-- Stock Selection Update Emails
 

Stock Selection Update #75 - Aug-29 2014

There is a trading position in Orezone Gold (ORE.TO) in the TSI Stocks List. In the 14th July Weekly Update we wrote that ORE would be exited if it traded up to C$0.98. The stock closed at C$0.97 on Thursday 28th August, which is close enough. For TSI record purposes the ORE position will be exited at C$0.97, resulting in a profit of about 50%.

ORE is also part of our own portfolio. Despite the fact that it no longer offers compelling value relative to some other exploration-stage gold miners (True Gold (TGM.V), for example) and will probably encounter resistance at C$1.00, we plan to retain half of our position. There are two reasons. First, ORE has just broken out to the upside and could potentially move up to around C$1.20 within the next few weeks IF the gold-mining sector resumes its upward trend. Second, by retaining some ORE shares we are hedging the risk that either TGM.V or EDV.TO, stocks to which we have substantial exposure, will make a takeover bid for ORE. As well as causing the price of ORE to jump, such an event would lead to a significant decline in the stock price of the company making the bid.
 

Stock Selection Update #74 - Aug-18 2014

New TSI stock selection: Timmins Gold (TGD, TMM.TO). Shares: 164M issued, 175M fully diluted. Recent price: US$1.70

In the 11th August Weekly Update we said that TGD would be added to the TSI List if it traded at US$1.62 (it was trading at US$1.73 at the time). TGD, like many other gold stocks, has since demonstrated resilience in the face of downward pressure on the gold price, which increases the risk that it won't drop to our suggested buy price before resuming its intermediate-term upward trend. Considering that TGD's valuation indicates that it could gain 100% within the coming 18 months, for TSI record purposes we are not going to finesse this stock's entry into the List any further. Instead, it has been added at Monday's closing price of US$1.70.

Here's an overview of TGD's story and speculative merits:

1) TGD owns the San Francisco (SF) mine, a technically-simple and profitable gold mine in Mexico. The mine consists of two open pits -- the in-production San Francisco pit and the development-stage La Chicharra pit.

2) The SF mine has 1.9M ounces of gold in the M&I category, including 1.6M ounces of P&P reserves, as well as 1.8M ounces of gold in the Inferred category.

3) As at 30th June the company had no long-term debt and US$68M of working capital, including US$56M of cash.

4) Based on Monday's closing price of US$1.70, the current market cap is US$278M and the enterprise value is US$210M.

3) Q1-2014 production was 35K ounces at an AISC of $790/oz and Q2 production was 33K ounces at an AISC of $928/oz. This production resulted in a bottom-line profit of $11.3M during the first half of 2014.

4) Annualising the H1-2014 profit yields a P/E ratio of 9.3, although actual earnings for 2014 will be determined to a large extent by what happens to the gold price over the next few months.

5) TGD is currently on track to meet or exceed its 2014 production guidance of 120K ounces.

6) Assuming annual production of 120K ounces, TGD is now being valued by the stock market at $1750 per production ounce. This is low for a profitable miner operating in a politically secure location.

7) The mine life at this time is about 10 years, but the conversion of existing resources to reserves and the discovery of new resources should enable the mine life to be extended.

TGD has broken below its 50-day MA, which suggests short-term downside potential to the 200-day MA in the low-US$1.40s. We hope that it drops that far on no news, thus creating a better buying opportunity. However, for TGD to get that low the gold-mining indices will probably have to get significantly weaker than looks likely at this time. That's why we are now pulling the proverbial trigger. We think that it makes sense to take an initial position now with the aim of scaling up to a full position over time.

To make room for TGD in the TSI List (as previously advised, we do not want to increase the number of stocks being followed), we are shifting Batero Gold (BAT.V) from the TSI Stocks List to the Small Stocks Watch List (SSWL). For TSI record purposes, this realises a large (roughly 90%) loss. BAT is now a very small, thinly-traded stock in cash conservation mode pending a higher gold price (it probably needs a gold price of $1500/oz for its Colombian gold project to be economically viable). At its current price of C$0.10 it is trading about 35% below the value of its cash in the bank and is therefore not a good candidate for selling, but its illiquidity, its tiny size and the low quality of its gold deposit mean that it is better placed in the SSWL than in the Stock Selections List.
 

Stock Selection Update #73 - Mar-26 2014

Please note that the following three changes have been made to short-term trading positions included in the TSI Stocks List:

1) Kinross Gold (KGC) was stopped out on Monday 24th March when it closed below US$4.80. The result, for TSI record purposes: a 7.9% loss.

2) The UltraShort Emerging Markets ETF (EEV) was stopped out on Tuesday 25th March when EEM closed above US$39.50. The result, for TSI record purposes: a 2.1% loss.

3) The short-term position in Gold Fields Ltd. (GFI) was exited at Tuesday's closing price of US$4.05, solely for the purpose of locking-in a gain. The result, for TSI record purposes: a 29% profit.

Also, note that although gold made new lows for the move this week, we continue to expect that the overall correction will end up being roughly in line with the future price path drawn on the chart included in the latest Weekly Update. Specifically, we are looking for an initial low around the current time followed by a rebound and then a second/final decline that breaches or successfully tests the initial low. However, we think that the remaining downside potential is small and have therefore shifted our short-term outlook from "neutral" to "bullish".

Stock Selection Update #72 - Nov-02 2012

Pilot Gold (TSX: PLG) is a small gold mining company run by the same team that had great success with Fronteer Gold. Fronteer Gold was purchased by Newmont Mining (NEM) in the first quarter of 2011 for $2.3B.

PLG is currently involved in three exploration-stage projects: the TV Tower and Halilaga projects in Turkey and the Kinsley Mountain project in Nevada. Even though the Halilaga project has a defined resource and a Preliminary Economic Assessment (PEA), the stock is primarily a drill play. This is because most of its upside potential is associated with TV Tower and Kinsley Mountain, both of which are early-stage gold projects that aren't yet close to having a defined resource. As a result, it isn't possible for us to value to PLG. At this stage there simply aren't enough numbers to work with.

With no way of valuing them, we generally won't include "drill plays" in the TSI Stocks List. We aren't going to make an exception with PLG, at least not directly. We are, however, going to add indirect exposure to PLG via the warrants that were issued as part of a recently completed financing and began trading on the TSX on 1st November. Before we get to the warrant details, here is a summary of PLG's projects:

1) The TV Tower project in Turkey

PLG is earning 60% of this project as part of a JV with Teck Resources. It's still early days, but drilling results achieved to date suggest that the JV has made a significant gold discovery. Of particular note, drilling of the KCD target generated one intercept grading 4.28-g/t Au over 136m and another intercept grading 5.94-g/t Au over 137m. There should be a steady stream of drilling results from this project over the months immediately ahead.

2) The Halilaga project in Turkey

This is another JV with Teck Resources (PLG 40%, Teck 60%). It's a low-grade copper-gold porphyry deposit with a total resource comprising 2.1B pounds of copper and 3.3M ounces of gold (roughly half Indicated, half Inferred). The PEA that was completed last month came up with an estimated post-tax NPV(7%) of $800M using a copper price of $3.30/pound and a gold price of $1350/oz. According to the PEA, a mine with average annual production of 90M pounds of copper and 90K ounces of gold could be built at a capital cost of $1.2B.

Although we aren't interested in buying exposure to low-grade exploration-stage copper projects with expected capex in excess of $1B, PLG's 40% ownership of Halilaga helps to support the stock price. It means that PLG's value is not totally dependent upon future drilling results.

3) The Kinsley Mountain project in Nevada

PLG is earning a 65% stake in Kinsley Mountain. This gold project is at a very early stage, but it could have significant value. It is located 90kms south-east of and is geologically similar to the Long Canyon project. Long Canyon was Fronteer Gold's most important asset.

Other points worth mentioning:

  - Having just completed a $37M equity financing, PLG has $40M-$45M in the bank (depending on how much was spent since the 30th June financial report). It therefore has the money to fund an aggressive exploration program over the next 12 months.

  - The company has 85M shares on issue and 105M shares on a fully diluted basis.

  - Newmont owns 16% of PLG and Teck owns 5% of PLG.

PLG is an interesting stock, but as noted above we are going to obtain our exposure to this company via the warrants that listed on Thursday 1st November. The warrants trade on the TSX under the symbol PLG.WT. They have an exercise price of C$2.20 and an expiry date of 31st October 2014. If the company is going to be successful the success will almost certainly happen before the warrants expire.

We prefer the risk/reward of the warrants to that of the shares, because the risk is high for both the warrants and the shares but the warrants have much greater upside potential.

The last trade for the warrants was C$0.23, but the current bid-ask spread is C$0.23-C$0.29. For record purposes we will add the warrants to the TSI List at C$0.26 (the middle of the bid-ask spread). This price coincides with our assessment of fair value with the stock trading in the C$1.60s.

Stock Selection Update #71 - Oct-15 2012

There was an announcement prior to the start of trading on Monday 15th October that Prodigy Gold (PDG.V) had agreed to a takeover bid from Argonaut Gold (AR.TO). The agreed takeover price is 0.1042 AR shares for every PDG share. Based on Monday's closing price of C$9.65 for AR shares the implied value of the bid is C$1.01 per PDG share. PDG closed at C$0.98 on Monday, up 42% on the day.

AR has highly respected management and good growth potential, but these positives are reflected in a hefty valuation. We note, in particular, that the company's market cap is around $900M even though it is only producing gold at the rate of 120K ounces/year. It makes a lot of sense for AR's management to use its expensive shares to purchase the assets of companies with much lower valuations, but it doesn't necessarily make sense for the vendors of these assets to hold AR shares.

We aren't interested in owning AR at its current valuation, so we are immediately exiting PDG. This trade will go into the books as a profit of 72% based on Monday's closing price of C$0.98 and our June-2012 entry price of C$0.57.

The following exploration-stage gold stocks have similar risk/reward ratios to the pre-bid PDG and are reasonable options for those looking to redeploy money freed up by a sale of PDG shares:

- GPD.TO below C$0.40
- KGN in the US$3.50s
- PVG.TO below C$13.00
- THM at around US$2.60

Stock Selection Update #70 - May-15 2012

We added a short-term GDXJ trading position to the TSI List in Sunday's Weekly Update. The idea was that this position would either result in a gain of about 30% within the next 3 months or be stopped out within a few days at a loss of about 5%. The 'stop' was/is a daily close below 390 by the HUI.

The HUI closed very slightly above our sell stop on Monday and will have to reverse upward on Tuesday to keep this trade alive.

Right now there is a lot more than the usual amount of silliness in the market for junior gold shares. Examples of the silliness can be found in the valuations at which many TSI stocks are now trading. Another example is the valuation currently being assigned to Ryan Gold (TSXV: RYG), an exploration-stage gold miner with a few projects in Canada's Yukon. At Monday's closing price of C$0.35/share, RYG's market capitalisation was less than the company's $43M of working capital (cash plus cash-equivalents minus current liabilities). This means that the market is presently valuing RYG's gold projects at zero (a bit less than zero, actually). In July of last year, the sophisticated investors who financed RYG at $2/share valued these projects at more than $200M. In the mean time there have been NO negative company-specific developments of significance. Just a change in market sentiment.

The most advanced of RYG's assets is the Ida Oro project, which is located about 25km from the Brewery Creek project owned by Golden Predator (TSX: GPD). Ida Oro has produced some interesting drill intercepts, but it is a long way from having a well-defined resource. We can't value a project at such an early stage of development, but we suspect that it is worth something just by virtue of the drill results and the close proximity to another project that will likely be put into production over the coming 1-2 years. And as we said, RYG has a few projects in its stable.

RYG is too early-stage and too illiquid to be considered for the TSI Stocks List, but we are going to add it to the Small Stocks Watch List. It could make an interesting small-scale speculation (the only type of speculation that would be possible with this thinly traded stock), because downside from here should be limited by the company's cash and any success with the drill program over the next few months should lead to a strong bounce.

In general, the best junior mining stocks to focus on right now are the ones that are cashed up. In the main, these are the ones we've been highlighting for new buying over the past few weeks, but just to be clear we will list our stocks in order of 'cash richness' in this week's Interim Update.

Before we sign off, just a quick note that the huge plunge in CFO's stock price on Monday was due to a single tiny (1500-share) order that went through about two minutes prior to the close. This tiny order took the price from the 1.20s to 1.02. It's an example of what is possible in these junior mining stocks when the market becomes illiquid and small shareholders decide that they want out at any price.

Stock Selection Update #69 - Feb-29 2012

On Monday 27th February, Batero Gold (TSXV: BAT) reported the first resource estimate for its Batero-Quinchia gold project in Colombia. The stock price fell by about 50% in reaction to the news, which means that the resource estimate was nowhere near as good as the market had expected.

Our expectation prior to the news was that the initial resource would almost certainly be greater than 5M ounces and would probably be around 7M ounces. The average expectation of most people who follow the stock was probably around 7M ounces, given that Canaccord's analyst said to expect an initial resource of this magnitude. These expectations compare to a headline resource estimate of 6.1M ounces (3.5M ounces Indicated plus 2.6M ounces Inferred).

The stock's reaction to the news can't be explained by superficially comparing the headline estimate with the pre-report expectations. You have to dig a little deeper.

The headline number doesn't accurately indicate the size of the gold deposit because it is based on an unrealistically low cut-off grade. Using a 0.3-g/t cut-off grade, which is the lowest cut-off that could reasonably be applied to a deposit of this type, the total resource falls to 4.5M ounces (2.9M ounces Indicated plus 1.6M ounces Inferred). This is a long way below what most people would have been expecting and explains the stock's reaction.

While the market reaction can be explained by the large difference between the expected news and the actual news, the stock's valuation is now unreasonably low. To get an idea of how BAT shares would be valued if speculators were carefully weighing the evidence rather than reacting in knee-jerk fashion to the news, we can compare BAT with Sunward Resources (TSXV: SWD). SWD is developing a similar gold deposit in Colombia.

Applying a 0.3-g/t cut-off grade, the overall grade of BAT's project is slightly higher than the overall grade of SWD's project. Also, the best parts of BAT's overall resource are closer to the surface than the best parts of SWD's resource. This suggests that BAT's resource shouldn't be valued lower than SWD's. On the plus side for SWD is that its exploration and engineering works are at more advanced stages (SWD is probably about 12 months ahead of BAT).

If the market were assigning similar valuations to the in-ground gold of BAT and SWD, then taking into account the balance-sheet positions of both companies BAT would now be trading at around C$3.80/per share. In other words, SWD's current valuation suggests upside potential of about 200% for BAT. And SWD's shares do not appear to be over-priced.

BAT has been in the TSI Small Stocks Watch List since July of 2010 when it traded at C$0.80. It subsequently traded as high as $6.50 and is now almost back to where it started. The differences are that the stock is now reasonably liquid (by the low standards of exploration-stage gold stocks) and it is now possible to come up with a valuation without plucking numbers out of the air. As a result of the stock's current valuation and liquidity, and the location of its flagship asset, we have shifted BAT into the TSI Stocks List at Wednesday's closing price of C$1.25.

Some additional points:

1) BAT only has about $3M of cash, so it will have to do an equity financing soon. This could keep the stock under pressure for a while.

2) BAT's last equity financing was done at C$2.10 in November. This financing had significant insider participation, including by the CEO (Brandon Rook, BAT's CEO, bought 250,000 shares at C$2.10). That is, insiders were buyers at well above the current price.

3) There were already too many stocks in the TSI Stocks List prior to today's addition of BAT. Consequently, we will be looking for opportunities to remove stocks -- ideally, during periods of strength -- over the next couple of months. Our goal is to reduce the total number of stocks by at least 5.

4) Despite having too many stocks in the List, we still plan to return Chesapeake Gold (TSXV: CKG) to the List if it drops to C$8.50.

Stock Selection Update #68 - Feb-03 2012

We added Rio Novo Gold (TSX: RN) to the TSI Stocks List in mid December as a short-term trading position with the aim of exiting during the first quarter of this year. We thought that RN stood a good chance of rallying strongly in response to a general rally at the junior end of the gold sector, partly because its price had become so depressed that even a bear-market rebound to resistance would result in the stock price doubling.

On Thursday 2nd Feb RN's stock price almost reached the bottom of the resistance at C$1.00-C$1.20 that we had previously identified as a reasonable upside target. Specifically, it traded as high as C$0.97 before settling back to end the day at C$0.93. It could easily make additional gains over the next month or so, as it still appears to be under-valued. However, from a short-term trading perspective the risk/reward is no longer attractive and the stock has essentially achieved our target. We are therefore removing RN from the TSI List and recording a gain of 86% (based on our mid-December entry at C$0.50 and Thursday's closing price of C$0.93). 

