Rick
Rule on Bail-Outs, Business-Cycles and 10 More Years of a Golden
Bull Interview with Scott
Smith | July 5, 2010
Introduction:Rick Rule began
his career in the securities business in 1974, and has been
principally involved in natural resource security investments
ever since. He is a leading investor specializing in mining,
energy, water, forest products and agriculture. A popular
public speaker, Mr. Rule is a featured presenter at investment
conferences and resource investment forums throughout the
world. His firm provides unique insight into the workings
of the natural resource marketplace. Global Resource Investments
provides investment advice and brokerage service to individuals,
corporations, and institutions worldwide. Rick Rule has
originated and/or participated in several hundred transactions
over the past 30 years, including both debt and equity in
private, pre-public and public companies. These private
placement activities have involved companies on six continents.
The Daily Bell previously interviewed Rick Rule and that
interview can be read by clicking
here.
Daily Bell: We interviewed you nearly
a year ago and we appreciate the opportunity to update viewers.
It's been a most eventful time. How are things going at
your company, Global Resources?
Rick Rule: It's been a pleasant year for
us, if you can view what's gone on in the world as being
pleasant. We largely anticipated the volatility, and we
largely anticipated the fact that the recovery, such as
it is, is a fraud. Our clients have maintained fairly large
cash positions. We have lots of dry powder and suspect the
volatility will continue and the cash will come in very
handy. Customers have stuck with us through a very tough
time and we regard ourselves as having been fairly successful
stewards for them.
Daily Bell: Any new ventures you want
to mention?
Rick Rule: Your question is two weeks
early. Watch this space and you will see us in a fairly
major transaction in the next 2–3 weeks, which I can't
discuss for regulatory reasons. You must be speaking to
God or something; you are just two weeks early with the
question.
Daily Bell: Can you update us on the progress
of the natural resource sector?
Rick Rule: The natural resource sector
has a sort of stay of execution, if you will, from the stimulus.
The demand may not be real demand but there is liquidity
in the sector. All the printing that has been going on in
the near term has been helpful for the resource sector.
Daily Bell: Does Canada remain a dominant
player? What do you think of Canada's regulatory evolution?
Rick Rule: I think Canada is a dominant
player because Canada has the infrastructure necessary for
financial services resource success. The regulatory infrastructure
is one thing, but the institutional infrastructure and the
financial services infrastructure is another.
My views on regulators are fairly well known, and I suspect
echo those of The Bell; I must say that the Canadian regulatory
climate relative to other regulatory climates, is a blessing
for Canada because Canadian regulators understand resource
industries. I prefer the self-regulated environments of
Dubai and London to the Canadian regulatory environments,
but I have to say that Canada is very competitive.
Daily Bell: What do you think of the new
financial regulatory regime being contemplated in the US?
Are you a fan of the increased invasiveness?
Rick Rule: It's very difficult to answer
that question in words that are suited for a family publication
such as yours. It is the regulators that got us into the
situation that we are involved in.
You know if you and I had a business, let's say a pension
business that was run with the accounting standards of,
for instance, social security, we would have committed a
felony; we would have been in jail. The idea that the political
leadership of the United States is in any condition to regulate
anything would be comical except that it is so dangerous.
An example would be Enron, a fraud that was for all practical
purposes abetted by the Securities and Exchange Commission.
When that fraud took place, they passed a whole bunch of
laws that were completely unrelated to the fraud that was
perpetrated. The situation that we have just been through
is a balance-sheet recession. Too many people had too much
debt, at every level: personal, corporate and government.
The federal response to that was to make it easier for people
to borrow more.
I'm having a recollection of my University days, where
I tried to cure a tequila hangover with white rum and it
was temporarily successful, but it was not ultimately successful.
