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Junior Resource – Shareholder Letter

Posted by nexvucapital on February 7, 2014

The following is a letter to a shareholder of a Junior Resource Company:

I hate to be blunt but you are about to execute on the atypical pattern of behaviour that removes most retail investors from exposure to the above-average returns in any sector.

As an example, when the US markets broke to new highs in Q1 2013 they did so on the new highs being made in the interest sensitive sectors – utilities etc. Retail ran into those top performing sectors to get back into the market (which had gone up for 4 straight years from the bottom in 2009 – the valuation event of our investing life-times). The Utilities have trended down since as the move toward higher interest rates is on…we are in the growth phase of the economic cycle and it is early as the US is chugging but the EU, Japan and China are just coming off the bottom.  

Most retail investors buy Junior Resource companies when they “look good and are trending higher on the consensus general economic news which is confirming the story” and this exposes retail to purchases at the highs. No one ever knows the absolute top/bottom of the market but we can do our best to be close.

When a sector is on all buy lists (loved) it is at or close to the top and when a sector is on all sell lists (hated) it is at or close to the bottom. This is distinct from the periods in between (1) a bull-market which climbs a wall-of-worry with periodic corrections which moderate the velocity of the move up and present the buy-on-dip opportunities for the trader, and (2) a bear-market which does the opposite with periodic up-ticks which moderate the velocity of the move down and present sell-the-pop opportunities for the trader.

The entire base-resource sector has been in a free-fall correction since 2011 and for the base-metal exploration companies this bear-market began in 2008 at the onset of the Financial Crisis. Precious Metals have had their time in the sun as the pundits convinced all that the path to returns was to bet against recovery. These pundits were proven wrong in the end and the recovery is taking hold so the only thing that will make precious metals trend back higher will be inflation – too early for that one but we will see down the road.

We are finally at the end of this process…a reflection of the timing of your email and the peak of your hatred toward the companies you own in the resource sector – the final leg of the bear is apathy and loathing toward the investment. Now, is not the time to sell these companies – it is time for the opposite as the events that are unfolding in the world are aligning to be supportive of this sector for the first time in many years – growth. The Economic Cycle is the overriding factor in the Junior Resource sector. We are now in the growth phase of the Cycle – see Nasdaq and Russell 2000 performance – both growth company indexes.

The early Junior risers have been the producers (see Capstone – CS.TSX has gone from $1.75 in August to as high as $3.20 in the last 30 days) and now we are seeing the holders of in-ground substantive assets begin to quietly edge higher. The money moves down the risk tree till eventually it hits the explorers.

Remember, the secret to holding all investment classes is to own them during their period of out-performance.

So when you look at your holdings you have to ask one question: to which sector can I deploy this capital that will present better upside than these current resource holdings based on where we are in the Economic Cycle?

As for our investment strategy – we have transitioned away from our previous exposure to exploration & discovery because the current valuations on development assets are at secular lows and it is our opinion that this will not continue. In this type of environment one can earn an interest in an already discovered development asset for the same cost as a far riskier exploration/discovery program. This is a once-in-a-generation value opportunity. My organization has been increasing its exposure to these resource companies during the entirety of this multi-year correction in order to capture the “bottom” valuations before the inevitable turn to higher prices.

After this long-winded essay, I will end with the following – you need to do what best serves you and this needs to take into account your mental/emotional well-being. What is ironic, is how many people come to us and ask how they can get into a resource junior at <$0.05 like “the insiders” when the sector is in-vogue – hopefully, you now know the answer.

 

 

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