Our remaining two short-term trading positions are GLDX and VTR.TO. We will exit GLDX if it trades at US$13.50. VTR still appears to have a lot more short-term upside potential than downside risk, but we don't yet have a specific upside target in mind for this stock.

Due to this week's pullback in its price, Sabina Gold and Silver (TSX: SBB) is now one of the best buys in the gold sector. The chart suggests that the stock could drop as low as the C$3.50s (versus Thursday's closing price of C$3.88) before resuming the rally that began last October, but it makes more sense to methodically scale into high-potential stocks during weakness than attempt to do all of your buying at the bottom. Price lows can only ever be definitively identified with the benefit of hindsight.

Stock Selection Update #67 - Oct-21 2011

We added Mansfield Resources (TSXV: MDR) to the TSI Small Stocks Watch List last December when it was trading in the C$2.40s. At that time, we wrote:

"MDR owns the Lindero gold project in Salta Province, Argentina. The project has a Pre-Feasibility Study (PFS) revealing a pre-tax NPV of US$305M assuming a 6% discount rate and a gold price of $975/oz. Importantly, the gold deposit is the close-to-the-surface oxide variety, which allows for a simple, low-risk mine plan (conventional open-pit mine with heap-leach recovery). There is some permitting risk, but Salta Province is generally considered to be pro-mining.

The project has 2.2M ounces of M&I gold plus 0.75M ounces of Inferred gold.

MDR will very likely be the target of a takeover bid at some point, but shareholders would be best served if the company remains independent for a while. Ideally, the takeover bid will come after the stock price has moved much higher."

Then in June of this year, with the stock trading in the C$1.80s, we wrote:

"MDR is developing the Lindero gold project in Salta Province, Argentina. Lindero's 3M-ounce deposit has the potential to be developed into a mine that produces 150K ounces of gold per year.

A Feasibility Study (FS) should soon be complete. Based on the results of the earlier Pre-FS, the FS is likely to show positive economics at a gold price of $1000/oz or higher.

The FS should give a boost to MDR's downward-trending stock...but our main concern is whether the company will get the permits it needs to construct a mine. MDR has a very low valuation despite the strong potential for the Lindero project to be developed into a profitable mining operation, but we won't be totally comfortable with the stock until the mine permits are in place.

MDR is presently a member of the TSI Small Stocks Watch List. Depending on the stock price at the time, we may decide to transfer it to the TSI Stocks List -- that is, make it a formal TSI stock selection -- once a mine permit is received, because in addition to removing some risk the receipt of the mine permit would probably make the stock more liquid."

Completion of the Feasibility Study has been delayed until Q1-2012, but MDR announced after the close of trading on 19th October that the Salta provincial government had granted the environmental permit allowing the company to develop the Lindero open-pit, heap-leach gold mine. According to MDR's press release, this is the primary permit required for project development.

The granting of the environmental permit means that MDR is now less risky than it was when we first wrote about it last December. However, the gold price is a lot higher now than it was then and MDR's stock price is a lot lower. The net result is a huge improvement to what was already an attractive risk/reward ratio for this stock.

MDR could be weighed down over the next two months by the effects of tax-loss selling, thus creating good opportunities to accumulate the stock, although the granting of the permit probably means that the downside from here will be limited to a test of the recent low (C$1.20). Looking out over the next 12 months, the upside potential is a multiple of the current price.

Further to the above, we have added MDR to the TSI Stocks List at Thursday's closing price of C$1.37. At this price the company has a market capitalisation of C$70M and an enterprise value of around C$65M (assuming about C$5M of cash).

Stock Selection Update #66 - May-25 2011

This is a brief note to advise that we have removed the Franco Nevada warrants (TSX: FNV.WT) from the TSI Stocks List. The end result, based on our August-2009 entry price of C$4.72 and Tuesday's closing price of C$6.39, was a disappointingly small profit of 35% (disappointingly small considering the increase in the gold price over the holding period).

If these warrants expired in March-2013 rather than March-2012 then we would definitely leave them in the List, but we are not comfortable retaining them with only about 9 months to expiry and with the odds favouring a break by the HUI to a new correction low at some point over the next several weeks.

Stock Selection Update #65 - May-18 2011

1) It looks like the 1-2 week gold-sector rebound that we mentioned in the latest Weekly Update has begun. At least, it's a minor short-term plus that the HUI held above Friday's intra-day low and made small gains during the first two days of this week despite some weakness in metal prices and the broad stock market.

2) In the 11th May Interim Update we said that we would return Orvana Minerals (TSX: ORV) to the TSI Stocks List if it became available in the C$2.20s within the next two months. It traded as low as C$2.21 on Tuesday and has therefore made its way back into the List. For record purposes, we will use the mid-point of our suggested buy range (C$2.25) as the entry price.

ORV plunged during the early going on Tuesday in response to news that it will need to arrange additional financing to get it through the period between now and when its two near-production gold projects become cash-flow positive. Both of these projects (El Valle in Spain and UMZ in Bolivia) are currently in the commissioning phase and will be going into production over the next several weeks.

If all goes according to plan, production will ramp up over the remainder of this year to an annual rate of 120K ounces of gold plus 26M pounds of copper, making ORV worth at least C$6/share based on what it is expected to earn during 2012. The main risk is that the company will encounter unforeseen problems that cause the ramp-up to be extended and costs to blow out. Other risks include the company's small hedge book (it has forward sold 37500 ounces of gold at $1334/oz and 30M pounds of copper at $3.29/pound) and its $47M debt.  

Following the sharp sell-off during the first few hours of trading on Tuesday, some investors came to the conclusion that the plunge to the C$2.20s was an over-reaction to the news. These investors bought enough shares to push the price back to C$2.50 by the close of trading.

We continue to view the stock as a buy in the C$2.20s and possibly the C$2.30s, but due to the execution risk we wouldn't pay more than that. There's a decent chance that Tuesday's low will be tested before the correction is complete, and there is the potential for the stock to trade as low as C$1.50 if there are more teething problems than usual during the production ramp-up over the months ahead.

FYI, we bought one-third of what we would consider to be a full position in ORV during Tuesday morning's plunge and will look for opportunities to buy more over the next 6 months.

3) Golden Star Resources (GSS) looks like an excellent candidate for new buying near Tuesday's closing price of US$2.58.

4) Hathor Exploration (TSX: HAT), Canada's premier exploration-stage uranium miner, announced very good news on Tuesday. Specifically, it announced that the estimated ultra-high-grade resource at its Roughrider uranium project had doubled.

Former short-term resistance in the low-C$2.20s should now act as support. The stock would be a good candidate for new buying following a pullback to near this support.

Stock Selection Update #64 - Apr-05 2011

Duoyuan Global Water (DGW) was clobbered again on Monday. The stock was down 27% to US$3.99 on huge volume (Monday's trading volume was equivalent to about 30% of the company), and then dropped another 7% during after-hours trading.

The catalyst for Monday's price action was a report on the company issued by "Muddy Waters Research", a research firm that is 'short' the stock. The report can be downloaded at http://www.muddywatersresearch.com/research/dgw/initiating-coverage-dgw/.

With its short position in the stock, Muddy Waters stands to financially benefit from the negative publicity caused by its report. However, that doesn't mean that the information in the report is not accurate. It certainly has the appearance of a well-researched piece.

This is a very strange and disconcerting situation, to say the least. Our positive assessments of DGW were based on a) public accounts-related information that, according to the "Muddy Waters" report, was completely fraudulent, b) the work of an analyst who found nothing amiss after spending three weeks 'on the ground' in China reviewing the company's facilities and interviewing the company's management, suppliers, distributors and customers, and c) the fact that the company hired one of the world's most respected law firms to do an independent audit of its business. Obviously, b) and c) are totally inconsistent with the "Muddy Waters" claims, but with the independent audit taking much longer than expected and with the company's CFO having resigned after the close of trading on Monday, the fraud allegations look more plausible than they once did (although it should be noted that the CFO is staying with the company until 30th June to assist with completion of the independent audit, which could be construed as a plus).

One of the most important issues/questions relates to how much cash the company has. The latest accounts show a little over $6/share of cash and more than $7/share of working capital.

Holders of DGW shares should take into account the information presented in the "Muddy Waters" report when deciding whether to wait to see what the independent audit comes up with, or to sell now and salvage what's left. We don't plan to sell our shares immediately, but we are not comfortable providing any additional support to this company (by leaving DGW in the TSI Stocks List we would be providing tacit support). We are therefore going to remove DGW from the TSI List and record a loss of 63.1% on this failed speculation, although we will probably comment on the stock in the future if there is a major turn of events one way or the other.

Moving on to the gold/silver sector, in the 23rd March Interim Update we wrote: "Due to valuation and the fact that the silver rally is now very 'long in the tooth', we think it makes sense to scale out of MFN in the $13-$15 range. For TSI record purposes, we will exit the stock if it trades at US$13.40 within the next few weeks."

MFN traded above $13.40 on Monday 4th April and has therefore been removed from the TSI Stocks List. Based on its November-2010 starting price of US$9.09, the MFN trade will go into the books as a profit of 47.4%.

The situation could change over the weeks ahead if the HUI manages to break above the overhead resistance that extends from 580 to 600, but the majority of junior gold/silver stocks are not trading very well at this time. Instead, speculation is currently focused on a small and shrinking minority. This, along with silver's extraordinarily overbought condition, is a good reason not to be aggressive at this time (during periods when it is difficult to make money in the stock market, the worst thing you can do is to become more aggressive in your trading). Maintain substantial core exposure to precious-metal equities, but make sure that you keep plenty of buying power in reserve and be quick to take some money 'off the table' if the stocks you own spike upward.

Stock Selection Update #63 - Nov-22 2010

With Monday's gain, the HUI has risen for four days in succession. At this stage it isn't clear whether this 4-day winning streak is part of a rally to new highs or a counter-trend rebound that will be followed over the days ahead by a test of, or a break below, last week's low. The same applies to gold and silver bullion -- it isn't clear if downward corrections are complete or if there is more work to be done before the intermediate-term advances resume. In any case, if you have substantial exposure to gold, silver and/or gold/silver stocks and regretted not harvesting some profits into the price surge that occurred on Monday-Tuesday of last week, you now have another opportunity to do so.

The main purpose of this brief message is to comment on Monday's plunge in Pediment Gold (TSX: PEZ). PEZ is no longer in the TSI Stocks List, but a comment is warranted because we said we would return it to the List if it traded at C$1.80. It hasn't yet traded at C$1.80 (Monday's low was C$1.84), but it could soon do so.

Please note that we no longer intend to return PEZ to the TSI List at C$1.80. This is because Monday's plunge was the market's reaction to a POTENTIALLY negative company-specific development, as opposed to the typical price correction that has nothing to do with changing fundamentals. We emphasise "potentially" because it is unknown at this time whether the fundamentals have actually changed. As explained in PEZ's 22nd November press release, the issue is that "amendments have been proposed to the local environmental laws in the state of Baja California Sur (BCS), Mexico, which may adversely affect Pediment's ability to secure a building licence for the development of its San Antonio project as currently envisioned."

Our guess is that the local environmental laws will NOT be altered in a way that will stymie PEZ's plans for its flagship San Antonio project and that PEZ's stock price will recover, but there isn't yet enough information to quantify the risk. We therefore won't be returning PEZ to the List at this time, even if it trades at C$1.80.

Stock Selection Update #62 - Oct-27 2010

In our opinion, at current metal prices Fortuna Silver (TSX: FVI) would be fully valued at around C$4.00/share. It closed at C$3.79 on Tuesday, which is close enough to our estimation of full value to warrant the stock's removal from the TSI Stocks List. Based on our May-2008 entry at C$2.15, the profit on this position was 76%. This profit is nothing to write home about considering the >2-year holding period, but it isn't bad given that a) the timing of our entry was terrible (we added it to the List just prior to the 2008 stock market crash), and b) we highlighted the stock as a buy numerous times when it was trading in the C$0.40-$0.90 range during October of 2008 through to May of 2009.

Two related matters:

1. The TSI Stocks List isn't run the way we would run a portfolio. When managing a portfolio we usually scale into stocks over time on weakness and scale out of stocks over time on strength, making no attempt to pick tops or bottoms. However, a stock is either 100% in or 100% out of the Stocks List. In other words, the Stocks List isn't operated in a way that reflects good money management practice.

2. When we say that FVI is close to being fully valued it doesn't mean we think it's close to its ultimate price top; it means that additional gains in metal prices will be required to justify additional gains in the stock price from a valuation perspective. The odds are in favour of additional gains in gold/silver prices over the next few months, so we certainly won't be surprised if FVI continues its upward march. What we really want, however, are stocks that are significantly under-valued at CURRENT metal prices. Such stocks have the potential to gain from higher metal prices AND a catch-up in their valuations. Also, relative under-valuation offers downside protection if things don't go according to plan.

Stock Selection Update #61 - Oct-20 2010

The expected correction in the gold sector has obviously begun.

As noted in the latest Weekly Update, the HUI has good support in the 490s defined by the 50-day moving average (currently at 493) and the May-June peaks. This support was tested on Tuesday, so even though a downward correction has only just begun it could already be almost complete. However, as also noted in the Weekly Update a spike down to 480 wouldn't surprise us.

Our guess is that the correction will end within two weeks at not far below Tuesday's low.

Anyhow, the main purpose of this email isn't to discuss the market action, it's to discuss some specific junior gold mining stocks.

First, it was announced prior to the start of trading on Tuesday that our Pediment Gold (TSX: PEZ) has agreed to be purchased by Argonaut Gold (TSX: AR) in an all-stock transaction. Based on Argonaut's closing price of C$3.73/share on Tuesday, the offer for PEZ is C$2.33/share. PEZ ended Tuesday's session at C$2.23, up 31% on the day. The fact that PEZ is trading at a small discount to AR's offer indicates that the market doesn't expect a higher offer.

We are going to remove PEZ from the TSI Stocks List using Tuesday's closing price of C$2.23 for record purposes. The profit, based on our September-2009 entry at C$0.79, was 182%.

We currently aren't interested in the AR-PEZ combination, but we are going to put AR on our radar screen and may re-visit it in the future.

Second, our Golden Queen Mining (TSX: GQM) was up 17% on Tuesday. There was no news to explain the price surge and no increase in volume. It was a strange performance by GQM considering that most gold stocks fell sharply on the day.

GQM is a likely takeover target, so Tuesday's move could be the result of takeover discussions/plans leaking out. Another possibility is that the stock is rising in anticipation of an updated Feasibility Study (FS) for the Soledad Mountain project. The updated FS was originally scheduled to be complete by the end of September, so the results should soon be available.

Our assessment is that GQM would be fully valued at around C$3/share, so in the absence of a takeover bid we will make a complete exit from the stock if it trades up to C$2.90 within the next few weeks.

Third, we are adding Crocodile Gold (TSX: CRK) to the TSI Stocks List at Tuesday's closing price of C$1.32. Although it is listed in Canada (along with the vast majority of the most interesting junior mining companies), CRK's assets are located in the Northern Territory of Australia.

CRK is a junior gold producer with substantial growth potential, but this is not a good reason, in and of itself, to buy the stock. The main reason we are interested in CRK is that not only is the stock market not assigning any value to this growth potential, it is assigning a low valuation to CRK's current production. To put it another way, at Tuesday's closing price of C$1.32 you get current gold production at a sizeable discount to the industry average and get growth potential thrown in for free.

Based on the figures reported for September, CRK's current annualised production rate is around 120K ounces of gold. The production comes from two open-pit mines and one underground mine. The company plans to bring a second underground mine into production in mid 2011, which, assuming this plan comes to fruition, should enable it to produce 130K-170K ounces of gold next year and more than 200K ounces in 2012. However, as noted above the stock offers good value based only on its current 120K-ounces/year production. Here are the basic valuation metrics:

  - Share count: 203M issued, 237M fully diluted
  - Market capitalisation, assuming 220M shares: C$290M (US$278M)
  - Enterprise value, assuming net cash of US$17M: US$261M
  - Valuation per ounce of current production: US$2,175/ounce (versus industry average of more than $3000/ounce for junior producers)
  - Resources: 3.3M ounces M&I + 1.8M ounces inferred (4.2M ounces total, assuming total resource equals M&I resource plus 50% of inferred resource)
  - Valuation per ounce of in-ground resource: US$62 (versus industry average of more than $100/oz for junior producers).

We can easily justify a stock price of C$2.00 at today's gold price based on CRK's current production and resources. If the company's 2-year growth plan is achieved without substantial stock dilution then C$4.00/share will be reasonable assuming no change in the gold price.

