The big opportunities for gold and silver investors

Ned Naylor-Leyland of the Jupiter Gold & Silver fund discusses the sectors and regions currently showing promise - as well as how the relationship between silver and gold might one day change.

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Dave Baxter, senior fund content specialist at interactive investor: Hello and a very warm welcome back to our Insider Interviews series.

I’m Dave Baxter here at ii and today I’m joined by Ned Naylor-Leyland, investment manager on the Jupiter Gold & Silver I GBP Acc (BYVJRH9) fund. Ned, thanks for joining today.

Ned Naylor-Leyland, investment manager on the Jupiter Gold and Silver Fund: It’s an absolute pleasure.

Dave Baxter: The fund’s performance reflects the kind of roller-coaster ride for gold and silver in the last year. You’ve had a pretty challenging six months or so, but over 12 months, things look pretty good. How would you manage to smooth that out and would you expect more volatility in the coming year or so? 

Ned Naylor-Leyland: I don’t think that it’s easy to smooth that out because it would infer that you’re able to predict shifts in guidance to do with real interest rates. So, you would need to have a sense of, ‘Oh, it’s about [to] change’. Even if you did have a chance, that’s pretty much going against your mandate anyway because investors want to be invested. They want to be exposed to an asset class. So, I think it’s more a case of position sizing. 

Basically what you’re talking about here is volatility, and is it going to be more volatile, is it going to be less volatile? Well, I would answer it this way. Volatility is only one side of a coin, the other is position sizing. If you’ve got your sizing right, the volatility is just your friend, there’s nothing particularly concerning about that. 

But looking forward to answer the second half of that question, I think it could get more volatile rather than less. I think there are a lot of structural risks that are not priced into anything. So, the likelihood of greater volatility, in my view, is probably more obvious than lower volatility. 

But as I say, I think that the issue here is sizing. One of the problems of this topic is that people generally have an emotional overlay. With most things, they don’t. If you talk to an investor about their fixed-interest exposure or their wider equity, they’re not really going to get particularly animated about it. But gold has lovers and haters. Probably more haters than lovers, actually, and that creates a situation where people either have too little and none, or they might have too much. 

If they have too much, then, yes, the volatility can prove trying on a medium-term basis. But I think that portfolios overall have a huge problem with a lack of diversification and, really, they are directionally very stuck at this point with the nature of how portfolios are run and the macro and benchmarking and all of these things are driving a greater and greater degree to which all the assets people hold move the same way. 

And what this is about is money. It’s not really about the equity market. It is about the nature of money and how it is behaving in your hands and in your life. And I think people do need more hedging to it. So, the volatility is fine as long as you size it well. But it may well go up rather than down. 

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Dave Baxter: How do you approach then, that position sizing, because I believe your bigger positions are still in the highest single digits? 

Ned Naylor-Leyland: So, when I was talking about that before, I’m talking about investors’ position sizing rather than my own. I think that position sizing is incredibly important both to the investor and to me as a portfolio manager. 

We feel that over the course of the period we’ve been running the fund, we do have edge on a number of smaller and mid-cap names where we really feel there’s a very bigopportunity. 

We’ve consistently had one or maybe even two positions above 5% in the portfolio, and sometimes running it up nearer 10%, which is, of course, the UCITS (Undertakings for Collective Investment in Transferable Securities) limit. I think that’s merited. It’s proven to be quite helpful to attribution over the long period doing that, and I expect to continue to do that. 

But one of the things about running a UCITS fund is that your concentration is managed for you by the UCITS framework. So, it’s a case of how can you generate alpha within that structure that’s already laid out for you? 

Dave Baxter: Yeah, so you can’t have a single position above 10% and then you have certain other limitations, which we probably won’t get into. Let’s turn then to portfolio activity. You’ve been up to a few things in the fund, what’s been going on? 

Ned Naylor-Leyland: Because the sector has been benefiting from just remarkable free cash flow dynamics, I mean, there’s just so much cash pumping around. Now, the fact that investors are not participating in this is frustrating, but what has happened is, on the ground, you’re seeing a change in behaviour. 

For many decades, this sector has, by dint of being unpopular and operating very skinny margins, struggled to do what a normal equity investor might call R&D, [firms] just haven’t had the cash to go out there and spend on what one might describe as maybe items. 

