The Original Bottom Fisher Finds High Risk and Reward in Nevada
Published in October 2, 2012on
Forget about juggling a basket of country risk in places like South Africa and South America. For his money, newsletter writer John Kaiser would rather take a chance on explorers in his own backyard of the western U.S., based on millions of years of geology and some exciting new discovery methods. In this exclusive interview with The Gold Report, Kaiser outlines the trends, and the juniors staking their claims, in Nevada.
The Gold Report: John, 2012 has been a volatile year for junior equities. What is your thesis for diversifying your portfolio to both protect and possibly grow wealth in this market?
John Kaiser: It's interesting that American households currently have bank deposits totaling $8.7 trillion, which is an all-time record, and yet these deposits are earning less than 1%. This illustrates the anxiety about where the general economy and equity markets are going. Given the risk that we could end up in a global recession next year that could possibly deteriorate into a depression down the road, it is understandable that the public wants to keep its capital secure.
This could have very negative implications for the general equity markets, which are vulnerable to all sorts of disruptions. That is why I am recommending that cautious investors leave 90–95% of their portfolio in low-yielding cash deposits and then shift the other 5–10% into a diversified portfolio of extremely high-risk securities that could yield some big winners. The area that I think is going to be very prospective in the next few years is discovery exploration in the resource sector, where stocks can go up 10, 20 or 30 times in response to a discovery.
TGR: A lot of the resource sector used to be focused on South Africa. That's becoming riskier due to worker unrest. South America has had violence and nationalization threats. Are there still opportunities in relatively safe domestic markets like the U.S.?
JK: I think we are ripe for a return of interest to the U.S. mining exploration and development sector. It has been shunned to some degree because of long permitting cycles, even for exploration programs. The timeline can be even worse when it comes to putting a mine into production.
"The area that I think is going to be very prospective in the next few years is discovery exploration in the resource sector, where stocks can go up 10, 20 or 30 times in response to a discovery."
Fueling this return will be a growing interest in raw material self-sufficiency, of which the boom in shale oil and gas is an early example. In other parts of the world such as South Africa, erupting social tensions threaten the operations of major mines. In some countries, higher gold and copper prices are leading to resource nationalism, increased demands for royalties from governments that don't care if increased operating costs are whittling away profits. These countries are losing their attractiveness as a place for operating and developing mines, let alone exploring for new deposits. Others such as China impose export quotas that create two-tier pricing systems that favor China-based businesses.
TGR: You recently toured the historic mining state of Nevada. What are the geological factors that make that basin attractive as gold and silver targets? What are the major trends there? How did they form?
JK: Nevada is the second-largest gold-producing region in the world. Much of this comes from the north-central part of Nevada where we have famous names like the Carlin Trend and the Battle Mountain-Eureka Trend. This region has very unusual geology where old sedimentary rocks have thrust over each other, with an upper plate horizon consisting of fairly impermeable siltstones over a more permeable limestone lower-plate sequence of rocks. This happened several hundred million years ago.
Several subsequent waves of magmatism and folding occurred due to pressure from the west as island arcs crashed into Nevada and caused buckling of the entire land mass. The subduction slab underneath caused magmatic upwellings, which created igneous intrusions and doming. The result is a very complex geology that looks like a messed up sheet of bubble wrap.
Then, about 40 million (M) years ago, the Pacific plate stopped crashing into the North American continent and the Farallon subduction slab started to founder. As this slab failed like a retreating Niagara Falls, it caused magmatic upwellings. According to a new theory proposed by University of Reno's John Muntean, this spawned gold-rich vapors, also laden arsenic, antimony, thallium and mercury that penetrated crustal cracks, mixed with water and resulted in Carlin-style gold deposits where upper-plate capped lower-plate rocks served as structural traps that soaked up the gold and its marker elements like a sponge.
These deposits can be very large, deep and offer high gold grade. Only about half of Nevada's estimated gold bounty of more than 150 million ounces (Moz) has been found to date thanks to another subsequent event. The other half is hidden because about 15M years ago, the pressure on the continent ceased and Nevada stretched apart, causing long blocks of rock to rise or fall, which created our basin and range topography. Because the gold deposits already existed before this happened, some ended high, some ended deeper. With erosion, these basins filled, and now they are largely gravel covered. A new wave of exploration could be coming based on the bounty that remains to be found.
TGR: What are some examples of explorers that are in a good position to find that bounty and how are they doing it?
