I'm a banking bear

Over on Motley Fool I was asked why I rated Citigroup, a banking stock that is paying a 4.2% dividend and has a P/E of 11.39 as under perform and I thought it a question exceptionally worthy of an answer.

I do not usually rate under perform for a stock paying a good dividend and having a low P/E, however, I do not believe any financial institution will ride out the subprime fallout very well and I think the consequences of the sub prime lending market will be felt for years. These mortgages have been repackaged and sold and repackaged and sold again. They are hiding everywhere in financial institutions and investors would be very hard pressed to figure out any individual institution's exposure to risk.


I think there will be more than one wave of people in trouble with their sub prime mortgages, estimated to be at about 30% of mortgages. First wave is those that are not meeting interest payments now. Their mortgages are essentially increasing every month as unpaid interest is added onto principal.

There are lots of people who have bought on plans that offered lower interest rates the first 1, 2 or 3 years. These people are at risk as their interest rates readjust.

There are people who were barely able to make their payments and may be increasing credit card debt every month right now just due to the increase in the price of gas alone, and so many other costs have gone up. Expenses are increasing faster than wages and they lack any buffer zone in their income.

There are people who have been living off equity, borrowing more as their equity increases. If they've put the money into other investments they'll probably be ok. If they've been doing this to pay off their credit card debt that gets out of control every 2-3 years, well, obviously they already have money management problems and this is going to be big trouble for them.

Many have variable mortgage rates and coming into the market at a low rate and then finding the rate increases is an enormous negative leverage for the household budget. I worked out that each $100,000 of mortgage costs $474.21 per month at 3% for a 25 year mortgage. It costs $527.84 at 4%, or an increase of $53.63/month per $100k of mortgage, and that is an 11.3% increase in mortgage payment. I don't know about you, but that eats up 4.5 years of wage increases for me.

I do not believe that any banking institution will ride this out without taking some pain, as will the shareholders of banking stocks.

I would also like to point out what I believe to be a difference between Canadians and American because of public policy. In Canada you can not deduct mortgage interest from your taxes and if you buy a home with less than 25% down you must pay up to 2.5% mortgage insurance.

I believe that you are ultimately better off by paying off debt even if you get a tax exemption on interest paid, but I think there is a perception of getting something for nothing, or getting more if you have more debt, almost stick to the government, taxes are so ultimately evil and I figured out how to pay less. That's probably an exaggeration, but ultimately this policy that allows you to deduct interest has lead to a higher acceptance of debt and even a strong shift towards public perception that a level of debt is ok and perhaps even a level of debt relative to assets is wise... (Ekkk!!!!...)

Canadians are more motivated to pay off debt as there is no perceived benefit from holding debt and they are also much more motivated to try and have a larger down payment. That isn't to say they manage the 25% down, but what will typically happen is they might come up with say 15%-20% down, find another 5-10% through short term debt and finance their first home with a highly aggressive debt repayment plan for the first 5 years or so as they work to pay back that 5-10% in a short term. If they can only come up with 10% down they just fork out that 2.5% insurance because they don't have hope of paying back that short term debt in a reasonable time line. It is difficult to get a subprime mortgage with Canadian law. You have to have 5% down and have to pay that 2.5% insurance.

I don't believe the differences in behaviour is universal, no people or countries are monolithic in all things and I didn't say this is a universal thing, but I do believe that if you look at the facts you would find a greater percentage of Americans borrowing against their equity than Canadians, and this is one of the ways that public policy affects behaviour to the detriment of the economy as a whole.


And even another point, the policy of allowing interest to be deducted has leveraged an ever higher level of hyperinflation in the housing market, but that's another topic.

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Yamana, Northern Orion, and Meridian Gold Merger

Northern Orion first got my attention last fall when it was trading at about $4 Canadian at the beginning of October 2006, and given its under valuation, the upward march in October made sense. Then it gradually declined, again touching just under the $4 mark at the beginning of January.

It was during that descent that I started to contrast how it was being valued relatively in the market to ensure my perspective was reasonable and because of the joint ownership of the Alumbrera mine, Goldcorp was the most logical company to contrast relative valuations. The result was How I discovered the Gold Bubble and I came to the conclusion that Northern OrionLoading... was a buy to $7 based on its property holdings.

Wednesday’s joint news release announces a proposal to merger between Yamana Gold, and Northern OrionLoading... with an offer for Meridian Gold to be a part of the deal. The effective price for Northern OrionLoading... is $7.07 per share, a 21.3% premium over the day’s closing price, the same valuation that I came up with for Northern OrionLoading... without development of the Auga Rica property.

Northern Orion also has two types of warrants. The regular warrant holders closed at $4/share on Wednesday, so with an exercise price of $2, they have a 27% premium on the close, and still have until May 29, 2008 to exercise their warrants. The A warrants were not “in the money” warrants. They are exercisable until February 17, 2010. If Northern Orion managed to get their Auga Rica property developed in time for the A warrants, the roughly 600% growth in production meant that those out of the money warrants had a potentially very nice risk-reward ratio. The A warrants transfer to buy 0.543 of a Yamana share for $6. It means that Yamana’s share value must increase to $14.42, or $1.40 over the $13.02 close, in order for the A warrants to be in the money at their $1.83 price. Without this offer Northern Orion’s share price would have to increase $2 to $7.83 for the A warrants to be in the money. Relatively speaking, before the deal Northern Orion’s shares had to increase 34% to break even and at the time of the press release Yamana’s shares have to increase by 11% to break even.

But, that was before today’s Yamana’s share price declined. With the decline to $11.83 the take-over price works out to $6.42 for Northern Orion, and for the A warrants the Yamana share price needs to increase 23% to $14.54 to be in the money from today’s $1.90 close.

Before any merger fully diluted Yamana Gold has 381.9 million shares. The merge adds 309.4 million shares for shares and if all Northern Orion warrants and options were exercised, another 37.5 million. A real plus for Meridan Gold is they state they’ve only had 36% stock dilution compared to an average of 417% among their peers since 2000. There appears to be only an extra 820,830 options, so very little dilution. If all options were exercised there would be an additional 1.8 million shares, for a total of 730.6 million shares. Going with Wednesday’s close of $13.02, that would give a fully diluted market cap of $9.5 billion, which has declined to $8.6 billion with today’s price decline.

Production

So, putting together the total of the three company’s production, and you have:

Northern Orion

• Alumbrera, Argentina, about 50 million pounds of copper, 75,000 oz gold

Northern Orion can expect about $160 million of gross revenue, Q1 gross sales were $34.8 million. The royalty that kicked last year is costing 96c/lb of copper for Q1.

Meridian Gold

• Rossi/Storm JV, Nevada, 25,000 oz gold for 2007, 30-40,000 oz for 2008
• El Penon, Chili, 230,000 oz gold, 6 million oz silver
• Minera Florida, Chili, 70,000 oz gold
• Zinc production, 8 million pounds, my estimate from Q1 financial report

Meridian Gold can expect about $300 million gross revenue, Q1 gross sales were $66.4 million.
Yamana

• 600,000 oz gold, 140 million pounds of copper.

