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Rating Risk & Understanding Issues

As the bull advances, risks become more varied - and important. Plus news from CXO.V and the Philippines in context.
Oct 3, 2016

Last week’s Maven Letter was a lengthy one because I assigned a risk rating to every stock in the Maven portfolio.

Before the bull market began, every mining investment was high risk. The undervaluation was obvious but so was the risk, because there was no way to know when or how strongly the market might turn.

When the turn got going, risk dropped. Investing in gold miners was still a contrarian move early this year but, if you believed that gold was going for it, you could have thrown a dart at a list of gold producers and your portfolio would have done well.

Now both of those phases are over. The deep value, high-risk days of the late bear market are done, as are the early everything-rises days of the nascent bull. Today, as the market matures, it is offering a wider range of investment options – and as options increase so do risks.

That’s where crafting a subscriber portfolio is tough. Each investor has a different risk tolerance. The Maven Letter is about what I am buying and selling, but if that information is to be useful to others then my methods deserve better definition.

Now that we are in a proper bull market, I am naturally inclined towards higher risk opportunities. My network of contacts means I learn about new ventures or interesting prospecting results early and my level of knowledge means I can assess whether such opportunities offer the right balance of risk and potential reward to make a move.

That being said, I also hold more conservative stocks. Risk is risk, and I buffer my portfolio from its abundance of exploration risk by holding producers, developers, and royalty companies.

Each recommendation will now be labeled, noting where it fits within that risk range. Hopefully the information will help subscribers identify which of my suggestions fit their risk tolerances.

If you’d like to see the risk-rated Maven portfolio and you haven’t tried out the free trial yet, click HERE to sign up.

For today’s snippet: my comments on the market’s response to Colorado Resources’ drill results and on rising risk in the Philippines. In the letter I also recommended a new stock, sold four holdings, and assessed news from several portfolio companies – but that info is for subscribers only!

Colorado in Context

Maven readers will know that I visited Colorado Resources’ KSP project in northwest BC a few weeks ago. I came back impressed: KSP is a very large land package covering several big targets marked by highly altered rocks, significant soil anomalies, high-grade grab samples, and promising historic work.

I recommended the stock on September 8th at $0.475. I wanted to get the rec out before CXO released its next set of drill results in case they were good and caused a pop.

The opposite happened. Last week Colorado released results from 15 holes testing the Inel area at KSP. The news sparked a 47% share price decline over three days. Investors have since moved back into the stock somewhat, cutting the loss to 37%.

Were the results that bad?

Not really, is my take, but a few factors conspired against CXO to cause the selloff.

One was expectations. I’ve mentioned this before in relation to Colorado: the company talked up some of the very high grade historic results from Inel before the season started and as a result the market had very high expectations. I think investors wanted Colorado to discover another Valley of the Kings (the very high-grade deposit that Pretium is building into a mine 30 km to the east) right off the bat. Such expectations were bound to fail: it took decades and multiple companies exploring the area before anyone drilled into Valley of the Kings. Colorado’s first pass drill program was unlikely to succeed on that level.

That doesn’t mean it was a failure. In fact, the program generated some good results.

The map shows the Inel target area. Three trends cut across Inel, running north-south in line with the topography. The drill effort tested this 500- by 600-metre area at roughly 100-metre centres and results included several multi-ounce intercepts.

Zooming in: nine of the 13 holes reported to date along the Discovery zone trend returned at least one intercept of 5 g/t gold or more over one meter and some of the intercepts were very high grade, such as 53 g.t gold over 1 metre. Moreover, several of these high-grade hits were enveloped in broad, lower-grade intercepts like 2.11 g/t gold over 99 metres.

Why the selloff then? Because those unrealistic expectations had the market wanting bigger and better numbers, because the fact that some holes missed created concern that the zones of mineralization at Inel are not continuous, and because an impactful newsletter writer issued a Sell recommendation.

Let’s address the continuity question first. It is too soon to know whether the intercepts at Inel connect into continuous zones. The company is working to answer that question now and (after some prodding from yours truly, among others I’m sure) I expect Colorado will include some cross sections with the next set of results. The cross sections will have gaps and guesses because drill spacing is still broad, but some outline of how intercepts line up would help. Right now the only cross section available is this photo of a hand-drawn section.