More info can be found in the company presentation at http://www.crocgold.com/Investors/Presentations/default.aspx

Stock Selection Update #60 - Sep-14 2010

Endeavour Financial (TSX: EDV) announced prior to the start of trading on Monday that it had agreed to sell its 43% stake in Crew Gold (TSX: CRU) to Severstal for US$215M. This equates to about C$4.90 per CRU share. We were expecting this deal, but were hoping that it would occur at a much higher price for CRU.
 
Severstal will probably offer to acquire the 7% of CRU that it doesn't already own at C$4.90/share. This means that there isn't much downside risk in CRU at Monday's closing price of C$4.47, but also that the upside potential from here is capped at about 10%. The remaining upside potential is nowhere near enough to justify the stock's continuing inclusion in the TSI List, so we will make a quick exit for a small profit of around 5% (based on last week's entry at C$4.24).
 
There was an opportunity to sell EDV in the C$2.90s immediately after the stock opened for trading on Monday, but unfortunately the early news-related gain quickly evaporated. At Monday's closing price of C$2.70 the stock is very under-valued with relatively low risk, but we have decided to remove it from the TSI List and record a profit of 61.7% based on our September-2009 entry at C$1.67.
 
The reason we are exiting EDV, despite is relatively low risk and under-valuation, is that due to the exit from CRU it no longer offers sufficient leverage to gold. At least, it won't offer sufficient leverage until it puts its now-large cash reserve to work via another gold-related acquisition. We will re-evaluate the stock after the timing and details of the next acquisition become known.
 
As previously mentioned, the sale of its CRU stake could pave the way for EDV to make a bid for Australia-listed Resolute Mining (ASX: RSG). We have no information to indicate that EDV is planning a tilt at RSG, but such a move would make sense considering a) RSG's low valuation, b) the West Africa location of RSG's major gold-producing asset, c) the fact that RSG and EDV are already JV partners on an exploration-stage project, and d) the likelihood that many RSG shareholders are unhappy with current management.
 
Note that although we are removing the EDV shares from the TSI List, we are going to maintain exposure to this company via the warrants (TSX: EDV.WT.A). These warrants, which have an exercise price of C$2.50 and about 3.5 years to expiry, do offer plenty of leverage. They are also much riskier than the stock.

Stock Selection Update #59 - Sep-01 2010

The HUI rose to test resistance at 495-505 on Tuesday and then reversed course. An interim top could be at hand, but further to the discussion in the latest Weekly Update the re-test of this resistance suggests that an upside breakout to new highs will occur within the next few weeks. We suspect that any pullback from here will hold above 450.
 
The purpose of this email is to introduce a new TSI stock selection. The stock is Jaguar Mining, a Brazil-based gold producer that trades on both the NYSE and the TSX under the symbol JAG. There are 84M shares outstanding, and the stock ended Tuesday's session at US$5.88 (the price at which it will be added to the TSI List).
 
JAG has been hammered on the stock market over the past 7 months, and especially over the past two months (it traded as high as $14 in early January and $10 in late June). The reason for the fall from grace is that rapid growth in production and profit was priced into the stock, but the company failed to meet the market's great expectations. This is a problem for the speculators who were buying JAG shares at US$10-$14 earlier this year, but has created an opportunity for us because the current price reflects depressed expectations. In our opinion, the stock will experience a substantial upward re-rating if the company is able to meet its production forecast for the final quarter of this year.
 
JAG is producing gold from three underground mines in Brazil -- the Turmalina, Paciencia and Caete mines. The combined production from these mines is forecast to be 57K ounces (at a cash cost of US$609/oz) during the final quarter of this year. Annualising this quarterly figure yields 228K ounces. The company expects to increase its gold output in 2011 as part of a plan to become a 600K-oz/yr producer by 2015, but for valuation purposes we will assume that next year's production will be 228K ounces. Accounting for net debt of US$63M (long-term debt of $133M minus working capital of $70M), this means that JAG's production is presently being valued by the stock market at US$2,440/oz. This is low for a >200K-oz/yr producer in a politically stable location. JAG's 7M-ounce in-ground resource is presently being valued at around US$77/ounce, which is also low.
 
At this stage there is no evidence that JAG's downward trend is over. The chart indicates strong support at US$5.00 and this support could be tested before a low is put in place, but the intermediate-term risk/reward looks very attractive near the current price.
 
We suggest purchasing an initial position now and averaging into a full position over the next several weeks.
 
On a different matter, if you have a sizeable position in Copper Fox Metals (TSXV: CUU) and haven't yet taken partial profits, we suggest you do so now and hold the balance in anticipation of a favourable outcome from the Schaft Creek Feasibility Study.

Stock Selection Update #58 - Sep-09 2009

Our expectation was that the markets would become more interesting once September rolled around. The first five trading days of September have certainly lived up to expectations.
 
The Dollar Index broke out to the downside on Tuesday. The gold market's response to this breakdown was muted, to say the least, probably because a) the gold price gained significant ground last week in anticipation of a US$ breakdown, and b) the financial world continues to view US$ weakness as part and parcel of an economic recovery as opposed to a problem to be reckoned with.
 
In any case, the main purpose of this email is not to discuss the market action. Volatility is obviously on the increase and it would have been better if an already-overbought AMEX Gold BUGS Index (HUI) had immediately begun to retrace some of last week's gains rather than first spike up to the 430s, but Tuesday's action didn't alter any of our short-term views. The gold sector needs some sort of correction/consolidation, but additional gains are likely over the next two months.
 
Even though the gold-stock indices are 'overbought', it is not difficult to find small-cap gold stocks that are very under-valued and not remotely close to being extended to the upside. In fact, some high-potential exploration-stage gold mining stocks are still immersed in lengthy consolidation patterns. This email's primary purpose is to add one of these to the TSI Stocks List.
 
The new TSI stock selection is Mexico-based Pediment Gold (TSX: PEZ), which ended Tuesday's session at C$0.79. PEZ traded as high as C$3.50 during the first half of last year before plummeting to the C$0.40s during the H2-2008 market crash. By early January it had rebounded to around C$1.10, but since then it has been drifting aimlessly and at its current price is within 10% of its low for the year. Why the lousy performance despite the strength in the gold-stock indices? As far as we can tell, it's not due to any company-specific negatives; rather, it appears to be due to a lack of news and slower progress than investors were previously expecting. It seems that many earlier investors have exited in frustration at the conservatism displayed by PEZ's management, leading, in our opinion, to today's substantial mispricing of the shares.
 
PEZ has a tight share structure, with only 44M shares outstanding and 48M shares on a fully diluted basis. This means that at its current price of C$0.79 it has a market capitalisation of C$35M. Furthermore, it has no debt and cash plus cash-equivalents of around C$15M, so its enterprise value is only C$20M.
 
It owns the San Antonio and La Colorada projects in Mexico. San Antonio has a measured-and-indicated (M&I) gold resource of 1.53M ounces. La Colorada doesn't yet have a NI-43-101-compliant resource, but it is a past-producing mine that was shut down in 2002 due to low metal prices and has a historical resource of around 500K ounces. Both projects have the potential to be quickly brought into production, but management's unexpectedly slow progress in this regard probably explains the declining speculative interest in the stock.
 
At the present share price the market is valuing San Antonio's M&I resource at only US$20/ounce, and allowing nothing for La Colorada.
 
Apart from the usual risks associated with all exploration-stage mining stocks, two company-specific issues worth mentioning are:
 
1. PEZ has not yet finalised an agreement with local landowners regarding long-term surface access rights at the San Antonio project.
 
2. Although the company has plenty of cash and is therefore not in the position where it urgently needs to do an equity financing, management has made it clear (by arranging and then cancelling an equity financing a few months ago) that it is looking for an opportunity to raise more money. Ideally, they won't issue new shares until/unless the stock price moves much higher.
 
There appears to be reasonable liquidity at around C$0.80.

Stock Selection Update #57 - Aug-26 2009

In a couple of TSI commentaries over the past month we've suggested that speculators look for opportunities to build up exposure to the Franco Nevada warrants that trade on the TSX under the symbol FNV.WT. These warrants ended Tuesday's session at C$4.61-C$4.82 with a last trade of C$4.62. They have an exercise price of C$32.00 and an expiry date of March-2012.
 
We haven't added FNV.WT to the TSI Stocks List until now because when adding to the List we don't have the normal money-management flexibility of being able to scale into a position over time. Rather, we must attempt to 'pick our spot', and in the case of the FNV warrants our intention was to wait for a decline to the low-C$3 area. A decline to the low-C$3 area for the warrants would probably require a decline in the underlying stock to the low-C$20s, which we thought had a reasonable chance of happening during October-November.
 
There is still a reasonable chance that the warrants will become available at a significantly lower price later this year in response to a US$ rebound and a general decline in the commodity markets, but the way things are shaping up there is also a distinct possibility of a blow-off to the upside in inflation plays over the next couple of months. Of particular relevance is that the gold market is 'coiling' in a way that will probably lead to a sharp move in one direction or the other over the weeks ahead. We can't confidently predict the direction of this move, but the FNV warrants mentioned above are 2.5 years away from expiry and can therefore offer exposure to gold's short-term upside potential without requiring an upside breakout anytime soon. To put it another way, the warrants stand to benefit if gold breaks out to the upside in the short-term, but buyers of the warrants aren't relying on gold doing anything in particular in the short-term. What they are relying on is that gold, and therefore FNV shares, will make a big upward move some time within the next 2.5 years.
 
Further to the above, we have decided to immediately add FNV.WT to the TSI Stocks List, using, for record purposes, the midpoint of Tuesday's closing bid-ask spread (C$4.72) as our entry price.
 
For speculators interested in the FNV warrants, our suggestion is to buy half a position now with the aim of buying the other half IF there is a sector-wide decline into October-November. If the gold sector surges (rather than declines) into October-November then at least you will have your half-position.

Stock Selection Update #56 - Feb-11 2009

Over the past two months we have mentioned that investors could obtain exposure to a portfolio of junior resource stocks by purchasing Sprott Resource Corp. (TSX: SCP) or Endeavour Financial (TSX: EDV). We added SCP to the TSI Stocks List in mid December and continue to like it as an under-valued, well-managed long-term play on the junior resource sector. Today's email, however, is about EDV.
 
EDV recently completed a very large equity financing that re-capitalised the company. This financing raised C$115M at C$1.77 per share, in the process tripling the company's share count and putting downward pressure on its share price. Also, the large increases in cash and shares outstanding reduced EDV's short-term leverage to the junior resource sector, as well as its risk.
 
Despite the 200% increase in share count EDV is still trading at a sizeable discount to its net asset value. Specifically, based on the market value of the company's investments as at 31st December 2008 (the current value should be about the same as it was then) and incorporating the effects of the recent financing, we calculate that EDV presently has cash and investments with a combined value of US$163M. This equates to about C$2.00 per EDV share, which compares favourably with Tuesday's closing share price of C$1.58. However, EDV also operates an investment banking business with a book value of US$55M. Adding the book value of the investment banking business to the market value of the cash and investments results in a net asset value of C$2.77 per share.
 
Assuming that EDV's management invests its cash prudently in junior gold and other resource companies over the year ahead, the company's net asset value should increase markedly. One reason is that there is a huge amount of value to be found in this area of the stock market. Another reason is that EDV, due to its connections and status, gets presented with a lot of good investment opportunities that are not available to the average person. In the short-term, however, the stock may not be a stellar performer due to the effects of the recent financing (higher share supply and watered-down leverage).
 
For risk-tolerant speculators, the reduced-leverage issue can be overcome by purchasing the new EDV warrants rather than EDV shares. The warrants, which trade on the TSX under the symbol EDV.WT.A (the Yahoo Finance symbol is EDV-WTA.TO), have an exercise price of C$2.50 and an expiry date of February-2014, so as long as there's a bull market in junior resource shares at some point over the next 5 years there should be an opportunity to realise large gains on these warrants. Furthermore, there seems to be reasonable liquidity in the market for these warrants at around C$0.50 (950K warrants traded between C$0.49 and C$0.52 on Tuesday).
 
We are going to add the above-mentioned EDV warrants to the TSI Stocks List at Tuesday's closing price of C$0.49. With the stock at around C$1.60 we calculate fair value for the warrants to be C$0.48-C$0.52.

Stock Selection Update #55 - Nov-21 2008

The US stock market plunged again on Thursday, which, as usual, boosted the US$. Not so usual was that gold also gained some ground and achieved the first decisive daily close above its 18-day moving average since early October. This could mean that the de-leveraging has run its course in the gold market.
 
The HUI has now fallen for 5 days in a row while remaining above its 13th November intra-day spike low on a daily closing basis. Perhaps there will be 1-2 more days of pain before the gold sector begins to rally, but whether it begins today (Friday) or early next week we suspect that the coming rally will be explosive.
 
It would be safer to wait for evidence of an upward reversal before establishing any new trading positions, and for non-gold/silver stocks we would certainly do that (we would wait for the S&P500 Index to close back above 850). However, we think the gold sector's short-term upside potential is large enough to warrant foregoing some safety. We are therefore going to add three new gold/silver trading positions to the TSI List as discussed below. This reflects the actions we are taking in our own account, but risk-averse speculators could reasonably decide to wait for the HUI to close above 200 before adding any new long-side exposure.
 
The TSI Stocks List presently contains a GDX January-2009 call option, a Yamana Gold (AUY) January-2009 call option and a Silver Wheaton (SLW) December-2008 call option. The AUY and SLW call options are a long way out of the money and will almost certainly expire worthless, although there is still an outside chance that AUY will strengthen enough over the next two months to inject some value into our call option. In any case, the AUY and SLW options are too far out of the money to provide meaningful leverage to the coming rally, so we have decided to add trading positions in the underlying stocks at Thursday's closing prices of US$3.60 (AUY) and US$2.57 (SLW). These stocks should outperform IF there is a strong sector-wide rebound over the coming months.
 
The third new trading position is in New Gold (AMEX: NGD), which closed at US$0.85 on Thursday. There is already a longer-term NGD position in the TSI List, but we want a separate trading position on which profits can be taken within the next few months.
 
We will set initial protective stops on each of the three new positions at 15% below Thursday's closing prices. Also, to avoid confusion -- especially since there will now be two NGD entries -- we will create a separate section in the TSI Stocks List for trading positions. This new section will initially contain the three stocks mentioned herewith plus our existing Hecla Mining (HL) trading position.
 
On a different matter, we are downgrading our short-term bond market outlook to "bearish". The December T-Bond closed at around 122 on Wednesday, rocketed up to 126 on Thursday, and traded as high as 128.5 earlier today. As we write it is trading just above 127. All the gains achieved by bonds during this panic phase are likely to quickly disappear.

Stock Selection Update #54 - Jul-25 2008

A quick note that we are adding Precision Drilling Trust (NYSE: PDS, TSX: PD.UN) to the TSI Stocks List at Thursday's closing price of US$21.32. PDS provides drilling services to natural gas producers in Canada and the US. At its current price it has a market cap of about US$2.7B, yields about 7.5%, and has a P/E ratio of around 10. As was the case with Chesapeake Energy a couple of days ago, PDS's sharp downward correction has just reached the 200-day moving average.

 More info on PDS will be provided in the Weekly Update.

Stock Selection Update #53 - Jun-25 2008

In the 14th May Interim Update we said we would add ATW Ventures (TSXV: ATW) to the TSI Stocks List if it traded at C$0.68. It reached this price on Tuesday and has accordingly been added to the List.
 
Hecla Mining (NYSE: HL) is another stock mentioned over the past couple of months as a potential future addition to the TSI Stocks List. We have decided to add HL to the List at Tuesday's closing price of US$7.52.
 
ATW is a small development-stage gold miner with operations in Western Australia. HL is a mid-tier silver producer with operations in the US. Write-ups on both stocks will be included in Thursday's Interim Update.
 
We are apprehensive about adding these stocks to the TSI List ahead of Wednesday's Federal Reserve monetary policy statement because this statement will probably move the markets sharply in one direction or the other. In our opinion, the smartest thing for the Fed to do at this time would be to shock the markets with a 50 basis-point rate hike. We expect that such an action would give the US$ a hefty boost, push oil and other commodity prices sharply lower, and, following an initial knee-jerk decline, boost the stock market. Because it would quell inflation fears such a move by the Fed would also probably reduce long-term interest rates and thus help the housing market. However, the most likely thing for the Fed to do would be to leave the official interest rate target unchanged and include some inflation-fighting words in the policy statement.
 
Due to the potential for Wednesday's Fed news to prompt a sharp move in an unknown direction, a reasonable approach for those interested in buying one or both of the aforementioned stocks would be to take an initial position immediately with the aim of adding to the position at a later date (after the dust has well and truly settled).

Stock Selection Update #52 - Jun-20 2008

We are going to 'bite the bullet' and make a complete exit from Patriot Coal (NYSE: PCX). The profit, based on Thursday's closing price of US$151.40 and our December-2007 entry at US$35.14, was 330%.
 