Yamana can expect about $840 million gross revenue, Q1’s gross were $145.1 million.
Combined production is about 1 million ounces gold, 6 million ounces silver, 8 million pounds zinc and 190 million pounds of copper. At $650/oz for gold, $12.50/oz for silver, $1.50/lb for zinc and $3.20/lb for copper it gives about $1.3 billion in gross sales without hedges.
Q1 earnings were $27.4 million for Yamana, $9.5 million for Northern Orion, and $18.9 million for Meridian Gold, or $55.8 million.
Quality of Reserves
Grade quality of reserves and resources must also be considered.
Yamana
At December 2006 Yamana had 6.9 million ounces of gold at 0.49 g/ton, or metal values of $10/ton. Additionally there is 2.3 billion pounds of copper at 0.35% or about $25/ton. As some of the copper metal values overlap with the gold, weighted average metal values of copper and gold combined work out to $28/ton. The 13.7 million ounce of gold and 2.8 billion pounds of copper in the mineral resource has smaller average metal values, about $23/ton.
If you could master 100% recovery, at these grades you need to mine over 63 tonnes of ore to produce a single ounce of gold with 0.49 g/ton. Chances are they have higher grade veins to mine first, but the sheer magnitude of the amount of ore per ounce of gold suggests high production costs, or grossly increasing production costs as the grade mined declines.
To put it into perspective, the Chapada property has both the copper and gold and its metal values work out to $37/ton in the proven reserves and $30/ton in the probable reserves, essentially a 20% decline in metal values as the mine life proceeds and they move from mining the proven reserves to the probable reserves. At 0.34 g/ton 92 tonnes of ore must be mined for an ounce of gold. Take the grade down to the 0.26 g/ton and you need 120 tonnes of ore. Compounding this problem is that recovery rates also tend to decline as the grade declines, so where you might have had 90% recovery, you now have 80 or 85% recovery, the 92 tonnes required becomes 102 tonnes required at 90% recovery and the 120 tonnes required becomes 142 tonnes at 85% recovery.
You can take copper production and take those dollars and apply them to gold production and give the appearance of low cost gold production, but what you’ve essentially done is allow copper production to trade at gold multiples. With Q1/07 dilute earnings of 7c/share multiplied forward by 4 quarters you get 28c/share. That gives a P/E of 46, so copper sales are trading at a P/E multiple of 46.
Looking further, for Q1 the Chapada mine produced 38,954 oz gold and 27.5 million pounds of copper. That is about 32% of the gold production. Chapada was responsible for 60.6% of the net revenue, which leveraged to 87.4% of the operating earnings. That detail screams that the other mines are not making much money. For Q1 the grade mined at Chapada was 0.57 g/ton gold and 0.47% copper, the metal values per tonne mined were $45/ton, way more than the $37/ton metal values for the remainder of the proven reserves, and the $30/ton of the probable reserves.
Northern Orion
Alumbrera has a life of mine until 2016 and has 0.45% copper, 0.014% molybdenum and 0.47g/ton of gold for metal values of about $51/ton. Alumbrera has a 20% royalty that kicked in last year.
Agua Rica has reserves of 0.50% copper, 0.033% molybdenum and 0.23g/ton gold for metal values of about $61/ton. The Agua reserve has 8 billion pounds contained copper, 531 million pounds molybdenum and 5.4 million ounces of gold.
Meridian Gold
Meridian’s El Penon is stellar, 6.6 g/ton of gold and 275 g/ton of silver in the proven and probable reserves. At $640/oz for gold and $12/oz for silver, that’s a very nice $242/ton in metal values.
Minera Florida has 1.5% zinc, 27 g/ton silver and 5.3 g/ton gold for $169/ton metal values.
Rossi has a resource grade of 15.4 g/ton of gold for $317/ton, but the deposit is very small.
Esquel is has a stellar grade of 23g/ton of silver and 15g/ton of gold for $317/ton.
Of the three, Meridian Gold has the smallest reserve/resource contribution, but it has more profitable grades, even for the more costly underground mining.
The Growth Profile
Checking out their presentation, the two-year plan is to move from 1 million ounces of production this year to 1.5 million ounce by 2009, or a 50% increase in gold production. Say gold is $650/oz, that’s an extra $325 million/year of gross revenue. A move from 1 million ounces to 1.5 million ounces would only increase the gross revenue by about 25% as about half the revenue is from the zinc, copper and silver. There may be plans to increase production of these metals, but that information was not included in their presentation.
The increased production plan does not include developing Agua Rica, or Esquel. Agua Rica has a feasibility study to produce 365 million pounds of copper, 125,000 oz of gold and 16 million pounds of molybdenum. Say copper was $2/lb and molybdenum was $15/lb and gold $700/oz, that would give $1 billion of gross revenue. There would be no outrageous 96c/lb royalty on this production. There could also be the option of partnering with Alumbrera for some other kind of production arrangements as they are close together.
Conclusion
Just because you label a company a gold producer or a base metal producer is not justification to accept different valuations for producing an identical product, such as copper, silver and zinc and for Yamana the market is grossly overvaluing production from producing these metals in comparison to if they’d been produced by say, Quadra.
Also, the market tends to fail to adjust valuation for reserves based on the quality of the reserves. The low metal values per ton for Yamana suggest that the reserves should be valued at a significant discount when you consider that the mining costs per ton tend to be fairly fixed costs. When grades are $50/ton, $10 processing per ton is 20%. At $25/ton it is 40%.
The gold grades are low and the actual production costs without metals credits are high. When Chapada’s costs are fairly allocated between copper and gold you get 66c/lb production costs for copper and $187/oz for gold.
Yamana is sufficiently overvalued that the “premium” offered to Northern Orionand Meridian is completely fiat.
Do your own due diligence, these are strictly my opinions. For the record, I owned Northern Orion until I realized it could very well be taken over by some bubble-valued gold producer.

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Bingham Canyon Mine – The World’s Largest Copper Mine

Mining has a rich history and the Bingham Canyon mine has one of the richest histories. Operating since 1906, it is the world’s first open pit mining operation and it showed the world how to mine low-grade minerals profitably.

In 1906 there was a 9000 ft mountain. The mine is now ¾ of a mile deep.

In the late 1800s a man named Daniel Jackling first got the idea that perhaps copper could be mined from the surface if the operation was big enough. Old time miners in the region thought he was crazy to even consider trying to mine such a low grade, which was a mere 2% or about 38 lbs/ton. Today that grade, about $120/ton at today’s prices, would be considered very good by open pit copper mining standards. The original goal was to mine 2000 tons per day, which a quick calculation suggests about a 25 million pound per year when operations started in 1906. It wasn’t long before the Bingham Canyon mine was the only mining operation in the region.

In 2006 the grade mined was 0.63% copper, 0.057% molybdenum, with 0.49 g/ton gold and 3.5 g/ton silver. At today’s prices that’s $90/ton metal values. In 2006 Bingham mined concentrates that contained about 580 million pounds of copper, 37 million pounds of molybdenum, 523,000 oz gold, and 4.2 million oz silver, about 17% US copper production. The smelter was shut for 63 days so only about 90% of the concentrate was refined.

Bingham Canyon mine claims to be the world’s biggest mine, as does Escondida in Chili. Who’s telling the truth? Escondida currently has the largest production in the world, about 2.8 billion pounds per year, 8.1% of the world’s copper production, and its production is more than 100 times Bingham 1906 initial production. Started in 1990 at 6-700 million pounds per year, Escondida has not produced the most copper in the world, that title belongs to Bingham Canyon.

To put into perspective how much mining has happened at Bingham Canyon over the last 100 years when Daniel Jackling first built his mine there was a 9000 ft high mountain and now there is a hole ¾ of a mile deep and 2.5 miles across the top, 500 miles of roads in the pit and it has produced over 17 billion pounds of copper.

Bingham Canyon mine uses some of the most equipment today. The shovel weighs 2.5 million pounds and pick up 98 tons with a single scoop. The trucks carry between 255 and 350 tons of rock.

The trucks and shovel look small until you look at the tires.

The mine has been highly profitable and been described as “the richest hole on the Earth.” It is operated by Kenncott Utah Copper, which is owned by Rio Tinto. Of the $7.4 billion in profits that Rio Tinto had in 2006, about $1.8 billion came from Kenncott Utah Copper.

The life of the mine is currently projected until 2017 with reserves of 0.54% copper, 0.043% molybdenum, 0.32 g/ton gold and 2.59 g/ton silver, or about 18% less metal values per ton mined in 2006. The declining reserve grades does mean that profitability will decline and Bingham Canyon Mine’s centennial year (2006) may also go down as its most profitable year in its history. Future considerations after the open pit operations come to an end is to consider the economics of under ground mining for metal resource that can not be reached through open pit operations.

To evaluate if Bingham Canyon mine is a good investment, investors need to check out Rio Tinto. It trades in the ADR under the ticker RTP.

Rio Tinto has a market cap of $113 billion. Sales in 2006 were $25.4 billion and earnings were $7.338 billion, or about 6.5% of the market cap. Reinvestment for capital projects in 2006 was $3.9 billion, with $1.1 billion of that financed through increasing debt.

The copper group made 49% of the 2006 earnings, with Bingham and a 30% ownership of Escondida being the two largest contributors to the copper revenues. Escondida has a life-of-mine that should go 25-30 years. Depending on the grade an economic feasibility to switching to under ground mining, Bingham’s revenue stream may need to be replaced in the next decade and Rio Tinto has interests in 4 world-class undeveloped projects in the works to start in 4-10 years that will meet that objective:

• 100% ownership of La Gradja in Peru.
• 9.95% increasing to 19.9% interest in Oyu Tolgoi (Turquoise Hill), in Mongolia.
• 19.8% interest in Pepple in Alaska.
• 55% interest of Resolution Copper, 2 km deep.

Rio Tinto has a diverse holding of properties, diamonds, alumina, aluminum, coal, iron, uranium, and titanium in many countries in the world. Reports are in US currency. To quote from Rio Tinto’s 2007 outlook published in February:

Since January 2003 strong appreciation against the US dollar has been seen in the Brazilian Real (61%), Australian dollar (37%) and the Canadian dollar (32%). This in turn has increased mining production costs as denominated in US currency.