Something more detailed and scaled would help the market understand how the zones are actually shaping up. I don’t know whether the intercepts will line up and delineate mineralized zones with good continuity or not. I do know that Inel does host very high grades, also offers wide intervals of lower-grade mineralization, and needs more work.

Scale is another aspect that is hard to convey. The Inel area is fairly large, at least compared to the area needed to host the kind of high-grade deposit Colorado seeks. As president Adam Travis said in conversation with me yesterday, “There is still a huge amount of room at Inel inside where we have drilled, because the area is big and the drill spacing is loose.”

And outside of Inel, the KSP property has a myriad of targets.

The coloured outlines show significant soil anomalies. Colorado did some prospecting, mapping, and sampling in these other areas this summer but completed only limited drilling (four holes at Khyber Pass and two at Tami). Those holes deserve follow up, as do other areas on the property.

OK, now to that other point: another newsletter writer issued a Sell recommendation that amplified the selloff. It was an interesting decision in that the letter had bought CXO as much for its regional opportunities as for the potential to find a Valley of the Kings type deposit at Inel and this set of drill results only addressed part of that question, but that doesn’t matter. What matters is that the Sell rec certainly added downside pressure and in one of those vicious cycle situations the price decline spooked traders who then sold out of fear, creating more pressure and continuing the loop.

The final force at work in the selloff was the June financing, which came free trading only two weeks ago. That raise included flow-through shares with a cost base of only about $0.26. The fact that flow-through placement buyers could sell at a gain down to that level would have added to the selling pressure.

By the time CXO bottomed its market cap was only about $15 million. The company has $3 million in the bank, more or less, so the market was valuing Colorado’s whole portfolio (there’s more than just KSP) at $12 million. That’s cheap. KSP is a large asset with multiple clear targets in one of the hottest jurisdictions in the world. North ROK is a porphyry discovery beside a highway in northern BC.

I will likely add to my position to lower my cost base, but I do not think there is a rush. CXO has one more set of drill results to release, which should be out soon, and then it will be quiet time through the winter. There will likely be opportunities to buy through those quiet days.

Political Risk Rears Up in the Philippines

Until two years ago Indonesia was the top supplier of nickel to China, which needs the metal for steel. The need is so large that Indonesia’s surprise enactment of a mineral export ban in early 2014 pushed nickel prices up 50% over the following few months.

Prices slumped back down, however, once the market realized that there was enough nickel elsewhere to compensate for the loss of Indonesian supplies. Philippine nickel played a big role in filling that gap, taking Indonesia’s place as China’s top nickel supplier. But now politics are disrupting things again.

Philippines president Rodrigo Duterte and natural resources secretary Regina Lopez have been positioning as explicitly anti-mining since Duterte won power in June. They say the goal is environmental protection and to that they enacted a nationwide audit of mining operations. The audit has already forced the closure of 10 mines and now another 23 are threatened with forced closure.

Among those closed and threatened with closure are 18 nickel operations responsible for 55% of Philippines nickel output. Combined with Indonesia’s ongoing export ban, the loss of Philippino nickel could pinch global nickel supplies.

That potential pinch has yet to make a significant impact on nickel prices, however. Yes, a 30-day chart looks dramatic.

But a one-year chart shows a pretty stable price, while a 5-year chart shows a depressed market.

These political developments do not have me excitedly seeking nickel opportunities. Just as the market managed to work around the loss of Indonesian nickel, I think it will find a way to replace whatever Philippine nickel goes offline.

The situation is significant, though, as a reminder of political risk. The Philippines is a country in transition. Since taking power three months ago President Duterte has pushed through a bloody crime crackdown that has claimed over 3,000 lives and has actively tried to alienate long-time international allies like the United States.

Amidst that, this mining audit and its resulting rushed and poorly explained mine suspensions from a president and natural resources minister who seem intent on shutting down this important part of the country’s economy suggest risk is very much rising in the country.

It is hard to predict where risk might rear up. Right now it is in the Philippines, which has become a jurisdiction to avoid. Share prices of operators with exposure to this mess are tanking: Oceanagold (TSX: OGC) is down 15% and B2Gold (TSX: BTO) is down 11%.