JK: The most obvious strategy is to look within the apparent trends of known deposits. This includes the Carlin Trend, the northern part of which is dominated by Newmont Mining Corp. (NEM:NYSE) and Barrick Gold Corp. (ABX:TSX; ABX:NYSE), which own all the key land. At the southern end, Gold Standard Ventures Corp. (GSV:TSX.V; GDVXF:OTCQX) has the Railroad Gold project where it is using a clever reconstruction of the geology to home in on what it believes to be a significant Carlin-style deposit.
"Nevada is the second-largest gold-producing region in the world."
Within the Battle Mountain-Eureka Trend is the more recently famous Cortez Trend, which started in the 1990s with the Pipeline discovery, which is now being mined by Barrick. Then, at the start of this century, Cortez Hills was discovered within a few miles of Pipeline. Now we're seeing that the Cortez Hills Trend is extending to the Gold Rush and Red Hill deposits. More than 7 Moz has been added to the 20 Moz at Cortez in addition to the 25–30 Moz at Pipeline. The juniors control most of the southern part of this trend. McEwen Mining Inc. (MUX:NYSE; MUX:TSX) assembled a very large land package during the last decade and spent nearly $60M exploring without coming up with any significant, lower plate-hosted, Carlin-style deposits, which just shows you how difficult it can be.
Now another round of companies is coming in to turn over the rocks in this historic area. NuLegacy Gold Corp. (NUG:TSX.V) assembled several properties a couple years ago when everybody was in a funk about gold exploration and the company is now in the process of drilling what it calls the Red Hill property. This is a lower-plate window, which is exposed. It has been drilled with shallow holes in the past that have intersected gold mineralization that is not rich enough to make a mine, but NuLegacy figures that if it follows that statigraphy deeper, it will find the richer and longer intersections needed to put together a deposit.
Another company that is in the area is Carlin Gold Corp. (CGD.TSX.V), which has just finished drilling a half-dozen holes on its Cortez Summit, which is just to the east of the Gold Rush deposit. Again, a lot of this is blind drilling. It's expensive. In new target areas you don't really know what's happening in the third dimension, so your first round of drilling is all about just getting the geology to see where you are and then the geologists can start to think where the deposit would be.
Rye Patch Gold Corp. (RPM:TSX.V; RPMGF:OTCQX) is another company that managed to pick up the Garden Gate Pass project when a company let it lapse, and it also optioned into the Patty project, which was part of the McEwen Mining project. It has a major drill program on the Garden Gate, where it is going to drill several deep core holes. It hopes that it hits the target mineralization, but the real goal is to understand how the geology behaves on trend with the main deposits. The same is true on the Patty project, where it has some gold mineralization from past drilling, but it is trying to sort out where the system is going.
"The key thing is to understand what the company thinks it is going to accomplish."
One of the new developments that just emerged this week is Nevada Exploration Inc.'s (NGE:TSX.V) Grass Valley, Nevada, project, which was generated by an innovative technique called hydrogeochemistry that focuses on the gravel covered basins of Nevada. Groundwater is collected and tested for gold and all the various poisons, such as arsenic, antimony, thallium and mercury, which are normally associated with Carlin-style deposits. Where tests show a gold-in-groundwater anomaly, geologists can take a closer look at the bedrock underneath.
The interesting thing about the Grass Valley anomaly is that instead of striking northwest-southeast as is the norm within the Cortez Trend, the Grass Valley anomaly strikes southwest-northeast. This play is stunning because although it is within eyesight of the Cortez Hills deposit, it's in a geological setting where no one would think of wasting any money to explore. Yet, this new technique pointed to an anomaly that shows a 10- to 15-mile strike, a linear anomaly, likely associated with a hidden fault that appears to host an oxidizing gold deposit that is the source of the full set of Carlin-style elements.
McEwen Mining has elected to earn 70% by carrying the prospect generator 30% to a production decision. This is a high-stakes play, which could make a big difference for McEwen Mining itself, which is also developing a number of smaller deposits in Mexico and at the southern end of the Cortez Trend.
TGR: Unlike the Grass Valley project, the Gold Standard, NuLegacy, Carlin and Rye Patch projects are based on trends that are already known to exist because they are home to working mines. Is that correct?
JK: Yes. They are looking for these lower-plate windows within the primary trends where the mineralization is close enough to surface to be found and commercially exploited.
