going to double or triple in price, which was met with roars of laughter. Nobody believed me. It was very interesting because one of the things that I get out of these conferences is merely looking at how many people are in attendance and who is in attendance. In a genuine bear market, the attendance at these conferences is low because very few people are as interested. However, the people who do attend are usually really reasonably sophisticated and technically competent investors or explorers. So it’s a small, sophisticated audience during bear markets. In a bull market, however, you have a larger audience and they’re much more emotional because they're investors. So you can tell a lot about the market sometimes just by looking at the people and talking to the people at these conferences, and listening to what they’re saying and what they’re doing.
The other thing that’s really interesting about these conferences is that you have the aggregation of a lot of very good companies. You have very senior management teams typically attending these conferences in person. So it’s very seldom that an individual investor can spend a weekend talking to the chief executive officers or the vice presidents of exploration of some of the best exploration companies in the world. They can do that at these conferences. Unfortunately, a lot of investors are shy when they attend these conferences and they don’t engage as much as they should with people behind the desk. What I encourage them to do is make a point to talk to these senior analysts and vice presidents because these people who run these exploration companies go to the conferences for the specific purpose of talking to individual shareholders. They are there for you, and all you have to do is go talk to them. You can get a world of information about the industry, about that particular company, about other companies, about geopolitics, and you can learn about the process of exploration. These people are here for the attendees. So speak to them.
Lastly, of course, is you get some of the most successful investors in the mineral exploration business who attend these conferences. Some of them may be speakers and some of them may not be, but they are there. If you do attend these conferences, and in particular, if you attend them regularly, then you get to know these people. You get to know them whether they’re speakers or not because you will recognize them and they will recognize you. After a while, you can build a relationship with these people. If you’re an investor, your success is somewhat influenced by what you know of the industry that you’re investing in. There’s probably no better place to learn about the mineral industry than these conferences such as the one San Francisco.
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