That is exactly the type of cure that is being envisioned
for the United States. The idea that you shepherd these
big Wall Street firms and provide oversight, and at the
same time you subsidize them with federal deposit insurance,
is literally lunacy and very, very dangerous. The whole
illusion of consumer protection is dangerous. My own experience
with SEC personnel is that they are generally competent
and well meaning but its existence in my point of view is
a form of confidence game.
Investors are best protected when they are terrified and
weary and the SEC – Doug Casey refers to it as the
Swindlers Encouragement Committee – puts a veneer
of protection in place where no protection exists at all.
It deludes people to believe that something is happening
for their benefit.
Daily Bell: Where do you see the natural
resource sector headed?
Rick Rule: I think we are going to have
extraordinary volatility in the sector because I think we
will have volatility in all aspects of the financial economy.
I do think that we are involved in a secular bull market
in raw materials that probably has 10 years left to run.
There are two reasons for that. One is that emerging markets
are becoming slowly freer, and as people become slowly more
free they become rapidly more rich they tend to consume
more resources.
You yourself, if you get some money, you might buy a second
iPod for your child, and you may load it with 10,000 songs.
When a poorer person on the equator gets more money, he
or she might get an air conditioner or refrigerator; a motor
scooter will replace a bike; they might move from a shack
to a cinder block home. All things that are made of things!
So demand for resources is increasing very rapidly per capita.
Thus, the demand side for resources I think is intact for
another 10 years.
Interestingly enough, on the supply side from the mid-80s
until three or four years ago, there was not a lot of investment
in resources. We were living on resource deposits in oil
and metals developed and discovered in the 60s, 70s and
80s. So for the next 10 years you are faced with stagnant
or declining supplies and increasing demand.
Daily Bell: What investment criteria do
you use these days?
Rick Rule: "Net present value."
We want deposits that will make money at today's prices
and reflect industry cost of capital. That's a very, very,
very unpopular mechanism in financial services today because
it's difficult to determine and it's relevant. People today
seem to be more story-oriented rather than reality-oriented.
Our background in our firm is we are credit analysts and
as a consequence we have a much more granular look at free
cash flow than many of our competitors.
Daily Bell: Do you use Austrian economic
analysis?
Rick Rule: I would not describe myself
as an economist but certainly for me the only economic philosophy
which makes any sense at all is Austrian analysis. Certainly
the only commonsense analysis of the situation that we are
in today and the political causes and political effects
is Austrian.
There are people who criticize free market policies in
government; those people mistakenly assume that free market
policies existed in government. The idea that the Reagan
revolution as an example had large free market elements
to it is fallacious. It was just less restrictive. So there
is some suggestion in the world that the banking failure,
as an example, is a result of a free market failure. In
fact, there's nothing about the banking business as exists
on a global basis and has for 100 years that smacks of anything
of a free market. So the suspicion that the Austrian thesis
has been damaged or that free-markets don't work is laughable.
Daily Bell: Has your strategy toward identifying
promising opportunities changed in any way?
Rick Rule: Not much. My strategy differs
from many people in that I am willing to take more perceived
political risk than most people. I don't agree for example,
that the province of British Columbia is a low-risk destination.
I remember 25 years ago when the saying was ABC (Anywhere
but British Columbia). People tend for whatever reason to
be fairly ethno-centric and Western investors believe that
when your wealth is stolen from you in a political process
that you understand, in English by white people and according
to the rule of law, that the money is somehow less gone.
From my point of view, your money is gone when your money
is gone, and who took it and how is less important. My own
experience has been that I have to look in places that are
perceived to be more politically risky because those places
have been less thoroughly picked over in terms of opportunity.
I have found myself that the opportunity justifies the risk.
Canada and the United States ... the political risks are
much higher than investors see them today. You can describe
me as a contrarian. We're in places where the political
risks are believed to be higher, but from my point of view
the rewards compensate for the risks.
Daily Bell: Is gold heading higher, or
is it being supported by fears of war with Iran etc. How
high will gold and silver go?
Rick Rule: Yes. Yes, and I don't know.