TGR: Are we talking about open-pit mines or are these deeper than that?
JK: If they are near surface, they can be open-pit mined. Cortez Hills is part open-pit and part underground mine. Finding a new near-surface deposit in the outcropping part of Nevada is going to be difficult. You need to look in an area where there's a very thin veneer of upper-plate rocks and somebody correctly guesses that mineralized lower-plate rocks are just beneath 50–100 meters (m) of waste rock that can be stripped off to allow an open-pit mine.
In the basins, where you're typically looking at 100m or more of gravel, it may be more difficult to create an open-pit mine, so the targets need a richer high grade and size where you have 0.3 ounce or better gold mineralization to make underground mining profitable. Another issue is that the deeper you go, the more likely the mineralization will be refractory, which has a higher processing cost.
TGR: A lot of these areas have been looked at before, maybe in the 1980s when the price of gold was less. Where are we in the current discovery cycle? How long do investors have to wait before some of these pay off?
JK: The easy gold has already been found in Nevada. Now we have had a decade or so of fairly sophisticated exploration looking for lower-plate windows. The next wave will require a very sophisticated search similar to what is happening at Rye Patch and NuLegacy, or a very innovative exploration strategy like hydrogeochemical sampling. The beauty of the latter is that it results in new discoveries such as Grass Valley where no one would have a prior geological reason to explore in the first place.
An example of this is another project called Fletcher Junction that Nevada Exploration has optioned to a tiny junior called Spruce Ridge Resources Ltd. (SHL:TSX.V) in the Walker Lane Trend in the western part of Nevada. It is in the Aurora district, which has produced about 4 or 5 Moz during its lifetime from gold and silver epithermal veins.
In this case, we are looking at an area covered by a very young volcano. The lavas are not very thick, but they have covered a fairly large area. Nevada Exploration Inc. collected hydrogeochemical samples on the edges of this lava flow and found gold in the groundwater emanating from underneath this lava cap. It drilled some shallow, reverse-circulation holes to confirm the depth of the bedrock several years ago. Now the farm-in junior is bringing more expensive, angled core drilling designed to demonstrate what could be another Comstock Lode-type system. Comstock, which produced 8 Moz gold and 200 Moz silver, was found because its veins were exposed in outcrop. The early prospectors could not see what was under the Aurora lava flow, and modern explorers had no reason to drill through the lava.
Companies are moving back into old districts within the Walker Lane that were last explored in the 1980s, applying what they learned from the Ken Snyder mine in Northern Nevada that turned out to be a very high-grade, bonanza-type vein system and figuring out where to drill new holes. The Comstock, itself, was mined out during the 19th century, and now the lower-grade material left behind is being put back into production as a heap-leach gold mine. I see the Walker Lane undergoing a revival of exploration interest from the juniors.
TGR: On the Cortez Trend, what are the juniors learning from what Newmont and Barrick are finding in their mining operations that will make finding the next one easier?
JK: They have learned the structural and stratigraphic controls for this mineralization. Barrick will give a couple of important papers in the next 12 months about what makes the Cortez Hills system tick. Everyone is eager to learn the secrets because this helps them guide their own drilling. It's very rare that miners come up with a target using remote-sensing methods such as geophysical surveys or geochemical surveys and then spear the primary deposit with the first few drill holes.
With Pipeline, numerous holes were drilled before the primary deposit was found, and even then, it was found because NuLegacy's Roger Steininger drilled a condemnation hole twice as deep as he was supposed to for a heap-leach pad for the smaller Gold Acres deposit. An understanding of the geology and the mineral controls can guide the exploration process, which literally is a feedback-driven process of underground groping. That is why these are high-risk endeavors and junior valuations are relatively low. That is also why you can get 10, 20 and 30-fold price increases when an exploration discovery is made and the market recognizes it as the real thing.
One way juniors can protect themselves is by always having a plan B ready to tackle if plan A starts to look as if it is not going to deliver the goods.
TGR: It sounds as if that is what McEwen, NuLegacy and Rye Patch have. They all talk about a number of other targets on the map.
JK: That's right. Rye Patch's big story right now is the Rochester litigation. Last year Coeur d'Alene Mines Corp. (CDM:TSX; CDE:NYSE) let all of its Bureau of Land Management claims lapse. Rye Patch noticed that these claims were open and staked them, covering a good part of the existing resource that Coeur d'Alene had developed. If a judge agrees that even though Coeur d'Alene didn't pay its fees, it doesn't matter because it has an established mine, it gets to keep it.
