Market Buzz – Slowing Growth Trend Continues, North and South

While the S&P/TSX Composite Index closed Friday down 15.21 points to 11,713.43, it ended the month 3.7% high, continuing its recovery from the relative carnage we saw in May.

Having said this, going forward, investors will have to weigh the underwhelming growth readings released today for both Canadian and U.S. economies. Statistics Canada said the country’s gross domestic product grew by 0.1% in May, better than the flat reading in April but slower than experienced in the first quarter.

In the U.S., the Commerce Department reported that the GDP grew at an annual pace of 2.4% from April to June. The number was less than the 2.5% that economists had expected.

Immediately following their releases a number of commentators indicated the twin reports suggest that Canada is maintaining a slow-but-steady recovery from the recession while the U.S. is waging a tougher battle to regain ground. For us however, the overarching theme was one the North American economy’s abrupt Q2 2010 slowdown from the first quarter’s strong growth.

The Canadian economy’s tepid growth of 0.1% seen in May, while up from a flat reading in May, is a far cry from the spectacular growth spurt that began last fall and continued into this year, when the economy grew 4.9% in the last quarter of 2009 and a decade best 6.1% in the first quarter of 2010.

While the May pace is not disastrous, it will make it difficult for the economy to match the Bank of Canada’s recent projection of 3% growth in the second quarter, which ended June 30.

Switching gears to our Canadian Small-Cap Universe (www.keystocks.com) we take a quick look at a long-time favourite of ours, Glentel Inc. (GLN:TSX), a leading provider of innovative and reliable telecommunications services and solutions in Canada and the United States. Glentel has grown to become the largest multi-carrier mobile phone retailer in Canada operating more than 280 locations.

This past week the company reported that its sales for the three months ended June 30, 2010 grew 16%, to $78.97 million from $67.85 million in the same period of 2009. Net income and basic earnings per share for the three months were $3.76 million or $0.34 per share respectively, compared to $2.64 million or $0.24 per share, for the same period in 2009.

We are happy to report the stock surged just under 10% on the news and hit a new all time high this past week.

Looniversity – Penny Stocks – Two Common Fallacies

Two common fallacies pertaining to penny stocks are that many of today’s stocks were once penny stocks and that there is a positive correlation between the number of stocks a person owns and his or her returns.

Investors who have fallen into the trap of the first fallacy believe Wal-Mart, Microsoft, and many other large companies were once penny stocks that have appreciated to high dollar values.  Many investors make this mistake because they are looking at the “adjusted stock price,” which takes into account all stock splits.  By taking a look at both Microsoft and Wal-Mart, you can see that the respective prices on their first days of trading were $28 and $25 even though the prices adjusted for splits is $0.09722 and $0.02444.  Rather than starting at a low market price, these companies actually started pretty high, continually rising until they needed to be split.

The second reason that many investors may be attracted to penny stocks is the conception that there is more room for appreciation and more opportunity to own more stock.  If a stock is at $0.10 and rises by $0.05, you will have made a 50% return.  Couple this with the fact that a $1000 investment can buy 10,000 shares convinces investors that micro-cap stocks are a rapid surefire way to increase profits.  Truth be told, without independent research from a company like say KeyStone Financial (www.keystocks.com) which happens to specialize in the small- and micro-cap markets, many investors end up with pennies on the dollar from investing in so-called “penny stocks.”

Put it to Us?

Q. Can you give me a quick overview of “contrarian” investing or the contrarian style of investing?

A. Ah, the contrarian – you say black, he says white; up – down; bad – good; you get the picture.  A contrarian investor is generally an individual that invests against market trends and does not follow the prevailing consensus view.  Yes, a true rebel, maverick, or rogue of the intriguing world of investing – yeah, right!

Generally, a contrarian investor believes that the people who say the market is going up do so only when they are fully invested and have no further purchasing power.  At this point, the market is at a peak.  On the other hand, when people predict a downturn, they have already sold out, at which point the market can only go up.

The contrarian generally focuses on turnaround situations and stocks currently out of favour with low P/E ratios, practicing patience and long-term investing.

KeyStone’s Latest Reports Section

• Alternative Financial Services Provider Posts Record Q4 and Fiscal 2010 Revenue & EPS, Aggressive Growth Plan Intact – Stock Rating Upgraded (Flash Update)
• Junior Gold/Copper Producer Sees Shares Surge on Positive Mine Report & Strategic Debt Financing– Maintain Rating (Flash Update)
• Canada’s Leading Industrial Services Firm Posts Solid Q2 – Rating Maintained (Flash Update)
• Hardware & Software Communications Micro-Cap With Strong Balance Sheet Posts Top-line Growth, Bottom Line Hit by Currency – Maintain Rating (Flash Update)
• China-based Forestry Company Posted Solid Q1 2010, Rating Upgraded on Price Decline (Flash Update)

In the first few days of July, the prices of gold and silver appeared to break a five-month upward trend by drawing back about five per cent from the record June peaks. Despite many similar corrections that have occurred frequently during the long bull market in precious metals, pundits nevertheless looked to draw bold and significant conclusions from the drop. But just as investors were getting comfortable with the leading explanation – that a looming double dip recession will prevent inflation and thereby dampen demand for precious metals – the markets for both metals stabilized.

