Investment Philosophy, Process & Secular Bull Market in Commodities Frank Holmes Chairman/CEO/Chief Investment Officer U.S. Global Investors, Inc. : Investment Philosophy, Process & Secular Bull Market in Commodities Frank Holmes Chairman/CEO/Chief Investment Officer U.S. Global Investors, Inc. U.S. Global Investors, Inc.
7900 Callaghan Rd.
San Antonio, TX 78229
210.308.1234
Multidisciplinary Focus: Multidisciplinary Focus
U.S. Global’s Alpha: Source: Morningstar, as of 12/31/05 U.S. Global’s Alpha According to Morningstar, alpha is a measure of the difference between a fund’s actual returns and its expected performance, given its level of risk as measured by beta. A positive alpha indicates the fund has performed better than its beta would predict. In contrast, a negative alpha indicates the fund’s underperformance, given the expectations established by the fund’s beta. All MPT statistics (alpha, beta, and R-squared) are based on a least-squared regression of the fund’s return over Treasury bills (called excess return) and the excess returns of the fund’s benchmark index.
Our Group Leaders: Our Group Leaders As of 12/31/05
Investment Performance: What does it take to create Alpha?
Strategy – Matrix of dynamic models.
Tactics – Implementation & execution of models with passion. Investment Performance
Investment Performance: Strategy – Design dynamic models and robust processes to be in the top half of peer group.
– Systematic team work and time management.
Tactics – Love and spirit to win
– Attitude…
“Execute or be executed by the market!” Investment Performance Guard Manu Ginobili Coach Gregg Popovich
Time Management: Time Management Top Down
Monday
We focus on macroeconomic factors and their inter-market relationships.
Bottom Up
Tuesday through Friday
We focus on finding the best stocks to own, based on critical drivers.
Organize
Data
Rate of change over 5/20/60 days
Cycles – Principles of Continuous Revolution: Cycles – Principles of Continuous Revolution Every cycle – irrespective of degree or significance – contains its own unique rhythm.
From daily tides to the solar system, life is governed by the cyclical principle.
Mean Reversion: Mean Reversion Investments can have wide price swings during any given year. But, over time, they usually revert to their long-term averages. This principle is called “mean reversion.”
Market Exuberance…: Source: Deutsche Securities estimates Through the Cycles Discounts and Premium to NPV Peak cycle premium (over valuation) Justifiable range? Base cycle discount (under valuation) Market Exuberance…
Cycles – Where are we on the…: Cycles – Where are we on the… Kuznet Cycle – 20-year Emerging Market Cycle That Drives Commodity Demand.
Presidential Election Cycle – 4-Year Cycle
Seasonal Cycle – Commodity and Stock Market Patterns
Presidential Cycle: Presidential Cycle Months Source: Bloomberg
Seasonality for Oil: Seasonality for Oil Source: Bloomberg
Volatility Timing: Risk Management: Volatility Timing: Risk Management Raise Cash Invest Cash Source: Bloomberg
Volatility Timing: Risk Management: Volatility Timing: Risk Management Raise Cash Invest Cash Source: Bloomberg
Reasons for Secular Bull Market in Commodities: Demand Drivers:
1. Global “synchronicity” of economies
2. Asia’s strong GDP & IP growth rate
Supply Drivers (Restrictions):
1. Higher barriers to entry due to global environmental and governmental regulations
2. Long lead time from exploration to production
3. Geopolitical events Reasons for Secular Bull Market in Commodities
Fueling Demand: Asia consumes 19 million barrels of oil daily with a population of about 3 billion. By contrast 285 million Americans consume 22 million barrels a day - a per capita consumption more than 10 times higher. “Asia will revolutionize the geopolitics surrounding the oil producing regions of the world”
– Dr. Marc Faber 2 3 4 5 6 1997 1989 1991 1993 1995 1997 1999 2001 2003 (est.) (m barrels/day, 12-month average) Asian Guzzling – Crude Oil Demand Source: Oil Market Intelligence, Ed Yardeni / Prudential Securities, International Energy Agency Fueling Demand
Oil Consumption: Oil Consumption per capita:
1 to 28
1 to 18
1 to 7
1 to 1.7
0.7 Oil Consumption Source: Dr. Marc Faber
Energy : Oil prices transition from inventories to spare capacity
A demand led rally versus “supply shocks” in prior cycles
Spare capacity under 2% of demand compared to a 10-year average of 9% From inventory led… … to capacity driven Source: Smith Barney, Bloomberg, CIR Energy
Energy : Natural Gas
“Kat-Rita” disrupts as much as 15% of total production
Mild weather saves winter storage
Record rig count struggles to increase production Energy
Bulk Commodities: Growing demand for low sulfur Powder River Basin coal
- PBR jumps from $6 per ton to $16 per ton
Metallurgical Coal and Iron Ore surge on higher steel consumption.