US currency has declined further since that report, further putting upward pressure on production costs as they are reported in US currency. This puts downward pressure on earnings.

Furthermore, commodity prices were very strong in 2006, and with strong prices there is more risk for price declines. With a company as big as Rio Tinto mines are constantly coming to the end of their mine life, so there is a constant need for replacement projects to maintain operations, never mind increasing operations. Rio Tinto’s $3.9 billion in capital projects demonstrates that they are focused on ensuring a strong production profile.

A problem for Rio Tinto that a small company does not have is that it is so big, any meaningful production growth can be offset by declines in price because relative meaningful increases in production relative to their size affects the supply to the point it can push prices down. For example increasing Rio Tinto’s copper production by 10%, say around 200 million pounds, and that would increase world supply by about 0.5%. A small company’s existing production might only be 100 million pounds, so that increase would triple their production, or increase by 200%. Rio Tinto’s relative increased production is so small, so it gives little protection from downward price risks compared to the small company. The downward prices risks would be enormous if Rio Tinto tried to double their production.

There is no question that Rio Tinto is an amazing company with exceptional management that pays attention to not diluting the share count, but with strong commodity prices investors have not properly considered what happens to their investment if commodity prices decline. It simply isn’t wise to price a big commodity company above a P/E of about 12.

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Looking at the Income Trusts

Income Trusts - Park Your Money Investments, looked at a list of income trusts on a site promoting them as having very high growth potential, plus a couple that I knew about that had dividend high yields.

On a very simple assumption that dividend yields would remain the same and the market would value the trusts equally, I did a calculation on how much they could potentially grow, and made it clear that no fundamentals had been looked at.

In A Closer Look at Two Income Trusts the top two picks off that web site were looked at closer, and there was more information about about how the list was derive, and it was based on previous growth. So, one of the trusts had enormous "growth" from a buyout and was finished. The other was a declining business and at risk of reducing the dividend it they did not get things turned around. The decline was slow, but a shrinking business should demand a premium dividend rate.

On May 24th the TSX opened at 14,173 and it has declined to 13,724 since that post, or 3.27%. To buy one share each of those stocks would have cost $570.04. They have declined by 2.54%, to $555.58, but some have paid a dividend, for $2.15 on 17 of the stocks. The dividend reduces the loss to 2.21%.

The biggest decliner was Faircourt Management Inc, FIG.UN, by 15%, although the dividend reduces that to 14.3%. So, just what is this Faircourt? Faircourt is a an income trust fund with about 60 different holdings. It has assets of almost $110 million.

Their web site shows their holdings. In 2006 they got $10.8 million in distributions from the holdings. There was $5.8 million in expenses. Read the report and the management fee states it is 1.1% for one thing and then an additional 0.4% management fee. But then there is an additional $330k for some service fee, and $65k for audit, trustee and legal fees. Then there are reporting costs, record keeping fees, custodial fees, administrative fees, interest and bank charges and interest on preferred securities. It seems there is an awful lot of money being used to push paper that would be avoided by simply buying the a few of the holding directly.

My simple extrapolation from the dividend suggested this one would make about 3% over the year, and that's including the dividend, meaning the share price would go down.

That's a 3rd one to scratch from the list, at least as far as my investment decisions go.

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Commodity Prices - The 50-year low and 20-year average

In 2002 commodity prices were at a 50-year low, and with zinc, for example, the price was about half of the 20-year average price.

That 20-year average price was mostly in a bear cycle. Bear cycles lead to under investment. Existing mining companies are sustain operations without replacement investment. For example, the mines are already built; so only maintenance costs required. They already have drill results telling them where to mine, so exploration budgets can be cut, and that was happening. Individual mines depreciate in value as the minerals are mined and the life of the mine declines, so in real terms, without re-investment the value of mining companies was declining during the bear cycle.

Furthermore, if you look at what happened when prices hit that 50-year low in 2002, well, companies went into bankruptcy. Other companies sold off valuable assets at bargain basement prices. Look at how Roca (ROK-V), Northern Orion (NNO-T) and Eastern Platinum (ELR-T) all got started. The assets they control they got for probably 10c on the dollar.

Another example, Silver Wheaton purchased 37.5% of the Alumbrera mine in 2003 for $270.5 million, which was later acquired by Goldcorp. In 2006 that 37.5% interest accounted for $334 of the $455 million of operation earnings from the 15 mines listed with operations for Goldcorp. Alumbrera is in Argentina, where costs are relatively low and it was sold in a fire sale!

The mining industry in BC, where I live, practically died at those 20-year average prices, even where the mines were already built. And it was happening across Canada. Look at Teck Cominco’s (TCK.A-T) old Pine Point mine, the property now owned by Tamerlane (TAM-V). It was the site of one of Canada’s most profitable mines and it was shut down and practically given away with 70 million tonnes of historical, ie, not NI 43-101 compliant, resources with 1.59% lead and 4.19% zinc in 34 deposits. That is about 2.5 billion pounds of lead and 6.5 billion pounds of zinc.

Competition from countries with cheaper wages and costs played a significant roll in the demise of Canada’s mining industry. With those 20-year average prices gems were treated as pyrite. And that should be a wake up call for just how much relative value you should give to metals in the ground versus a company’s earnings in your own investment portfolio.

It seems to me that using that 20-year average price as a meter stick to come up with long term price projections is not reasonable given that it was a period of cannibalism of assets to maintain operations and I think that is partly why some analysts keep under estimating the strength of future commodity prices.

And, if you take a look around at what is happening in other countries that have developed a strong mining economy, the standard of living is rising, as are their wages. The proliferation of news releases about strikes is enormous, and wages are going up. The wage discrepancy is shrinking and the world is running out of countries where you can build a mine for slave labour wages.

And with increasing standards of living, when workers can actually participate in the economy rather than just exist in the economy, they stimulate the economy in a way that gives the enormous rates of economic growth that we are seeing in developing countries.

Those in the mining industry and those highly bullish on commodities insist that it will take years of new investment to meet current demand and that we are in a super cycle for commodities because of the gross level of under investment and because of the economic growth in developing countries. The bears of the market look at that 50-year low and the 20-year average price and use that as a meter.

There is no question that the high commodity prices we are seeing today are unsustainable in the long term, and the further out the prediction on where prices will be the more likely it will be wrong, but it makes far more sense to me that the next 20-year average price will be significantly higher than the previous 20-year average price.

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Why Aren't You Saving -- The Death of a Bedrock Belief

The purpose of Low Interest Rates - As Destructive as Usury was to show how much less empowered people have become in their ability to get ahead by paying down debt through two mechanisms:

1. Grossly reduced leverage of benefit of reducing total amount to be paid back from increasing payments.
2. Low interest rates are because theoretically inflation is low, so wage increases are also low further disabling the ability to increase mortgage payments.

A third problem is revealed in Making Less Than Dad. The study points out that American men in their 30s are earning less than their father's generation, a 12% drop.

A significant point in the article states that American families had a 32% increase in income levels between 1964 and 1994. Move that forward by 10 years, from 1974 to 2004 household income growth slowed to 9%.

A "truth" I was repeatedly told when I was growing was that each generation does better than the generation before them, and article suggests the death of this bedrock belief, but I would suggest that belief has been dead a long time, through reduce earning power, as the article above shows and increased taxes that disproportionately burden younger people.

I became highly aware of the degree of the declining buying power when I was involved with the 1997 Census. I was shocked to often see 3 young adults sharing a one bed room apartment out of necessity.

That was not happening with my peer group when I was a young adult. You could afford to share a reasonable 2 bedroom or even a dumpy one bedroom on minimum wage. I worked in a bank so I saw what all occupations were paying and my wage was at the lower end of the wage spectrum. Sharing a two bedroom apartment cost me 15% of my gross income. I could fill my economical car's gas tank with one hour of wages. I had a girlfriend who supported herself in grade 12 renting a basement suite on working 20 hours per week.

I often bring up the declining buying power of minimum wage with students. "When I was a young adult minimum wage was $3.65 and my share of a two bedroom apartment was $112.50," I tell them and I get them to calculate how much minimum wage would have to be today to keep up. They will come up with about $13/hour.

I continue, "A course at Simon Fraser University cost $54 and today it is $453.30," and they calculate $31/hour.

And never mind the grossly reduced buying power, look also at the grossly increasing tax burden.

"You would have to pay $111 per year towards Canada Pension Plan, and you'd be at 57% of the maximum pensionable earning, today those at 57% of the maximum pensionable earnings pay $1066." Minimum wage would have to have gone up to $35 to have the same proportion of wages going to Canada Pension Plan. But, even on another issue, maximum pensionable earnings was 1.73x minimum wage and it is now 2.63 times minimum wage. At the very least, if minimum wage went up as much as the maximum pension amount it would be at $12/hour, but they be taking home way less because of the gross increase in pension contribution for low wage earners.