If Coeur d'Alene loses that case, it will have to do a deal with Rye Patch to acquire the claims. One way that this could end up being a win-win for everybody is if Coeur d'Alene buys Rye Patch's properties in the Oreana Trend, including the disputed claims, it would end up with a strategic land position that includes Lincoln Hill adjacent to Rochester. Either way, right now Rye Patch has a higher valuation than the typical junior undertaking grassroots exploration because it has this dual strategy of Oreana Trend/Rochester while it is drilling deep holes in the Cortez Trend, hoping to find something that makes the company worth $1 or $2 billion.
TGR: That takes us back to your thesis in the very beginning. If 10% of our portfolio is in the high-risk exploration resource sector, how much could it return?
JK: The way the junior exploration market works is we have these deep, cyclical troughs and high peaks. Right now, we are in a cyclical trough. There has been little appetite for discovery exploration in the past decade. The glass is half empty. No one expects any junior to get lucky, which is why we have very low valuations. If one of them makes a major discovery, say NuLegacy goes from $0.16 to $3 or $4/share, that's a 20 or 30-fold increase.
So if you have a $10,000 diversified portfolio of 10 juniors while $90,000 sits in savings deposits, and one of the juniors on which you risked $1,000 goes up 20 fold because of a discovery, then your portfolio consists of $90,000 cash and $30,000 in high-risk high-reward juniors, in effect a 20% return on the entire $100,000 portfolio.
If the discovery has been recognized as a substantial new development, then the market starts to look at these other juniors and says, wow, the glass is actually half full, and we get a market upswing where the tide lifts all the other boats as valuations of all companies in the area become more optimistic. Right now, valuations reflect deep pessimism, not just about the juniors themselves, but also about the overall global economic outlook.
I know there are market cycles, such as in 2008 when we had a catastrophic decline that took down everything and severely hurt that 10% of my portfolio that's in extremely high-risk stocks. However, that also produced very, very low valuations. So I simply rethought everything. I carved a bit of that 90% parked in cash earning nothing, which had become 98%, reallocated it so that 10% was exposed to resource juniors bottom fished at extremely low bargain prices.
Since Q1/11 we have had a similar decline, which is why I published a new bottom-fish edition in July consisting of 100 of these high risk, high reward juniors. The trick is to make sure when your high-risk portfolio blossoms in value that you restore capital back to the 90% of the cash portion of your portfolio. Thus if we get another meltdown that so many fear is imminent, my downside is restricted to 10%.
Because I avoid revenue producing companies I don't have to worry about things such as how many iPhones Apple is going to sell and what the latest patent lawsuit is going to do. I don't worry about anything but these little juniors and what their projects are. You do have to put some effort into understanding how the exploration sector works. Otherwise, you're just making random guesses. But it is possible to do this because we have all these resources now available on the Internet.
TGR: Any final advice for investing in the western basin based on the trends you're seeing?
JK: The key thing is to understand what the company thinks it's going to accomplish. If it simply tells you that it is going to find something big, give it a pass. If it shows you detailed diagrams of its various data sets and extrapolations of what it thinks is represented by the target, then you know that when it spends your money drilling that target, there is a chance that it will deliver something. Avoid the companies that do not have well-developed and data-supported targets. And finally, it's very entertaining to track these juniors in my portfolio.
TGR: Thank you for your time, John.
JK: Thank you.
See the Visual Capitalist's infographic on mining in Nevada:
John Kaiser, a mining analyst with 25-plus years of experience, produces Kaiser Research Online. After graduating from the University of British Columbia in 1982, he joined Continental Carlisle Douglas as a research assistant. Six years later, he moved to Pacific International Securities as research director and also became a registered investment adviser. He moved to the U.S. with his family in 1994.
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1) JT Long of The Gold Report conducted this interview. She personally and/or her family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Gold Report: Rye Patch Gold Corp. and Gold Standard Ventures Corp. Streetwise Reports does not accept stock in exchange for services. Interviews are edited for clarity.
3) John Kaiser: I personally and/or my family own shares of the following companies mentioned in this interview: Rye Patch Gold Corp., Nevada Exploration Inc. and Spruce Ridge Resources Ltd. I personally and/or my family am paid by the following companies mentioned in this interview: None. I was not paid by Streetwise Reports for participating in this interview.