

-- Posted Sunday, 2 October 2011 | | Disqus



If you want to know the future, pay attention to the decisions European policymakers will have to make regarding debt, says Scott Gardner, chief investment officer at Verdmont Capital. In an exclusive interview with The Gold Report, he shares his analysis of debt policy investment implications. The Gold Report: In one of your June research reports you wrote, "In the Eurozone, there has been limited political will to really make an impact on the debt side of the equation. With gross domestic product (GDP) growth set to slow, things should really get interesting for euro policymakers as they attempt to make their shaky union work." In the Eurozone, there is more than adequate money to take care of the debt situation, but the question remains, is there enough political will to keep all the member countries inside the Eurozone? What sort of impact will pending Eurozone issues have on the gold price?



Scott Gardner: First off, you say that there's enough money, but I think that a lack of money is the primary concern. The European Financial Stability Fund has something like �440B in committed capital and the members haven't agreed upon future funding requirements. Also, the European Central Bank (ECB) itself only has �10B. If you compare that to the three largest banks in France, for example, they own roughly $600B in PIGS (Portugal, Ireland, Greece, and Spain)-related debt. You can see how imbalanced the system is and how undercapitalized some of these organizations are that are meant to be the solution.



TGR: In terms of a percentage of euro GDP, it's a relatively small amount.



SG: I think the overall liability in the banking system has been estimated at about �2.5 trillion, in terms of PIGS-related financing needs over the next few years. This is significant. People talk a lot about the economics behind the crisis, but the issue in the Eurozone is just as much a social one. It's questionable whether or not, for example, the German populace will remain in favor of bailing out some of the peripheral regions' largess. This is where we get into the will of keeping the Eurozone together, and Europe is going to see ongoing pressure there.



TGR: George Soros said we are in a double-dip recession, and he believes that the euro will come apart. Is that your view on both accounts?



SG: People have been focusing largely on the numerator in the debt:GDP ratio and the market has become used to the pressures as they stand now. However, austerity measures and other proposed solutions will put a tremendous amount of pressure on GDP. A double-dip recession cannot be ruled out. Clearly, this will only exacerbate the debt:GDP ratio and further handcuff policymakers in terms of the policy response.



TGR: How will these issues impact gold and silver prices?



SG: During the acute stages of a systemic selloff, all investments typically get punished. We saw that during the correction at the height of the credit crisis in 2008. We're also seeing that today in the current selloff, with gold and silver both down substantially. Over the long run, the crisis in Europe is clearly very bullish for gold and silver because the only way out of the current situation is additional stimulus from central banks. Additional stimulus will put further downward pressure on all the major currencies.



TGR: In one of your June research reports you wrote, "Gold continues to break out in all major currencies despite prevailing concerns in the market that gold is due for a major pullback. Of course, since then, gold has had a dramatic rise, but more recently, it's beginning to look like there is a major correction under way in the gold price." Is the correction for real? If so, what range do you believe it will bottom in?



SG: Nothing goes up in a straight line, and a gold correction from current levels is actually quite healthy as the short-term rise was technically overextended. We remain in a gold bull market and the market usually uses the 200-day moving average as a floor within a long-term uptrend. Therefore, we would be aggressive buyers in and around the $1,600 range, which would bring gold close to its 200-day moving average.



TGR: Do you believe that pullback will inhibit the performance of junior precious metals plays, given that the dramatic uptick in the gold price in August didn't seem to carry many precious metals juniors much higher?



SG: We learned during the selloff in 2008 that junior gold stocks behave like stocks first and gold investments second. If there is substantial risk in traditional investments, gold stocks selloff in sympathy. This time around, we believe investors will look through short-term weakness and see the inherent profitability that gold stocks offer. Arguably, in the current environment, gold stocks are the only game in town, given that they're the only sector that is growing earnings and profitability to the extent that it is.



TGR: In a May research report you wrote, "Despite the recent correction in the base metals complex, it is too early to initiate positions or increase underweight allocations within resource-focused portfolios. Our preferred segments of the commodity market remain energy and precious metals at the expense of agriculture and base metals." Has your position changed?



SG: No. We were lucky enough to advise clients to short copper a few months ago, and we still see continued pressure in base metals�related equities. Many argue that current base-metal stock valuations are reasonable, but we believe overly optimistic commodity forecasts are baked into earnings estimates. Analysts are still forecasting 2012 copper at around $4.30/lb. We'd like to see more conservative copper estimates before we get more enthusiastic on the base metals complex. Meanwhile, gold analysts are forecasting, on average, something like $1,600/oz., which may prove overly cautious.



TGR: Tell us one economic situation that you're going to watch the most closely as Q311 comes to an end and Q411 begins.



SG: All eyes will be on Europe and the pressures there. Generally, the market is trading in sympathy with both European financial stocks and, to a lesser extent, American financial stocks. Policymakers need to find a solution before we get a base and see strength in a lot of these junior mining stocks.



TGR: Thanks, Scott; it's been a pleasure.



Scott Gardner, CFA is the Chief Investment Officer at Verdmont Capital S.A. based in Panama. He is responsible for guiding firm investment strategy and is the head of the company's discretionary investment management program, research and corporate finance operations. Prior to joining Verdmont, Scott was a portfolio manager with an offshore bank in Bermuda, where he managed discretionary investment portfolios, mutual funds and was the bank's lead strategist for commodity-related investment programs. Scott is a CFA charter holder and a member of the CFA Institute.





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