We've agonised over this decision because we don't think the coal bull market is close to being over and because the stock may never pull back enough to provide us with an attractive re-entry opportunity. In other words, by losing our position now we run the risk of never being able to get back in at what we would consider a reasonable price. However, this is a risk we are willing to take in order to avoid the risk presented by a stock price that has risen so quickly that it is now almost triple its 200-day moving average.
 
Our decision to make a full exit from PCX has also been influenced by the possibility that Thursday was an important reversal day in the energy sector.
 
On a different matter, there was a new development in Australian trading today (Friday) in the LST-IRN-Xstrata tussle. Specifically, a fourth party has entered the fray by announcing a higher bid for IRN. Due to LST's 25.4% stake in IRN, the new (A$1.28/share) bid for IRN increases LST's net asset value by about A$0.14/share.
 
Xstrata now has until 10.00am on Sunday 22nd June to match or exceed this new bid. If Xstrata does not raise its offer to at least match the competing offer then LST will no doubt opt to sell its IRN shares to the new bidder and return more money than previously expected to LST shareholders.

Stock Selection Update #51 - May-16 2008

In yesterday's Interim Update we noted that the HUI needed to soon resume its advance to avoid negating the bullish signal that was generated last week. Thursday's rally in the gold sector was therefore 'just what the doctor ordered'. A daily close above 430 by the HUI would be additional evidence that a correction low was put in place at the beginning of this month.
 
Everything may look bullish right now as far as the broad stock market is concerned, but further evidence of a gold sector bottom would be a "red flag". Specifically, a daily close above 430 by the HUI would be evidence that the S&P500 Index was within a few weeks and a few percent of an important peak.
 
Anyhow, the main reason for this brief message is to advise changes to the "Options" section of the TSI Stocks List.
 
First, we are exiting the Intel call-option position (the INTC January-2009 $25 calls) that was added to the Stocks List in January. Based on Thursday's closing price of US$2.49 and our January entry at US$1.30, the profit on the trade was 91.5%. (By the way, in our own account we exited half of the INTC calls on Thursday and plan to exit the remainder within the next 4 weeks).
 
Second, we are going to add a position in Mitsubishi Financial Group (NYSE: MTU) January-2009 US$12.50 call options (ZHRAV) at Thursday's closing price of US$0.60.
 
Our most recent mention of MTU was in the 7th May Interim Update, when we suggested that traders with a 6-12 month timeframe take a position in the stock following a pullback to the low-$10 area. The stock traded as low as $10.11 on Wednesday and may well have reached a short-term bottom at that time.
 
Traders who are 'long' the stock should place a protective stop at around $9.50, thus limiting the potential loss to less than 10%. However, traders who buy the above-mentioned MTU call options should be prepared to lose up to 100% of their money. With out-of-the-money options there is usually no middle ground -- they either work extremely well or not at all.

Stock Selection Update #50 - May-06 2008

Oil's surge back to $120 on Monday has created a good short-term profit-taking opportunity in non-uranium energy stocks, which for us means natural gas and coal stocks.
 
In general, the most likely candidates for selling at this time are those energy stocks that are a long way above their 50-day moving averages. As far as our 'gassy' Canadian trusts are concerned, this means Trilogy Energy (TSX: TET.UN). At Monday's closing price of C$12.92, TET.UN was 28% above its 50-day moving average. On the other hand, our other 'gassy' energy trusts are not yet close to being overbought. In fact, PEY.UN is still completing a multi-month basing pattern and is actually suitable for new buying near Monday's closing price of C$20.50.
 
Additional natural gas exposure within the TSI Stocks List is provided by mid-tier Canadian E&P company Fairborne Energy (TSX: FEL). In the 16th April Interim Update we said that we would grab the opportunity to make at least a partial exit from FEL if it moved up to resistance in the C$10-$11 range within the coming month (it was trading at C$8.47 at the time). It has just risen into this resistance range, prompting us to cut our own exposure to the stock by half on Monday. However, we have decided to keep FEL in the TSI Stocks List because: a) it is not yet close to being over-valued despite the recent doubling of its price (it is trading at only 5-times cash flow), b) it offers good leverage to the spot natural gas price (only about one-quarter of this year's production is hedged), and c) it is likely to achieve strong growth over the next 12 months.
 
As far as our coal exposure is concerned, at Monday's closing price of US$73.60 Patriot Coal (NYSE: PCX) was 34% above its 50-day moving average and certainly at a level where PARTIAL profit-taking would be appropriate. We capitalised the word "partial" in the preceding sentence because it will be important to maintain sizeable core exposure to both coal and natural gas until the stocks become over-valued. Like TET and FEL, PCX is currently overbought on a short-term basis, but it is not remotely close to being over-valued.
 
The bottom line is that the current euphoria engulfing non-uranium energy stocks is, in our opinion, presenting an opportunity to reduce exposure to these stocks. A reasonable approach would be to do some selling now with the aim of buying back later this year -- following pullbacks to 50-day moving averages. The risk, of course, is that the stocks move much higher before pulling back, but even if this risk materialises it shouldn't create a big problem for someone who maintains a core position.
 
The uranium sector is a totally different 'kettle of fish' and has been mired in depression. We will re-visit this sector in one of the next two TSI commentaries (most likely Thursday's Interim Update).
 
Lastly, there continues to be a reasonable chance of the AMEX Gold BUGS Index (HUI) making a final plunge to new lows before its correction comes to an end. However, some of the junior gold stocks we follow have almost certainly bottomed already and others appear to be very close to bottoming out. One junior that appears to be very close to bottoming-out -- if it hasn't bottomed already -- is Gold-Ore Resources (TSXV: GOZ). GOZ has drifted back to a price area (the low-C$0.70s) where it should find good support and where it offers very good value. How much value does it offer at Monday's closing price of C$0.71? Well, the company is currently producing gold at the annualised rate of 28K ounces and is on track to reach its 70K oz/yr target. A profitable 70K oz/yr gold mining operation with a 10+ year mine life in a politically-secure location (Sweden) should be worth at least US$175M. GOZ's current market cap is less than US$60M.

Stock Selection Update #49 - Feb-27 2008

With things heating up in the precious metals world we thought we'd send out this quick note with some ideas that could work well in the short-term as well as the longer-term.
 
Silver Stocks
 
Silver is probably within 6 weeks of an important peak (we'll explain why in Thursday's Interim Update) so this is not the time to be moving aggressively into silver-related speculations, but those who currently have minimal exposure to "poor man's gold" can still find some reasonable buying opportunities at the junior end of the silver-stock universe. For example: as a junior with a substantial in-ground resource, about 4.5M ounces/year of unhedged current production and a market capitalisation of only C$330M (70M shares at C$4.70/share), First Majestic Silver (TSX: FR) should benefit greatly IF silver continues its surge over the next few weeks. This is because the company would experience a sharp increase in its profit margin and because the stock market would be forced to assign a much higher valuation to FR's 175M ounces of in-ground resources under such a circumstance. We think that Sabina Silver (TSXV: SBB), a tiny exploration-stage company with a massive in-ground resource in a politically secure location, would also fare extremely well if the degree of speculation were to increase over the coming weeks.
 
A small silver producer that looks interesting at this time, but is not a current member of the TSI Stocks List, is US Silver (TSXV: USA). USA is expected to ramp-up its production to around 3.5M ounces/year over the next 2-3 quarters and has a market capitalisation of only C$160M (206M shares at C$0.74/share).
 
Due to insufficient liquidity the above-mentioned juniors -- and junior resource stocks in general -- aren't well suited for short-term trading, but someone who buys now with the aim of holding for 1-2 years could end up with significant short-term gains.
 
Gold-Stock Warrants
 
This far into a gold rally the junior gold stocks would normally be running hard to the upside and the warrants on these types of stocks would be going berserk, but, as we've discussed many times in TSI commentaries, the current gold-stock situation is not normal. As a result, most junior gold stocks are still in consolidation patterns and some of the warrants on these stocks are still reasonably priced. Here are two examples of warrants that are candidates for new buying near current prices:
 
1) European Minerals April-2010 C$1.20 warrants (TSX: EPM.WT.A).
 
With EPM at Tuesday's closing price of C$1.40 we calculate fair value for EPM.WT.A to be around C$0.50, but paying anything up to the high-0.50s would be OK.
 
2) Great Basin Gold April-2009 C$3.50 warrants (TSX: GBG.WT).
 
With GBG at Tuesday's closing price of C$3.37 we calculate fair value for GBG.WT to be around C$0.65, but anything up to around C$0.70 would be OK.
 
The above-mentioned warrants are a lot more risky than the underlying stocks. For example, if GBG were to trade sideways over the coming 14 months then someone who owned the stock wouldn't lose any money, but someone who held the warrants over this period would lose 100% of their investment (the warrants will expire worthless if the stock price is below C$3.50 at the April-2009 expiry date). The EPM warrants are less risky because they are 'in the money' (their exercise price is below the current stock price) and because they have an extra 12 months of time prior to expiry, but there is still a significantly greater risk of loss with the warrants than with the stock.
 
Despite the additional risk, warrants are sometimes worth considering due to the leverage -- and the associated additional upside potential -- that they offer. For example, a rise in GBG's stock price to around C$5.50 over the next few months would result in a rise to more than C$2.00 in the fair value of GBG.WT; that is, a 60% increase in the stock price over the next few months would lead to an increase of at least 180% in the warrant price.

Stock Selection Update #48 - Nov-27 2007

Before the start of trading on Monday, NovaGold Resources (TSX and AMEX: NG) announced that it and its 50/50 JV partner (Teck) were suspending construction at the Galore Creek copper/gold project due to a massive increase in the project's estimated capital cost. Specifically, the estimated capital cost has jumped from around $2.2B to around $5B, making the project uneconomic. This news meant that NG was, at best, worth about half of what the market was valuing it at when trading ended last week, so the stock's 53% decline on Monday was probably reasonable.
 
What wasn't reasonable, in our opinion, was the knock-on effect of the NG news on the share price of our Copper Fox Metals (TSXV: CUU). CUU was caught in NG's blast radius because it owns a similar type of project (a large porphyry-style copper/gold project) in the same part of the world (British Columbia).
 
Our expectation is that CUU's Schaft Creek project will be shown to have much better economics than NG's Galore Creek project, but at this time the economics are unknown because Schaft Creek is at an earlier stage of development. On Monday, however, 'investors' weren't in the mood to calmly assess CUU's underlying value and took its stock price down by 45% on the off-chance that the Galore Creek news had important implications for Schaft Creek's economics.
 
It is common for greed to drive share prices far above their fair values and for fear to take them far below their fair values. This is the nature of the stock market. It is the reason for the vastly greater swings in stock prices than in the underlying businesses and is the generator of great buying/selling opportunities. The stock market appears to have just generated a great opportunity to buy CUU.
 
CUU had a market capitalisation of around $40M at Monday's closing price of C$0.46. At the same time, it controls a project in a politically secure location that contains 7.7B pounds of copper and 8.1M ounces of gold (about $30B of in-ground metal at current prices) in the measured-and-indicated category. If long-term bull markets are in progress in the copper and gold markets then at some point over the next few years the stock market will surely value this project at many times the current level.
 
NovaGold (NG) could also be a worthwhile speculation at around $9 based on the value of its non-Galore assets and allowing for the fact that Galore still has significant option value. Bear in mind, though, that when a stock gets pummelled in response to unexpected news the initial high-volume sell-off is normally followed by a rebound and then a decline to new lows before a sustained recovery begins.
 
Interestingly, NG had been a relatively strong stock prior to Monday's debacle thanks to the touting of Jim Cramer and a good resolution of the Donlin Creek dispute with Barrick Gold. This was despite Teck Cominco's warnings a few weeks ago that costs for Galore Creek would exceed estimates by a significant amount.

Stock Selection Update #47 - May-22 2007

First things first: Late last week we added QID, a leveraged inverse index fund, to the TSI Stocks List with a 'tight stop' (we said we'd exit if the NASDAQ100 closed above 1915). The NASDAQ100 Index closed at 1916 on Tuesday, so we are out with a small loss of around 3%. We won't be at all surprised if the NASDAQ100 reverses downward on Wednesday, but one of the main reasons for entering this trade was the NDX's failure to confirm the new multi-year highs achieved by other indices. This, combined with the break to new lows by the NDX/Dow ratio, had created an interesting similarity with the days leading up to the stock market correction that occurred during May-June of last year. However, the price action of the past two days has eliminated this similarity.
 
We are maintaining our short-term bearish view on the US stock market, but with the NDX having just closed at a new multi-year high the basis for our bearish trade is no longer in place (opinions/views can be maintained in the face of uncooperative price action, but traders need to set rigid limits).
 
Secondly, in the 9th May Interim Update we said we'd add Golden Phoenix Minerals (OTC: GPXM), a molybdenum play with some gold assets, to the TSI Stocks List if it became available at US$0.42. The stock traded at 0.42 on Tuesday and has therefore been added to the List.
 
Thirdly, continue to look for opportunities to accumulate the Canadian 'gassy' energy trusts. These could to do well in the short-term if the natural gas price is able to break above resistance in the $8.00-$8.20 range, but we are more interested in the 1-2 year bullish outlook for the commodity and the trusts.

Stock Selection Update #46 - May-18 2007

A very quick note to say that we have added UltraShort QQQ ProShares (AMEX: QID) to the TSI Stocks List at Thursday's closing price of US$48.37. QID is designed such that the daily percentage change in its price will be roughly equal to twice the INVERSE of the daily percentage change in the QQQQ (the NASDAQ100 Trust). For example, QID would gain 2% on a day when the NASDAQ100 fell by 1% and lose 2% on a day when the NASDAQ100 rose by 1%.
 
In this highly liquid environment we don't want to take many chances with bearish positions so we'll immediately exit if the NASDAQ100 moves only a small distance above the highs of the past few weeks. Specifically, we'll exit if the NDX closes above 1915 (versus Thursday's close of 1885). This should allow us to limit our loss to around 4% in case things don't go according to plan.

Stock Selection Update #45 - May-01 2007

The performance of the gold sector on Monday was obviously bearish in that the HUI closed below last week's low and gold stocks were weak relative to gold bullion. However, we don't know if it means a great deal. The major gold stocks look oversold in dollar terms and relative to the metal, and the decline from the mid-April high still looks more like a consolidation than the first phase of a new multi-month downtrend.
 
In any case, we've learnt over the years that when a stock we like for the long-term drops to an attractive price level we should do some buying even if we think the broad market is headed lower in the short-term; and that when a stock we own moves up to a level where profit-taking makes sense based on individual company considerations then we should take some money off the table even if we think the broad market is headed higher in the short-term. We manage risk on a portfolio-wide basis by adjusting the size of our cash reserve in response to our assessment of the overall market's risk/reward balance, but while our desire to maintain a certain cash percentage imposes constraints on our overall sector exposure we try not to let it prevent us from grabbing stock-specific opportunities when they present themselves.
 
Due to recent price action an opportunity to buy one of our long-term favourites in the gold/silver sector is now presenting itself. The stock in question is First Majestic Resource (TSXV: FR).
 
FR is in the process of arranging an equity financing of between 4M and 8.8M shares. This financing has put the stock under pressure, but note that at yesterday's closing price of C$4.51 it is now trading more than 10% below the C$5.00 price at which the new shares will be issued.
 
From a technical perspective, FR is now oversold due to having been in a downward drift for more than two months and having fallen for the past six days in succession. Furthermore, the pullback of the past two months has retraced 50% of the rally that commenced last September.
 
From a fundamental perspective, at the current silver price we think the stock's fair value lies in the C$4.50-C$5.50 range. FR is therefore right at the bottom of this range and close to being under-valued. Silver stocks rarely become under-valued by normal valuation metrics, so FR won't necessarily get much cheaper than it is right now unless the silver price moves significantly lower.
 
Over the years FR has been an excellent example of how our preferred approach of trading around a core position -- scaling-up during the purges and then scaling back to the "core" during the subsequent surges -- can work to good effect. Last September, for instance, we highlighted FR as a buy three times at prices ranging from C$2.55 to C$3.41, and then in February we suggested it was time to take partial profits after the stock had moved up to around C$6.
 
We've now come back to the point where buying is again beginning to make sense.

Stock Selection Update #44 - Feb-20 2007

Sabina Silver (TSXV: SBB) has gained 33% over the past 4 trading days and at Monday's close (C$3.25) was up by 225% from the price at which it was added to the TSI Stocks List last June. For money management reasons it would probably make sense to take PARTIAL profits at this time, but we think it would be a mistake to make a complete exit from the stock.
 
