Eric Sprott: Central Bankers Are Gaming Gold

Some people may look at the stock market and see economic recovery. Eric Sprott of Sprott Asset Management and Sprott Money looks at myriad other economic indicators and sees an economy still in decline. Despite his suspicions that central banks are keeping gold prices artificially low, he tells The Gold Report that he favors gold, platinum, palladium and especially silver, over the near and long term.

The Gold Report: The price of gold has dipped under $1,600/ounce ($1,600/oz); silver is below $30/oz. Is this a case of living by the sword and dying by the sword, where precious metals prices only go up in a bad economy and are doomed to languish when things go well?

Eric Sprott: That is an interesting question because I do not know what it means to go well these days. I see things going from bad to worse economically, and so do many others. Walmart just announced that January 2013 was a lousy month and its start to February was its worst in years. Apple's iPhone manufacturer Foxconn just announced a hiring freeze in China because of a decline in iPhone production. Italian industrial production new orders were down 15%. You can feel the recessionary malaise setting in.

"We are entering a period of steady decline in economic well-being, notwithstanding the suggestions of central planners that H2/13 will be great."

Weakness begets weakness, and there are only two ways to stop weakness: fiscal policy and monetary policy.

No one has any room for aggressive fiscal policy anymore. The U.S. is looking at sequestration. We just had a 2% tax increase. There is nothing left in the cupboard for fiscal stimulation. On the monetary side, we are at 0% interest rates, and we are printing money nonstop.

We are entering a period of steady decline in economic well-being, notwithstanding the suggestions of central planners that H2/13 will be great. They always say the second half will be great because they know the first half will not be.

TGR: In your opinion, what are the most important indicators of what is really happening in the economy?

ES: There are many indicators: rail car loadings, car sales, personal income, consumer sentiment, to name a few.

Granted, most of the consumer sentiment numbers have been OK, but a lot of those numbers follow in line with the stock market. Anyone who thinks that 70% of the population is better off has to be mistaken. The 2% increase in withholdings on someone's salary implies a much bigger impact on his or her discretionary spending because a lot of spending is dedicated to things that do not change: mortgage payments, insurance costs, the cable bill. When you knock 2% off the top, it could affect discretionary spending by 4–5%.

The one indicator you do not want to watch is the stock market because it is part of the financial fabric that the central planners are desperately trying to hold together. Not a week goes by without a crisis. Four weeks ago, it was Banco Monte dei Paschi. Three weeks ago, the third largest bank in the Netherlands had to be bailed out. Last week, Peugeot had to get a loan from the European Central Bank. Now the largest homebuilder in Spain has declared bankruptcy.

TGR: Which takes us back to the first question: If there is no recovery and the economy is still languishing, why did gold and silver both drop last week?

ES: This will sound like a conspiracy theory, but unusual things are happening in the gold and silver markets.

For example, on Feb. 19, nearly an entire year's supply of gold traded on the Comex in a single day. The same volume of silver trading happened on the commodities exchange. You and I both know that the people selling that much metal cannot deliver it because it is just not available. Yet somehow they are out there, pounding down these contracts and keeping the price suppressed.

"Unusual things are happening in the gold and silver markets."

I would hypothesize that the central bankers know their policy of printing money is the most irresponsible thing imaginable, and they are suppressing gold and silver prices to hide their irresponsibility. When one is printing that much money, gold and silver prices are the first things you would expect to rise. If we saw gold going to $2,000/oz, the price of oil would probably go to a new high and the price of agricultural commodities would go up. Then you would have a huge inflation problem on your hands.

Based on my research, I believe the Western central banks have been surreptitiously supplying gold to the market. I say this because the demands I see for physical gold are way beyond the supply of gold. The annual gold supply has not changed in 12 years, and demand just keeps increasing from China, India, the U.S. Mint and silver and gold coin sales; even the non-Western central banks are buying gold. Where is this gold coming from? I think the Western central banks are selling gold to keep the lid on the price so everyone thinks their monetary policies are benign. Nothing could be farther from the truth.