There is no question making less than dad grossly impacts on ability to work toward financial security, but I question how much the study corrected for how the tax system grossly favours the old over the young.

And they go on and on about the reduced savings rate...

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Richistan - The Ultimate Conspicious Consumption

Robert Frank has written a book titled Richistan: A Journey Through the American Wealth Boom and the Lives of the New Rich. There is a link to a radio interview with him about his book that is quite interesting.

One thing from the interview is that he is suggesting that there is a lot of consumption coming from these new rich, who got rich from what is referred to as a liquidity event, like starting a company and making millions on stock options or selling it. Anyway, companies that cater to the new rich will probably do very well in the next 10 years compared other retailers.

End of post, no more to read.

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Paladin Resources Ltd - A Near Term Uranium Producer

On my post on Cameco, which has little ability to take advantage of uranium spot prices because of long term hedge contracts, I was asked about uranium producers able to take advantage of the current spot prices like near term/new uranium producer Paladin.

Fully diluted Paladin Resources Ltd has 600,989,245 shares (May 14, 2007). Today it closed at $8.12 giving it a fully diluted market cap of $4.9 billion, or almost 1/4 of that of Cameco. For a near term or new producer investors have given Paladin a lot of valuation. Paladin Resources has a market cap about 17 times bigger than Roca, which is a near term molybdenum producer, and about 26 times bigger than Blue Note, which is a near term zinc producer. For a new producer Paladin has a very substantial market cap already.

Paladin new mines are Langer Heinrich, and Kayelekera. Kayelerkera is projected to reach full production of 3.3 million pounds in 2009 and Langer Heinrich 3.7 million in later 2008, for a total of 7 million pounds per year for 2010. 7.5 million pounds is committed to contracts from 2007 to 2012. Cumulative production to the end of 2012 is projected to be 31 million pounds and their reports all use a "conservative" price of $90/lb for Uranium to give $2.8 billion in revenues from now until the end of 2012, or 57% of the market cap. Keep in mind the "conservative" $90/lb is about 10 times the 2001 price of uranium and they do not reach their full production until 2010.

Langer Heinrich was officially opened March 15, 2007, and is currently operating at 70% of its "design capacity." It was projected to mine 2.6 million pounds for 2007, but is now expecting to be between 400,000 and 600,000 lbs by June 30th, and reaching that rate after June 30th, so about 1.8 million pounds for 2007.

Paladin does not give clear guidance as to how they get their 31 million pound production figure. My estimates are:

• 2007 - 1.8 million pounds (Langer)
  
• 2008 - 3.1 million pounds (Langer)
  
• 2009 - 5.2 million pounds (3.7 Langer, 1.5 Kayelekera)
• 2010 - 7 million pounds
• 2011 - 7 million pounds
• 2012 - 7 million pounds

This year's production at best will give 2007 gross revenue of $125*1.8 = $225 million, or about 4.5% of the market cap before any expenses. Paladin does have some hedge, the 7.5 million pounds over 5 years the banks required, but the price of the hedge is well hidden, so $225 million is mostly likely an over estimate of gross revenue.

For 2008 at $125/lb would be $388 million, and at $90/lb would be $279 million, 7.9% and 5.7% of market cap respectively.

For 2009 at $125/lb would be $650 million, and at $90/lb would be $468 million, 13.2% and 9.6% of market cap respectively.

For 2010 and beyond at $125/lb would be $875 million and at $90/lb would be $630 million, 17.9% and 12.9% of market cap respectively.

Out of that comes production costs, administrative costs, royalties, exploration, technical reports, stock based compensation, capital costs, maintenance, taxes and so on all have to be paid.

They have other projects they can develop, but they have to change some policy and laws to get approval.

On long term price, the further out you go, the more likely the prediction will be wrong and the bigger the gamble, either for upside or downside. What I found when searching long term predictions:

The same is true of Raymond James analyst Bart Jaworksi, whose latest estimates show an average uranium price of $90/pound for 2007 and an average of $100/pound for 2008 and 2009. But, Jaworski did not budge from his price forecast of an average uranium price of $60/pound for 2010.

Prices may average $100 a pound in 2007 before easing to $85 in 2008 and $75 in 2009, Toronto-based RBC Dominion Securities Inc. said Nov. 17.

The team at GSJBW seems to acknowledge all these risks. The broker has a long term price forecast of US$45/lb but the figure doesn't figure anywhere in the outlook for the next few years. Average U3O8 spot price forecast for calendar 2007 is US$90/lb, for next year it is US$95/lb, after which a gradual decline is assumed to US$80/lb. (2011 sees a rise to US$85/lb, however).

Paladin's "conservative" $90 average price is not conservative relative to analyst predictions. Using Jaworski's forecasts the average price assuming the $60 remains constant would be $74.44/lb. Using $125/lb for 2007 the RBC averages to $78.89. The third one averages to $85.23. $90/lb is not a conservative price, but a strong price. Use that $60/lb for 7 million pounds and gross revenue is a mere 8.6% of market cap.

Paladin currently has a very small production profile able to cash in on the current strong uranium prices.

Strong prices are simply vulnerable to downward price corrects and as prices become stronger valuation models need to become more conservative to take that into consideration. Paladin currently has a seriously inadequate production profile relative to market cap and even when their production growth plans are meet for 2010 the production profile is still highly marginal compared to their current market cap and is utterly crippled should prices decline.

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The Other Eric

My post, What does Eric Know, was featured Eric Sprott, and basically buying Roca at that time, when the market cap was about 1/3rd of what it is now, could make you lots of money.

The other Eric is Eric Schmidt of Google. He just cashed in and sold 57,084 option and sold them on the same day for an average price of $481.97, for $27.5 million.

Google is a great company, but it needs to at least double its revenue to support its current price, not an easy feat for a very large company.

End of post.

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A Closer Look at Two Income Trusts

Income Trusts - Park Your Money Investments featured a list of trusts from Income Trust Trader as well a few various people have mentioned to me. As of May 25th ITT's list has been updated.

They have a little more information, and their Monday post says they compute price trend values based on exponential moving averages and project those forward for a year. Expecting a pattern to continue for a year makes no sense to me.

First National AlarmCap (FNA) and UE Waterheater Income Fund have remained in the top two spot, although growth is now projected at 160% instead of 175%.

Since the post UE WaterHeater is up 1c or 0.04% and FNA is down 26c, but paid a 7c dividend for 19c down, or about 3% down.

A quick look at the fundamentals of FNA show that is $40 million market cap company that is the 3rd largest alarm sales, installation and monitoring companies. It has monitoring agreements generate $2.4 million monthly in recurring income. The previous 8 quarters show that the monitoring revenues have been declining, down about 5% in two year, and the number of clients is down 8-9% in that period. This raises a red flag.

A further look shows that the distributions have declined from $0.10833 to $0.07083.

FNA is paying a 13% dividend. They have identified problems that lead to losing customers and are working on reducing the loss of their client base. The dividend is about 70% of cash available so they have some cash to work on improvement. All things equal, when income trusts are taxed differently in 3-4 years, the dividend rate will decline to about 9%.

The downside risk is that as they lose customer base their overhead costs increase relative to their income and earnings decline faster than the rate of loss of clients. The opposite is true if they can grow their customer base. They appear to be in a strong enough position to turn around their attrition rate and they do have time.

For FNA the ITT's projection of 175% growth in a year seems highly unlikely, as does my simplified dividend ratio extrapolation that comes up with 75%. FNA seems fairly priced to me because of the declining customer base.

UE Waterheaters did not get included on the list I did because the dividend is 4.7%, well below my 7% cutoff. First glance is showing growth in earnings over the past 4 quarters. Checking further and there is a buyout offer at $23. It is trading at $22.79.

ITT's projection of 175% growth isn't going to work out on this one either.

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The Insiders

Joe_5000 asked an excellent question that is worthy of a post.

Where do you get insider trading data?

Go to sedi.ca and choose English from the home page.

On the Welcome page on the top right corner click "Access Public Filings."

From the public filings page on the left side click the yellow menu item "view summary reports."

From the summary reports page click the radial dial button titled "Insider transaction detail."

The Insider transaction detail page has the most to do on it. From the "Identify insider or issuer" menu select "Issuer Name" and type in at least the first word of the company name. From the "Identify Date Range" select "Date of Filing," and fill in the date range you would like to see. Select all on all 4 buttons to see everything. Then select search.