The catalyst for SBB's most recent surge was last week's news that Agnico Eagle was buying Cumberland Resources. We doubt that SBB will be the target of a takeover in the near future, but Agnico's willingness to pay-up for Cumberland's Meadowbank project highlighted the value of SBB's Hackett River project.
 
SBB has also just been given a boost by the conditional C$3.90/share offer for Wolfden Resources (TSX: WLF) from Australia's Zinifex (ASX: ZFX). SBB owns 4M Wolfden shares, so if ZFX's bid goes ahead it will result in the injection of another C$15.6M into SBB. By our calculations this would leave SBB with a cash reserve of around C$38M (C$0.70/share), which would, in turn, mean that the company was fully financed for at least the next 12 months.

Stock Selection Update #43 - Feb-14 2007

Copper Fox (TSXV: CUU) came onto our radar screen last October due to an article at http://www.resourceinvestor.com/pebble.asp?relid=25170 that compared the company's Schaft Creek copper/gold deposit with the neighbouring Galore Creek deposit owned by NovaGold Resources (TSX: NG). At that time we didn't want to increase our exposure to large undeveloped porphyry-style copper deposits because we were intermediate-term bearish on copper and because we already had significant exposure to such deposits via NovaGold, Metallica (AMEX: MRB) and Northern Orion (AMEX: NTO).
 
Since then the copper price has dropped sharply, but the shares of companies that own large undeveloped copper projects have generally not fared badly. The shares are out of synch with the metal, with many of them getting hit hard while the copper price was still within 10% of its all-time high and then stabilising, or in some cases even firming, after the copper price broke down. We remain intermediate-term bearish on copper -- we expect that the copper price will drop to new 52-week lows following a rebound over the coming 1-2 months -- but thanks to the price decline that has already occurred the downside risk is a lot less now than it was three months ago. This, combined with the recent interest being shown by other mining companies in large undeveloped porphyry-style projects* and the fact that we exited our long-term NovaGold position late last year, prompts us to add a (potentially) long-term position in Copper Fox to the TSI Stocks List at Tuesday's closing price of C$0.71.
 
The investment case for CUU can be summed up as follows: The Schaft Creek deposit is roughly equivalent in size to the Galore Creek deposit** owned by NovaGold, but CUU has a total market cap of only US$47M whereas the stock market appears to be assigning a value of around US$700M to Galore Creek (US$700M is about 40% of NG's total market cap).
 
There are, as always, some good reasons for Schaft Creek's large discount, including:
 
1. Galore Creek already has a completed Feasibility Study (FS) whereas CUU's FS won't be complete until the end of 2008.
 
2. NovaGold's senior managers have a lot of credibility/experience and are excellent stock promoters. CUU's CEO also has a lot of credibility/experience, but appears to be lacking in promotional skills.
 
3. Barrick Gold's unsuccessful takeover bid for NovaGold brought the potential value of Galore Creek to the attention of the investment community and gave the project's economic viability a boost in the minds of many investors.
 
However, we think CUU's discount will prove to be unreasonably large because preliminary indications are that the economics of Schaft Creek will be superior to those of Galore Creek due primarily to a substantially lower capital cost.
 
Something else worth noting is that the Schaft Creek project is a joint venture between major mining company Teck Cominco (TCK) and CUU whereby CUU can earn 100% of TCK's 93.4% interest by completing a bankable FS. Furthermore, under this JV arrangement TCK can earn back 75% (of 93.4%) by matching 4-times CUU's total expenditure on the project and arranging production financing. Therefore, if the metals bull market continues and the FS is as positive as we think it will be then it is reasonable to assume that CUU will end up with only 23.35% of Schaft Creek. NovaGold, on the other hand, will probably end up with around 50% of Galore Creek after doing its own deal with a major mining company, which, in very rough terms, means that CUU's current market cap would be around US$330M if the stock market were assigning similar values to Schaft Creek and Galore Creek (if 50% of Galore Creek is worth US$700M then 23.35% is worth $330M).
 
One of the main risks with CUU is that it will almost certainly have to issue a lot of new shares over the coming 18 months in order to fund the Feasibility Study because the FS is expected to cost around C$40M but the company only has about C$4M in the bank at this time. Obviously, the number of new shares issued will depend on CUU's stock price, which will, in turn, be strongly influenced by market-wide interest in junior resource companies. In any case, equity financings along the way will likely create multiple buying opportunities, so anyone interested in the stock could consider taking an initial position now (in the low-0.70s) with the aim of scaling-in over the coming year or so. Also, bear in mind that whatever CUU spends will be returned four-fold if TCK decides to exercise its back-in right.
 
We'll include a chart of CUU in tomorrow's Interim Update.
 
    *Rio Tinto has just bought a stake in Northern Dynasty's Pebble project and a takeover battle for BcMetals -- a company that owns 25% of the Red Chris copper/gold deposit in the same neck of the woods as Galore Creek and Schaft Creek -- has recently been fought between Taseko Mines and Imperial Metals.
 
    **Schaft Creek has a measured-and-indicated resource comprising 8.33B pounds of copper and 8.6M ounces of gold. This compares with Galore Creek's 8.5B pounds of copper and 7.4M ounces of gold. Both NovaGold and Copper Fox are expected to provide updated resource estimates within the next couple of months.

Stock Selection Update #42 - Nov-27 2006

Monday's action was a clear sign that a long-overdue correction has begun in the US stock market. This correction has the potential to extend into year-end so we are now downgrading our short-term stock market view from "neutral" to "bearish".
 
It was encouraging that the gold sector held up very well in the face of the sharp downturn in the broad market, especially considering the fact that the gold price only gained $2 on the day. In any case the main purpose of this e-mail is not to discuss the latest market-wide developments, but, instead, to cover the latest development with one of our stocks: Gryphon Gold (TSX: GGN).
 
We highlighted GGN as a buy in Sunday's Weekly Market Update. Unfortunately, the company announced on Monday morning that it would have to revise the feasibility study (FS) for its Nevada-based Borealis gold project due to an over-estimation of the resource (the FS was done by Samuel Engineering, an independent consulting firm). At this stage the effects on the project's economics have not been quantified, but an updating of the FS to account for the resource change would certainly result in lower annual gold production and higher per-ounce production costs. Furthermore, while the economics are being re-assessed both the completion of project financing and the decision to proceed to production have been delayed.
 
Our valuation of GGN was based on the results of the previously completed FS, so Monday's news means that this valuation is no longer applicable. Also, one of the reasons we added GGN to the TSI Stocks List was that it appeared to be on a fast track to gold production and positive cash flow, but there's now a good chance that the track will be significantly slower than originally envisaged.
 
The question now is: what should we do in response to this new development?
 
In September we went through something similar with junior silver producer First Majestic (TSXV: FR), one of our favourite long-term plays in the gold/silver sector. FR announced some unexpected bad news in early September that caused its stock price to plunge 30% in a single day, so in percentage terms the initial market reaction to FR's and GGN's bad news was the roughly the same.
 
After FR's price plunged we said the market had clearly over-reacted to news that didn't materially alter the investment case for the stock. Our view, therefore, was that the price decline had created a good opportunity to do some new buying. We've since been proven right because the stock has fully recovered. In GGN's case, however, the sharp price decline has not created such a clear-cut buying opportunity. Whereas with FR we could quantify the likely impact of the bad news on our valuation and be confident that the impact wasn't particularly worrisome, with GGN the impact of the bad news is probably greater and is also, at this stage, non-quantifiable. In fact, one of the main issues is that there is now a much larger degree of uncertainty than there was prior to Monday's announcement.
 
All we can say at this time is that Monday's price decline will PROBABLY turn out to be another over-reaction by the stock market, but in the absence of more details from the company we can't be as confident as we would like to be. Something else worth considering is that the downgrading of the earlier resource calculations could be offset by success on the exploration front. However, whereas further exploration success would previously have been 'icing on the cake' it might now be a prerequisite to putting the project into production.
 
If you currently own GGN it would be reasonable to continue holding because even if we have to substantially reduce our valuation the risk/reward might still be attractive (our valuation might still be a great distance above the current price and the market has probably gone a long way towards discounting the downside risk), especially if success on the exploration front allows the total in-ground metal resource to be significantly increased. However, we suggest postponing any new/further buying until more information becomes available.

Stock Selection Update #41 - Nov-07 2006

In the 16th October Weekly Market Update we added Gammon Lake Resources (AMEX: GRS) to the TSI Stocks List and wrote the following to explain why we preferred GRS to Minefinders Corp. (AMEX: MFN), a similar company that in some respects offered slightly better value than GRS:
 
"It was virtually a toss-up as to whether to add GRS or Minefinders (MFN) to the Stocks List because the companies are very similar in many respects. For example, the main asset of each company is a 5M+ ounce gold deposit -- in each case containing gold and silver in approximately equal amounts -- in Mexico, with the projects having similar economics. MFN sells at a lower price per reserve ounce and at a lower price per ounce of expected annual production than GRS, but on a price-to-cash-flow basis the valuations of both stocks appear to be roughly the same. In other words, the higher valuation being assigned by the stock market to GRS's gold/silver reserves appears to be supported by its lower production costs (GRS is likely to generate more cash than MFN for each ounce of gold/silver produced, thus its in-ground reserves are more highly valued).
 
Due to their similarities we didn't want to add both stocks to the List, especially considering the fact that the assets of both companies are located in Mexico. Mexico is generally not considered to have unduly worrisome political risk, but the goings-on associated with the recent Presidential election (the refusal of the losing candidate to accept the result and his threats to set up an alternative government, for instance) suggest that it would be wise to limit the amount of money allocated to Mexico-based investments. With the addition of GRS to the List we now have three stocks with substantial exposure to Mexico (FR and MRB are the other two), which is as much exposure as we want.
 
The reason we ended up going for GRS rather than MFN is that the development of GRS's flagship project -- the Ocampo mine -- is about 12 months ahead of the development of MFN's Dolores mine. To be specific, GRS's mine is almost fully commissioned and is expected to be producing gold and silver at close to its design capacity by the end of this year, whereas if everything goes according to plan it will be late next year before the Dolores mine reaches commercial production. As a result: a) during 2007 GRS should have a huge cash in-flow while MFN continues to spend a lot of money to bring its mine into production, and b) there is more execution risk associated with MFN than with GRS."
 
Since writing the above the GRS price has gained 21% (from US$11.65 to US$14.11) whereas the MFN price has fallen 12% (from US$8.98 to US$7.87), so we are reasonably happy with our decision to favour GRS. However, the equation has changed because MFN's valuation discount has become quite substantial as a result of the price action of the past few weeks. Furthermore, MFN's relatively poor performance can primarily be attributed to its management's decision to obtain the remaining funds needed to complete the construction of the Dolores gold/silver mine by issuing convertible debt securities. In our opinion this was an ill-conceived move on management's part, but it doesn't detract from MFN's long-term value in any way whatsoever; it has simply created a much better short-term buying opportunity than would otherwise have existed.
 
We still like GRS a lot and expect it to be a good performer over the coming year due to its exceedingly low cost of production and the resultant huge amount of cash that it should generate. But due to MFN's valuation discount we can't justify keeping this stock out of the List any longer even though by adding it to the List we will end up with more Mexico exposure than we would like. We are therefore going to add MFN at Monday's closing price of US$7.87.
 
The keys to MFN's value are a) the company has 5M ounces of high quality P&P gold-equivalent (gold + silver) reserves at the Dolores mine that are presently being valued by the stock market at a relatively low US$93/oz (based on a fully diluted share count of 59M), b) the company is only 12 months away from production and is fully funded through to production, and c) there is a lot of scope to expand the Dolores project.
 
Also worthy of consideration is the likely prospect of MFN being taken over at some point over the coming 12 months. With takeover fever spreading through the resource sector and with the dearth of high-quality gold/silver projects of Dolores's size, we will be surprised if MFN doesn't attract the interest of a large or mid-tier gold miner in the not-too-distant future. Gammon Lake and Hecla Mining, two of the current members of the TSI Stocks List, are potential bidders for MFN.
 
On the topic of takeovers, the proposed takeover of Bema Gold (BGO) by Kinross Gold (KGC) is similar to the Goldcorp/Glamis situation in that it results in the shareholders of the company being acquired 'making out like bandits' at the expense of the shareholders of the acquirer. As far as we can tell, the Kupol project is BGO's only world-class asset and this asset is located in one of the riskiest countries in the world for foreign mining companies (Russia).
 
KGC's decision to pay a sizable premium for BGO dramatically increases the acquiring company's risk profile and takes it off the list of potential future TSI stock selections.

Stock Selection Update #40 - Jul-25 2006

Over the past 3 years we've advocated the ownership of NovaGold Resources (TSX and AMEX: NG) more than any other stock and have consistently described it as our favourite long-term investment in the gold sector. We most recently highlighted it as a buy at prices of US$11.50 and US$12.30, respectively, in our 12th June and 14th June commentaries.
 
On Monday, Barrick Gold (NYSE: ABX), the world's largest gold producer, announced its intention to offer US$14.50/share for NG. In response NG rose to $15.50/share, a price that represents a 7% premium to the ABX offer.
 
NG's two main assets are its 30% stake in the Donlin Creek gold project and its 100% stake in the Galore Creek copper/gold project. ABX has the remaining 70% of Donlin.
 
ABX has only been involved in the Donlin project for a short while as a result of last year's takeover of Placer Dome (NG's original partner at Donlin), but it obviously likes what it sees. This is not surprising in that Donlin will probably be developed into a mine that has at least 20M ounces of gold RESERVES and produces at least 1M ounces of gold per year -- the sort of mine that any major gold producer would want as part of its portfolio. And Galore Creek has the potential to be developed into a mine that's just as big, but with more copper than gold.
 
We'll be interested to see the response of NG's management to ABX's bid. The response will probably be that the bid substantially under-values the company.
 
Our view is that the bid is very low relative to the potential long-term value of NG's assets, but is reasonable in light of the current market environment. In the absence of the bid we suspect that NG would have spent the next several months oscillating between US$11.50 and US$15 -- the sort of performance we expect from gold stocks in general -- so the bid is probably boosting the stock price to a level that would otherwise not have been seen again until next year. Also, although NG's current market capitalisation is low relative to the long-term value of its assets and to where we think it will be in 2 years time, it is moderately high relative to the valuations being assigned to many other exploration-stage gold miners.
 
The bid effectively puts a floor under the NG stock price. It's an all-cash offer, so regardless of what happens in the gold market over the next few weeks NG should trade at, or above, US$14.50. There is also the potential for a higher offer, a potential that is already being partially discounted by the stock market as evidenced by NG trading at a significant premium to ABX's current offer. There is therefore probably no reason to sell now UNLESS you want to free up some cash for other investment opportunities.
 
In this week's Interim Update we'll take a quick look at some other potential takeover candidates in the TSI Stocks List.
 
On a separate matter, the gold sector rallied on Monday despite a $7 drop in the gold price. This, however, just continues the pattern of gold shares behaving like plays on the broad stock market.

Stock Selection Update #39 - May-23 2006

In our opinion the gold sector is about 2 weeks into a correction that will ultimately last at least 6 months, so now is not the time to be buying aggressively. However, opportunities to do SOME buying are already emerging due to the magnitude of the recent price decline.
 
The opportunity that we are going to highlight today is the long-dated call options of Harmony Gold (NYSE: HMY); specifically, the HMY January-2008 US$10.00 call options (YTBAB). These options ended Monday's trading session at US$5.20-US$5.40.
 
With the stock trading at US$13.29 the aforementioned options have intrinsic value of $3.29 (the intrinsic value of an option is the price of the underlying minus the strike price of the option, in this case $13.29 - $10.00), meaning that buyers of the options are paying a premium of only $2.00 per share for 20 months of 'time'. We won't be surprised if HMY drops to around $11 at some point over the next couple of months, resulting in the price of these call options falling to around $4.00. But $1.30 (or so) of downside risk is trivial compared to the gains we expect to occur prior to the January-2008 expiry date. We've therefore decided to immediately add YTBAB to the TSI Stocks List at US$5.30 (the mid point of the current bid-ask spread).
 
If a trade such as this interests you then a reasonable approach would be to purchase an initial position now with the aim of making a least 2 more purchases in the future -- one most likely about 2 months from now and another during the final quarter of this year. On the other hand, if options aren't your 'cup of tea' you could consider buying the first of three positions in the stock (HMY) now. Note that HMY spiked down to its 200-day MA in US trading on Monday and, along with the entire gold sector, is ripe for a counter-trend rebound.

Stock Selection Update #38 - Apr-25 2006

With regard to stock market investing, two of the things we've learnt from experience over the years are:
 
1. When you identify a stock with an excellent long-term risk/reward ratio you should take an INITIAL position immediately even if you think the overall market's short- or intermediate-term risk/reward is poor.
 