TGR: But wasn't Feb. 15's volume blamed in part on reports of a few large fund managers selling their gold exchange-traded funds (ETFs)?

ES: That may very well have happened. A lot of these paper things trade together, and the gold in the ETFs is paper gold at best. I have serious reservations about whether there is actual physical gold in the gold ETFs.

When I see China buying 95 tons of gold in a month and I know that the world's monthly production is only 180 tons, that represents half the gold. India bought 100 tons in January, more than 50% of the gold supply. Between China and India, they bought 100% of the available gold. So, where did the gold bought by the rest of the world come from? From the Western central banks, as far as I'm concerned.

TGR: Does this policy of suppressing the price of precious metals hold for silver, platinum and palladium as well and how is it affecting supply and demand in those metals?

ES: The monetary authorities have never really focused on platinum and palladium because they are more industrial metals and very few people watch their prices. We watch them now because we have a public platinum and palladium trust.

"You want to own and store physical metal assets yourself or know that you have access to them."

The platinum price has gone up and the paper markets are starting to get involved. I suspect that is because there are shortages of platinum and palladium. If their prices skyrocket, it might kick over into silver and gold. There are people willing to sell contracts for platinum and palladium, even though there will be shortages of both this year. It seems ridiculous to be shorting platinum and palladium, but these misplaced bets were probably placed for a reason: they do not want metals to look as if they could knock the cover off the ball and reveal what the real money printing has caused.

TGR: But would you not expect platinum and palladium to track with the economy and go up in a recovery, while gold would not do as well?

ES: Gold is more of an investment vehicle. About 90% of all gold produced each year is used for investment. And, yes, a lot of platinum and palladium are used for industrial purposes. The same is true of silver. When there is not very much available for investment, the investment demand for silver, platinum and palladium will make the difference.

In my view of the economy, industrial demand might decrease. But if that happens, we would go right back to the unresolved problem of all this outstanding debt. In a weak economy, people start questioning the value of the credits of the outstanding loans. We go back into the same banking crisis that we had in 2008, in which the banks would have failed had the government not stepped in. Now, government intervention is a regular occurrence.

TGR: You invest in equities and physical metals through your various funds and trusts. What do you consider to be a balanced portfolio in today's world?

ES: You must have, at a minimum, 10% in gold and silver. I probably have 80% of my money in gold and silver. For my funds, I have 80% in gold and silver and equities.

Did you know that gold and gold shares represent 1% of all financial assets today? Some very mainstream people have come out in favor of gold recently: Bill Gross at PIMCO, Ray Dalio at Bridgewater Associates and Ned Davis Research, for example.

TGR: How do you adjust your portfolio based on what is happening in the world?

ES: I do not adjust my portfolio. I take a long-term view of gold and silver. When I first got in the gold and silver markets, I could see that there should be a supply shortage. I never dreamed of the tailwinds provided by money printing and bank runs.

Your readers should ask themselves if, in a weakened economy, they would rather own a U.S. bond that yields 2%, a stock trading at a multiple of 15 or gold and silver, which are in bull markets already and undoubtedly will be up at the end of the year? The answer should be obvious.

TGR: What balance do you strike between the physical metal, the junior companies and the producing gold and silver companies?

ES: Our funds probably own one-third of their precious metal assets in physical bullion. Of course, we have $5 billion ($5B) in funds dedicated 100% to physical assets.

In the funds I manage, I am about one-third physical, one-third gold equities and one-third silver equities. Silver equity is way overweighted because the number of silver equities available is very small.

I think silver will outperform gold this year and for the next 10 years. I think silver should trade at a 16 to 1 ratio to gold; in other words, if gold is $1,600/oz, silver should be $100/oz; if gold goes up to $3,200/oz, silver should go to $200/oz. I am way more inclined to be involved in the silver space than the gold space, but I am involved in all of it, and that is what I would recommend.