Most investors still credit the accepted orthodoxy that metals will only gain if inflation is widespread or a financial crisis encourages investors to seek safe havens. The failure of both metals to break below their upward trend lines, despite the lack of news on both fronts, should lay to rest these canards. Unfortunately, nothing appears more resilient than the belief in a gold bubble. 

In my opinion, the current rise of precious metals is the direct result of the evident profligacy of governments the world over. Spendthrift politicians in Washington, London, and Tokyo, have caused people to lose faith in paper currencies. Investors, as well as an increasing number of lay citizens, understand that debts cannot be accumulated forever and that the most tempting solution will be to simply print more currency. The only alternative is an unpalatable tax hike that will only serve to reduce long-term revenue, as explained by the famed Laffer Curve.

This conflict will remain whether or not the CPI is currently spiking, and whether or not appetite for risk returns to the marketplace. So, until the political currents change or we face sovereign catastrophe, I believe gold and silver will be in a sustainable secular (long-term) bull market – not a bubble.

With the long term trend line of gold and silver still intact, but with current prices below their recent highs, many investors may be sensing buying opportunities. If so, which metal looks more attractive?

The price of gold and silver are typically influenced by several factors that do not affect prices for conventional commodities.

Gold holds the status of being the world’s ultimate store of value. Neither governments nor wealthy individuals seem to be able to sleep soundly without some cache of the yellow metal. Gold is less used in the industry and its price less easily manipulated. Therefore, the big players in the precious metals markets, especially central banks, tend to invest portions of their vast holdings into gold.

Silver is generally the province of smaller investors. It is more accessible on a price-per-ounce basis, akin to the B-shares of Berkshire Hathaway. Silver has many industrial uses, giving it exposure to the commodity and monetary markets. This means the silver price tends to be more volatile and relatively less favored as a safe haven by the big players.

During the financial panic of 2008, the fortunes of gold and silver parted drastically. In that calendar year, when nearly every asset class fell dramatically, gold lost only 29% of its value from peak to trough. Silver, on the other hand, fell much harder – down 57%. But silver has bounced back harder. Since the trough, the price of silver is up 97%, as compared to 66% for gold. What’s more, the price of silver is still below its 2008 high, while gold has been continually setting new records on a daily basis. Based on these technicals, it is likely that many investors may perceive value in silver.

Generally, the rule of thumb is that gold offers relative stability and silver offers greater upside (and downside). Therefore, the amount of additional risk an investor is willing to take will determine the gold/silver ratio in his portfolio. The other aspect is the ratio between physical metals and metal mining companies. The former are historically relatively safer, but don’t generate revenues like owning stock in a miner can. Again, the allocation to each would be up to the individual investor. Each alternative represents a different way to access what I have argued is a secular bull market in precious metals.

I believe that more and more observers will recognize the nascent sovereign debt crisis as merely the precursor to a currency collapse. If I am correct, then investors will likely continue to pour into assets with intrinsic value, including precious metals. From my vantage point, the choice between gold and silver is of secondary concern. Investors should be more wary of clinging irrationally to an anachronistic US dollar regime.

by John Browne Senior Market Strategist

New Special Report: Peter Schiff’s Five Favorite Gold & Silver Mining Stocks – Click HERE

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John Browne is the Senior Market Strategist for Euro Pacific Capital, Inc. Working from the firm’s Boca Raton Office, Mr. Brown is a distinguished former member of Britain’s Parliament who served on the Treasury Select Committee, as Chairman of the Conservative Small Business Committee, and as a close associate of then-Prime Minister Margaret Thatcher. Among his many notable assignments, John served as a principal advisor to Mrs. Thatcher’s government on issues related to the Soviet Union, and was the first to convince Thatcher of the growing stature of then Agriculture Minister Mikhail Gorbachev. As a partial result of Brown’s advocacy, Thatcher famously pronounced that Gorbachev was a man the West “could do business with.” A graduate of the Royal Military Academy Sandhurst, Britain’s version of West Point and retired British army major, John served as a pilot, parachutist, and communications specialist in the elite Grenadiers of the Royal Guard.

In addition to careers in British politics and the military, John has a significant background, spanning some 37 years, in finance and business. After graduating from the Harvard Business School, John joined the New York firm of Morgan Stanley & Co as an investment banker. He has also worked with such firms as Barclays Bank and Citigroup. During his career he has served on the boards of numerous banks and international corporations, with a special interest in venture capital. He is a frequent guest on CNBC’s Kudlow & Co. and the former editor of NewsMax Media’s Financial Intelligence Report and Moneynews.com.

07/22/10 Vancouver, British Columbia – The Dow fell 109 points yesterday. Gold was flat. Otherwise, all quiet on the financial front.

We’re keeping these reckonings short this week. Your editor is attending a financial conference in Vancouver. He doesn’t want to miss anything.

What have we learned so far?