2. If you are confident that a market is in a long-term upward trend but currently don't have exposure to this market then you should do SOME buying immediately, assuming your goal is to participate in the long-term bull market, even if you are anticipating a near-term pullback that affords a superior buying opportunity.
 
The point is that it's important to manage upside risk as well as downside risk. No one knows the future and the direction of a market over the short-term is always more random (less predictable) than its direction over the long-term; at least, that's the way it is with us and, we suspect, with most people who place a greater emphasis on fundamentals than on technicals. In other words, taking an initial position in a market or an individual stock, even when you think there's a good chance of weakness in the short-term, provides some coverage in case the expected weakness doesn't materialise and is an acknowledgement of the fact that there will always be some uncertainty when it comes to the future direction of market prices.
 
Further to the above, as long as we remain confident that gold and gold stocks are in long-term bull markets we will continue to highlight investment opportunities in individual gold stocks as they arise, regardless of what we think is going to happen to the gold sector in the short-term. As well as accounting for the fact that we don't have a crystal ball and might therefore be wrong about the market's short-term performance, we need to account for a) the possibility that company-specific factors will prevent a stock we want to buy 'on a pullback' from actually pulling back with the market, and b) the likelihood that some subscribers have yet to establish a core position in the gold sector.
 
With that said, we are now going to introduce a new exploration-stage gold stock (one with an interesting twist).
 
Chesapeake Gold (TSX: CKG) is a well financed explorer with a top-notch exploration team -- CKG's exploration team discovered the lucrative El Sauzal and Marlin gold deposits currently owned by Glamis Gold -- and several projects with good potential in Mexico. It closed at C$5.65-C$5.75 on Monday. However, we haven't been interested in owing CKG in the past, and aren't interested in owning it now, because it doesn't fit our investment critieria. Specifically, we are not in the business of making bets on whether or not someone will find a gold deposit, regardless of the person's track record. Rather, we want to buy exploration-stage companies that have already proven-up enough resources to fully justify their current stock prices AND that have the potential to substantially increase their resources through future exploration success.
 
The reason we mention CKG is that its impending merger with American Gold Capital (TSXV: AAU) does create a company that meets our investment criteria in that it marries CKG's exploration prowess and potential with two projects that have substantial existing resources. Assuming the merger is completed as planned (the expected completion date is 30th June 2006), the combined company will have:
 
  - CKG's stable of early-stage projects in Mexico
  - AAU's Metates property in Mexico, which has a non-compliant low-grade resource containing 11.7M ounces of gold and 55M ounces of silver (additional drilling will be required to upgrade a portion of this resource to measured-and-indicated status)
  - AAU's Talapoosa project in Nevada, which has a measured-and-indicated resource containing 1M ounces of gold and 14.5M ounces of silver
  - C$40M cash and no debt
  - 28.7M shares outstanding (42.3M on a fully diluted basis)
 
Due to the way the proposed merger deal has been structured, the best way to buy into this situation is through AAU. This is because AAU shareholders will receive CKG warrants and rights as part of the deal and the rights are what we are really interested in. Specifically, AAU shareholders will receive 0.29 CKG shares plus 0.145 CKG share purchase warrants plus 0.29 CKG rights for each of their current AAU shares. Each warrant will have a duration of 5 years and an exercise price of C$8.00, while each right will have a duration of 5 years and an exercise price of C$1.00. The plan is for the rights and the warrants to be traded on the TSX.
 
The twist is that it will only be possible to exercise the rights IF the spot gold price trades at an average of at least US$850 for 90 days. In other words, the rights will expire worthless unless the spot gold price averages at least $850 over a 90-day period at some point during the next 5 years. These rights, therefore, are an extremely leveraged play on the gold price.
 
Based on the current CKG stock price of C$5.70, we have estimated a value of C$2.00 for the warrants and C$2.45 for the rights. We valued the rights as if they were warrants and then assumed a 50% probability of the gold price moving above $850 within the next 5 years (we think the probability of gold moving above $850 within 5 years is actually greater than 90%, but we wanted to be conservative). We therefore valued CKG's offer for AAU as follows: 0.29*C$5.70 + 0.145*C$2.00 + 0.29*C$2.45 = C$2.65.
 
If we assume that the gold price moves up to $850, making the rights exercisable, and that this rise in the gold price pushes the CKG stock price up to C$10 (once again we are being conservative because we are not allowing anything for the possibility that CKG's top-notch exploration team finds something of great value), then our estimated value for AAU rises to C$6.15.
 
Now, because the rights offer extreme leverage to the gold price they are going to make huge moves in both directions when they begin to trade. In particular, they will be pushed up to great heights during periods when bullish enthusiasm is rampant and pushed down to great depths during the large corrections that will inevitably occur during gold's long-term bull market. In all likelihood, there will be opportunities to accumulate the rights at depressed levels during the second half of this year, but by taking a position in AAU now we will make sure that we end up with some exposure in case we are under-estimating gold's upside potential this year in the same way that we under-estimated it last year.
 
AAU closed at C$2.20-C$2.30 on Monday, so we will add it to the Stocks List at C$2.25. Note that the stock doesn't have great liquidity, so exercise caution when buying.

Stock Selection Update #37 - Jan-04 2006

This year's first trading day was interesting to say the least. We don't have time to discuss the market action in any detail right now, but the general impression we got was that all the financial markets were in a big hurry on Tuesday to discount the ending of the Fed's rate-hiking campaign. The minutes of the latest FOMC Meeting certainly encouraged speculators to bet on an imminent cessation to the rate hiking, although the markets had clearly been moving rapidly in that direction for several hours prior to the 2.00pm release of these minutes.
 
The purpose of this e-mail is to advise some changes to the TSI Stocks List. A blow-off move to the upside is underway in the gold sector and although there is no evidence that it is about to end it is time to consider exiting some positions.
 
First, we are going to exit Gold Fields Ltd (NYSE: GFI). GFI was added to the List in May of 2005 at US$9.57, meaning that at yesterday's closing price of US$19.27 we have a gain of 101%. The technical objective for GFI based on the upside breakout from its multi-year consolidation range is around $21, so it wouldn't be surprising to see the stock move about $2 higher before a short-term top is put in place. However, we expect the next correction to result in a test of support at $15-$16, which means that we perceive about $2 of short-term upside potential versus about $3-$4 of short-term downside risk.
 
Second, we are going to exit the Harmony Gold (HMY) January-2007 $12.50 call options originally added to the List in March of 2005. These options ended at $3.80-$4.00 on Tuesday, giving us a profit of 217% assuming an exit at the current bid price of $3.80.
 
On a side note, the option trades recommended at TSI were effectively a 'wash' over the past 12 months. We did very well on two HMY call option positions and we did OK on some Newmont Mining put options, but we are going to have to write-off put option positions in Phelps Dodge and Glamis Gold.
 
Third, we are going to keep EWJ (iShares Japan) in the Stocks List, but now would be a reasonable time to take PARTIAL profits on this position. Our intention is to exit EWJ should the Nikkei trade up to 19,000 during the first 4 months of this year.
 
Although there have recently been big upward moves in some of our smaller stocks, none of these stocks are close to levels at which they would be 'sells' (they are all significantly under-valued at Tuesday's closing prices). However, when a speculative stock moves up a lot within a short time it can become an unreasonably large component of your portfolio (unreasonably large, that is, given its risk). In such cases it is often a good idea to do enough selling to bring the stock's weighting down to the appropriate level, even though it remains under-valued. This sort of re-balancing is something that should be done on a regular basis.
 
In Thursday's Interim Update we'll mention short-term upside target ranges for some of the stocks in the TSI List.

Stock Selection Update #36 - Oct-03 2005

Regardless of what happens over the next 6 weeks there's a high probability that gold stock indices such as the HUI will be trading far below current levels within the next 6 months. This is not, therefore, the time to be buying aggressively, but instead a time to be looking for opportunities to take profits. This will particular be the case if the HUI makes a new recovery high over the coming month or so, thus setting the stage for another October-November high and ensuing 6+ month decline.
 
Having said that, there are many exploration/development-stage gold stocks that have yet to move much and that offer exceptional value. It is reasonable to assume that these stocks will take a hit if there's a sector-wide downturn, but they offer such large upside potential -- both in the short-term if the rally in the overall sector can persist for just 4-6 more weeks and in the long-term irrespective of what happens over the next several weeks -- that buying at this time might be appropriate for those who feel under-exposed to the market.
 
An exploration/development-stage gold stock that looks attractive right now from both fundamental and technical perspectives is European Minerals (TSX: EPM). This stock has been on our radar screen for a long time, but our concerns about the political risk associated with Central Asia -- EPM's main asset is located in Kazakhstan -- have prevented us from adding it to the TSI Stocks List. However, over the past year we've observed some very smart players in the natural resources sector making substantial investments in Kazakhstan, the most recent example being a large uranium venture involving some of the best-known names in mining finance (refer to http://www.resourceinvestor.com/pebble.asp?relid=13270 for details). We continue to believe that there is significant political risk in Kazakhstan, but probably not as much as there is in Russia and in many other parts of the world. We no longer consider Kazakhstan's political situation to be a 'deal breaker' as far as the purchase of shares in EPM is concerned.
 
EPM owns the Varvarinskoye development-stage project, which has proven and probable reserves of 2.3M ounces of gold and 269M pounds of copper. The company has about US$70M of cash and is presently negotiating a US$80M debt facility, the combination of which should be more than enough to take the project through to commercial production. Production is expected to commence during the final quarter of next year. The plan is for the mine to produce 150K ounces of gold per year at a cash cost of US$87/ounce.
 
There are about 200M shares outstanding, so at Friday's closing price of C$0.65 the company's market cap is C$130M (US$110M). Subtracting the US$70M of cash gives us an enterprise value of only US$40M, meaning that EPM's gold reserves are presently being valued by the stock market at only US$17/ounce. This is extremely low for high-quality reserves in such an advanced-stage project and suggests that there is a very substantial Central Asian discount being applied to the shares. This, in turn, creates an opportunity because if Kazakhstan remains relatively stable and investment continues to be drawn into the country as a result of its enormous natural-resource wealth, then EPM's shares will likely be re-rated.
 
Technically, there is support at around C$0.60 that should limit the downside as long as the overall sector remains in a short-term upward trend.
 
We are going to add EPM to the TSI Stocks List at Friday's closing price of C$0.65. The stock is fairly liquid (average daily trading volume is about 430K shares), so hopefully our buy recommendation won't have a significant effect on the price. However, if the stock does move sharply higher in response to our recommendation then we suggest that you put it on your 'watch list' but don't buy it now. There will probably be an opportunity to buy the stock near current prices in the future (later this week, perhaps), but if not it doesn't matter because there will be plenty of buying opportunities in other stocks.
 
There are, by the way, two series of EPM warrants trading on the TSX. Of these warrants, only the "A" series (TSX: EPM.WT.A) looks interesting to us. The "A" series warrants have an expiry date of April-2010, and exercise price of C$1.20, and with the stock trading in the mid-60s would be fairly priced at around C$0.20.

Stock Selection Update #35 - Sep-30 2005

The main purpose of this e-mail is to add a new gold/silver stock to the TSI List (actually, to return an old favourite to the List), but first a quick comment on the US stock market.
 
We turned short-term bearish earlier this week because the senior US stock indices appeared to be readying themselves for breaks below their respective August lows (1200 for the S&P500, 2100 for the NASDAQ Composite, etc.). We also said this view would be proven wrong if the S&P500 were able to close above 1228. The S&P500 closed a fraction of a point below 1228 on Thursday, but the strong upward reversal in the NASDAQ suggests that we should return to the sidelines (return to a short-term "neutral" view). The upside potential from here looks small, but a break below support no longer appears to be imminent.
 
Our plan since the beginning of this year has been to use substantial weakness in our favourite gold/silver stocks during 2005 to build up positions in preparation for an expected cyclical bull market -- the second leg of a secular bull market -- during 2006-2008. This remains our plan and we will therefore continue to highlight stocks once they reach suitable levels for new buying.
 
Western Silver (AMEX: WTZ, TSX: WTC) was part of the TSI Stocks List during much of the first major upward leg in the gold sector. We ended up exiting it at a substantial profit during the first quarter of 2004 and have since been looking for a good opportunity to re-establish a position.
 
We were hoping that an opportunity to buy the stock at around US$6.50 would occur late this year or early next, and it still might. However, as a result of WTZ having 'sat out' much of the post-May advance in gold/silver stocks -- it is presently near the bottom of a lengthy consolidation pattern and near a 52-week low -- it now looks significantly under-valued compared to other stocks when the world-class nature of its major asset (the Penasquito silver/gold project in Mexico) is taken into account.
 
The latest resource estimate shows that Penasquito contains 314M ounces of silver and 4.6M ounces of gold in the measured-and-indicated (M&I) category (603M ounces silver-equivalent or 9.6M ounces gold-equivalent at current metal prices). With a fully diluted share count of 51M, no debt and about US$50M cash, this means that WTZ is presently being valued by the stock market at around US$38 per M&I gold-equivalent ounce. This is not particularly low in itself, but it is low when the quality of the deposit and the huge potential for future resource expansion are considered.
 
Penasquito is of sufficient size and quality to be of interest to a major mining company, meaning that WTZ could become a takeover target at some point. Companies such as Goldcorp, Glamis Gold and Pan American Silver, for example, presently have such richly-valued shares that they could afford to buy WTZ at double WTZ's current price (in an all-stock deal) and still bring about a sizeable increase in their per-share net asset values.
 
The question is: why has WTZ not participated in the recent run-up in the gold sector?
 
The market might be concerned that the dramatic increases in fuel and construction costs that have occurred over the past year will mean that the feasibility study for the Penasquito project -- the results of which are due to be announced within the next several weeks -- will reveal a low internal rate off return (IRR). If this is the case our view would not change because we expect gold and silver to out-perform other commodities by a wide margin over the coming 2 years; in other words, if our longer-term view is correct then the project's IRR will improve substantially over the next 2 years. A disappointing outcome from the feasibility study would, however, likely cause the stock to drop sharply in the short-term, which is a reason why investors should consider taking an INITIAL position now with the aim of building up to a full position in the future as opportunities present themselves.
 
Another possible explanation for WTZ's relative price weakness is that large investors have been positioning themselves to participate in the equity financing that would likely follow the release of a POSITIVE feasibility study. That is, investors who expect to participate in the equity portion of the large financing that will have to be done to fund Penasquito's development might be reducing their existing positions.
 
In any case, within the context of a long-term bull market there's generally a lot less risk involved in buying following a pullback to near important support than there is in buying following a surge to near important resistance.
 
We are going to add WTZ to the TSI Stocks List at yesterday's closing price of US$8.34.

Stock Selection Update #34 - Aug-31 2005

We remain short-term bearish on gold and gold stocks. However, it is totally unrealistic to expect to do all, or even most, of your buying at the absolute bottom of the market. Also, different gold stocks will hit levels at which new buying will become appropriate at different times, so even if the overall sector appears to be headed lower it will be important to scale into high-potential gold stocks after the individual stocks have dropped to levels where the risk/reward is exceptional.
 
Further to the above, we want to highlight some gold stocks that have just fallen to prices that we believe are good entry levels for those looking to build exposure to the sector that, as far as we are concerned, offers by far the best long-term risk/reward in the stock market.
 
1. On a few occasions over the past 5 months we've mentioned that a drop to around C$8.00 by NovaGold Resources (TSX and AMEX: NG) -- our favourite exploration/development-stage gold stock -- would create a good opportunity for new buying. There is strong support in the C$7.80-C$8.00 range and we thought that this support would probably be tested, but not breached, during 2005.
 
NG traded as low as C$8.13 on Tuesday before rebounding to close at C$8.33. There hasn't yet been a volume spike so a low is probably not in place, but for longer-term investors the idea is to average in when the stock drops to near support and not to attempt to buy at the bottom. Therefore, we think a buying opportunity is at hand.
 
In a previous commentary we also mentioned that the NovaGold warrants that trade on the TSX under the symbol NG.WT, have a C$7.00 exercise price and a September-2008 expiry date, would be suitable for new buying if they dropped to the C$3.20-C$3.60 range. They are currently in this range. We caution that the warrants are far less liquid than the stock and are therefore difficult to trade in size. As a result of this lack of liquidity it is critical that limit orders are used.
 
By the way, many of the stock-related questions e-mailed to us by TSI readers have previously been answered in the commentaries. To read all the comments we've made on a stock over the preceding 18 months just go to the Stock Selections page at TSI and click on the stock symbol. For example, when you click on NovaGold's symbol you will get taken to this page: http://www.speculative-investor.com/new/NG.html
 
2. We think South African major Harmony Gold (NYSE: HMY) offers excellent value near yesterday's closing price of US$7.22. The January-2007 $7.50 call options (OHTAU) are also an interesting speculation in the US$1.50-$1.70 range.
 