However, people can make their own risk assessments. The risk in the gold equities is that they are leveraged to the gold price at least 2:1, if not 3:1. If gold goes up 10%, the equities go up 30%, and vice versa. Gold is a riskier bet, but if you believe in the thesis of gold going higher, it is a bet that has to win given the passage of time.

Precious metals investors are not going to win the game in the paper market. We have to win it in the physical market. More and more people are taking delivery of their physical gold.

TGR: This was supposed to be silver's decade. Why is it still below $30/oz?

ES: Silver has had a good run. I think it started the decade at $20/oz, reached $50/oz and is now at $29/oz. A lot of money can and will be printed in the next seven years. There is lots of time for physical silver to prove that it was the investment of the decade.

TGR: Why is it so important where physical bullion is stored?

ES: There are examples of people thinking they owned gold when they did not. For example, when MF Global went down, people could not get possession of their gold. In the case of the SPDR Gold Trust (GLD:NYSE) and the iShares Silver Trust (SLV:NYSE), we know they are short sellers. Therefore, there is no silver there for the person who bought it from the short sale.

If a fund's physical assets are being stored with a financial counterparty that goes broke, the gold and silver will not be available. People should reduce their risk by buying it from a bullion dealer and either taking physical delivery or knowing where it is on deposit.

You want to own and store physical metal assets yourself or know that you have access to them. Our trusts, for example, are all redeemable in gold, silver, platinum and palladium. That requires investing in larger amounts. I think you have to buy a 400-oz gold bar, which puts it out of most people's reach. But you can rest assured the gold is there.

TGR: What final piece of advice would you leave our readers with today?

ES: Be very wary of what we are being told about a recovery. We were told there would be a big recovery in 2012; there was none. Now we are being told about a nice second half recovery, because there has been no recovery in the first half. There probably will not be a recovery in the second half either.

On Jan. 17 the Treasury Department reported its Generally Accepted Accounting Principles (GAAP)-based budget deficit for 2013. It reported a $1.2 trillion ($1.2T) cash deficit, which is a measure of the change in the present value of future liabilities, such as Social Security, Medicare and Medicaid payments, and civil service pension plans, that the government must pay. In 2011, the total deficit was $5T. In 2012, it was $6.9T. Yet, Congress is haggling over how to save $100B. This is a $16T economy.

You cannot like bonds. It is difficult to like stocks in this environment. Instead, stick with the precious metals; sooner or later, we will win the physical war, and the prices will react accordingly.

TGR: Thank you for taking the time to share your time and insights, Eric.

Click here to read The Gold Report's transcript of the Sprott Precious Metals Round Table webcast with Eric Sprott, John Embry and Rick Rule.

Learn more about Sprott Money's storage service here.

Eric Sprott has over 40 years of experience in the investment industry. In 1981, he founded Sprott Securities (now called Cormark Securities Inc.), which today is one of Canada's largest independently owned securities firms. After establishing Sprott Asset Management Inc. in December 2001 as a separate entity, Sprott divested his entire ownership of Sprott Securities to its employees. Sprott's predictions on the state of the North American financial markets have been captured throughout the last several years in an investment strategy article that he authors titled "Markets At A Glance." Sprott has been widely recognized for his strategic insights and his accurate market predictions over the years.His newest ventures are Sprott Money Ltd., one of Canada's largest owners of gold and silver bullion, and the recently launched Sprott Physical Platinum and Palladium Trust.

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1) JT Long conducted this interview for The Gold Report and provides services to The Gold Report as an employee or as an independent contractor. She or her family own shares of the following companies mentioned in this interview: None.
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3) Eric Sprott: I was not paid by Streetwise Reports for participating in this interview. Comments and opinions expressed are my own comments and opinions. I had the opportunity to review the interview for accuracy as of the date of the interview and am responsible for the content of the interview. 
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