Below is an interview with Frank Holmes, chief investment officer at U.S. Global Investors. This Q&A went out to subscribers of our "10 Things You Need To Know Before The Opening Bell" newsletter on Tuesday morning. Sign up here to get the newsletter and more of these interviews in your inbox every day.
BUSINESS INSIDER: What is the most underreported commodities story at the moment?
FRANK HOLMES: In my opinion, palladium and platinum are the solutions to the pollution, and are also two of the most underreported commodities stories at the moment. I will focus on palladium today. The long-term demand needs for palladium are enormous. The commodity is used primarily for catalytic converters in automobiles to aid in clean air emission, but can also be found in electronics, various other clean air and water systems, jewelry, chemicals and even dentistry.
Russia is the world’s top producer of palladium, supplying over 40 percent. As we’ve witnessed commotion in the current political landscape in Russia evolving, it’s evident that the supply of palladium can easily be disrupted. Over the past year the precious metal has mainly traded sideways, but the global events involving Russia have pushed the price higher in addition to global PMIs rising, which is highly correlated to demand and global industrial growth.
Yet another reason pointing to the significance of the palladium story can be seen in China. Vehicle sales in China rose faster than expected last year, and the country recently switched to U.S. standards for air pollution. In automobiles, palladium and platinum are the solution to the pollution. These metals are primary components used in catalytic converters, which emit less toxic exhaust into the air.
There are many supply and demand factors which make the palladium story one worth telling.
BI: Will gold ever recover to the levels it was at in the couple of years after the crisis?
FH: Looking forward over the next few years, I think it’s possible for gold to recover to the $1,900 level that we saw previously. On a long-term basis, say five years, I think gold can surpass that level.
You must put the crisis into context however, to better understand it. What took gold to $1,900 was a combination of two factors: the Love Trade and the Fear Trade. The Fear Trade involved the S&P downgrading the dollar, Obama battling Congress over the debt ceiling and the potential shut down of the government, and Chavez having his gold physically shipped to Venezuela. The Love Trade involved the Asian cultural affinity for gold. Gold has a significant, consistent pattern that is aligned with religious and celebratory events that are dominated by Asia, India and the Middle East.
Look at the historical, seasonal price pattern going back 30 years, and align that with the corresponding visual that shows the various cultural holidays.
These celebrations begin with Ramadan and peak with Chinese New Year.
I see many opportunities for gold looking forward. The Singapore exchange is looking to start a gold trading market that allows for physical delivery into the island nation. Also, in 2013 demand out of Indonesia, Thailand and Vietnam totaled 300 tonnes, a 42 percent increase since 2012. Year-to-date China has taken physical delivery of 200 tonnes of gold.
We are still witnessing mind-boggling consumption of physical gold, and you can see below that gold demand remains robust in China. When comparing total gold traded to gold delivered on the COMEX and the Shanghai Gold Exchange, it is a striking comparison. While gold trading volume is greater on the COMEX, physical delivery of the metal on the Shanghai Gold Exchange is 200 tonnes more than the COMEX.
BI: How long can the American shale boom last?
FH: I believe that as long as government policies don’t try to stifle the shale activity in the United States, this boom can continue for a while. What investors should realize though is that the depletion of these wells is rapid. For a simple illustration think of it this way; a discovery now producing 1,000 barrels per day can quickly change to 100 barrels per day just one year from discovery. This is why there is a need for continued exploration and pipeline infrastructure spending, which is fueling MLPs. If we have both of these factors, then we will see the wheels of job creation continue to turn, along with America’s freedom from OPEC nations.
BI: What kinds of investment allocations are now called for as China slows down?
FH: Right now, this is how I like to see a portfolio weighted: 25% in safe, ultra-short, high-quality investments, 25% in resources that produce income and have exceptional growth, and 50% in great American companies – those that have classic, GARP-style stocks with modest dividend growth. Rebalance annually, with gold holdings as part of the 25% allocation to resources.
When looking at allocation based on the slowdown in China, I remind investors to revisit global PMI (purchasing manufacturer’s index) numbers. The global PMI is important and a potential director of commodities. Our internal research suggests a high probability of oil, copper, etc. rising over the subsequent months when the one-month remains above the three-month. The trend is your friend!
What really makes commodities rock across the board is when the PMIs of China, Europe and America are synchronized and rising. We saw this as a major force in 2006.
If you put the slowdown in China in context, you can adapt. For example, China recently removed its 1-child policy, allowing for a new 2-child policy. China did this because they do not want to end up like Japan, a country with an aging population and no new growth. Despite an economic slowdown, there continues to be positive demographics and new focus on areas such as technology. For our China fund, we try to capture these long-term positive trends, along with the strong growth sectors such as gaming technology and health care. China has changed dramatically over the years, but every mother in China and around the globe wants the same thing that we do in America—the best education, health care and the opportunity to succeed.
Every baby born in American born will need 3 million pounds of minerals, metals and fuels in their lifetime alone. Just imagine the necessity and importance of resources globally as the population of China grows and begins to catch up economically.
This is a long-term, super-secular cycle. What took centuries for the world’s population to grow by a billion people now explodes in decades. Finally, the world is super-connected with cell phones, iPads, Androids, Facebook, Twitter and the emerging countries want to enjoy the American dream because they can see it. And because of this, they believe it.
BI: How do you feel about Bitcoin?
FH: I think that Bitcoin is an interesting concept. Do I necessarily believe in it, and do I use it? No – but it is an interesting concept that’s in its early stages and comes with lots of risks.
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