If more than one company starts with the name search criteria you gave they will all show up on the next page. Select the company you are interested it. You can see their holdings, if they cashed in warrants or options.

Yahoo gives insider information for American companies, but has no data on Canadian companies.

Check it out.

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FNX Mining - Cashing in on Nickel

"FNX quadruples resource base" boasted the press release, and adding up the
measured, indicated and inferred resources gives 1,087 million pounds of
copper, 1,105 million pounds of nickel and 1,016,000 oz of precious metals.

In US prices at $23.23/lb for nickel, $3.34/lb for copper, and $981 per
ounce precious metal for about $30 billion in today's dollars in the ground,
with stellar grades. At today's prices the average metal value per ton of
these new resources is $389, with the measured and indicated portion
averaging about $460/ton. At today's commodity prices the grades are highly
profitable.

So, how much money is FNX making?

FNX had a remarkable growth in earnings for Q1 2007, an increase of 845%
over Q1 2006, or $30.2 million versus $3.2 million. And shareholder have
done remarkably well, from a 52 week low of $9.05 to a high in the past week
of $35.25, or a 289% increase if perfectly timed.

But, for investors earnings need to evaluated relative to their investment.
FNX has 84 million shares and 2.5 million options give a dilute market cap
of about $3 billion. $30 million of earnings on $3 billion of market cap is
about 1% and extrapolated for a full year is about 4%, or a P/E of about 25.
Commodity prices are strong. A P/E above 12 simply is not a good idea when commodity prices are this strong unless there is a very compelling production growth story.

Taking a closer look at the Q1 earning and commodities prices in US they
realized were:

• Ni $21.65
• Cu $2.67
• Pd $395
• Pt $1530
• Au $771
• Co $31.34

The prices FNX realized for their production resulted in $12.3 million in
revenue above the LME average prices for Q1. They also realized even better
revenue because of the strength of the US dollar in Q1, an exchange rate of
1.17.

Price sensitivity is $1/lb change on nickel will change earnings by $9
million or $0.11/share, a $0.25/lb change in copper will change earnings by
$1.9 million or $0.02/share and a 10% movement in exchange rate will change
earnings by $12.7 million or $0.15/share. Currently commodity gains in
price are being canceled by currency losses.

The Q1 earnings included a 40% increase in production from the Levack
property. Overall production was 2.6 million pounds of nickel, 2.3 million
pounds of copper and 5,961 ounces of precious metals. At this rate they
would produce 10.4 million pounds of nickel, 9.2 million pounds of copper
and 24,000 oz of precious metals.

The year's production is forecast to be 12.7 million pounds of nickel,
10.9 million pounds of copper and 29,500 ounces of precious metal. The full
growth of 2007 has not yet been realized. Looking to 2008, production if
forecast to be about 17.5 million pounds of nickel, 40 million pounds of
copper and 64,000 oz of precious metals.

Further growth is planned through to 2010, for 24 million pounds of nickel,
100 million pounds of copper, and 135,000 ounces of precious metals.
From my way of evaluating an investment, FNX needs to double its earnings
to get to that P/E of 12 for production earning, and it looks doable for
2008 as long as commodity prices remain as strong as they are today. The
growth profile does give protection from downside risk from softening
commodity prices.

In the financial reports is a "comprehensive income" of $11.6 million that
should not be considered towards production earnings, and may result in a
one time only boost to earnings. This is from increases in equity
valuations that they own. To put into perspective of what including it on
earnings is equivalent to, consider a mutual fund. It buys equities that
the managers think will increase in price. The value of a share of the
mutual fund is the value of all the equities divided by the number of
shares.

So, consider the simplest mutual fund, with a single share. It buys an
equity worth $100 and that equity increases to $125, the value of that
mutual fund share is now $125. If that $25 dollars of equity gain was
instead consider earnings and the mutual fund was traded on earnings at that
P/E of 25 and the mutual fund share would be $25x25 = $625.

The value of equity increases to share holders needs to be evaluated the
same way a mutual fund is evaluated for its equity holdings. To evaluate as
earning is to make perilous errors in evaluating the value of your
investment. That $11.6 million dollar equity gain is worth
$11.6/86.4 million shares, or 13c per share, hardly a deciding factor one
way or another on a $34 stock.

The last thing, it never hurts to see what the insiders are doing. Part of
their income is from options so there usually is some selling. The question
is, how much?

Robert Cudney has a relationship to Northfield Capital which has sold
373,000 shares this year and he has personally sold 94,700.

Duncan Gibson shows 50,000 shares sold, Daniel Innes shows 37,987 shares
sold, Paul Makuch shows 33,333 shares sold, Daniel Owen 10,000 shares sold,
Donald Ross 23,500 shares sold.

Overall the insider selling is large and so is the cashing in.

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The Commodity Bubble?

If you've been watching commodities at all you probably saw some doom and gloom news, Metals Bubble Poised to Burst on commodities, and it certainly sent commodity prices tumbling despite a continuing trend to lower LME warehouse levels, as the charts below show.

Zinc warehouse supplies are at their lowest levels in over 5 years, so just what is this commodity bubble?

There is no question that some company's share price has gotten way, way ahead of itself, like Goldcorp, and its valuation could be described as a bubble valuation.

Another company that has gotten ahead of itself is Blue Pearl, now known as Thompson Creek Metals, TCM-TSX. They have a share price of $16.63 and made 45c/eps their last quarter. Their molybdenum production is 21 million pounds per year, increasing to 27 million pounds, so earning should go up, right?

Wrong, for this quarter where they report 45c eps commodity prices were so strong, in their opinion, so they reduced their inventory levels and they sold 10.5 million pounds for the quarter, twice their level of guidance. They do not have the inventory levels to repeat this feat, so productions sales for Q2 should be about half of Q1 and production will not increase until they've built another mine.

Add to that that with the US dollar declining their Canadian costs will go up, about 10% over last quarter just based on recent strengthening of the Canadian dollar. Molybdenum prices are up for this quarter so it will offset some of the increased costs due to currency losses, but trying to make up for doubling their sales for a quarter simply isn't going to be covered by the increase in molybdenum price.

The other thing is that they earned $47.7 million dollars, and that is over 105,395,000 shares diluted, or so they report to get 45c/share. Currently they have 111,749,000 shares, 24,644,000 warrants and 6,943,000 options for fully diluted share capital of 143,336,000 shares, or about 36% more shares then reported. Average the earnings over the full dilution and you get 33c/eps.

Blue Pearl, aka Thompson Creek metals, is highly unlikely to come close to its Q1 earnings, but with 2007 earning potential to be in the range of $140-150 million and a fully diluted market cap of $2.4 billion, it just isn't the kind of return investors in base metals are looking for.

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Looking at Poor Operating Margins

I am constantly amazed at the amount of "value" investors are willing to give companies that constantly lose money, or make very little.

Take Sirit, for example, fully diluted at today's 48c/share price they have a market cap of $73 million. To have a P/E of 20 they need to have earnings of about $1 million per quarter. A P/E of 20 is high for any stock, imho, unless you can show good growth prospects.

View their first quarter results:



The first thing this one says is that the cost of their supplies is about 65%, leaving them with 35% of their gross revenue to pay all the expenses of running a business. The way I look at it, take that $2.263 million and multiply it forward for four quarters to assess how much money relative to market cap they have to run the business and provide a return to shareholder. It comes to $9.05 million, about 12% of the market cap.

The expenses, $3.297 multiplied by 4 quarters, comes to $13.19 million, or about $4 million more than the than the cash flow. This business is earning -5.7%. They have a one time sale of an asset to make them look cash flow positive this quarter, but one time sale of assets does not continue in earnings. They are essentially seriously cash flow negative.

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Income Trusts - Park Your Money Investments

A New Breed of Dividend Paying Companies featured a stock that failed to live up to my theory as to why dividend stocks tend to do better through market corrections -- that investors looking for dividends look for the highest paying dividends.

For the next few years in Canada earnings from income trusts are tax exempt if they are paid out as dividends. Some of these income trusts pay out an amazing dividend and have been overlooked by the market.

Income Trust Trader (ITT) has put together a list of what they call their Top 30 - Projected 1-Year Total Return. They project up to 175% return on some of these trusts, and even the lowest they project a 90% return.

So, I decided to have a quick look at these, as well as a few others that look promising. In the chart is today's price, the annual dividend, the dividend yield, the one year projected return on the ITT recommended stocks, and my calculation, which is purely math done with strong assumptions. I did not include any income trusts on their list currently paying under 7%.

