China’s Year of the Monkees

By John Mauldin


“It does not matter how slowly you go as long as you do not stop.”

– Confucius

“Be extremely subtle, even to the point of formlessness. Be extremely mysterious, even to the point of soundlessness. Thereby you can be the director of the opponent’s fate.”

– Sun Tzu

While we in the West get used to writing “2016” on our documents, China is getting ready for its own Lunar New Year. Their calendar kicks off the “Year of the Monkey” next month. At the rate they are going, though, Chinese markets look more like that hapless rock band that can’t quite reach the main stage.

China isn’t the only reason markets got off to a terrible start this month, but it is definitely a big factor (at least psychologically). Between impractical circuit breakers, weaker economic data, stronger capital controls, and renewed currency confusion, China has investors everywhere scratching their heads.

When we focused on China back in August (see “When China Stopped Acting Chinese”), my best sources said the Chinese economy was on a much better footing than its stock market, which was in utter chaos. While the manufacturing sector was clearly in a slump, the services sector was pulling more than its fair share of the GDP load. Those same sources have new data now, which leads them to quite different conclusions. If you have exposure to China – which you do if you own just about any stock listed anywhere – you’ll want to read this issue carefully.

Let me remind you, before we delve into China, that the early-bird pricing for my annual Strategic Investment Conference ends next Sunday at midnight. I will admit to taking no small amount of pride in the fact that almost everyone who talks to me about the conference says it’s the best investment conference they have ever attended. I carefully craft a blend of speakers each year to speak to the particular dynamic environment we find ourselves operating in. Attendees who have been to most of the conferences tell me that the experience gets better every year, and I have worked hard to continue that positive trend.

This year the theme of the conference is Decade of Disruption. We will convene special panels on what the Federal Reserve will do to try to prevent or to respond to the next recession. More QE? Negative rates? I am not looking for mere predictions – those are cheap. I want to discuss – wargame, if you will – the nitty-gritty implications of what will ensue if the world’s reserve currency goes to negative rates. (I will introduce you to the man who has figured out how to do hundred-to-one leveraged bets on whether there will be negative rates in the US. For some portfolios and companies, that could be a lifesaver.) How would the other major central banks respond? I believe we are getting ready to enter a new and far more intense round of currency wars.

There will also be multiple panels on ways to find income in a low-interest-rate environment. I’m inviting some of my favorite biotech companies for a breakout panel presentation. And for the first time we will be doing a practical panel on portfolio construction and design, with some of the most famous and successful portfolio strategists giving you their thoughts about investing in what will be a transforming world as we enter the Decade of Disruption. Of course we will look at the European, Chinese, and emerging markets, too.

We have just announced that Niall Ferguson and Jim Grant will be speaking this year, in addition to David Rosenberg, Gary Shilling, Lacy Hunt, and David Zervos. As a special treat, we have all three founders of GaveKal – father and son team Charles and Louis Gave and Anatole Kaletsky. (It’s a rare event for them to gather from around the world. It’s always fireworks when they’re together.) Neil Howe, one of the world’s foremost experts on demographics and generational trends, will be making a special first-time presentation at my conference. His speech will be entitled “The First Turning,” a preview of the book he is writing, which is a follow-up to one of the most prescient books ever written, The Fourth Turning (back in 1997).

Of course George Friedman will be there, as well as my friend Pippa Malmgren, to talk over geopolitical dynamics. Thursday night will be a special treat as we move the entire conference one mile down the road to a very large country and western bar, where we will have barbecue, longnecks, and some politics. Michael Barone, Steve Moore, and Juan Williams will show up to hash over the coming elections. (And who knows, maybe a few particularly well-known politicians will grace our presence.) You don’t want to miss Mark Yusko’s first presentation at my conference, either. There will be at least a dozen other speakers and panel members. And we are still negotiating with a few significant “power names” that will only enhance your experience.

We will be making available special software that will let you know who else is in attendance and to schedule networking meetings with those you want to meet. Frankly, the most impressive thing about the conference, beyond the speakers, is the caliber of the attendees. I guarantee you will meet people this year who will make your business or investment portfolio better just by your knowing them.

The Strategic Investment Conference will be held in Dallas May 24–27, ending at noon on Friday, so there will be plenty of time to get back to wherever you need to be from the very convenient DFW airport. Don’t procrastinate. Sign up now. And now let’s turn to China and the rest of the world.
Don’t You Make My Beige Book Blue

On Tuesday Beijing released its quarterly economic growth update. China’s GDP growth has been hovering near 7% for years. That number – if it were even correct – would be a dream come true for most of the world.

We learned this week that China’s growth declined all the way to 6.9% last year (horrors!). That’s still wonderful by any other country’s standard, but the fact that China showed any decline at all made some people think the sky was falling.

Now, it may well be the case that China’s economy is faltering, but its GDP data is not the best evidence. As we have discussed (see “Weapons of Economic Misdirection”), GDP numbers don’t tell us much even if all the data inputs are correct – and in China they are most certainly not correct, for reasons I’ve written about before. Nor are other numbers that emanate from the Chinese government reliable.

To whom can we turn for reliable data? My go-to source is Leland Miller and company at the China Beige Book. Full disclosure: I have been a long-time advisor to CBB, and they have been very generous in sharing their time and information. What makes them different is that they have rather large teams collecting on-the-ground reports from local observers and companies all over China and compiling the information they collect into a massive quarterly review. If I remember right, they amass over 2,000 different data points each quarter, which makes their work as useful as the Fed’s Beige Book, which is similarly sourced from all over the country. I’m not aware of anything else like it. China Beige Book consistently flags important changes months before anyone else does.

CBB’s Leland Miller was on CNBC right after the China GDP number came out. Watch the video below, and you’ll see he was not impressed.

Leland and I caught up on the phone a few hours after that TV appearance. He bent my ear with more detail on the Chinese economy, some of which I can share with you. The changes in China are stark when you step back from this month’s fireworks and consider them in a longer-term context.

China Beige Book started collecting data in 2010. For the entire time since then, the Chinese economy has been in what Leland calls “stable deceleration.” Slowing down, but in an orderly way that has generally avoided anything resembling crisis. As any emerging market becomes larger, its growth invariably slows down. This is a normal trajectory of developing economies. What is impressive is that China’s has been a stable deceleration. That is an unusual outcome that I can’t really remember occurring anywhere else. It is why so many observers keep expecting a “hard landing.”

It was Leland, by the way, who gave me the title idea for last summer’s “When China Stopped Acting Chinese” letter. China Beige Book noticed in mid-2014 that Chinese businesses had changed their behavior. Instead of responding to slower growth by doubling down and building more capacity, they did the rational thing (at least from a Western point of view): they curbed capital investment and hoarded cash. With Beijing still injecting cash that businesses refused to spend, the liquidity that flowed into Chinese stocks produced the massive rally that peaked in mid-2015. It also allowed money to begin to flow offshore in larger amounts. I mean really massively larger amounts.

Leland said at the time that the stock rally had little to do with China’s actual economy, which his data showed to be on the mend. That’s no longer the case.

Dealing with a Different China

China Beige Book’s fourth-quarter report revealed a rude interruption to the positive “stable deceleration” trend. Their observers in cities all over that vast country reported weakness in every sector of the economy. Capital expenditures dropped sharply; there were signs of price deflation and labor market weakness; and both manufacturing and service activity slowed markedly.

That last point deserves some comment. China experts everywhere tell us the country is transitioning from manufacturing for export to supplying consumer-driven services. So if both manufacturing and service activity are slowing, is that transition still happening?

