Gold Stock Bull

SEMAFO is undoubtedly one of my favorite junior gold miners. The company is grossly undervalued with 2.3 million M&I ounces of gold and a market cap under $300 million. Annual production should come in just shy of 200,000 ounces of gold, which is impressive for a company of SEMAFO’s size. But the story gets even better.

On August 12th, the company released stellar Q2 results that support a much higher share price. SEMAFO delivered record results in terms of gold production, gold sales, operating income, net income and operating cash flow. They produced 54,500 ounces of gold during Q2, nearly doubling the previous year and generating $11.7 million in earnings. I pulled a few charts from their website to better illustrate just how impressive results were from the latest quarter.

Production is up about 100% from previous quarters. SEMAFO successfully brought new mines into production during 2008 and is on track to meet or beat production estimates for 2008.

Not only did the company substantially increase production, but they managed to lower their costs significantly to under $400.

This charts speaks for itself, with SEMAFO increasing operating income by 400% from the previous quarter and continuing to trend upwards from the negative income during Q3 of 2007.

Last but certainly not least is cash flow from operations. SEMAFO again posting record results and generating more cash than the previous five quarters combined.

The recent correction in precious metals provides an excellent opportunity to pick up SEMAFO at bargain prices. A support line exists around $1.22 with resistance at $1.62. Traders can certainly profit within this range, although I view SEMAFO as a long-term investment destined for a share price of $4 or higher during the next year or two.

Disclaimer: I own shares of SEMAFO and recently added to my position.

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In the short-term, sentiment and emotion rule the markets more than fundamentals. This type of trading pushes stock prices to extremes, whether the extreme is overbought or oversold. As a contrarian investor, I like to trade against these extremes and invest in the opposite direction of the herd. The wild action in markets, the dollar, gold and financials over the past few weeks leaves the door open for a few contrarian trades that I will be looking to make as trading opens this week.

1) Financials and SKF - The SEC is lifting its emergency ban of naked short-selling on 19 U.S. financial stocks. I believe this will swing sentiment and add a fresh round of downward pressure on financial stocks. The ruling certainly had the desired effect, as financial stocks rallied and the SKF ultra-short financials ETF lost nearly 50% of its value in just over a week. Is the rally justified? Are the bulk of write-downs over? No way. Financial stocks will get hammered again, more banks will collapse and SKF will again push towards $200.

Contrarian play #1: Pick up SKF around $115 with a price target of $155 in the coming weeks.

2) The U.S. Dollar and Gold - The dollar posted a surprise rally in the past week, after European central banks signaled that they would not raise rates. The story goes that the move is bearish for the Euro and therefore bullish for the dollar. The dollar bulls have been looking for any reason for a rally. A dollar run from 71.50 to 76 in a matter of days, solely on this news and in the face of declining wages and the highest inflation figures in a quarter of a century? Gold, which has an inverse relationship with the dollar, lost $100 alongside the dollar run. All of this while a new war rages at the border of Russia, which could easily widen and become much more dangerous. We also have reports of a massive U.S. naval armada heading for Iran. The dollar is now incredibly overbought and gold is extremely oversold and resting on key support at $850. The massive debt, economic ills, negative real interest rates, deficit spending and aggressive foreign policy of the United States has not changed. There is no fundamental reason for a dollar rally of this magnitude and it will not last. This is likely the last buying opportunity for gold under $900.

Contrarian Play #2: Sell the U.S. dollar and purchase gold and silver stocks. Buy producers or near-term producers. If you don’t want to pick individual stocks, consider the gold stocks ETF GDX.

3) Energy and PBR - Oil was undoubtedly overbought around $150 and the correction was necessary. But I don’t think we go much lower from here, especially not with the above-sited war raging between Georgia and Russia and signs of an intensification of the stand off with Iran. Peak oil is not a theory, it is a verifiable fact. Argue with this notion all that you want, but production had peaked and has been declining ever since this peak. That is the very definition of Peak Oil. Higher prices did dampen demand somewhat, but not nearly as much as could have been expected. The economies of China, India and other developing nations will continue to increase their demand for oil and supplies will continue to decline. A cursory understanding of economics points towards higher oil prices.

Contrarian Play #3 - Buy the sell-off in energy stocks. I purchased shares of Petroleo Brazileiro or Petrobas (PBR) on Friday at $50. Long-term, they are one of the best energy plays within one of the strongest and fastest growing economies in the world. Short-term, this stock should rally. I took a small position and will continue to purchase on any additional weakness.

Contrarian investing, commodity investing and short selling are not for the faint of heart. Investors are always concerned with “catching a falling knife” and most investors will lose large amounts of money trying to call tops and bottoms. It takes discipline and is difficult to buy when everyone else is selling, but I believe buying low and selling high is the objective. And you don’t need to go “all in” with these plays. Consider averaging in by taking small positions at these levels and adding to your positions as things play out.

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Upon analyzing over 30 years of data involving the gold price, we conclude that the seasonal lows usually occur in March and June. Quite often however, after the June low a secondary low is experienced in August. This secondary low is usually slightly higher than the primary low. People who have resisted the temptation to buy the June low will usually take advantage of this last opportunity before the start of the Christmas rally that seems to happen almost every year.

The past few days have seen the domineering short sellers do their utmost to drive the price into the basement, hoping that they might be able to reduce their ‘net short’ position which had grown quite high. At some point the hedge funds and thinly margined investors run out of gold to sell to them and then the selling dries up. Next some technical buy signals commence to flash and buyers begin to outnumber sellers again, and this starts the next rising sequence.

Gold is amazingly cheap just now. At the current $880.00 it trades at just $30.00 (or 3.5%) above its 1980 high. During the 28 years since 1980, practically everything has risen sharply in price. From milk, bread, eggs, meat, fish, cars and houses everything else is going up in price by leaps and bounds. Cars and houses may be slipping in price at the moment, but they are still priced in multiples of their 1980 prices.
This comparison makes one wonder if the price of gold might be artificially depressed.
Actually that is precisely what GATA (www.gata.org). and Frank Veneroso (www.venerosoassociates.net) and John Embry (www.sprott.com) have been asserting for years.

If indeed someone or a number of people are involved in deliberately suppressing the gold price, then sooner or later the price will rise like a beach ball that has been pushed under water. The central banks of the world tried the suppressing game in the 1960’s and they failed. The reason for such suppression is the knowledge that gold is an obvious barometer for price inflation. It is much easier to inflate the money supply with a constant gold price than it is with a rising gold price.

The amount of gold in existence is finite. It cannot be increased any faster than by 1.6% per annum (the rate at which mines are producing gold). Whereas the amount of money in circulation is currently expanding at double digit levels, on a worldwide basis. The US M3 money supply back in 1980 was 1.8 trillion dollars. Today, according to economist John Williams (www.shadowstats.org), the US M3 money supply has ballooned to almost 15 trillion dollars. Some of that extra money has the potential to move into gold.

The stage is set for a remarkable rise in the price of gold.

Happy trading!

Peter Degraaf is an online stock trader, with over 50 years of investing experience. He issues a weekly alert to his subscribers. For a 60 day free trial, send him an email at itiswell@cogeco.net, or visit his website www.pdegraaf.com Every ‘hit’ registered at the website brings a nickel for the monthly charity. One of the features at the website is a collection of worthwhile quotes that are meant to educate and entertain.