Symbol	Price	Dividend	Yield	ITT Projection	My Calculation*
VNG.UN	5.55	1.02	18.38%	N/A	148%
MPX.UN	8.29	1.28	15.38%	125%	108%
PGF.UN	20.09	3.00	14.93%	N/A	102%
HTE.UN	31.32	4.56	14.56%	N/A	97%
BSD.UN	9.80	1.40	14.29%	95%	93%
ESN.UN	7.09	1.00	14.07%	90%	90%
DOM.UN	.87	.12	13.79%	99%	86%
CNE.UN	16.89	2.28	13.50%	N/A	82%
CDI.UN	10.25	1.35	13.17%	96%	78%
AVN.UN	13.79	2.28	13.05%	N/A	76%
FNA.UN	6.56	.85	12.96%	175%	75%
PVE.UN	12.58	1.44	11.45%	N/A	55%
CEU.UN	8.60	.95	11.05%	140%	49%
RIG.UN	7.33	.80	10.97%	130%	48%
SPF.UN	14.79	1.56	10.55%	95%	42%
GDI.UN	10.80	1.08	10.00%	125%	35%
BDI.UN	10.45	1.00	9.57%	98%	29%
CJT.UN	12.81	1.16	9.03%	98%	22%
TRK.UN	11.23	1.00	8.90%	98%	20%
ICE.UN	11.59	1.00	8.63%	94%	16%
FDG.UN	30.60	2.60	8.50%	105%	15%
VOX.UN	13.25	1.10	8.30%	125%	12%
MTL.UN	22.05	1.80	8.16%	93%	10%
PEY.UN	20.75	1.68	8.10%	N/A	9%
PGX.UN	15.25	1.20	7.87%	91%	6%
FIG.UN	16.75	1.28	7.62%	90%	3%
SSI.UN	19.10	1.44	7.54%	98%	2%
PKI.UN	16.39	1.16	7.08%	105%	-4%

*The assumptions I've made is that these stocks will price themselves to an 8% dividend within a year, the dividend will remain constant and that these companies can all support the level of dividend they are paying -- none of that nonsense stuff like with "the new breed" company.

The formula I used is:

(Price*Yield/0.08 + Dividend)/Price - 1

The Price*Yield/0.08 gives the price the stock would be if investors priced it so the dividend yield would be 8%. Over the year you would also get the dividend, so that is added on. Dividing by Price gives what percent of the starting price the new price is. Subtracting 1 is taking 100% off for the original price of the stock.

So, for the first one, 5.55*.1838/.08 gives $12.75. Add the $1.02 dividend and you get 13.77. Divide by the 5.55 and you get 2.48 or the new price is 248% of the start price. Taking 1 off the 2.48 gives 1.48 or 148% gain.

The calculation I did was without consideration of the fundamentals behind the companies. Some may be forced to reduce their dividend and some may increase their dividend. Current price and dividend are the only two criteria used in my calculation and would hardly be considered due diligence, or something to bet the life savings on. Looking a combination of current dividend yield, my calculation, and ITT's projection gives a good start for stocks that could be worth holding.

Canadian income trusts also act as a currency hedge.

I picked 8% as a dividend yield. Once companies are taxed, you can expect the dividend to decline by 40%, or what ever tax rate the company ends up paying. That would bring the dividends down to about 5%, which is in line with reasonable dividend paying companies.

Examples of dividend yield of some companies:

• NTE - 7%
  
• QMAR - 4.9%
  
• HBC - 3.7%
  
• APSE - 2.9%
  
• LYO - 2.5%
  
• INTC - 2%
  
• TFX - 1.7%
  
• RCL - 1.4%
  
• GG - 0.8%

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The Motley Fool

I play CAPS on the Motley Fool and I've read many of the articles they post on their site. I find they have some excellent investment tips and they have a goal of helping investors to become better investors.

My score for the CAPS game is below. You rate stocks to out perform or to under perform the S&P. You can also have a look and see how the better players choose stocks, and seeing how you aren't playing with real money, you can bet on stocks that you wouldn't touch in real life.




On the side of my blog I've put another one of their widget for 27 second stock pitch videos that various CAPS players have made. Some of them are quite entertaining. Check it out.

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Thompson Creek Metals - Ahead of itself?

Blue Pearl, aka Thompson Creek Metals, TCM-TSX, has made more than a few investors a lot of money. In the fall of 2005 the share price was at a low of $0.60. Today they have a share price of $16.63 for a whopping 2700% return.

Futher, they made 45c/eps in Q1/07. Extrapolate that by multiplying by 4 and add at least 10% for the price of molybdenum going up and you get a rough estimate for 2007 eps of about $2, or a P/E of about 8.3.

Their molybdenum production is 21 million pounds per year, increasing to 27 million pounds, and molybdenum prices are up at least 10%, so earning should go up, making this a buy right?

Wrong, very wrong, and here's why.


For this quarter where they report 45c eps commodity prices were so strong, in their opinion, they reduced their inventory levels and they sold 10.5 million pounds for the quarter, twice their level of guidance. They do not have the inventory levels to repeat this feat, so production sales for Q2-Q4, indeed until they build a new mine, should be about half of Q1.

Further, the US dollar is declining so their Canadian costs will go up, about 10% over last quarter just based on the recent strengthening of the Canadian dollar. That increase in molybdenum prices will offset some of the increased costs due to currency losses, but trying to make up for having half the sales simply isn't going to be covered by the increase in molybdenum price.

Then there is share dilution. They earned $47.7 million dollars, and that is over 105,395,000 shares diluted, so they calculated 45c/share. Currently they have 111,749,000 shares, 24,644,000 warrants and 6,943,000 options for fully diluted share capital of 143,336,000 shares, or about 36% more shares then reported. Average the earnings over the full dilution and you get 33c/eps. There will be a substantial difference between earnings and dilute earnings for Q2.

Thompson Creek metals, is highly unlikely to repeat its Q1 earnings for a very long time, and it isn't unrealistic to expect half the Q1 earnings for Q2.

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Goldcorp: The Oxymoron of Fiat Creation

Goldcorp has taught me a lot about what can be hidden in a stock. When I look at the dynamics of what drives a gold stock, the gross irony of Goldcorp is that, from my point of view, it is the epiphany of investor fears that is driving the gold bull in the first place.

So, just what are investor fears driving the gold market? The answer I get is currency devaluation due to government just printing more money. As the money supply grows, there is an escalation of inflation. The U.S. national debt is so enormous, printing money to pay bills seems more likely, so this is a serious and valid concern. Governments printing money is the cause of hyper-inflation.

Gold is supposed to be protective against this. Gold should hold its value against other currencies. This makes a certain amount of sense, however, gold stocks are not gold. They represent business that mines gold. They do not mine the gold and just sell enough to cover expenses and then save the hard asset that is supposed to protect valuation; no, they tend to sell all that they mine, paralleling the gold bug complaint that the gold that used to back currency has been sold off.

Gold companies do not print money, however, they do print stocks. Stocks are to a business what currency is to a country. If a business is printing stock, or issuing new equity, it is very comparable to government printing more money.

Just How Many Shares Has Goldcorp Printed?

The graph below show just how frivolous Goldcorp is with issuing new equity, options and warrants. Options and warrants are included and must be included to get a true picture of a company.

If you owned say 1% of Goldcorp in 2003, well now you only own about 1/4 of one percent of the company.

Dilution is easily hidden. It can be found, but it really doesn't show up in a chart of the company's performance, like this one on Goldcorp's share price:


A chart of a company's share price completely and utterly hides dilution. To see a true picture of performance, you really need to look at a graph of fully diluted market cap. But where do you get that? As far as I can tell, it just doesn't exist, but it is probably one of the strongest pictures of how the market is valuing a stock.

There is no way that I can go back and figure out fully diluted share/warrant/option count on a daily basis and multiply it by the share price, but, I could do it for 10 points, say at the end of each year.
The dilution thoroughly hides the gross escalation of market cap. Seriously, this looks more like the Zimbabwe exchange than a real investment. The share price and market cap graphs look nothing alike.

There were events tied to issuing of new equity. Some was to pay back debt, much like how governments have printed currency to pay back loans. Other events were asset acquisition, such as the take over of Glamis.

The midas touch, $6 billion of fiat book value in a single deal

Glamis was a gold producing company with a good development property. Their book value in their Q3 financial report before the takeover was $2.2 billion dollars. When Goldcorp took over Glamis the cash and equity value of what they issued was $8.2 billion dollars, and Goldcorp now carries $8.2 billion dollars in assets on their books for the Glamis properties.

Essentially, Goldcorp has a hyper-inflation of asset valuation being carried on their books. As assets are mined from the ground, an appropriate allocation of book value for each mine is written off.