I believe that the gold price is going higher. I believe
that it is a denominator issue. Gold is denominated in US
dollars. And I think the US dollar and the euro are headed
inexorably lower. I also believe in the near term, the gold
price escalation is being exacerbated by people's fears.
I came into the industry in the 70s, during a great bull
market and in my experience I haven't seen another market
like the precious metals market, where both primary investment
motivators, greed and fear, oscillate and feed off each
other. The fear-buyer buys gold because he or she is afraid;
the greed-buyer looks at the momentum of gold and piles
on.
Gold goes up, stimulating more fear-buying, which stimulates
more greed-buying. I remember that toggle in the 70s, backwards
and forwards, from $35 to $850; it was truly a spectacular
bull market. When I talk about gold going higher, I have
to say, from my own point of view, that I'm afraid it's
going higher because I'm a fear-buyer. Gold occupies a position
of liquidity in my portfolio; it functions as a store of
value, but it's particularly there for catastrophe insurance
and there's no kind of insurance that I own that I'm particularly
eager to get paid on.
If you think about an event that precipitates a payment
for life insurance, that means somebody died. Auto insurance
means you had a wreck. Home insurance means your house burned
down. And gold from my point of view is social catastrophe
insurance. It's a policy I would prefer not to collect on
but I think I will.
Daily Bell: Why hasn't silver made more
progress?
Rick Rule: I do think silver will make more progress because
silver is a monetary metal. I also think that because silver
is produced as a by-product of base metals mining, that
if we have an economic slowdown and production of lead,
zinc and copper decline, silver production will decline
as well. Therefore, I think we're in line perhaps for some
spot production shortages on the silver side. I am quite
constructive toward the silver price and quite constructive
toward primary silver properties when you can find them.
Daily Bell: How are the juniors doing
these days?
Rick Rule: I think the juniors are doing
spectacularly well. They are ridiculously over-funded. Canadian
capital markets have been incredibly generous to management
teams that as Doug Casey wisely said, "were it not
for the junior stock market, would probably enter 7/11s
with masks and guns." I think the thing that faces
the juniors that's problematic is that there are too many
of them. They're too spoiled and coddled by Canadian capital
markets and there needs to be a massive culling.
Daily Bell: Do you see further progress
in the sector and why? You said previously the sector was
doomed. Still?
Rick Rule: Oh, sure. Let's do an exercise.
If you take the 4,000 or 5,000 public exploration companies
in the world and you merge them into one. Global Explore
Co. That company in a very good year would only lose US$2
billion dollars. In a bad year it would lose US$6 or US$7
billion dollars – those are expenditures above buyouts.
And it would do this for as long as it was continued.
So you decide! What's the industry worth? What multiple
do you apply to losses? Should you do 5x losses? 10x losses?
15x losses? The junior exploration sector as a whole is
a really spectacular destroyer of capital and at some point
in time, people will get tired of feeding it.
Now what's interesting is that there is a fair bit of value
created by about 5% of the participants in the sector. Thus,
when I make fun of the junior exploration sector I'm a little
disingenuous in the sense that the sector has been enormously
kind to me but that's partly a function of spending 30 years
learning how to do it and I work at it full time. But I
do believe that the sector as a sector is doomed. No sector
can continue to waste billions a year, ad infinitum, ad
infinitum, ad nauseum and prosper.
Daily Bell: Do you believe the gold and
silver markets are manipulated with all that has come out
about them? ... You said previously you didn't think so.
Rick Rule: I don't think so although my
friends John Embry and Eric Sprott make some very good points
with regards to manipulation. My own experience is that
conspiracy theorists are people who can't be wrong. I notice
there's a lot less discussion about manipulation now that
the price is rising.
The second thing about that is who are the manipulators?
Allegedly as an example, it was the US government. These
guys can't deliver the mail, and they can't educate kids.