The answer might be “yes” if manufacturing were decelerating faster than services. For this purpose, relative growth is what counts. Unfortunately, manufacturing is slowing while service activity is not picking up all the slack. That’s not the combination we want to see.

Something else China Beige Book noticed last quarter: both business and consumer loan volume did not grow in response to lower interest rates. That’s an important change, and probably not a good one. It means monetary stimulus from Beijing can’t save the day this time. Leland thinks fiscal stimulus isn’t likely to help, either. Like other governments and their central banks, China is running out of economic ammunition.

One quarter doesn’t constitute a trend. Possibly some transitory factors depressed the Chinese economy the last few months, and it will soon resume its “stable deceleration” course. It is hard to imagine what those factors might have been, though. The data is so uniformly negative that it sure looks like something big must have changed.

What does this economic weakness say for Chinese stocks? Probably nothing. It should be clear to all that the Chinese stock market is completely unrelated to the Chinese economy. They don’t move together, nor do they move opposite each other. They have no consistent connection at all – or at least not one we can use to invest confidently. I went to Macau when I was in Hong Kong a few weeks ago, just to observe the fabled fervor with which the Chinese gamble. The place did indeed have a different “feel” than Las Vegas does. I’m not the only one to think that the Chinese stock market is just an outpost of Macau, but one in which leverage and monetary stimulus can overload the system.

Let me say that there are real companies with real value in China. But the rules on the ground, not to mention the accounting, make it a particularly treacherous market to invest more than your own “gambling money.”

China’s currency is another story – and a much deeper one.

Yuan Flew Over the Cuckoo’s Nest

Recent Chinese stock market volatility has had more to do with China’s currency than its stocks. Donald Trump and other politicians (yes, he is one) often assail Beijing for devaluing its currency and acquiring an unfair advantage.

First, the Chinese have actually been manipulating their currency upwards. While countries in the rest of the world have been letting their currencies devalue against the dollar, China has maintained an effective dollar peg until very recently. And then the “move” that seems to have everybody in a dither was only about 4%. To be fair, what really had the markets worried was that this move might presage an effective devaluation. And considering that China has watched the euro, the yen, and nearly every emerging-market currency drop anywhere from 30 to 50% against the yuan – a rather painful experience for its export sector – the Chinese have been quite patient.

I find it fascinating that we can be singularly focused on China and its currency, which has moved only slightly, and not pick on those countries that are openly and aggressively manipulating their currencies down. Seriously, if you want to have an intellectually consistent argument, why not talk about what those evil people in Europe are doing to lower their currencies against the dollar? Or Mexico? Or almost any other country in the world? If you are truly against the strong dollar, then why not just say so and promote a policy of further massive quantitative easing and competitive currency devaluation? That is the only logical conclusion to the Chinese currency-bashing polemics. I guess all the loose talk is just another misguided attempt to Make America Great Again™.

In a normal world, nations with trade deficits naturally see their currencies weaken. No one needs to intervene or manipulate markets. When you bring stuff in, you send cash out. When you send stuff out, you bring cash in. It’s as effortless as breathing. And if your cash is useful only for buying things in your local country, when too much of your money is offshore, your currency is going to weaken.

Then why has the dollar gotten stronger even as we continue to run massive trade deficits? Because the dollar, being the world’s reserve currency as well as the currency for international trade, is in demand. In fact, it is in such demand that if we closed the trade-deficit gap (as we have been starting to do), the dollar would get even stronger, because the world needs dollars to facilitate global trade. We do indeed enjoy a special privilege. Which is why I want to think at my conference about the consequences of the world’s leading trading currency going to negative interest rates.

It is true that politicians everywhere try to pervert the trade process and gain short-term advantages by cheapening their currencies. Most are smart enough not to equate their currency valuations with national pride. I wonder if Trump, et al., have thought through the consequences of their seeming desire to see the dollar weaken. Hopefully someone will enlighten them soon.

Back to our story: does Beijing think it can boost exports by manipulating its currency lower? I don’t think so. Remember how their business model works. Unlike, say, Saudi Arabia, China doesn’t simply extract resources from the ground and export them. China imports raw materials, transforms them into finished goods in its factories, and then exports those goods. Their gain lies in the value added in the manufacturing process.

That means that China can’t grow exports without also growing imports. Pushing the yuan lower helps, but it’s a relatively inefficient tool for reducing the trade surplus.

Cheapening the currency has another consequence China doesn’t want. It makes imported products more expensive for Chinese consumers. The country’s abilities are growing fast, but it still depends on outside sources for many important goods. Making them cost more doesn’t help build the consumer-driven economy Beijing says it wants.

For those reasons and more, China Beige Book has a contrarian view on the Chinese currency. They believe Beijing wants the yuan to rise, not fall. So what is happening with all these interventions the Chinese authorities are making in the currency market?

The first point to remember is that the adjustments have all been quite small – far smaller than the hoopla suggests. For all the clamor that erupted last year, the yuan fell just over 4.5% against the dollar. That’s quite a lot if you are leveraged 10x, as currency traders often are, but for most merchants and consumers the change was hardly noticeable.

Recall all that happened in 2015. Aside from the stock market fireworks, China won acceptance of the yuan into the IMF’s reserve currency basket. It also watched the Federal Reserve finally make a first, tentative move toward higher rates and a correspondingly stronger dollar. If all that couldn’t crush the yuan, it’s not clear to me that anything will.

Nevertheless, periodic adjustments make headlines because they happen so unpredictably. I think the surprises are intentional. The People’s Bank of China wants to keep markets guessing about its intentions. This tactic allows them to gradually nudge their currency in the desired direction. And by gradually, I mean over years or even decades.

Let’s go back to the two Chinese sages I quoted at the beginning of the letter. You have to know the Chinese leadership is steeped in such philosophies:

“It does not matter how slowly you go as long as you do not stop.”

– Confucius

“Be extremely subtle, even to the point of formlessness. Be extremely mysterious, even to the point of soundlessness. Thereby you can be the director of the opponent’s fate.”

– Sun Tzu

The second point is critical: China controls its currency by both central bank action and subtler tools. They have immense power to nudge the currency up or down.

Tightening and loosening the controls is like turning a volume knob. They can crank the yuan up or turn it down.

Presently they are clamping down harder than usual in order to deter speculation.

Much of this is happening under the radar, one business and industry at a time.

Nevertheless, people are starting to feel the consequences.

China Law Blog (what, it’s not on your regular reading list?) is a great resource from Harris & Moure, a Seattle law firm that helps companies navigate the Chinese import-export maze. I like it because they write in language that can be understood by anyone. They said this on Jan. 14:

Regular readers of our blog probably know that our basic mantra about getting money out of China is that if you have consistently follow[ed] all of China’s laws, it ought to be no problem. Not true lately.

In the last week or so, our China lawyers have probably received more “money problem” calls than in the year before that. And unlike most of these sorts of calls, the problems are brand new to us. It has reached the point that yesterday I told an American company (waiting for a large sum in investment funds to arrive from China) that two weeks ago I would have quickly told him that the Chinese company’s excuse for being unable to send the money was a ruse, but with all that has been going on lately, I have no idea whether that is the case or not.

So what has been going on lately?

Well if there is a common theme, it is that China banks seem to be doing whatever they can to avoid paying anyone in dollars.

I heard similar rumblings when I was in Hong Kong earlier this month. China is making it very, very difficult to move capital outside the country. They do this in many different ways, as you’ll see if you read the article above. Banks and bureaucrats all over China are clearly responding to some kind of central edict.

We don’t know exactly why Beijing is doing this. If, hypothetically, they wanted to make it difficult for foreigners to take short positions against the yuan, what they are doing would help. And we know they are restricting access and bringing regulatory oversight to bear on those who want to short the yuan.