The hyper-inflated Glamis assets are currently mostly non-producing assets, so what is currently written down is tiny compared to the total asset picture of Goldcorp, and it is tiny compared to the relative book value that the company is carrying for all of its properties. Once these assets start producing the writing down of the fair allocation of book value of these hyper-inflated assets will implode earnings.

I find that Goldcorp is masterful at taking the focus from what ought to be the first priority for investors and and spinning impotent results into a good story. For example, look at the graph of revenue. It tells a stellar growth story, but merely looking back at the total share count suggests the revenue growth is inadequate compared to the equity growth.

Indeed, the revenue per share has actually declined.

Goldcorp also printed a pretty cash flow chart, again in total cash flow, and again, a pretty picture.

But again, the per share picture isn't so pretty, it is actually down 22%.



But not to be disuaded, I decided to look at the next "Go Goldcorp!" graph, which was earnings, and again, their presentation looks stellar.

When you use Goldcorp's numbers for individual shareholders, it actually does look like an improvement.

But I check calculations for myself I found $408 million in earnings when there were 703.5 million shares fully diluted did not "add" up to what they report. Practically none of the effects of share dilution and fiat book value from the Glamis merger show up in the financial reports. I took the earnings and the fully diluted share count at year end and re-plotted the data. This is ultimately what share holders are getting.

In 2003 with 52c eps Goldcorp was trading under $16.

Goldcorp also puts its spin on gold production based on ounces for the company as a whole.



But, what Goldcorp is producing per share is far more important. The graph below is actually per 1000 shares, and the 2007 point is projected production. Already for 2007 production has been down graded twice from 2.8 million ounces.


The 2006 figure has totally imploded. With about $24,000 US investment you can expect to see about 2.4 ounces of gold produced. It begs the question, how can anyone possibly think that this is reasonable? If they meet their targets for 2007, the gold production per share will return to the historical levels.

Even looking at Goldcorp's Q1 financial reports you can see how they steer investors from looking at what is important in terms of their individual share ownership and direct them to the big picture of a company that is under performing on a per share basis relative to prior years. Eps for Q1 this year compared to Q1 last year were way down, but they report stellar improvement.

All in all, Goldcorp belongs to the honor role for the frivolous cap of fiat creation.

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Low Interest Rates - As Destructive as Usury?

I was 17 when I first got a job as a teller in a credit union in 1979. This is where I first studied mortgages.

Qualifying income was such that no more than 30% of your gross income would be needed to pay the mortgage. Mortgage rates were about 10-12%. You needed qualifying income of $36,345 to qualify for $100,000 of mortgage at 10%. Most mortgages at the time were under $50,000, and people in their 30s were paying off their mortgage on their house, not a condo or a townhouse, but a house with a yard.

The credit unions had technology far ahead of the times and they had a program where I could change the variables in mortgages and view amortization tables, much like you can do today.

The changes intrigued me. I studied how much money a person could save by increasing their payments by relatively small amounts. For example, at 10% the payments on $100,000 mortgage would be about $909 per month over 25 years, and 10% was about what mortgage rates were before they spiked. Increase the payment by 10% and you would have saved 7 years, or 28% of your payments. The table below shows what happens with each 10% increase in payment.

Effects on Amortization Period of increasing payments at a fixed rate of 10%

Example A: $100,000 @ 10%

Payment	Amort (months)	Months Reduced (+/- 0.5 months)	Increase in Payment - (total)	Decrease in Months to Repay - (total)	Total Interest Paid	Interest saved from last 10%*
$908.62	300	N/A	N/A	N/A	$172,600	N/A
$999.48	216	84	10% - (10)	28% - (28)	$115,900	$56,700
$1090.34	174	42	10% - (20)	14% - (42)	$89,700	$26,200
$1181.21	147	27	10% - (30)	9% - (51)	$73,600	$16,100
$1272.07	128	19	10% - (40)	6.3% - (57.3)	$62,800	$10,800
$1362.93	114	14	10% - (50)	4.7% - (62)	$55,400	$7,400
$1453.79	102.5	11.5	10% - (60)	3.8% - (65.8)	$49,000	$6,400
$1544.65	93.5	9	10% - (70)	3% - (68.8)	$44,400	$4,600
$1635.52	86	7.5	10% - (80)	2.5% - (71.3)	$40,700	$3,700
$1726.38	79.5	6.5	10% - (90)	2.2% - (73.5)	$37,200	$3,500
$1817.24	74	5.5	10% - (100)	1.8% - (75.3)	$34,500	$2,700

*As number of payments have been averaged to +/- 0.5 of a payment, the error in the total interest can be as much as +/- 0.25 of the payment.

The leverage of how much you could save rapidly declined as you increased payments. Where that first 10% increase brought the number of years from 25 down to 18, increasing by 20% saved an additional 3.5 years, or 14%. By increasing payments by 30%, the number of years to pay back the mortgage was cut by more than half.

Furthermore, the interest saved with that first 10% increase is enormous, 56.7% of the original mortgage amount -- about 1/3rd of the interest overall. And even more amazing, double the payment and you pay only about 1/5th the interest and can pay it off in a little over 6 years.

Effects on Payments of changing interest rates for fixed amortization

Example B: $100,000 over 300 months

Interest Rate	Change in Interest Rate	Payment	Increase/ Decrease	% Change in Payment
9%	-10%	839.14	-69.48	7.65%
9.5%	-5%	873.62	-35.00	3.85%
10%	0%	908.62	0	0%
10.5%	5%	944.09	35.47	3.9%
11%	10%	980.01	71.39	7.86%

At those interest rates, 0.5% changes did not make huge differences to payments. When 10% is the current mortgage rate, a 1% decline or increase means the interest rate has changed by 10% (change in rate/rate*100%). The relative payment changes by less than the change in the interest rate. Interest rate increases cost more, but are manageable.

If you look at percent of that family income, a 1% increase would cost 2.36% of qualifying income. For most households income would have increased by at least that amount by the time a mortgage needed to be renewed.

Something not shown on the table is that if interest rates went down by 1%, and you kept your payment the same, the amortization would decline to 19.5 years, and you did not give up an ounce of lifestyle. If interest rates cut in half, to 5%, the amortization would decrease to 12.25 years.

The other thing I "played" with was how much would you have to change the payment to reduce amortization by a year at a time?

Effect on Payment of Reducing Amortization Period

Example C: $100,000 @ 10%

Amort (years)	Monthly Payment ($)	Increase to reduce 1 year ($)	Total increase ($)	% Total increase	Total Interest Paid ($)
25	908.70	N/A	N/A	N/A	172,610
24	917.39	8.69	8.69	0.96%	164,208
23	927.18	9.79	18.48	2.03%	155,902
22	938.25	11.07	29.55	3.25%	147,697
21	950.78	12.53	42.08	4.63%	139,597
20	965.02	14.24	56.32	6.20%	131,605
19	981.26	16.24	72.56	7.99%	123,727
18	999.84	18.58	91.14	10.0%	115,966
17	1021.21	21.37	112.51	12.4%	108,327
16	1045.90	24.69	137.20	15.1%	100,813
15	1074.61	28.71	165.91	18.3%	93,429
14	1108.20	33.59	199.50	22.0%	86,178
13	1147.85	39.65	239.15	26.3%	79,064
12	1195.08	47.23	286.38	31.5%	72,091
11	1251.99	56.91	343.29	37.8%	65,262
10	1321.51	69.52	412.81	45.4%	58,581

When interest rates were 10% small changes to a family's overall budget to increase mortgage payments brought in enormous financial reward in terms of reducing the number of years to pay back the debt - - it explains how the economic conditions enabled so many people to be paying off their mortgage in their 30s.

For simplicity, $100,000 was used, but when I first started working in the bank few mortgages were over $50,000 and I remember we were shocked when someone applied for and took out a $100,000 mortgage!

I worked in the banks through the period that interest rates doubled. There were two groups of homeowners, those that had gotten into the market recently and those who had been homeowners for a while.

It certainly made things harder for those who had been home owners for a while, but few lost their homes. For most, income had dramatically increased through the 70s, so although it hurt for that renewal period, wages had kept up enough to enable them to keep their homes.

Many who recently bought found themselves over extended and with insufficient income to cover the huge increase in mortgage payment. In Vancouver it was complicated by a housing price bubble. People who bought at the high point lost their homes, their down payments, and in some cases stilled owed money after the home was sold. In retrospect, the lucky ones failed to qualify for a mortgage.

The usurious interest rates were hard, and very, very destructive for some.

Low Interest Destructive?

Low interest rates have been looked at as a good thing for homeowners, but I beg a difference.

No question that if you owned your home, had a mortgage and interest rates decline, you gain, or if you live in a region with emigration. But what happened if you did not own your own home before interest rates declined, live in a region with population growth, and interest rate went down to 4%? First one must compare what changes on low interest rate mortgages look like.