3. The stock price of Australian-listed gold producer Resolute Mining (ASX: RSG) was hit hard on Tuesday as a result of the company receiving an unexpected US$32M tax bill from the Tanzanian Government. The Government is obviously scrambling to obtain US dollars and have therefore arbitrarily decided that the revenues generated by RSG's Golden Pride mine in Tanzania over the past several years were a lot higher than the company had declared while its costs were a lot lower. This is a totally absurd act by the government and whether or not they get away with it will be a good test of both the effectiveness and impartiality of the Tanzanian court system. In any case, the absolute worst case for RSG is that the company will be forced to pay US$32M, but over the past three trading days US$52M has been shaved off the company's market value. Obviously, this is an over-reaction.
 
As we write, RSG is trading at A$0.88. We think it is a strong buy below A$0.90.
 
4. After butting up against resistance at US$3.50 a couple of weeks ago Golden Star Resources (AMEX: GSS) has dropped back to US$2.84, a level at which new buying would be appropriate.
 
5. The Desert Sun Mining warrants (TSX: DSM.WT) are a good speculation near yesterday's closing price of C$0.55.

Stock Selection Update #33 - Mar-07 2005

Our view is that the gold sector, as represented by the HUI, will make a sequence of lower lows over the first three quarters of this year before commencing the next multi-year advance in its long-term bull market. However, we've also said that good opportunities to buy individual gold stocks will arise from time to time during the year and that these opportunities should be taken despite the likelihood that the sector as a whole will eventually move lower.
 
There are several stocks we've been following with the aim of adding them to the TSI Stocks List at some point during 2005. We expect that each of these stocks will be available at lower levels within the coming 6 months, but in each case the stock offers value -- from reasonable value to exceptional value, depending on the stock -- at its current price, and the ultimate low is probably going to be within 20% of the current price. Therefore, with our assessment being that the intermediate-term downside risk is 20% and the long-term upside potential is enormous we think it would be appropriate to take an INITIAL position in each of these stocks now with the goal of adding to positions later this year.
 
*Here are the stocks that will immediately be added to the TSI List:
 
1. Golden Star Resources (AMEX: GSS)
 
Since peaking at over US$8.00 per share in December of 2003 the stock price of GSS has been hammered, hitting a low of US$2.67 last week.
 There are two main reasons why the stock has experienced such a large decline. First, it was absurdly expensive in late 2003 both in absolute terms and relative to most other gold stocks. Second, there has been a marked deterioration in the company's fundamentals (there's been a sizeable drop in the gold production forecast for 2005-2006 and an increase in forecast production costs). However, at Friday's closing price of US$2.97 the stock is at a level where the negatives appear to have been factored in and the value -- relative and absolute -- appears to be reasonable.
 
A likely downside target for GSS over the coming 6 months is US$2.40, but at its current price the upside risk over the coming 2 years dwarfs the downside risk.
 
2. Resolute Mining (ASX: RSG)
 
Resolute is traded on the Australian Stock Exchange and has operations in Australia and Africa. When we checked a few minutes ago it was trading at AUD1.48.
 
RSG is currently producing gold at the annual rate of around 320K oz/yr, but assuming a positive outcome for the Feasibility Study (FS) at its Syama gold project in Mali (the FS is scheduled to be complete by the end of this month) it will likely be a 500K+ oz/yr producer within 2 years. However, even if we assume steady-state production of around 320K oz/yr we find that RSG's production is selling at a discount of around 50% to the production of comparable North American miners (GSS, for instance). And on a market-cap-$-per-reserve-ounce basis RSG is selling at a discount of at least 30% to comparable NA miners. We see no good reason why these discounts should exist, particularly given RSG's growth profile.
 
A potential additional 'kicker' for this stock is the company's ownership of 33M pounds of uranium resources in Queensland. The market currently appears to be assigning no value to this asset, but assuming just US$1/pound for the uranium then this asset would be worth around AUD0.20 per RSG share.
 
A likely downside target for the stock over the coming 6 months is AUD1.20, but given the upside potential we think it would be appropriate to do some buying now.
 
3. Golden Queen Mining (TSX: GQM)
 
GQM is a thinly traded exploration-stage micro-cap gold/silver stock and therefore not suitable for everyone. Here is a summary of the Golden Queen story taken from the company's web site:
 
"The Company is focused on developing an open pit, gold-silver heap leach operation on its Soledad Mountain property (the Project), which is located 8 km from the town of Mojave in Kern County in southern California.
 
The ore that will be mined as per the current mine design is 57.3million t with grades of 0.83 g/t gold (0.024 oz/ton) and 13.5 g/t silver (0.39 oz/ton). This minable reserve is estimated to contain 1,529,000 oz gold and 24,870,000 oz silver.
 
Ore will be mined and leached at the nominal rate of 5.728million t per year with recoveries for gold and silver of 80 % and 65 % respectively over a leach cycle of 120 days. It is expected that production will average 119,000 oz of gold and 1,668,000 oz of silver per year once the mine is in full production. The initial life of mine will be 12 years.
 
Only 47 % of the mineral inventory of 122,750,000 t is included in the current mine design. The potential exists therefore for an extended life of mine beyond the initial 12 years and this will depend upon gold and silver prices and the Project economics.
 
The estimated capital cost to the start of production is U.S.$50million and this includes the reclamation bonds. A further U.S.$8million will be required for working capital.
 
The pre-tax IRR and payback targets are > 40 % and < 3 years respectively.
 
The Project is fully permitted and can proceed to production once project financing has been secured.
 
Work is proceeding rapidly on the remaining elements of the revised feasibility study and it is expected that this work will be competed by December 31, 2004.
 
It is expected that the Company will seek production financing in late 2004 or early 2005. Construction could begin in the first quarter 2005 with the start of production 9 months later."
 
The web site obviously hasn't been updated in a while because the Feasibility Study is not yet complete. It is, however, likely to be completed within the coming month.
 
There are three main reasons we think GQM is a good speculation anywhere near Friday's closing price of C$0.37. First, the stock is trading at only US$10 per RESERVE ounce. Second, the economics of the project appear to be excellent. Third, it could have a 150K gold-equivalent-ounce/year mine just 9 months after a construction decision is made.
 
The risk, and probably the main reason why the stock is trading at such a low price, is that the company will have to raise US$50M before construction can commence. This is obviously a huge sum for a company with a market cap of only US$20M.
 
For risk-tolerant investors we think it would be worth buying GQM up to C$0.45/share.
 
On a side note, to consistently make money with these illiquid micro-cap stocks you have to make the lack of liquidity work for you. The best way to do this is to place bids well under the market during the down-swings in order to pick-up the stock that periodically gets dumped by shareholders who lose interest; and to subsequently -- perhaps 6-12 months later -- place sell orders well above the market to take advantage of the traders who chase these stocks during periods of strength. This can entail waiting months for an order to be filled and might mean that your order never gets filled, but it's a profitable strategy if implemented consistently.
 
*We just added three new stocks to the TSI List, but at the same time we are looking for opportunities to exit some stocks that are currently in the List. The reasons for exiting will vary, but boil down to the long-term risk/reward not being as attractive as it is elsewhere.
 
Two stocks that fit into the above-mentioned category are Patricia Mining (TSX: PAT) and Nevsun Resource (TSX: NSU); PAT because its long-term upside potential is lower than many other stocks that we follow and NSU because the political risk associated with Eritrea has proven to be unacceptably high. We aren't tempted to exit either of these stocks near current levels, but would be sellers of PAT at around C$0.80 and sellers of NSU at around C$4.00.

Stock Selection Update #32 - Feb-25 2005

*Last week the management of DRDGOLD (NASDAQ: DROOY) warned the market that the latest financial results were going to be worse than expected, thus preparing the market for the half-yearly report that was scheduled to be released on 24th February. However, when the actual results were issued on the 24th (yesterday) they were much worse than the company had warned of just one week earlier.
 
By coming out with results that were much worse than the expectations set just one week earlier the management of DROOY made a huge blunder because when you are aware of bad news it is critical to get all the bad news out of the way at the one time to avoid multiple shocks.
 
DROOY's latest results reveal a company in dire straits. It's Australasian operations, which provide about 37% of the company's total gold production, are making money and performing well, but the South African operations are bleeding cash at a rapid rate (the average cash operating cost for gold produced by the SA operations during the second half of last year was US$472/oz, versus US$206/oz for the Australasian operations). Clearly, the company is going to have to shut down a substantial portion of its SA operation in order to stop the bleeding. With cash of around R143M but working capital of negative R65M it will also have to obtain additional money via debt or equity financing.
 
DROOY is currently what we'd call a 'survival bet' because if it survives it will eventually trade at a multiple of yesterday's closing price but there is obviously a significant chance that the company won't survive and that the stock price will go to zero. It has, however, been in this position before (most recently in 2001) and is likely to once again survive because if worse comes to worst it should be able to stay in business by issuing more shares.
 
So, what do we suggest doing?
 
First, if you already have a small position in the stock then we wouldn't sell but we also wouldn't average down. Averaging down can be a reasonable tactic, but we generally only employ this tactic with stocks that we think are investment grade or, at least, financially solid. As we've stressed in the past, DROOY is not investment-grade because it has poor management and low-quality assets. And it is clearly not financially solid. It is the sort of stock in which it sometimes makes sense to take a small position because under the right market conditions it can generate huge gains very quickly, but it is too risky to ever be a large part of a portfolio.
 
Second, if you currently don't have a position in the stock then you could consider making the 'survival bet', particularly if the stock drops back to test yesterday's panic low of around US$0.80. This is because, as mentioned above, we think the odds are strongly in favour of the company staying in business.
 
*Cumberland Resources (TSX and AMEX: CLG) issued the results of the long-awaited feasibility study (FS) on its Meadowbank gold project on Thursday. We were pleased with the results of the FS and will update our view on this stock in the coming Weekly Update. Suffice to say right now that we think CLG is a buy near Thursday's closing price of C$1.84.

Stock Selection Update #31 - Feb-23 2005

*We haven't commented on Exeter Resource (TSXV: XRC) for a while, but this stock remains one of our favourite small exploration-stage gold stocks.
 
In the absence of company-specific news (drill results, etc.) and in a subdued gold market the exploration-stage stocks tend to drift lower as retail investors lose interest/patience and liquidate their holdings. This, in turn, creates buying opportunities. In particular, a good time to accumulate the stocks of the small explorers is after they have been drifting lower for a few months due to a lack of news and just prior to a period when market-moving news is likely to be forthcoming. By the same token, a bad time to buy them is after one or two news releases have generated enthusiasm in the stock market.
 
XRC has been drifting lower for a few months and is now back to a level where it offers very good value. Furthermore, some potentially market-moving news -- a resource estimate for the Cabeza project and initial drilling results for the Puntudo project -- is likely to be issued within the next few weeks. Therefore, we think it would be reasonable to do some buying around current levels (from yesterday's closing price of C$1.17 up to the mid-1.20s).
 
*Saskatchewan Wheat Pool currently has quite an unusual share structure in that members of "The Pool" (farmers) own all the voting shares (known as Class A shares) whereas other shareholders (us, for instance) own the non-voting Class B shares that are quoted on the stock market (the shares trade on the TSX under the symbol SWP.NV.B). Presently, there are about 71,000 Class A shares and 243M Class B shares. Also, the board of directors is controlled by the Class A shareholders and no individual or entity is permitted to own more than 10% of the issued Class B shares. So, up until now the company has been run by farmers and has been run primarily for the benefit farmers, although other people have been able to participate in the company's earnings by buying the Class B non-voting shares.
 
However, a re-capitalisation plan that would transform "The Pool" into a more conventional company with a single class of common shares is currently working its way through an approval process. Provided the plan is approved -- it almost certainly will be since it has already been approved by the current board of directors and the Class A shareholders -- then:
 
a) All existing Class A and B shares will be replaced by new shares with each Class A share being exchanged for 3.62 new shares and every 20 Class B shares being exchanged for 1 new share
 
b) Current holders of the company's C$173M of convertible notes will receive the new common shares in exchange for their notes
 
c) A C$150M rights offering to all shareholders will be made following completion of the re-capitalisation
 
The benefits of the plan are that the company will have improved access to financing, a stronger balance sheet, and a modified board of directors more focussed on increasing the value of ALL shareholdings. Also, the plan will open up the possibility of the Pool being the recipient of a takeover offer or making takeover offers for other companies. Obviously, the stock market likes this development (the shares have gained about 60% over the past 3 weeks).
 
Final approvals for the plan are expected on 23rd March (this is when Class B shareholders and convertible noteholders are scheduled to vote on the re-capitalisation).
 
By our calculations, there will be about 46M new shares outstanding after the re-capitalisation and the rights issue are complete. If we assume that the stock would be fairly valued at 1-times annual sales then the new shares would be worth about C$30 (equivalent to C$1.50 per current Class B share) based on last year's revenue of C$1.4B. Therefore, if this assumption is correct then a lot of upside potential remains (the Class B shares closed at C$0.52 on Tuesday). Unfortunately, we don't know if this assumption is valid, but even if the market were to value the shares at only 50% of annual sales there would still appear be significant upside potential.
 
SWP was never supposed to be a long-term investment for us because it doesn't really mesh with our core competencies or long-term market views. However, a 3-year chart of the stock looks bullish (we'll include such a chart in tomorrow's Interim Update) and, as mentioned above, it remains in under-valued territory. We will therefore continue to hold it for now, but would probably exit were it to gain another 30-40%.
 
*Broadwing (NASDAQ: BWNG) issued its latest quarterly results last week and these results showed that the company continues to do well in a challenging business environment.
 
As we've noted in the past, the biggest problem for the stock is that the management keeps diluting the interests of existing shareholders by making the quarterly payments on its convertible debt in stock (the company has the choice of using either stock or cash to make these payments). If we make the assumption that all future debt payments will be made in stock at $6/share then the share count will increase from 68M to 99M by next February when the last payment is made. On this basis our valuation per share would fall from around $30 to $20 (our valuation assumes that the stock trades at around 2-times annual sales, a reasonable assumption if the company is able to become cash-flow positive within the coming 12 months). This means that there's plenty of upside potential from current depressed levels even assuming further substantial dilution.
 
Our view is that BWNG's risk/reward is very attractive at around US$6.00 or lower.
 
*Copper/gold producer Northern Orion (TSX: NNO, AMEX: NTO) recently completed a large financing and as part of the financing issued about 17M warrants. These warrants, which trade on the TSX under the symbol NNO.WT.A, have an exercise price of C$6.00 and an expiry date of February-2010.
 
Although it appears to be fairly valued or perhaps even slightly under-valued at yesterday's closing price of C$3.64, we wouldn't be buying Northern Orion stock at the current time. This is because we think there are better opportunities elsewhere and because we expect that a major peak will be in place for copper by the second quarter of this year. However, at around yesterday's closing price of C$0.65 the warrants appear to be significantly under-priced relative to the stock and therefore look interesting from both short- and long-term perspectives (we don't think this year's peak in the copper price will be the ultimate peak for the bull market, so with the warrants not expiring until 5 years from now they should be around when the next major advance occurs in the industrial metals).
 
Further to the above, we are going to add NNO.WT.A to the TSI List at yesterday's closing price of C$0.65 and would consider them to be a reasonable speculation up to C$0.75. However, we strongly suggest that you not pay up for ANYTHING in the current environment because there will probably be plenty of opportunities to buy high-potential gold and commodity stocks at lower prices later this year. In our opinion the rebound in the gold sector that began a couple of weeks ago is at least two-thirds complete and we are seeing final blow-off moves in many commodity-oriented stocks, so it would be risky to chase anything.
 
*It was announced yesterday that Noranda, a major mining company, now owns 7.3% of Metallica Resources (AMEX: MRB). This, in our opinion, is a vote of confidence by Noranda in the El Morro copper/gold project (Noranda and MRB have a joint venture agreement on the huge El Morro project in Chile).
 
*Over the past few years the TSI stock selections have been concentrated in exploration/development-stage gold, silver and industrial metal stocks, and based on our current long-term market views we expect that our focus will remain in this area over the next several years. This focus on the more speculative end of the market has resulted in some huge profits over the past few years and should result in additional large gains in the years ahead. However, it also means that we are inevitably going to incur losses of 50% or more on a small number of our positions.
 
One of the failures over the past two years has been micro-cap Australian gold miner Batavia Mining (ASX: BTV). BTV encountered metallurgical problems at their development-stage gold project in Western Australia that made the 400K-ounce deposit uneconomic at current metal prices. A couple of months ago it looked as though a solution to these problems had been found, thus allowing BTV to proceed with mine construction. However, the recent performance of the stock suggests that more bad news is on the way (share price weakness in the micro-caps is often not an indication of bad news to come, but based on the past performance of this particular stock and the fact that new metallurgical testing was scheduled to occur around mid-February we think it's a good bet that BTV's recent weakness points to a fundamental problem).
 