Leland Miller is very confident – and I concur – that China will not impose any major overnight devaluations, as so many people fear they will. Doing so wouldn’t move them toward their goals and would send them backwards in some respects. I have talked with other veteran Chinese watchers who also agree. The Chinese will continue to do whatever they do in very deliberate, often confusing, and sometimes downright mysterious ways.

If we do see a huge devaluation, it will mean something is very, very wrong in China. It will be an indication that the wheels are coming off. The Xi Jinping government will do all it can to avoid getting stuck in that position.

Leland reminded me that China is scheduled to host this year’s G-20 summit meeting in September. The last thing the Chinese will want is negative economic headlines while the leaders of the world’s top economies gather in Hangzhou.

On the other hand, the Chinese can’t control the headlines or the rumor mill on the trading floors. This limitation might explain their vigorous resistance to speculators who want to provoke a devaluation. Beijing wants to squelch that trade before it attracts more attention. It is very easy to believe that their concern is as much about maintaining the appearance of control as it is about the actual currency valuation.

Understanding all this is hard because we want there to be a binary choice: i.e., the yuan must go up or must go down. Beijing doesn’t see it that way. They have very long-term goals and don’t mind taking a circuitous path toward achieving them. What they can’t countenance is anything that makes the Chinese public lose faith in the government.

In other words, the exchange rate can do whatever it will so long as the public believes Beijing is either in charge or at least neutral. The authorities intervene when necessary to preserve that perception. Otherwise, they seemingly take a hands-off approach.

The macro traders who think they can provoke Beijing into a major one-off devaluation aren’t likely to get one, in my view. To paraphrase Keynes, Beijing can stay stubborn longer than traders can stay solvent.

The Other Side of the Coin

As I noted above in reference to Donald Trump, FX rates have two sides. If one side goes up, the other must go down. If you believe the yuan will weaken, you also believe the dollar will strengthen, which in fact it has done in recent years.

Bearish yuan sentiment is also bullish dollar sentiment. A month or so ago, when the Federal Reserve told us it foresaw four interest-rate hikes in 2016, many thought this trajectory would be positive for the greenback. They might have been right, too, but now it appears unlikely that we will ever find out. No one expects a Fed move next week, and the odds are getting slimmer that we will see any more rate hikes through the end of 2016. Maybe just another token move this summer? And maybe the data trends can turn around – that is something we all would like to see. But the markets are not expecting more than one or maybe two interest-rate bumps this year.

So something curious has happened. People turned bearish on the yuan because they were bullish on the dollar. Now the prime factor behind the expected dollar strength has changed, but the bearish yuan sentiment is still with us. And dear gods, what will happen when the world goes into another recession and the Federal Reserve starts another round of easing? That scenario would be dollar bearish. Will US politicians stand up and accuse the Federal Reserve of participating in a currency war? Just asking.

Is there some new, different reason to think the RMB is headed down? Maybe. The faulty circuit-breaker scheme behind this month’s Shanghai stock selloff didn’t inspire confidence in Beijing. Whatever Chinese citizens think, it sure looked like a bone-headed move from the outside.

Yet remember what happened. When Shanghai couldn’t stay open for even an hour without tripping the breaker, the powers that be recognized their mistake and backtracked quickly. By their standards, that response was equivalent to jumping into hyperspace. Chinese authorities rarely move so fast.

You can call their reaction panic if you want, but it also shows something else: flexibility. A supposedly hidebound, dogmatic regime turned on a dime when it had to. Would the same have happened in the US? I don’t think so. We would have watched markets crash, convened a blue-ribbon panel to investigate, and then made some tweaks a year or three later.

Admitting mistakes is hard, even for communist governments. That Beijing can do it when necessary suggests that they will not be easily bullied.

I began this issue by comparing Chinese markets to the Monkees. If you never saw their 1960s TV show, it was a shameless attempt to exploit Beatlemania. As a band, the Monkees were strictly made-for-TV.

Yet something unexpected happened. The four young actors turned themselves into musicians. Some of their music was forgettable, but some of it was pretty good, too.

China’s attempts to build modern markets and join the international financial elite can be funny to watch – but won’t always be so. Like the Monkees, China has a chance to actually become what it once only pretended to be.

The Chinese are in the middle of that process right now. Beijing has many Daydream Believers. Bet against them at your peril.

Hollywood (Florida), Cayman Islands, and Surprises

I fly tomorrow to Hollywood, Florida, where I will participate in the conference with some 2000 people, talking about all things ETF. I will be giving the keynote address at the Tuesday lunch, doing interviews, holding meetings, and of course doing the rounds of dinners and gatherings every evening. I expect to learn a lot. If things work out, I will get to spend some time with old friends Dennis Gartman, Mark Faber, Steve Blumenthal, Jeff Gundlach, Jason Hsu and Mark Yusko, plus join in tons of meetings and dinners and make new friends. It will be a very busy three days.

The following week I fly to the Cayman Islands to speak at the Cayman Alternative Investment Summit, one of the biggest hedge fund and alternative investment gatherings outside of the US. They have an impressive lineup of speakers, and I note that this year the celebrity guest speaker is Jay Leno. That should be fun. I just looked through the speaker list and noticed that Pippa Malmgren, who will also be at my SIC conference, is speaking, and it will be fun to catch up with her again. I will be on a panel (moderated by KPMG chief economist Constance Hunter) with old and brilliant friends Nouriel Roubini and Raoul Pal. At least I know that with those two guys there is no need to wear a tie.

It was interesting to go back and listen to the Monkees while I was writing this letter. They were a part of my youth, and they got a lot of radio time. Who can forget “Last Train to Clarksville,” “Daydream Believer,” “I’m a Believer,” “Pleasant Valley Sunday,” or “Stepping Stone?” In doing the odd bit of research here and there, I found out that at their peak in 1967, they outsold the Beatles and Rolling Stone combined – though after their string of hits they fell off the charts faster than subprime mortgages. Leader Davey Jones passed away in 2012, but the remaining three still put together reunion tours every so often, and if they ever get near me again I might just go. They also cranked out their share of forgettable songs, but you nostalgia buffs can groove on their greatest hits here.

Since it’s just us friends talking, I will admit to actually buying a stock a few days ago. It’s a huge regulatory issue for me to mention what stocks I’m buying in this letter, so I won’t. But this was a company and an industry (not energy) I am familiar with and have been following for a while, and their stock has been dropping like a stone. When their physical dividend got to 27%, I called my broker and a few analysts and asked what gives. I heard all sorts of reasons as to why the stock might be going down, but when I look at their free cash flow, which is now about 75% of their total market cap, it looks to me as if they have plenty of coverage on their dividend. This is a company that is not going away. But at the price I bought, even if they cut their dividend in half, which I don’t think is likely to happen, I would still get a 13% yield, which in my considerable experience is pretty juicy.

When I get on the phone with friends, they are talking about all sorts of MLPs with yields in the teens, some of which I wouldn’t touch with a ten-foot pole and others of which I have to admit are quite tempting. Yields that high can cover a lot of sideways movement in the market for a long time. Companies that analysts don’t seem to understand and that are in unloved industries – but still have a dominant business model and a management team that is solid – are starting to show up on my radar screen. I tend not to buy individual stocks but prefer to buy managers. Just a personal preference. But every now and then I make an exception, generally when I see something of compelling value. Right now it looks as though I randomly picked the absolute bottom for the company I bought, but who knows? In another month that yield might be 30% as another slide comes along. Or there could be a dividend cut. But frankly, where I bought it, as long as they ke ep paying me that dividend, I really don’t care.