- Met Coal jumps 125% and Iron Ore increases by 70%
Electric power demand for coal is expected to increase by 3.2 percent in 2005 and another 1.2 percent in 2006 Bulk Commodities
China’s Steel Demand: Chinese steel consumption is still low compared to other developed economies. Korean and Taiwanese per capita steel consumption is 4 to 5 times larger than Chinese. If China was to rise to Korean steel consumption levels, the demand would stay strong for 25 years at 5% growth. Global Steel Consumption and GDP per Capita Source: IISI, The Economist, CSFB estimates China’s Steel Demand China Taiwan
Bulk Commodities: Steel prices rebound following inventory de-stocking
- Chinese steel production up 19% in October, down from 41% in May
- China a net importer for the past 4-months
- US inventories fall to 2.7x monthly sales
- US pricing may weaken given that import prices are $50 to $100 per ton cheaper
Bulk Commodities
Base Metals : Copper market deficit in 2005
Smelter/refinery bottlenecks, labor issues and rising capital costs restrain supply
LME inventories at a 30-yr low this summer
Aluminum has lagged in 2005
Chinese tax policies will slow exports
Alumina capacity expanding but power costs continue to climb Base Metals
Base Metals: Nickel- first half consumption up 3.6%, Stainless steel production to increase in 2006
Zinc prices at a 10-yr high on growing demand for galvanized steel, Chinese imports at record levels
Uranium market in chronic deficit… 29 new reactors are under construction worldwide
Platinum Group Metals following Gold, Palladium at $286/oz and Platinum above $1000/oz Base Metals
Opportunities: Rising costs imply higher oil prices Opportunities
Opportunities: Hurricanes Katrina & Rita – Gulf damage more extensive – supply constrained
- 113 Platforms Destroyed (Ivan 7)
- 46 Rigs adrift,damaged or destroyed (Ivan 10)
- 98 Pipelines damaged (Ivan 102)
- Nearly 3 months after Katrina, over 80 million barrels of production has been shut-in
- By mid 2006, cumulative GOM shut-in production could total 160 mmbls vs. Ivan’s 50 mmbls. Opportunities
Opportunities: The goal of higher commodity prices is to spur new investment…
Worldwide exploration and production expenditures are now forecast to rise by 15% in 2005
Higher commodity prices are leading to strong cash flows and higher capital spending
Opportunities
Opportunities: “The Golden Age of Refining”
Lack of global refining capacity a rapidly emerging issue
No new refineries built in the US since 1976
Total world refining capacity surplus has declined from 7.5 million b/d in 1994 to 3.8 million b/d in 2004
Refineries in the US have 17 million b/d of capacity at 95% utilization, and must import 3.1 million b/d of refined product to meet demand
Barriers to entry….According to a recent Shell study, it can take up to 10 years and $3 billion to build a 200,000 to 300,000 bbl/d refinery
Very tight capacity leaves no room for error Opportunities
Investment Opportunities in Natural Resources: Investment Opportunities in Natural Resources U.S. Global Investors Global Resources Fund (PSPFX) vs S&P 500 Index
5 Year Performance (Dec 00 - Dec 05) Annualized Total Returns as of 12/31/05: Performance data quoted above is historical. Past performance is no guarantee of future results. Current performance may be higher or lower than the performance data quoted. The principal value and investment return of an investment will fluctuate so that your shares, when redeemed, may be worth more or less than their original cost. Obtain performance data current to the most recent month-end at www.usfunds.com or 1-800-US-FUNDS, option 5. Please keep in mind that high double-digit and triple-digit returns are highly unusual and cannot be sustained. Recent returns were achieved during favorable market conditions, especially within the natural resources sector.
What’s Driving Gold?: We have a unique situation where all the critical drivers for gold are pointing in the same direction. What’s Driving Gold?
Asset Allocation: Asset Allocation 25% - Fixed Income
25% - Domestic Equities
25% - International
25% - Hard Assets
Disclosure: For more information on any U.S. Global fund, including charges and expenses, obtain a funds prospectus by visiting us at www.usfunds.com or call 1-800-US-FUNDS (1-800-873-8637). Please consider carefully the fund’s investment objectives, risks, charges and expenses. Read it carefully before investing. Distributed by U.S. Global Brokerage, Inc. An investment in a money market fund is neither insured nor guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although the fund seeks to preserve the value of your investment at $1.00 per share, it is possible to lose money by investing in the fund.
All opinions and estimates in this report constitutes U.S. Global Investors’ judgment as of the date of this report and are subject to change without notice and provided in good faith, fairness and reasonableness but without legal responsibility. Foreign and emerging market investing involves special risks such as currency fluctuation and less public disclosure, as well as economic and political risk. Gold funds may be susceptible to adverse economic, political or regulatory developments due to concentrating in a single theme. The price of gold is subject to substantial price fluctuations over short periods of time and may be affected by unpredicted international monetary and political policies. We suggest investing no more than 3% to 5% of your portfolio in gold or gold stocks. The S&P 500 Materials Index is a capitalization-weighted index. The S&P 500 Energy Index is a capitalization-weighted index. The S&P 500 Stock Index is a widely recognized capitalization-weighted index of 500 common stock prices in U.S. companies. Investing in small- and mid-cap stocks may be more risky and more volatile than investing in large-cap stocks. Tax-exempt Income is federal income tax free. A portion of this income may be subject to state and local income taxes, and if applicable, may subject certain investors to the Alternative Minimum Tax as well. Bond funds are subject to interest-rate risk; their value declines as interest rates rise. Holdings as a percentage of net assets as of 12/31/05: Shell: (0.00%)
Disclosure