Effects on Amortization Period of increasing payments at a fixed rate of 4%

Example D: $100,000 @ 4%

Payment	Amort (months)	Months Reduced (+/- 0.5 months)	Increase in Payment - (total)	Decrease in Months to Repay - (total)	Total Interest Paid	Interest saved from last 10%
$527.84	300	N/A	N/A	N/A	$58,351	N/A
$580.62	257	43	10% - (10)	14.3% - (14.3)	$48,925	$9,426
$633.41	225	32	10% - (20)	10.7% - (25)	$42,199	$6726
$686.19	200	25	10% - (30)	8.3% - (33.3)	$37,142	$5,057
$738.98	181	19	10% - (40)	6.3% - (39.7)	$33,191	$3,951
$791.76	165	16	10% - (50)	5.3% - (45)	$30,016	$3,175
$844.54	151	14	10% - (60)	4.7% - (49.7)	$27,405	$2,611
$897.33	140	11	10% - (70)	3.7% - (53.3)	$25,218	$2,187
$950.11	130	10	10% - (80)	3.3% - (56.7)	$23,360	$1,858
$1002.90	122	8	10% - (90)	2.7% - (59.3)	$21,761	$1,599
$1055.68	115	7	10% - (100)	1.3% - (60.7)	$20,369	$1,394

There is no question that increasing payments reduces the interest to be paid back, but the benefit of increasing that first 10% increase in payment is about half of what it was as a percent in example A, and look at the difference in overall interest savings, $56,700 versus $9,400, about 600% more savings in interest. The leverage of what you can do to improve your economic position by increasing payments and paying is severely compromised when interest rates are low.

Doubling payments resulted in reducing the amortization to 74 months or 6 years and 2 months, but at 4% interest doubling only reduces the amortization to 115 months or 9 years and 7 months. With low interest rates when you double your payment you have to pay for an extra 41 months or 55% longer to pay off the mortgage.

Effects on Payments of changing interest rates for fixed amortization

Example E: $100,000 over 300 months

Interest Rate	Change in Interest Rate	Payment	Increase/ Decrease	% Change in Payment
3%	-25%	474.21	-53.63	10.16%
3.5%	-12.5%	500.62	-27.22	5.16%
4%	0%	527.84	0	0%
4.5%	12.5%	555.83	27.99	5.30%
5%	25%	584.59	56.76	10.75%

The one percent increase from 4% to 5% results in the payment going up 10.8% when interest rates are low compared to 7.8% when interest rates are higher. Overall, that comes to about 3.24% of qualifying income. It does not sound like a lot, but compared to the 2.36% in example B, the overall relative increase is 37% more.

If interest rates go down to 3% and you keep your payment the same the amortization would decline to 21 years 5 months, 35% less benefit than when when interest rates were higher.

Effect on Payment of Reducing Amortization Period

Example F: $100,000 @ 4%

Amort (years)	Monthly Payment ($)	Increase to reduce 1 year ($)	Total increase ($)	% Total increase	Total Interest Paid ($)
25	527.84	N/A	N/A	N/A	58,351
24	540.69	12.85	12.85	2.43%	55,719
23	554.75	14.06	26.91	5.10%	53,111
22	570.18	15.52	42.43	8.02%	50,527
21	587.18	16.91	59.34	11.2%	47,969
20	605.98	18.80	78.14	14.8%	45,435
19	626.87	20.89	99.03	18.8%	42,926
18	650.20	23.33	122.36	23.2%	40,443
17	676.39	26.19	148.55	28.1%	37,984
16	706.00	29.61	178.16	33.8%	35,551
15	739.69	33.69	211.85	40.1%	33,144
14	778.35	38.66	250.51	47.5%	30,762
13	823.12	44.77	295.28	55.9%	28,406
12	875.53	52.41	347.69	65.9%	26,076
11	937.67	62.14	409.83	77.6%	23,772
10	1012.45	74.78	484.61	91.8%	21,494

In the last example, to reduce the amortization period by one year you must increase the payment by 2.43%. Overall, this is an enormous difference in comparison to example C where the payment was increased by 0.96%, relatively speaking about 2.5 times as much.

The big difference is to look at the change for paying back the mortgage in 10 years. In example C if you increase the payment by 45.4% the mortgage is paid off in 10 years, where as when rates are 4% the payment has to be increased by 91.8%.

Enter Housing Costs

On the surface, lower interest rates look like win-win. On $100,000 payments start at 58% of what payments were at 10% interest, and that is an enormous savings. However, the big problem is that in many cities housing costs have increased far beyond the rate of inflation, to the point that people buying are often qualifying for their mortgage with the same parameters as those that first bought when mortgages were 10%.

There are tons of examples that could be used, but I will use what I know. In 1976, after my mother passed away, her two bedroom condo in Kitsilano lay fallow for more than a year for not being able to sell it for about $30k. In that over a year period it ate all of the equity she had built into it as well as the equity of her 3-year-old car. Indeed, when the bank foreclosed on it, her estate owed more than it had. So, $30k for a two bedroom condo in 1977 is what I know to be true.

Today the cheapest two bedroom condo I could find is priced at $379k. This represents an annual rate of return of 8.8% over the past 30 years. Minimum wage at the time was $3/hour. To put it into perspective, if minimum wage had kept up with the increase in housing cost for that period, minimum wage would be about $40/hour, but that's another issue.

To keep things simple, I'll ignore down payments, maintenance fees, property tax, etc. and just do a comparison on the two condo values.

To qualify for 30k at 10% you would have needed about $11,000 of income, or a wage of $5.64/hour. Monthly payments would be $272.61. Total amount paid would be $81,783. Interest is 63.3% of the repayment amount.

To qualify for 379k at 4% you would need $80,000 of income, or a wage of $41.03. Monthly payments would be $2,000.50. Total amount paid would be $600,150. Interest is 36.8% of the total.

On a side note, something that is utterly amazing about this to me is in 1977, as a 15-year-old, I worked part-time as a waitress and with tips I was making about $6/hour. I wonder how many 15-year-olds today could get a part-time job that would pay them $40-45/hour? In light of this enormous economic difference, no wonder so many 30 something year olds were able to pay off their mortgage!

Principal must be repaid, interest repayment is flexible

Ignoring the gross decline in wages relative to housing costs, a serious difference in the two examples is the amount of interest in the payments. By comparison, today's new buyer is grossly under privileged in their ability to get ahead by accelerating payments because the majority of the amount to be repaid is principal. When the majority was interest, that repayment could be drastically reduced by modest compromises in lifestyle.

I would further suggest that had interest rates remained higher, housing prices would be lower because less people would qualify for mortgages, and housing prices are determined by supply and demand.

So had interest rates only declined to 7% that 35-year-old $379,000 condo might be for sale for $283,000, a price that would also require $80,000 of income if interest rates were 7%, only in this case 53% would be interest. The increase in the price of the condo would still be way ahead of inflation at 7.7% per year.

If interest rates had remain in the 10% range one would only qualify for $221,000 with $80,000 of income and 63.3% of the repayment would be interest, and rate of increase in the price of the condo would be 6.9%.

Low interests rates have enabled housing prices to increase beyond reasonable levels and drastically reduced a new home owner's ability to reduce their repayment burden as most of the amount to repay is now principal.

Low interest is a function of inflation

Probably the most important disabling point for newer buyers is that low interest rates are a function of inflation. Low interest rates mean inflation is lower, which means wage increases are lower. When interest rates were high home owners could count on wage increases of 5-8% and the housing burden in their budget rapidly declined, enabling them to make far more discretionary income decisions. With low interest rates inflation is low and wage go up slowly. Indeed, many workers have experienced years with no wage increase. Increasing repayment of mortgage debt is not so easy when wages remain relatively flat.

So, Are Low Interest Rates as Destructive as Usury?

The usurious interest rates cost most people a couple hard years. Newer buyers will have a lifetime of hard years repaying their mortgages because flat wages disables them from being able to increase payments very much, if at all, and since most of the repayment amount is principal there is little power to improve financial position from leverage of increased payments. Furthermore, it isn't likely that new home owners will enjoy wealth creating due to appreciation of their home values. They have significant downside risk.

Very few who had been a home owner over 3 years lost their home from usurious interest rates of the early 80s. Housing prices doubled from the late 70s to the early 80s and it was the ones who paid the high prices who lost their homes and were left with massive debt to repay, the rest had to tighten their belts and deal with loss of lifestyle.

So, it depends on who you ask. There is no question they were a boom for people in the housing market early and that today's buyers will never enjoy the wealth creation it gave to generations before.

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