If the stock works out, I’ll look back and wonder why I didn’t put 10% of my portfolio in it. I am very light on fixed-income and yield plays – I’m actually very happy about that, as there are too many opportunities that give me more potential than the typical fixed-income 3–4% returns – but I could use more of them. If the stock doesn’t pan out, then you’ll hear me say it wasn’t that big a deal. I’m just as human as anyone else. I’ll let you know in a few years whether I was an idiot for not buying more or whether I was an idiot for buying at all.

You have a great week. Mine is going to be Fast and Furious. I am really looking forward to it. There will be lots to learn and some really great conversations.

Your analyst,

John Mauldin

The young

Generation Uphill

The millennials are the brainiest, best-educated generation ever. Yet their elders often stop them from reaching their full potential, argues Robert Guest           

SHEN XIANG LIVES in a shipping crate on a construction site in Shanghai which he shares with at least seven other young workers. He sleeps in a bunk and uses a bucket to wash in. “It’s uncomfortable,” he says. Still, he pays no rent and the walk to work is only a few paces. Mr Shen, who was born in 1989, hails from a village of “mountains, rivers and trees”. He is a migrant worker and the son of two migrants, so he has always been a second-class citizen in his own country.

In China, many public services in cities are reserved for those with a hukou (residence permit). Despite recent reforms, it is still hard for a rural migrant to obtain a big-city hukou. Mr Shen was shut out of government schools in Shanghai even though his parents worked there. Instead he had to make do with a worse one back in his village.

Now he paints hotels. The pay is good—300 yuan ($47) for an 11-hour day—and jobs are more plentiful in Shanghai than back in the countryside. His ambition is “to get married as fast as I can”. But he cannot afford to. There are more young men than young women in China because so many girl babies were aborted in previous decades. So the women today can afford to be picky. Mr Shen had a girlfriend once, but her family demanded that he buy her a house. “I didn’t have enough money, so we broke up,” he recalls. Mr Shen doubts that he will ever be able to buy a flat in Shanghai. In any case, without the right hukou his children would not get subsidised education or health care there. “It’s unfair,” he says.

There are 1.8 billion young people in the world, roughly a quarter of the total population. (This report defines “young” as between about 15 and 30.) All generalisations about such a vast group should be taken with a bucket of salt. What is true of young Chinese may not apply to young Americans or Burundians. But the young do have some things in common: they grew up in the age of smartphones and in the shadow of a global financial disaster. They fret that it is hard to get a good education, a steady job, a home and—eventually—a mate with whom to start a family.

Companies are obsessed with understanding how “millennials” think, the better to recruit them or sell them stuff. Consultants churn out endless reports explaining that they like to share, require constant praise and so forth. Pundits fret that millennials in rich countries never seem to grow out of adolescence, with their constant posting of selfies on social media and their desire for “safe spaces” at university, shielded from discomforting ideas.

This report takes a global view, since 85% of young people live in developing countries, and focuses on practical matters, such as education and jobs. And it will argue that the young are an oppressed minority, held back by their elders. They are unlike other oppressed minorities, of course. Their “oppressors” do not set out to harm them. On the contrary, they often love and nurture them. Many would gladly swap places with them, too.

In some respects the young have never had it so good. They are richer and likely to live longer than any previous generation. On their smartphones they can find all the information in the world. If they are female or gay, in most countries they enjoy freedoms that their predecessors could barely have imagined. They are also brainier than any previous generation. Average scores on intelligence tests have been rising for decades in many countries, thanks to better nutrition and mass education.

Yet much of their talent is being squandered. In most regions they are at least twice as likely as their elders to be unemployed. Over 25% of youngsters in middle-income nations and 15% in rich ones are NEETs: not in education, employment or training. The job market they are entering is more competitive than ever, and in many countries the rules are rigged to favour those who already have a job.

Education has become so expensive that many students rack up heavy debts. Housing has grown costlier, too, especially in the globally connected megacities where the best jobs are. Young people yearn to move to such cities: beside higher pay, they offer excitement and a wide selection of other young people to date or marry. Yet constraints on the supply of housing make that hard.

For both sexes the path to adulthood—from school to work, marriage and children—has become longer and more complicated. Mostly, this is a good thing. Many young people now study until their mid-20s and put off having children until their late 30s. They form families later partly because they want to and partly because it is taking them longer to become established in their careers and feel financially secure. Alas, despite improvements in fertility treatment the biological clock has not been reset to accommodate modern working lives.

Throughout human history, the old have subsidised the young. In rich countries, however, that flow has recently started to reverse. Ronald Lee of the University of California, Berkeley, and Andrew Mason at the University of Hawaii measured how much people earn at different ages in 23 countries, and how much they consume. Within families, intergenerational transfers still flow almost entirely from older to younger. However, in rich countries public spending favours pensions and health care for the old over education for the young. Much of this is paid for by borrowing, and the bill will one day land on the young. In five of 23 countries in Messrs Lee and Mason’s sample (Germany, Austria, Japan, Slovenia and Hungary), the net flow of resources (public plus private) is now heading from young to old, who tend to be richer. As societies age, many more will join them.

Politicians in democracies listen to the people who vote—which young people seldom do. Only 23% of Americans aged 18-34 cast a ballot in the 2014 mid-term elections, compared with 59% of the over-65s. In Britain’s 2015 general election only 43% of the 18-24s but 78% of the over-65s voted. In both countries the party favoured by older voters won a thumping victory. “My generation has a huge interest in political causes but a lack of faith in political parties,” says Aditi Shorewal, the editor of a student paper at King’s College, London. In autocracies the young are even more disillusioned. In one survey, only 10% of Chinese respondents thought that young people’s career prospects depended more on hard work or ability than on family connections.

All countries need to work harder to give the young a fair shot. If they do not, a whole generation’s talents could be wasted. That would not only be immoral; it would also be dangerous. Angry young people sometimes start revolutions, as the despots overthrown in the Arab Spring can attest. 

Up and Down Wall Street

Stocks Are Plummeting; No Fed Rescue in Sight

Further declines in global risk assets are likely needed to elicit a response from policy makers.