We don't see much additional downside risk in BTV because the recent decline has probably factored in any bad news, but if the company has encountered additional problems then the project will most likely have to be shelved and the upside potential will be limited. Also, there are other exploration-stage stocks that are grossly under-valued, have greater upside potential and are relatively problem-free. As such, we've decided to take the loss on BTV and move on.

Stock Selection Update #30 - Jan-11 2005

This is a very quick update on one of our current positions.
 
Things could look quite different by the time today's US trading session ends, but right now it looks like we are going to get some consolidation in the currency, stock and gold markets this week. In other words, the markets look like they are about to partially retrace last week's moves. This doesn't affect any of our short-term views, but does prompt a change of plan as far as our Newmont Mining put options are concerned. The reason is that although we think NEM has a decent chance of trading well below current levels at some point over the coming month, an upward consolidation lasting several days would probably be enough to eliminate all the value in our January put options (the options expire at the end of next week). We've therefore decided to take profits on these puts immediately with the aim of purchasing some longer-dated puts in the future following a rebound in the gold sector.
 
On a side note, when dealing in out-of-the-money options there's always a trade-off between time and price in that it's always nice to have plenty of time up your sleeve (an expiry date which is many months into the future) but in order to add just a couple of months to the expiry date it will often be necessary to pay a lot more for the option. For example, as at yesterday's close a Newmont Mining $40 put option with a June-2005 expiry date was priced about 75% higher than a $40 put option with a March-2005 expiry date; and a $40 put with a March-2005 expiry date was, in turn, priced about 50% higher than a $40 put option with a February-2005 expiry date.

Stock Selection Update #29 - Nov-26 2004

We weren't planning on adding any more junior resource stocks to the TSI List at this time. Instead, our plan was to take advantage of selling opportunities as they arose in order to reduce the number of stocks in the List. However, we are going to momentarily shelve this best laid plan because we have identified a new stock with such a good risk/reward that it is most definitely worthy of inclusion in the List.
 
The company is Crowflight Minerals (TSXV: CML), a nickel explorer that we've been following since early this year but one that only quite recently became a potential TSI stock due to important progress made by the company and, we think, the stock market's lack of appreciation of how much value is in the process of being created within this company.
 
General speculation in junior resource stocks resulted in CML trading in the C$0.70-C$1.00 range during the fourth quarter of last year and the first quarter of this year despite the fact that it had nothing other than the mineral rights to some well-located land in the Sudbury region of Canada. In this respect it was no different than countless other exploration companies in that it had the hope of one day discovering something of value but owned nothing to which any significant current value could be assigned. In other words, it was just one of many Canadian 'lottery ticket' stocks, and yet the market was prepared to price this lottery ticket at around C$40M due to the speculative enthusiasm that prevailed at the time.
 
However, things took a dramatic turn for CML in August when it was selected by mining major Falconbridge to be that company's partner in the exploration and development of the Thompson Nickel Belt. As a result of the Falconbridge deal CML now has the right to earn 100% of the Bucko nickel project and 50% of the highly prospective Bowden Lake property by spending a total US$25M on the projects over the next 5 years.
 
Here are some details on Bucko, Bowden, and the Falconbridge deal:
 
1. A recent NI 43-101 report confirms that Bucko has an indicated resource of 1.22M tonnes of 2.71% nickel (around 73M pounds of nickel, or roughly the equivalent of 1.1M ounces of gold at current metal prices).
 
2. The above resource is almost certainly going to be substantially expanded over the coming months and years (Bucko's total resource potential is in excess of 400M pounds), but using only the initial indicated resource mentioned above a scoping study recently completed by Micon International came up with the following estimates for the Bucko project:
 
 a) Bucko could be developed into a 11-14M pounds/year nickel producer
 b) The cash cost of nickel production would be US$2.66/pound
 c) The project's internal rate of return (IRR) would be 89% assuming a nickel price of only US$5/pound (the current nickel price is around US$6.50)
 d) The project would have a net present value of US$50M using an ultra-conservative 15% discount rate and assuming a US$5/pound nickel price
 
3. A feasibility study for Bucko is expected to be completed by next March and it's quite possible that the project will be in production by late 2006.
 
4. The Bowden deposit has a historical resource of 88M tonnes grading 0.63% nickel (around 1.2B pounds of nickel). This resource is not NI 43-101 compliant, but a 15000m drilling program that just got underway should enable a 43-101 calculation to be completed by next Spring.
 
5. CML will focus on exploration/development of Bucko while Falconbridge's experienced nickel exploration team will manage the exploration work at Bowden
 
6. What Falconbridge gets out of the deal is a) a partner focused on the development of Bucko, b) a partner that will fund the exploration work at Bowden, and c) an 11% stake in CML assuming all warrants are exercised
 
7. It is reasonable to assume that Falconbridge management did its due diligence before selecting CML
 
Now, CML has 72M shares outstanding (93M on a fully diluted basis), so at yesterday's closing price of C$0.28 its market cap is only C$20M. This clearly doesn't come close to reflecting the value of just the Bucko project at its current size, that is, assuming NO resource expansion and allowing NOTHING for the massive Bowden deposit. It is also worth noting that CML has no debt, about C$7M in cash, and a strong management team headed by Stan Bharti (Mr Bharti is the current chairman of Desert Sun Mining and was president of DSM until he recently handed the reins to Bruce Humphrey).
 
CML's stock price is a lot closer to its 52-week low than its 52-week high, meaning that it is a candidate for tax-loss selling over the next few weeks. We doubt that this will result in much additional weakness in the stock price, but it will hopefully provide enough liquidity to enable anyone who wants to take a position in this micro-cap to do so in the high-20s or low-30s.

Stock Selection Update #28 - Nov-15 2004

*We last wrote about Lynx Therapeutics (NASDAQ: LYNX) on 17th August in Stock Selection Update #23. At that time the stock was trading at US$1.48 and the company had just signed a non-binding letter of intent to merge with a private UK-based biotech firm called Solexa Ltd. Our view at the time was that the risk was high, but so was the upside potential.
 
Since that time a merger agreement with Solexa has been finalised and the stock price has recovered to $3.30. This merger means that the downside risk has been substantially reduced because the combined company is well supported from a financial perspective, but the intermediate-term upside potential has also been reduced due to the merger (the merger will result in a massive increase in the number of outstanding shares) and the subsequent appreciation in the stock price. The stock's long-term upside potential appears to be good, but this is not relevant to us because we have always considered LYNX to be a trade as opposed to a long-term investment.
 
Our plan is to exit LYNX if it trades up to around US$4 at any time between now and January.
 
*Since adding Plum Creek Timber (NYSE: PCL) to the Stocks List in November-2003 we've had a price target of $40 in mind. The stock ended last week at US$38.81, which is close enough. We will therefore exit the stock now and realise a gain of about 53% (including dividends).
 
If you are prepared to take a 3-5 year view then the stock remains a hold at the current price. Our plan, though, is to take the gain now with the aim of re-purchasing at around $30 within the coming 2 years.
 
*Our Australian-based subscribers who are looking for exposure to base metals should consider buying shares of Zinifex (ASX: ZFX). Zinifex, one of the world's largest zinc producers, is financially solid and extremely under-valued at the current price of AUD2.13.
 
*In our opinion, Metallic Ventures (TSX: MVG) continues to offer the best value in the gold sector when taking into account financial strength, management, political risk, and the market value assigned to in-ground gold resources.
 
*The stock price of silver producer First Majestic Resource (TSXV: FR) has perked up over the past couple of weeks. From both technical and fundamental perspectives the stock is still a buy, particularly if it pulls back to around C$1.80.

Stock Selection Update #27 - Oct-25 2004

*Part of the recent extreme weakness in the Broadwing (NASDAQ: BWNG) stock price could be due to tax-loss selling by institutions prior to their fiscal year-end (31st October), but we suspect it's mostly due to stock dilution.
 
On 19th November a $34.5M payment associated with convertible notes will become due and a large part of the decline in the stock price prior to last week was probably related to the market's fear that BWNG's management would elect to make this payment in stock rather than cash. Unfortunately, this fear proved to be well founded because a "Form 8-K" issued by the company early last week confirmed that the payment would, in fact, be made in stock (refer to http://www.sec.gov/Archives/edgar/data/1060490/000119312504174522/d8k.htm for details). Furthermore, the number of new shares that will be issued will be determined by the stock price during the 20 trading-day period ending on 16th November, so the holders of the convertible notes have an incentive to drive the stock price lower over the coming few weeks in order to maximise the number shares they receive.
 
Given that BWNG is cash rich (the company has total cash of more than $400M and net cash of more than $200M) the decision to make the convertible note payment using under-valued stock appears to be an incredibly stupid piece of business. We understand that the decision was made in order to keep the balance sheet as strong as possible on the basis that balance sheet strength is very important to Broadwing's customers (BWNG's main customers are large corporations), but we still don't think it makes any sense with the stock price at such a low level.
 
Despite being more than a little unhappy with management's decision to further dilute the stock we do, however, think that Broadwing represents a better investment now than it ever has because the market has just reacted to the prospect of a 10% increase in the number of shares outstanding by pushing the stock price down by more than 40%. The net result is that BWNG is now trading at an enterprise-value-to-sales ratio of only 0.26, assuming that around 7M new shares get issued in November to make the payment on the convertible notes. This is similar to the valuations assigned to Nortel and Lucent at the October-2002 bottom in the stock market. Actually, it is the sort of valuation that would normally be associated with a company for which there was an imminent threat of bankruptcy, yet BWNG's balance sheet ensures that it will still be in business 12 months from now.
 
The bottom line is that if BWNG's management were perceived by the market to be doing everything right then the stock would be trading at $30, not $5-$6. For our own account we are therefore averaging-down near current prices and will probably add some more during November if the price continues to be forced down by the above-discussed convertible note issue.
 
Also, BWNG might be an ideal way to play a "January effect" rally. Therefore, depending on what happens with the overall market over the coming two months we might add a short-term trading position in BWNG to the Stocks List during December.
 
*Metallica Resources (AMEX: MRB, TSX: MR) has travelled a very rocky road over the past 8 months. Just to recap what has happened for those new to the story:
 
  - February 2004: Construction of the company's 120K oz/yr Cerro San Pedro (CSP) gold/silver mine in Mexico commenced
 
  - 14th April 2004: The local (agrarian) court ruled in favour of a group contesting the lease agreement Metallica had entered into for the land on which the CSP mine was being built. Metallica and the local residents appealed the decision to a federal court and construction work continued.
 
  - 2nd June 2004: Metallica advised that it was having difficulty obtaining the explosives permit it needed and that the president of the local municipality was refusing to renew the company's construction license. The company said that it would have to suspend construction at CSP unless these permits were received within two weeks.
 
  - 23rd June 2004: Metallica advised that the necessary permits had not been received and that it was therefore suspending construction. It also mentioned that a federal court was expected to rule on its appeal of the agrarian court's decision by October.
 
  - 31st August 2004: The company confirmed that its construction license had been renewed.
 
Last Friday the stock price gained 16% on news that the explosives permit had finally been received. So, a couple of legal hurdles remain but Metallica's management has made substantial progress over the past two months towards re-starting construction at CSP.
 
Our view is that if the remaining legal hurdles can be overcome, and we think it is likely they will be overcome, then current metal prices would justify a stock price well in excess of US$2.00 (the stock closed at US$1.37 on Friday). Also, in the worst-case (low probability) scenario where the company is forced to abandon the CSP project then the value of the company's cash (US$42M, or US$0.50/share) and its El Morro copper/gold project in Chile would probably justify a stock price of US$0.80-US$1.00. Therefore, the risk/reward looks attractive and we wouldn't be selling at current levels. The remaining legal issues would, however, prevent us from doing any new buying simply because there are other gold/silver stocks that offer just as much value but don't have any legal issues hanging over them. Desert Sun Mining (TSX: DSM, AMEX: DEZ), for example, is well into the construction of its 100K oz/yr mine in Brazil and offers as much upside potential as MRB.
 
*Plum Creek Timber (NYSE: PCL) has been a good and steady performer since we added it to the Stocks List in November of last year. Furthermore, as a result of a long-term upward trend in lumber prices and profits from land sales we expect that over the next several years the PCL stock price will continue to grow at a faster rate than the company's timber (trees grow about 7% per year). However, since adding the stock to the List we've had a price objective of $40 in mind and if the market gives us an opportunity to exit at close to this price within the next few months we will take it.
 
*For those looking for exposure to silver we'll reiterate our view that First Majestic Resource (TSXV: FR) offers excellent value anywhere near the current price of C$1.57. The stock has not reacted at all to the post-May rebound in metal prices, but in this regard it is certainly not an orphan as many of the juniors have gone nowhere during this period. However, if metal prices continue to increase then at some point the high-quality juniors (and some of the low-quality ones) will rocket higher as investment/speculative demand shifts down the food chain in search of under-valued situations. When this happens, though, the stocks will be difficult to buy and buying will be a much riskier proposition than it is right now.

Stock Selection Update #26 - Oct-18 2004

A few months ago we said we'd endeavour to reduce the number of stocks in the TSI Stocks List to enable us to provide more regular updates on the remaining stocks, but at this stage we've made almost no progress towards this goal because in the mean time there have been a lot more buying opportunities than selling opportunities. We are, however, going to exit two stocks now and suggest profit-taking on a third.
 
*Although it has gained 42% in C$ terms and considerably more in US$ terms since we added it to the List in April of 2003, Northgate Minerals (TSX: NGX) hasn't lived up to expectations. It is very under-valued relative to almost all other mid-tier gold/copper producers, but environmental concerns relating to its Kemess North project could mean that the stock stays under-valued. In particular, if the required permits for Kemess North cannot be obtained in accordance with the current mine plan then a substantial re-rating of the stock would be unlikely. We are therefore going to exit NGX now.
 
*We added Rogers Sugar (TSX: RSI.UN) to the Stocks List in February of 2004 as an indirect play on an expected increase in the price of sugar (RSI doesn't benefit directly from stronger sugar prices, but as an intermediary it would benefit indirectly from a sustainable improvement in the sugar market). Since that time it has returned a very small profit of 2.6% including dividends, which is actually a reasonable performance given the generally lousy stock market environment of the past 8 months.
 
At the current stock price the dividend yield is 10.3%, and since there is a good chance that income distributions will at least be maintained at current levels over the next 12 months the dividend should limit the downside in the stock price. As such, RSI would be a reasonable stock to own if one of your main objectives was to earn dividend income. It doesn't fit with the TSI approach, though, because we generally try to select stocks that are leveraged plays on our intermediate-term market views. Therefore, we will exit RSI now.
 
*The TSI Stocks List is a list of stock ideas, not a portfolio. As such, it is generally not adjusted to reflect the sort of money management techniques that we would implement if we were running it as a portfolio. For example, if it were run as a portfolio then stocks would generally be entered and exited in stages (averaging-in and averaging-out over time). There would also be regular re-balancing to maintain the desired weighting for each stock and to bring the overall exposure to each sector into line with our intermediate-term market views.
 
Once in a while, though, we do implement a modicum of money management as far as the Stocks List is concerned by exiting a position in two stages. For instance, when Desert Sun Mining surged to C$2.20 last November we said we would record a gain on 50% of the position.
 
We are now going to do something similar with Aquiline Resource (TSXV: AQI), that is, we are going to retain AQI in the List but realise a large profit (358%) on half the position. The reason we are doing this is that the stock has gained 70% over the past 5 weeks and closed just below intermediate-term resistance on Friday.
 
The reason we are only exiting half the position is that AQI's intermediate-term risk/reward remains very attractive. Furthermore, an updated resource estimate on the Calcatreu project is due to be announced later this month and there is a significant chance that AQI will end up with a stake in the lucrative Navidad silver project as a result of the legal battle with IMA Explorations.
 
If exiting half of your AQI position would leave you under-exposed to exploration-stage gold/silver stocks then you might consider switching the proceeds of the sale into Metallic Ventures (TSX: MVG), Canarc Resource (TSX: CCM), and/or Exeter Resource (TSXV: XRC), all of which offer exceptional value at current prices.
 
*In the Weekly Update we said that GFI and HMY had traded on Friday as if HMY were about to make a bid for GFI. We also said that such a bid would be a big surprise to us due to Harmony's smaller size and the relative cheapness of its shares. However, according to the below-linked article we are going to be surprised because HMY is about to announce a bid for GFI.
http://www.mineweb.net/sections/mining_finance/353846.htm

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