….read more from Bill Bonner HERE

Golden Shell Games

07/22/10 Vancouver, British Columbia – That’s right, gold. You know, the ultimate money. Or Gold: The Once and Future Money, as our friend Nathan Lewis titled his 2007 book, for which we were privileged to write the foreword.

Hey, Wall Street can take a $250 million sewer project in Alabama and turn it into an insurmountable debt 20 times as big. So it can find a way to pervert the Midas metal, too. And the evidence is piling up: You don’t have to be partial to conspiracy theories about the “manipulation” of gold to conclude something just doesn’t look right.

That means you need to be very careful about how you hold any gold outside your physical possession – especially in a retirement account.

Of course, it’s always important to ask oneself, how much is there to these conspiracy theories, really? Well, ever since the publication of his book, Lewis has been scrutinizing them. And this year, they’ve reached a fever pitch.

• Did you hear about the 400-ounce gold bars filled with tungsten? (Tungsten’s weight is nearly identical to gold, so the deception is simple if the bar isn’t properly assayed)

• Or the one about the London metals trader turned whistle-blower who alleged JP Morgan Chase is suppressing the silver price? And how he was injured in a mysterious hit-and-run? (His injuries were minor)

• Or how the head of the Gold Anti-Trust Action Committee testified about gold manipulation before the Commodity Futures Tradition Commission and the camera conveniently malfunctioned?

You could go very far down the rabbit hole trying to separate fact from fiction with these kind of stories. And you’d be wasting your time.

Marc Faber, editor of The Gloom Boom & Doom Report stated it well in April, so well we quoted it in The 5 Min. Forecast: “If you have manipulation to keep the price down, it eventually goes ballistic. So all the people that are bitching about the manipulation of silver and gold should be happy that it is manipulated, because it still gives them an opportunity to buy it at a depressed price.”

Exactly. Manipulation stories are a source of entertainment, outrage or both. They underscore the perils of the Wall Street Fandango. But their truth or falsehood makes little difference if you hold gold in your physical possession. Or in an allocated account (the gold has your name on it) in an independent, insured depository. Or if you use a reputable electronic gold purveyor. (We like GoldMoney.com and BullionVault.com.)

But it makes a lot of difference if you hold “paper gold” in the form of an exchange-traded fund. Many people buy vehicles like GLD and IAU with the comforting illusion that what they’re buying is “good as gold.” And it’s an incredibly convenient way to get metals exposure in a retirement account.

Which brings us to the revelations of Janet Tavakoli.

Tavakoli is not a gold bug. She’s an expert in structured finance and credit derivatives who runs her own consulting firm in Chicago. Recently, she published a client report that took the format of “advice” she would give to Wall Street sharpies trying to corner the gold market. Not that they’d ever try that, of course.

Pump up the gold story. Get your friends to tell retail investors to buy some gold every month. Get your buddies in the financial business to offer exchange-traded gold funds (ETFs) that claim to buy physical gold. This will sound safe to retail investors, but in fact, the ETFs are very risky. This will serve your purpose when you are ready to start a panic. These particular ETFs will allow the “gold” to be commingled with the custodian’s gold, and the custodian can lease out the gold.

Moreover, the “gold” custodian can give it to a subcustodian that the manager doesn’t know. The subcustodian can give it to yet another subcustodian unknown to the original custodian. The manager will never audit the gold, and the gold is not “allocated” to a particular investor. Since this is an “exchange traded” gold fund, investors will probably assume the gold is regulated by the Commodities Futures Trading Commission (CFTC), but it isn’t. By the time investors wake up to the probability that there is very little actual gold backing their investment, your plan will be ready to execute.

The “plan” involves buying huge futures contracts and expecting physical delivery. If this sounds familiar, it’s pretty much what the Hunt brothers did when they tried to corner the silver market in 1980. Silver shot up to $50, however briefly. It’s never seen that territory again.

But the consequences this time around would be far more serious. It could collapse banks holding huge short positions in the futures market, accustomed to settling contracts cash only. More to our point, it would crater the ETFs: Their complex network of custodians and subcustodians would be laid bare. ETF investors would realize they have a claim on the same chunk of gold as, say, Goldman Sachs. But Goldman would have the actual metal. The ETF investor would have to settle for pennies on the dollar.

Far-fetched? Maybe. Just remember that ETFs are ultimately, like a complicated mortgage derivative, subject to counterparty risk. If the day comes when trust evaporates from the system, value will evaporate from the ETFs. If you want to play gold’s short-term ups and downs, the ETFs are an ideal instrument. Otherwise, stay away.

Addison Wiggin
for The Daily Reckoning

Addison Wiggin
Addison Wiggin is the editorial director of The Daily Reckoning, and executive publisher of Agora Financial, an independent financial research firm based in Baltimore, Maryland. His second editions of international best-sellers Financial Reckoning Day Fallout and The New Empire of Debt, which he co-authored with Bill Bonner, were updated in 2009. His third book, The Demise of the Dollar… and Why it’s Even Better for Your Investments was updated in 2008, the same year he wrote I.O.U.S.A. Read more about Wiggin’s best-selling books here.