Victor Flores HSBC Senior Mining & Metals Analyst

Will a rising bullion price lift gold shares with it?

Headquartered in London, HSBC is one of the largest banking and nancial ser- vices organizations in the world. HSBC’s international network comprises over 9,500 of ces in 76 countries and territories in Europe, the Asia-Paci c region, the Americas, the Middle East and Africa.

IRW: the last couple of years have been an interesting time for the precious metals sector. What are your views on the current commodity trends?

FLoRes: We are still fairly constructive on the outlook for gold; it’s primarily driven by our view at hsBC that the dollar will continue to decline. some people may have noticed that the gold price has done reasonably well even during a period where the dollar was advancing relative to the euro. there has been a fair amount of discussion about the decoupling of gold from the dollar and about a new relationship or the re-establishment of an old rela- tionship with oil and energy complex. i would offer the view that the relationship was somewhat transitory; that is a good transfer mechanism to explain it and the key relationship remains at between gold and the dollar.

IRW: if we have the dollar impact and global economies still at least growing at various rates, do you see metals prices trending higher over time?
FLoRes: We are of the view that we’ll probably see base metal prices soften somewhat, because we think the U.s. economy is going to slow next year, relative to this year. We also believe that a lot of what we see happening in China is going to slow down a bit, because some of the policy initiatives being undertaken are going to start coming through. in fact, we have already seen that copper imports into China have come off somewhat. our view is that metals prices overall will soften somewhat, given the slowdown in economic activity, but that would be a positive for gold; any slowing in the U.s. would mean that rates would start to come down, and we would start to see the dollar lose ground against the euro.

IRW: in terms of the silver markets, do you have any specific observations?
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FLoRes: it’s similar to our view on gold; i don’t necessarily argue that the silver market is driven by an inverse relationship with the dollar, but it is symptomatic of any renewed interest in gold and silver as a speculative in- vestment. in both gold and silver, we have seen the creation of exchange- traded funds be very successful, which has enabled pent-up demand from both retail investors and institutions to make its way into the market; this has, therefore, created an additional source of demand for both metals. We are constructive on the two quasi-currency precious metals, less so on the base metals, and in terms of the platinum group metals, we think they are going to tend to soften somewhat, because the de cit will be smaller or will be erased next year.

IRW: turning to the investment outlook for stocks, how would you de- scribe your overall strategy in the metals area?

FLoRes: it’s slightly more circumspect. We are still fairly positive on the metals; we believe gold prices will average $660 next year, relative to $605 for 2006, which implies a 10% year-on-year increase in the metal, and which is quite good. am i that excited about the outlook for the stocks? Not necessarily — for a few reasons. First of all, the gold price right now is $630 on a spot basis. so, move on average to $660 even though that implies it might be above that level at some point in time. it may not necessarily be re ected in good share price performance. What we’ve seen is that for the larger companies in my coverage universe, the market has become disaffected, because there is a lack of production growth, costs have been much higher than anticipated, and because the overall returns have been lackluster. investors seem to be giving these stocks a miss and have moved through to second and third-tier names. i believe the outlook for the companies is more dif cult than it is for the metal itself; it has become more dif cult to attract investors into these names. therefore, i would describe my stance as being more neutral.

IRW: are there any particular niches or sub-sectors that still have your attention either as earnings stories or acquisition stories? on that note, we’ve had some signi cant acquisition activity in the metals area.

FLoRes: yes, we have; my sense is that it’s bound to continue. if we are partially or totally correct in our view that the gold price will be higher next year relative to this year, then the consolidation we’ve seen will continue, because some of the work we’ve done indicates that the level of M&a activity is related to the directional move in gold prices. it stands to reason that because companies are much more willing to buy other companies when they think the price is going to go up, because in addition to their view about valuation, if the price goes up subsequent to the acquisition, they end up looking good. on the ip side, if companies believe the price is going to soften, they are not going to buy other companies, because they gure they might as well wait and buy things more cheaply. if we are right and direc- tionally the move is up, then we’ll continue to see M&a activity.

IRW: Back to an investment strat- egy — where would you be mov- ingnoworputonalistofthe kinds of companies you might be looking at down the road?

FLoRes: overall, we are that at
this point in time, there is better
value in the larger companies, but
that has taken place to a certain
extent because these companies
have been left behind. even a
move in the gold price hasn’t been
an ef cient catalyst to draw investors back in. We could see a situation where some of the mid-tier companies, which right now have market at- tention, stumble for one reason or another, and investors once again yield that they prefer the ‘safety and stability’ of the larger names. From a valu- ation point of view, the better values are in the large companies, names like Barrick gold, gold Fields, anglogold ashanti, or even Newmont, which have some dif cult headwinds right now, but are much more attrac- tive. there is a small group of mid-tier companies we rate overweight; the reason for that is that they have been undiscovered by the market or have had issues that prevent them from being fully re-rated, which i believe they will at some point in time.

IRW: Do you think the main catalyst for that would be another move up in the gold price?

FLoRes: a move up in the gold price can never hurt. in the case of a company like randgold resources, which we rate overweight, and for which we have raised money over the past 12 months, and is one of our clients — yes, the gold price moving up would help, but this is a company where we think there will be resource and reserve growth, and where we expect further production growth, which should drive the shares higher. once the market recognizes that, we will see the stock perform relative to