By Randall W. Forsyth       

Though Groundhog Day is next month, one could be forgiven for experiencing a sense of déjà vu as stocks continue to tumble, with the Dow Jones Industrial Average down over 500 points midday Wednesday.
The steep reversal in global equity markets, which sent Asia and European markets down over 3% and then the major averages in the U.S. equity market, is unlikely to elicit any response by policy makers—least of all the Federal Reserve, which just last month initiated raising its key interest rate targets.
The Standard & Poor’s 500 was down over 3.5%, hovering just over the September 2014 low of 1814 during the time of the Ebola scare, UBS NYSE floor director Arthur Cashin e-mailed. “Beyond this land there be dragons,” he quipped to his cohort of market mavens who receive his missives.
That’s even with the plunge in energy stocks and high-yield bonds spreading to the banks and other financial stocks. As of mid-session Wednesday, the Financial Select Sector SPDR exchange-traded fund was down 4% on the day and within a hair of qualifying as a bear market at just shy of 20% below its recent highs.
The Energy Select Sector SPDR ETF was off nearly 6% but that did not reflect some truly stunning one-day moves in some oil-related stocks as crude futures plunged over 7% with the soon-to-expire February futures at $26.40 a barrel, the lowest since 2003. ConocoPhillips traded down over 9% while Devon Energy  plummeted nearly 15%. Chevron was off over 7%--even more than IBM, whose earnings report released before the market opening stunk up the joint yet again.
None of the news is really news: the ongoing rout in commodities generally, with oil just being the most prominent; concerns about China’s economy and its currency; generally weaker-than-expected U.S. economic data, including December housing starts released earlier Wednesday. Expectations coming into this earnings season were low and haven’t disappointed. It’s really just more of the same.
Some in the market also are beginning to mutter about U.S. politics adding to the markets’ malaise. A peek at the calendar shows that Inauguration Day is exactly a year away. David Ader, head of government bond strategy at CRT Capital Group, observes that in addition to the familiar litany of economic concerns, “the intensifying anxiety over the outcome of the presidential election. NO market can be comfortable with Trump, Cruz or Sanders and, dare I say this? Clinton is the most mainstream of the lot economically speaking.”
That leaves monetary policy as the ever-present panacea. The best that the markets can expect is that Fed officials’ oft-stated intent to hike rates four times in 2016 is no longer operative, as they used to say in the Nixon White House. The federal funds futures market has all but taken another quarter-point hike off the table in March and lowered the odds for a June move from about even-money at the end of 2015 to about one-in-three odds currently. Indeed, only a single increase is now anticipated by the futures.
As a result, Treasury yields have racheted lower. The two-year note—the maturity most sensitive to Fed moves—is down to 0.81% from 1.095% just before the turn of the year. The benchmark 10-year note is at 1.97%, down from 2.307% ahead of the end of 2015. In other words, the Treasury market has undone a quarter-point Fed hike—even in the face of heavy liquidation by foreign official holders, such as China and oil-exporting countries to prop up their currencies, that pushed U.S. yields up by some 0.20-0.30 percentage points, according to various estimates.
Even in this flight to quality, the Fed can’t do a volte-face so soon after embarking on its rate hikes. In other words, the Greenspan-Bernanke-Yellen put has expired.
Other central banks, such as the Bank of Japan and the European Central Bank, already are all in on quantitative easing. The People’s Bank of China, meanwhile, is juggling contradictory aims: preventing the yuan from falling further, which requires tighter policy, while trying to stimulate the economy and keep the stock market from sliding faster, which takes easier policy. Emerging market central banks from Brazil to South Africa are in policy hell, dealing with simultaneous recessions and inflations as a result of the plunge in commodities and their currencies.
No wonder the markets are in full retreat. They were pushed higher mainly by central banks, which now can do little but watch. For now.

China’s Stock-Market Red Herring

Jeffrey Frankel
. Marketing in China

ROME – With the Shanghai Stock Exchange Composite Index down more than 40% since last June, investors worldwide are watching the decline with growing concern – but not because they are invested in the plummeting market (China’s stocks are overwhelmingly held by Chinese). Rather, the fear is that plunging equity prices mean that China’s economy is going down the tubes. But those seeking compelling clues about China’s economic future should look elsewhere.
Of course, it is true that China’s growth rate has slowed substantially, and there are plenty of reasons to believe that the deceleration is not temporary. But none of those reasons has much to do with the stock market.
This disconnect is apparent in the fact that market prices are higher today than they were in 2014, the year when China surpassed the United States to become the world’s largest economy (in terms of purchasing power parity), a development that spurred bullish expectations. What observers at the time did not seem to recognize was that China’s economy was already slowing.

According to official statistics, the growth rate averaged 10% in 1980-2010, but fell to 7-8% in 2012-2014.
At first, the slowdown actually contributed indirectly to a rise in stock prices, by spurring the People’s Bank of China to begin cutting interest rates in November 2014. But by the spring of 2015, the market’s boom was looking a lot like a credit-fueled bubble. The Shanghai index peaked on June 12, when the China Securities Regulatory Commission tightened margin requirements.
The truth is that China’s economic slowdown should not have surprised anyone. The country’s three-decade run of 10% annual GDP growth was already unprecedented. The question is why no country, not even China, managed to prolong its economic miracle? Some offer broad explanations: countries fall into the middle-income trap or experience a regression to the mean in growth rates. But, in China’s case, a number of specific factors may be at play.
The first factor is diminishing returns to capital, which weakened the growth-enhancing effects of, say, investment in transport infrastructure and residential construction. Another is that urban land prices have been bid up, while the environment’s “carrying capacity” has been exhausted.
Then there are demographic challenges. The working-age population has peaked, and the share of retirement-age population is rising fast – not least because of the country’s 35-year-long one-child policy, which was only recently rescinded.
Moreover, China’s once seemingly inexhaustible surplus of rural labor willing to migrate to urban areas has largely disappeared, causing wages to rise and the country’s competitive advantage in labor-intensive manufacturing to weaken. The economy has shifted from manufacturing toward services, where there is less scope for productivity growth. Moreover, room for catch-up gains with the developed economies in terms of technology, production processes, and management practices is shrinking, undermining productivity growth further – and leaving it up to China to do some innovating of its own.
Against this background, a shift to a trend annual growth rate of 5-7% is natural. But that shift can happen in two ways: a soft landing, in which China continues to grow at the slower-but-sustainable trend rate, or a hard landing, involving a financial crisis and more severe economic recession.
Like Japan after the 1980s or South Korea in 1997-1998, China has depended significantly on investment and debt financing during its high-growth phase, raising the risk that excess capacity could lead to financial crisis as the economy slows. And, indeed, excess capacity is already a serious problem in many sectors.
Still, it is unclear what kind of landing China faces – not least because official statistics may be overstating current GDP growth considerably. With official growth data usually aligning a little too closely with government targets to be credible, skeptics are turning to other, more tangible measures of economic conditions, pointing out that energy consumption, freight railway traffic, and output of industrial products like coal, steel, and cement has slowed sharply.
These statistics could, as many infer, indicate that China’s economy is growing at a rate much lower than the 7% the government claims. But, as Nicholas Lardy persuasively argues, they could also reflect the economy’s shift from heavy manufacturing toward services – a shift that is highly desirable in helping China’s natural transition to the more sustainable trend.
It is still possible, then, that China is on track for a soft landing. But success presupposes less reliance on investment spending and export demand, and more on domestic household consumption, to support growth.
Moreover, China must increase the flexibility of land and labor markets. For example, insecure land rights in the countryside and the hukou (household registration) system in the cities continue to impede labor mobility. More generally, markets’ role in shaping the economy must continue to grow.
State-owned enterprises must be reined in. The health-care, social-security, and tax systems must be reformed and strengthened. And better environmental regulation is crucial.
Chinese leaders and economists already know all of this. They adopted a list of reform objectives covering these areas in 2013. And in the last two years, they have made progress in implementing some of them. But there is still a long way to go, and success is by no means guaranteed. As Shang-Jin Wei, the chief economist of the Asian Development Bank points out, progress on these reforms – not what happens in the stock market – is what will determine the fate of China’s economy.

Gold: The Road to Hell is Paved with Good Intentions

By: John Ing


The Six Year Old Bull Market

There's a whiff of the Thirties in the air. Global markets had their worst start ever. But the market is confusing coincidence with causation. In a déjà vu moment there are concerns that oil's collapse is America's next sub-prime disaster - after all, the big banks have healthy loan and derivative exposure. The other concern is about China's stock market meltdown that after a 150 percent gain, somehow will trigger a global collapse. While pundits cite these factors in the panic, oil and China have been going down for months so the declines are nothing new or surprising.

The problem we believe is part economic. The main factor is that the US economy once thought to be most powerful, is collapsing under the weight of trillions of printed dollars. The market is adjusting to a "new norm" and finally catching up to reality. America's policymakers are grappling with the exit from quantitative easing (QE) and a "return to normal". At home and abroad, investors have lost faith in the markets, and fear that central banks have lost their grip on the economic levers, wasting the seven years not with reform but senseless money printing.