They had a war against drugs, and drugs won. They had a
war against poverty, and poverty won. So I have to assume
some level of competence on the level of the manipulator
and this isn't an assumption I am willing to assign them.
Daily Bell: Do you think the Internet
is helping people understand the economy better? Do you
think the Internet is in danger of being censored by government?
Will it be?
Rick Rule: I think the Internet has enormous
potential to help people understand the economy and society
as a whole. The idea we can now narrow-cast information
like The Bell is doing as opposed to the broadcasting like
NBC or CBC, I think is enormously helpful. However, unfortunately,
most people in the world prefer to feel, as opposed to think.
The Internet in terms of its ability to change society,
presupposes individuals' willingness to access the information
that's there for them to grab. On that score I'm probably
a bit less optimistic.
With regards to government controlling the Internet, well,
that's what government is set up to do. They are set up
to transfer; set up to control; set up to cheat; they are
set up to steal and lie. The Internet proposes, I think,
to reduce control of information, which is threatening to
government; in the second instance it gives them a technological
tool. If they know how to exploit it, they can extend their
grasp. But I don't think they are smart enough. With 6 billion
or 7 billion individuals out there, the government is outnumbered.
There will always be those who find a way to outsmart them
over time. And I think it will be a good fight.
Daily Bell: What countries are most hospitable
to mining today? Last time you believed it was Chile, Australia
too.
Rick Rule: Well I made a big mistake on
Australia obviously. You know governments leave mining alone
when the prices are low; they don't steal when there's nothing
to steal. But now that resource activities are beginning
to show some profits, the governments are holding out their
hands again. Chile, however, is a fantastic example of a
country that understands the way mining works. It's a wonderful
regulatory climate. The Chileans are truly the gold standard
of regulation with regards to mining. The Australians are
clearly recidivists, once friendly to the mining industry,
now less so. Behind Chile I would have to say Brazil. Despite
its left-leaning government, Chile is becoming more constructive
towards mining although its reputation is that it's pretty
thoroughly corrupt. Certainly Chile is the gold standard.
Daily Bell: You were high on Pan American
Silver and Silver Standard. Still?
Rick Rule: I still like Pan American silver.
Silver Standard has had some problems. They had a change
at the top, Bob Quartermain was somebody I had a very high
regard for; he is no longer with them. They had development
problems in Pirquitas. While I think their management team
is technically talented, they're a large company and I don't
think they always or necessarily understand the nature of
the business they are in, so I would strike them from the
list. But I still think the Pan American people are doing
a good job.
Daily Bell: Is the recent economic crisis
over? Is America on the rebound?
Rick Rule: NO and NO. I think what we
are facing is a balance sheet recession. You may have noticed
the news items recently that this year the US social security
system will go into the red – in fact on a cash basis.
In other words, more money will depart the system this year
than comes in.
As recently as two years ago, crossover was expected to
happen in 12 or 13 years from now. This is a very bad sign.
Bill Bonner famously said when they were asking him what
Greece should do, the debate in Greece was, should they
fire workers, should they reduce pensions, should they renege
on their debt? Bill said, yes, yes and yes. We made extravagant
promises to workers, which can't be kept; we made extravagant
promises to the pensioners, which can't be met; and we made
extravagant promises to the savers that can't be met.
There is a reckoning that needs to take place to get these
balance sheets in order and there is reckoning that needs
to take place with regards to asset prices and it will be
extremely unpleasant. We have a choice, we could drag this
out and make it unpleasant for a long time or we can make
it EXTREMELY unpleasant in the short term. Those are our
two choices.
Daily Bell: Is the West headed toward
price inflation now, or hyperinflation or is the risk still
deflation?
Rick Rule: I think the near-term risk
is deflation. Usually a credit liquidation cycle is deflationary.
I think the political answer is inflation, because the yield
to politicians for deflation is immediate and catastrophic.
If the outlook is catastrophic, you as a politician would
wish to defer it, which is what this money-printing is about.