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basserdan

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basserdan

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Friday, 09/05/2003 9:17:41 AM

Friday, September 05, 2003 9:17:41 AM

Post# of 704019
*** A gold related Conversation With Mark Johnson ***


A Conversation With Mark Johnson
Thursday September 4, 2:42 pm ET
By Scott Patterson

KING MIDAS THOUGHT he was a pretty cool customer. After being granted a single wish by the god Dionysius, he asked for the ability to turn all he touched into gold. His plan, which sounded like a great deal on the face of it, backfired when he turned his own daughter into a shimmering golden statue.

These days, people don't need supernatural powers to reap to rewards of the latest gold rush — they simply need to be invested in a soundly managed precious-metals fund. In August, as cash drained from bonds faster than audiences fleeing the movie "S.W.A.T.," gold funds lapped up the extra liquidity, rising an astonishing 14.5% for the month, according to Lipper, compared with a 3.6% gain by the Standard & Poor's 500.

Few have enjoyed the action more than USAA Precious Metals & Minerals fund (NASDAQ:USAGX - News) manager Mark Johnson, whose portfolio has the Midas touch throughout 2003, soaring 30.1% year-to-date, compared with 21.4% for the average gold fund through Aug. 28. "We've seen significant cash flow lately," says Johnson. "I haven't had a negative cash-flow day since the end of July. I don't think I've ever gone through a month where I didn't have at least one day that was negative cash flow."

Those who missed the August run-up, take note: Johnson doesn't think the sector is fully valued yet, even in the face of a strengthening economy. As the economy solidifies, says the San Antonio-based fund manager, investors wary of increasing inflation might continue exiting bonds and buying gold, which sold for about $372 an ounce as of Thursday, according to Reuters. And some of the demand for gold is related to jewelry, an industry that follows closely on the heels of the broader economy.

Of course, gold being one of the most volatile sectors of the economy, it's never a good idea to invest more than a minimal portion of your portfolio in the shiny yellow stuff. As King Midas found out, even gold can backfire on you.

SmartMoney.com asked Johnson what he looks for when evaluating a precious-metals investment, and whether or not he thought the move into gold could be the signal of a bearish trend in the stock market.

SmartMoney.com: The gold market has had quite a run during the past few weeks, with gold-oriented funds rising an average of 14.5% in August. Why has gold suddenly taken off?

Mark Johnson: It's a function of money moving from bond funds into gold stocks, and gold funds in particular. Up to about two and a half months ago, the price of gold was strongly linked to the U.S. dollar. That linkage seems to have broken, because gold has moved up despite the dollar moving up 3.2% off of its June low. The reason for that is simply a flow of funds from bonds into gold.

SM: Does the move into gold mean the stock market faces the prospect of sliding into bearish territory?

MJ: No, I think it's simply a reaction to bonds and perhaps some concern that there might be a little more inflation down the road, as evidenced by the spread between the 10-year Treasury and the TIPS [Treasury Inflation Protected Securities], which has widened to about 225 basis points [2.25 percentage points]. That's about as high as it's ever been.

SM: Gold prices have been swinging pretty wildly as a result of Wall Street's instability. How do you hedge your fund's strategy to prepare for the volatility in the gold market?

MJ: We maintain what I'd call a balanced attack in the sense that we buy other investments besides gold stocks, namely platinum stocks and diamond stocks. We hedge in that sense, so we can direct cash flow away from gold and into platinum if we so desire.

SM: Is gold still a good investment after its recent run-up?

MJ: Yes, I think the likelihood is that gold prices will be higher a year from now than they are today, primarily because of the twin deficits — the very large current-account deficit and the very large federal budget deficit, which argue for the dollar eventually weakening again. If interest rates go up on the long end, that's probably a positive for the gold market because it implies inflation. If they go up on the short end, that's a negative for the gold market because hedging strategies can become more profitable again. However, having said that, the Fed has made it perfectly clear that they have no intention of letting rates rise on the short end.

SM: How will gold stocks perform if there's a sustained economic recovery in the following year?

MJ: They should actually do fairly well. Some of the demand for gold is jewelry-related, and that's been hurt by the recession. So to the extent that the economy recovers, demand from that side should improve. To the extent that the bond market continues to do poorly, that should improve demand on the investment side for gold. Meanwhile, on the supply side, you don't have much in the way of new mines coming on stream, so supply will probably drop about two percentage points over the next year. So I think you've got a fairly favorable environment next year even in an economic recovery. One caveat to that is that if the stock market takes off and the S&P 500 is up 20% or 30%, which would obviously cause a lot of the money that's switched from bonds to gold to go back into stocks. Gold is negatively correlated with the S&P, so if you have a strong stock market, all bets are off for the gold guys.

SM: Which gold companies do you think have upside potential right now?

MJ: I'd have to say that in terms of the more liquid U.S.-listed securities, probably the single most attractive stock out there is Barrick Gold (NYSE:ABX - News). It's basically a contrarian play. It's done extremely poorly over the last couple of years. Having said that, it's at an attractive valuation relative to where it's traditionally traded, and it does have an identifiable growth profile, which a lot of the larger producers don't have. And it has a pretty good balance sheet and some world-class assets. So if you put it all together, I think you can do pretty well with Barrick Gold.

SM: What do you look for in a company when you're thinking about buying it?

MJ: We look for three basic things. The underlying premise is that in any commodity, only the low-cost producers with good managements and strong balance sheets survive. But we don't want to just survive, we want to prosper, so the second thing we look for is an identifiable growth profile. The third thing we look for is that we basically don't want to pay too much for the first two things, so we focus on valuation as well.

http://biz.yahoo.com/smart/030904/20030904theproshop_7.html

Dan

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