During that period, the bull market was supported by free money and the belief that money had value. However the collapse in oil, markets and currencies are indicators that the problem is not in China, emerging markets nor Europe. It's in the U.S.

Politicization of Policy

Long ago, the world was based on good intentions. Politicians for example, in tackling poverty, raised taxes and closed tax loopholes to finance the programs that were good for us. Or, since guns kill people, gun laws must change and the outcome? More guns it seems. Those extravagant promises of hope, pronounced during every election, attracts votes but few recall that if the promises were so painless, that it would have happened already. So Mr. Rhetoric alone does not satisfy the electorate or investors, The problem of course is that politicians don't have the power to deliver on those high expectations or even make needed changes, and instead, faced with the sober reality of governing, politicize their decisions to combat the falling esteem and diminished expectations. As such, every policy initiative has become more politicized, prompting policy makers to intervene in the economy -after all the polls can't be wrong.

Monetary and fiscal policies have become politicized whilst fundamental reforms like tax reform or in Canada, a single regulator are left aside.

Quantitative easing simply sowed the seeds of a worse financial problem than QE was to fix. Sooner or later investors will learn that this so-called money illusion and ideology can't save the economy from its fundamental problems and that less intervention is needed to solve the very problems they were elected trying to solve.

With the ink barely dry on the historic Paris Climate Accord, the grandiose and inspirational announcements from our politicians saw nearly 200 countries signing on. Few recall that after the Kyoto Accord, US shale technology financed of course by Wall Street's derivative gang allowed America to become an exporter of oil. As new technology replaced the old technology, Paris simply replaced new targets, in place of the old targets. Again our politicians took the easy way out. And sure Paris was a tiny step, but like closing tax loopholes and eliminating waste, it is not so painless.

The first rate increase in almost 10 years is another example of the politicization of monetary policy.

After saving the Eurozone and Wall Street in 2008, with rounds and rounds of quantitative easing and zero interest rates, the consequences of the world central banks' noble intentions are only just emerging against the backdrop of global market losses. Credit spreads have widened, sovereign defaults are on the rise and global markets have become addicted to the stimulus provided by zero rates and quantitative easing.

Good intentions aside, we believe our politicians won't be able to evade the consequences of their politicized decisions. Politicians it seems are heading in different directions. In the Thirties, the failure of politicians resulted in an upsurge of support for the nationalistic right because democracy was seen as failing. And today, our democratic leaders seem to flail in the wind with old ideas. When politicians admit they can't solve our problems and politicize economic policy, they invite the extreme as seen in France, the UK and the United States.

Plenty of problems are in evidence. There are spreading signs that Black Swans are everywhere, a consequence of this politicized era, from Britain going to the polls on Brexit this year, to America's multi-billion presidential election, to China's revamp of its economy, to Europe's
stagflation, to the tide of refugees created by a sinking Middle East. All are signs of shifting tectonic plates in the global economy exacerbated by attempts to shift government led stimulus (QE) to private-sector led growth that only heightens investor risk.

Geopolitical Causation is Running the Other Way

This year we believe we are in the transitional phase of the geopolitical games of chance where rifts are exposed. Oil has dropped 18 percent since the start of the year to 13 year lows as Saudi Arabia racks up $100 billion deficits. OPEC's defacto leader has introduced spending cuts to offset the impact of low oil prices. The 13 nation group while controlling more than a third of the world's oil supplies over-produces in pursuit of a long term strategy to recapture market share. The consequences are disastrous. Today, Brazil the leader of the emerging economies must borrow just to pay interest while its public debt is at the third highest since records began.

Standard & Poor's cut Brazil's sovereign credit rating to junk. Once a country that symbolized human rights and the fifth largest gold producer in the world, South Africa's political uncertainty continues following the dismissal of another finance minister, only four days after President Zuma dumped another one sending the rand to record lows. And in Europe, all are weak under spending pressures and the growing refugee problem. Growth remains a major problem, particularly when so much debt overhangs the EU.

Russia faces the prospect of a recession hit by collapsing oil prices, western sanctions and a sinking ruble. Puerto Rico, a ward of the United States, recently defaulted on debt payments on a debt load of $72 billion but the default has not yet had a ripple effect on Wall Street. As a legacy of 2008, debt keeps piling up proving equally consequential. Geopolitical games have become the new reality.

Lessons From the Arab Spring

The onslaught of Arab Spring brought much rhetoric of a new beginning, but five years later the consequences are only now being realized, with the Arab world worse off than in 2011. The wealthy Arab Gulf states are under pressure and sectarian divisions have deepened between Persian Iran and the Arab states. America sidestepped a geopolitical contest in the Middle East, by siding with Iran which led to the lifting of sanctions amidst a growing sectarian dispute between Iran and Saudi Arabia. The lifting of sanctions though allows Iran to increase oil production sending prices to 13 year lows, hurting even US shale producers. Saudi Arabia is a majority Sunni country and its dilemma is that they bought sectarian peace through generous public spending and welfare payments which are threatened by the collapse in oil prices. Even so, the execution of the highest ranking Shiite cleric reignited the long standing Sunni/Shiite rivalry but the problem is beyond sectarian differences. The rivalry is more about the domination of the Middle East, its trade routes and oil. For now, at least further pressure on oil prices is expected as Saudis overproduce to put pressure on Iran. However, the power vacuum created by Washington's retreat exacerbated the rivalry, drawing in the world powers into a new and dangerous phase. Unfortunately, America having recently surrendered a 2,400 kilometer air corridor from the Baltic Sea to the Black Sea, to the Russians, are only just spectators here.

America's politicians too must face the consequences of their good intentions and rhetoric past.

Moscow, Tehran, Beijing and Riyadh has forced investors to face deteriorating choices. Needed of course is financial reform, long term investment and structural transformation but the US economy has become so addicted to credit bubbles that it has become debt-ridden, rooted not in economics, but in politics and ideology. What ballasts the US monetary system is debt, and it is still growing. Debt to GDP is 100 percent and the system is so debt-clogged that the 0.25 percent rate increase caused a major correction. The Americans have become addicted to zero interest rates and quantitative easing which pushed up asset prices artificially, inflated valuations and depressed growth. And now the markets fear a return to normal which will cause even bigger defaults than 2008. Today, mammoth oil and gas defaults threaten Wall Street's banks and private equity players in a repeat of 2008, aggravated again by derivatives. Unless these problems are addressed, geopolitical risk premiums can only grow. Gold will be a good thing to have.

Great Circuit Breaker of China

There is much concern over China's large cap CSI 300 index sell-off, which triggered circuit breakers for the second time in a week sending financial shock waves around the world.

Overlooked was that Chinese stocks are trading at 60 times forward earnings and after a 150 percent move fueled by leveraged retail speculators, everyone headed for the exits. China's capital markets are thin and nascent lacking even the equivalent US Plunge Protection Team. 

Gambling investors simply discovered that trees don't grow to the sky. Noteworthy is that the stock markets play a relatively small role in China's GDP and are not an indicator of China's health. Little Chinese wealth is actually stored in shares, particularly when compared to property and unlike western wealth management, they do not have RRSPs or 401 Ks.

Noteworthy is that China's stock market is still higher than last summer's low. Nonetheless though, the sell-off in stocks spurred demand for a haven and gold stocks soared as equities swooned. What will happen when the Chinese stock market rallies and North American markets continue to woon. Who else can they blame?

Although China's slowdown has been two years in the making, it will still grow at close to 7 percent. We believe concerns about the slowdown are much exaggerated. First, Alibaba's "Single's Day" sales reached $14.3 billion, smashing records and an indication of a vibrant and growing middle class.

Auto sales were also at a record. Second, China's infrastructure rollout is just beginning with 30 new regional airports being built and $120 billion of railway lines linking major centres.

Indeed, China's Silk Road initiative is a "Made in China" Marshall Plan. To be sure, what is slowing down is the ridiculous boom time expansion of expensive western capacity that was supposed to satisfy Chinese commodity demand growing to the sky. Much of that capacity was to be based where? The West.

Third, China is the biggest beneficiary of the collapse in commodity prices, receiving a bonus windfall.

Fourth, China has shifted more to a domestic demand driven economy and less from an investment and manufacturing model. America's economy is geared more towards debt-fueled consumption with the consumer accounting for almost 70 percent of economic activity. Ironically what the United States desperately needs, is more investment and less consumption. On the other hand, China's growth hinges on all four drivers and that transition is confusing to the West. The West forgets that in less than three decades, China has grown from an impoverished agrarian country into a manufacturing powerhouse largely on infrastructure growth becoming one of the major superpowers in the world. That turnaround has come while its population exploded to 1.4 billion and changes were needed to lift the living standards of those people. Of course, debts have piled up but those debts are largely owed to the government, not unlike the United States, where the Federal Reserve's balance sheet was used to finance America's growth over the past seven years.

Furthermore, President Xi Jinping's policies and intentions are a conservative effort to eliminate self-serving corruption and reduce the huge bureaucracy - a supply-side approach. Here, there seems to be a true effort combining private and public works projects. Finally, devaluation jitters are intensifying. The renminbi sank eight percent to its lowest level since 2010, aiding the world's biggest exporter. Although, China spent more than $100 billion in the summer to stabilize its currency, the lower renminbi will help out exporters who were badly hurt when China's currency, pegged to the dollar jumped 60 percent as the superstrong greenback making exports particularly expensive with neighbouring "Asian Tigers", South Korea, Singapore and Taiwan. Nonetheless, the renminbis' sharp decline has caused angst among investors because the "stealth" competitive devaluation joins Switzerland, Brazil, Mexico, Sweden and soon Saudi Arabia. Of equal concern is what China does with its capital. Last year they ran down their trillion dollar foreign exchange reserves, selling US Treasuries. China still has $3.4 trillion of foreign exchange, but financing America's profligacy by buying Treasuries has become passé.

Gold - The Antidote To Our Problems

Despite dropping 10 percent in US dollar terms last year, gold denominated in ten other currencies (eg ruble, SA rand, Brazilian real) have increased. In Canada and Australia, gold was up. In Russia, gold is at a record. Since 2010, central banks have become net buyers of gold, close to a fifty year high. These central banks also have repatriated their gold reserves from Fed and UK bank vaults.

Historically and today, gold is still a currency. Russian and Chinese central banks are buying physical gold as a hedge and diversification move against a dollar debasement. The world's largest bank ICBC recently bought a 1,500 tonnes storage facility in London to store Chinese gold. Do the banks know something we don't know?

In the past few years, the main reason for gold's drop was a superstrong dollar which acted as a refuge for the trillions created by a global easing monetary policy. However, gold is an alternative investment for central bankers and a hedge in a time of competitive devaluation. We believe faced with the consequences of rounds and rounds of quantitative easing, the avalanche of dollars will push its value down this year. On the other hand, Chinese gold demand approaching 50 tonnes a month has taken up nearly 85 percent of Western gold production last year. We believe the Chinese are following the age old prescription of purchasing tonnes of gold to protect themselves against a depreciating renminbi. History shows that gold always retains its value. And with the world's assets largely denominated in a fiat paper currency, our view is that the US dollar's days of acting as haven are limited by ironically, the upswing in interest rates and the growing concern among central banks of its value, particularly during an unpredictable election year.

In November, the Americans may elect another inflationist Democrat socialist or, the Donald? That will be good for gold, but bad for the dollar. Consequently, we believe that gold bottomed last year and expect a run to $1,170 an ounce in the near term but importantly, see a resumption of the bull market which will see gold topping $2,000 per ounce.


We also believe that gold equities have bottomed in correlation with the bottom bullion reached late last year. For much of last year, gold stocks underperformed the gold price but we expect this to change this year. Of interest is that gold stocks have outperformed bullion at this early start of the year, helped by the gold ETFs which became buyers again. And the fundamentals of the surviving gold miners have improved as the CEOs went "back to basics", reducing costs, selling assets and focusing on cash flow per share. Investors meantime focused on the liquid big cap stocks particularly those producers with low cash cost which provided margin insulation.

However, we also believe the market will focus this year on the growth pipelines of many producers. We believe that the markets will reward those producers with the highest growth rates, cheap in situ reserves and best quality assets with attractive multiples. Barrick and Agnico Eagle fall into that category. Among the mid-cap producers badly mauled B2Gold and Eldorado should be looked at down here. We also believe that some of the smaller gold producers and developments situations like McEwen Mining should be looked at because they are attractively priced in this nascent bull market. We note that the merger of Kirkland Lake Gold and St. Andrews will result in a medium sized producer, with a large Timmins footprint giving them long term development potential to be financed by Kirkland Lake's cash cow Macassa.

Execution risk was a big problem in the last couple of years, but now the swamp has drained. We believe the massive share dilution, destruction of Alamos Gold's balance sheet and healthy price tag are behind Alamos Gold trading at a lower price than when they merged with fellow producer AuRico. We would avoid the shares - one and one did not make two here. Not so lucky was Rubicon Minerals which slashed its gold resources by 90 percent and this was not even a fraud like Bre-X. Ironically, it was a badly flawed resource estimate and management's incompetence which led to this potential bankruptcy. Rubicon's collapse has cost metal streamer Royal Gold about $75 million and CPP was dinged for $50 million. The lesson here was not that $800 million plus was spent but was built without a feasibility study like San Gold and Colossus Minerals in Brazil which went into production prematurely. As a sidebar, we also believe that the metal streamers, the default bankers of the mining industry, in their chase for ounces are running a substantial risk. The streamers' reply is that they are diversified but their portfolios are based on the premise that most of their investments will be in production. Impossible. Moreover, streamers also take the miners' upside away and we believe the current enthusiasm will be tested this year.

Finally, we also like development situations, such as Lundin Gold, which just announced a fiscal arrangement with the Ecuadorian government for the rich undeveloped gold deposit, Fruta Del Norte which was acquired from Kinross for $240 million. The terms are liveable since Lundin will get its money back first and the royalty will be tied to the future gold price.

Ecuador has opened its mining and we believe Lundin Gold has attractive upside here.


B2Gold Corp.

B2Gold shares have been under pressure due to missing guidance and the rumours of a stock issue which could flood the market with shares. We do not expect B2Gold to issue shares down here since the cash flow from El Limon, La Libertad, Masbate and newly opened Otjikoto in Nambia are sufficient to build-out Fekola in Mali, the next producer. B2Gold has grown through astute acquisitions and execution. B2Gold produced almost 500,000 ounces and 131,000 ounces in the final quarter was on the low side of guidance due in part to permitting delays at La Libertad in Nicaragua. Despite the miss, cash costs were down reflecting the quality of assets. Otjikoto will produce a minimum 160,000 ounces in its first year of production at a cash cost of only $440 an ounce.

Otijikoto was commissioned in September 2014, ahead of schedule and under budget.

The Fekola's mine's construction has been funded by cash flow and a line of credit but will require a top up before completion. The balance sheet is manageable since B2Gold has only drawn $150 million of the $350 million credit facility. Fekola will be Africa's third largest gold producer with the final feasibility study filed in June last year. Fekola will be an open pit mine, with a mine production life of almost thirteen years and average over this period at 276,000 ounces per year at a cash cost of $550 an ounce (350,000 ounces per year for the first seven years). Access roads, airstrip, and construction of the camp pad is underway. Gold production is scheduled for the end of the fourth quarter 2017 at a cost of $400 million. B2Gold has $259 million of convertible debentures due September 2018. We like B2Gold down here, particularly on the current pullback.

Centamin PLC.

Egyptian based Centamin surprised the Street producing 440,000 ounces from open pit Sukari which began production in 2010. Centamin's all-in costs are under $950 an ounce and output in the latest quarter was up 12 percent. Guidance this year is for an increase to 470,000 ounces at an AISC at $900 an ounce. Centamin has $213 million in cash and no debt. Centamin also has advanced exploration programs in Ethiopia, Ivory Coast and Burkina Faso, but the flagship Sukari is a cash generator. Centamin is also a large employer and the largest gold mine in Egypt. The stock is cheap and attractive down here.

Centerra Gold Inc.

Centerra exceeded its guidance producing 536,000 ounces, with most coming from the Kumtor mine located in the Kyrgyz Republic. At Kumtor, gold output this year is expected to be flat, at an all-in cost shy of $1,000 an ounce. Centerra again plans to spend $11 million on exploration, advancing the Oksut project in Turkey. Centerra is in need of diversification of its assets because of the ongoing battle with the Kyrgyz government over ownership. Capex for the year is extimated at $269 million including $85 million of sustaining capital. President and CEO Ian Atkinson retired and Scott Perry was elected CEO. At current levels, Centerra shares are cheap.

Detour Gold Corp

Detour produced a solid 506,000 ounces at an estimated AISC of $1,050 an ounce helped by the drop in the Canadian dollar as well as the decline in energy prices. A new "life of mine" update is expected soon to include plans for Block A, which has a slightly higher grade. Detour is a low grade open pit operation in northern Ontario that is leveraged to the gold price. At current levels the company is losing money and needs to boost throughput. Detour has $160 million of cash and an undrawn $85 million line, sufficient to finance capex plans. From an exploration point of view, only 20 percent of the Detour Lake property has been explored, so there is a lot of blue sky here. Detour currently has 5 rigs turning as part of a 40,000 metre program. Detour is a hold here.

Eldorado Gold Corp.

Notwithstanding spending $700 million in Greece since 1982, the company has suspended construction at Skouries because the leftist government has blocked the issuance of permits. Eldorado has been in a protracted fight after the energy minister revoked its permit. Eldorado responded by halting $1 billion of work and plans to halt work at Olympias costing another 500 jobs should they not receive a permit by March. The suspension has hurt Eldorado's share price as the Greek assets represent over a third of net asset value.We believe the market has overreacted and like the shares here. Eldorado is the largest foreign investor in Greece building two gold mines together with operating short-life Stratoni mine. Eldorado has almost $400 million of cash and a credit facility of $375 million. While Greece was to be a major part of Eldorado's future, the Company has solid legs in Turkey and China. Buy.

Goldcorp Inc

Goldcorp's newly minted CEO, David Garofalo, will have his hands full when he replaces Chuck Jeannes in April. Start-up Eleonore mine in Quebec and Cerro Negro in Argentina are still suffering teething problems. The recently announced joint venture with Teck to combine El Morro and Relinco in Chile will require big bucks and there are plans to optimize flagship Penasquito in Mexico. In Canada, its Ontario strategy needs fixing. Mr. Peter Thomas George, P. Geo, a Qualified Person (QP), recently admitted to unprofessional conduct in producing a substandard technical report for Barkerville Gold Mine and early Rubicon reports. He also authored the report for the Cochenour deposit. Cochenour has 12 rigs turning but Goldcorp's $1.5 billion acquisition (Gold Eagle) of Cochenour may be problematic as the resource might be lower than anticipated. The Association of Professional Engineer and Geoscientists of British Columbia sanctioned Mr. George a paltry $15,000 and $20,000 in costs. We trust newly arrived Garofalo will scrutinize Cochenour more closely. Exploration drilling in the third quarter hinted of possible changes from original interpretation. Cochenour is supposed to be processed at Red Lake where flagship Campbell is winding down.

In fact, he should order another review at Borden, about 160 kilometre from Goldcorp's Porcupine which was purchased for $500 million last year to provide feed to Porcupine and also a key part of Goldcorp's Ontario Strategy. Goldcorp announced closure of the underground 100 year old Dome mine, part of the Porcupine Gold Mine complex at Timmins. It appears that there are problems here, maybe continuity or the model? Garofalo's task is to optimize Goldcorp's existing assets, salvage something from $2 billion of acquisitions, and make their development assets work. We believe there are further shoes to drop and prefer to sit on the sidelines.

IAMGold Corp.

Iamgold has lowered its guidance and still has not yet replaced reserves. The company is harvesting Sadiola in Mali, Rosebel in Suriname, and Essakane in Burkina Faso which has a ten year life. Iamgold has a strong balance sheet of almost $800 million in cash and bullion, against some $600 million of debt due 2020. Iamgold sold Niobec and has not been able to replace the cash cow. A revised mine plan is planned for problem prone Westwood shortly which was shutdown because of lack continuity. Westwood was brought into production in July 2014 but operations were shutdown due to ground conditions as well as operating problems. Iamgold has a modest joint venture at Monster Lake in Quebec, near Westwood but there seems nothing on the horizon of interest. Iamgold is still a harvest situation. Sell.

McEwen Mining Inc.

McEwen reported record production this year of 154,000 gold equivalent ounces with a major contribution from the El Gallo mine in Mexico, which produced at an all-in costs(gold equivalent) of $1,100 an ounce. Cash flow in the quarter was $8.5 million and McEwen sits with almost $36 million of cash and equivalents plus no debt. McEwen's 49 percent owned San Jose mine in Argentina, remains on target and the turnaround in political climate in Argentina has made San Jose interesting again. McEwen also announced a positive feasibility study at the Gold Bar project in Nevada which calls for a capital expenditure of $60 million and an internal rate of return of 20 percent with annual gold production of 65,000 ounces a year. Permitting is advanced and McEwen has hired Colin Southerland as president who has strong operating experience, most recently in Indonesia. McEwen Mining has an attractive pipeline including El Gallo II development and the Los Azules in Argentina as well as Gold Bar. That pipeline, a strong balance sheet and Rob McEwen owning 25 percent of the company, makes the shares attractive down here.

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  Rating: 5 - Strong Buy 4 - Buy 3 - Hold 2 - Sell 1 -Strong Sell
Company NameTrading Symbol*ExchangeDisclosure codeRating
Barrick Gold Corp.ABXT15
B2 GoldBTOT15
Disclosure Key: 1=The Analyst, Associate or member of their household owns the securities of the subject issuer. 2=Maison Placements Canada Inc. and/or affiliated companies beneficially own more than 1% of any class of common equity of the issuers. 3=<Employee name> who is an officer or director of Maison Placements Canada Inc. or it's affiliated companies serves as a director or advisory Board Member of the issuer. 4=In the previous 12 months a Maison Analyst received compensation from the subject company. 5=Maison Placements Canada Inc. has managed co-managed or participated in an offering of securities by the issuer in the past 12 months. 6=Maison Placements Canada Inc. has received compensation for investment banking and related services from the issuer in the past 12 months. 7=Maison is making a market in an equity or equity related security of the subject issuer. 8=The analyst has recently paid a visit to review the material operations of the issuer. 9=The analyst has received payment or reimbursement from the issuer regarding a recent visit. T-Toronto; V-TSX Venture; NQ-NASDAQ; NY-New York Stock Exchange