Now there’s so much cash that what you’re seeing is money going in the ground. This is very important because over the decades, certainly the biggest gold miners have not been putting enough money in the ground to replace the reserves that they’re mining. As a result, right now, and actually over the course of the last 12 months, we’ve seen a lot of very interesting earlier-stage opportunities. 

A lot of people [say] there are no minerals to be found. Now, that’s just not true. There hasn’t been a lot money going into exploration because there’s no obvious immediate return in that process. There can be promises and there can be hopes and fears, but there’s not guarantee that when you put money in the ground, you’re going to find anything at all. 

Having said that, with much higher metal prices, you’ll find old, I mean, a good example would be small open pit gold mines in Australia, very little cover. These things are visible. You’ve probably seen photos or satellite images of what I’m talking about. Little open pits that have been abandoned for 20, 30 years. Well, just think about it. Those things were being mined at $200, $300, $400 an ounce and the US dollar price is well over 10 times above that now. 

Obviously that means that if there’s more material to be found in those areas, then you have very interesting and relatively cheap opportunities to go in, put money in the ground and develop new resources, reserves, and therefore production. 

I think there’s a lot of opportunity in that part of the market. No one’s even buying the large ones, let alone these tiny ones. So, it’s fun, we get an opportunity to get in at what we consider to be ground-floor level with a large stake as well. So long as we like the management, we like the geology, we think there’s an obvious opportunity. We can be up to nine points-something per cent of the register and be a substantial owner in what we think will end up being an important mine in the future.

Dave Baxter: And how is the mix in terms of market cap? Because you mentioned earlier that you felt you had a bit of an edge on some small and mid-cap names. 

Ned Naylor-Leyland: Along with position sizing, the market cap sizing is fundamental. Now, what I would take you back to is the fact we have 17% of physical. This is how we structure the products. By having all this metal in the portfolio at the bottom of it, like the cash foundations, it allows us to be a bit more targeted in the rest of the portfolio. 

Having said that, we do think about it broadly as a one-in, one-out situation. So, if we’ve got something small that we like, we are going to have to justify that if we’re adding that, why are we not getting rid of something similar? So, the whole portfolio is always being thought about in liquidity terms. But remember that those positions are pretty small. 

One of the ones I just mentioned to you, that might be being added initially at, let’s say, 0.2% of the portfolio, whereas I might have a silver producer at 4% or 5% of the portfolio. So, there’s always a balance to be had, and we like to think of the fund, if you imagine a section view,or the White Cliffs of Dover, each section has its own liquidity framework and generally we’re going to protect the integrity of each boundary between each part of the portfolio.

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Dave Baxter: Let’s talk about the difference between gold and silver for those who don’t know it. How much of a correlation is there now? How might you expect them to behave differently? 

Ned Naylor-Leyland: Well directionally, they are perfectly correlated. So, gold goes up, silver goes up more, gold goes down, silver goes down more. Now, it does flex in terms of how much more, like we mentioned before. But you can think about these things as directionally the same. 

What I think is relevant to bring up is that when the capital does arrive from investors versus speculators, generally you will see it happen in a fairly consistent way. So, it tends to hit physical first, then the largest gold miners, then second-tier gold miners, and then you find the capital starts to spread out and reach into silver, into juniors, and eventually down into more speculative expiration stocks. 

It kind of percolates through the capital stack in the way you would imagine it would do, and silver comes after gold normally. Having said that, of course, silver does carry a more interesting narrative with retail investors at the moment because of this point to do with a lack of supply. Silver is being used in everything, in the military, in solar panels, in tech, in digitalisation, in green tech.

It’s extremely important to the modern economy, and effectively in silver, you’re betting against your government and on the future. Which isn’t true of gold, gold is a pure monetary instrument. So, I think that there is a case to say, will silver at some point break away from gold and start to behave in a more exciting way? I think yes, but for now they go together and silver has more beta. 

Dave Baxter: Is there a relative value argument for something like silver? Or is it that, but there’s more risk potentially? 

Ned Naylor-Leyland: It has more upside potential because there is very likely going to be a squeeze at some point i.e. there is just way too much demand, there is not enough supply, there are very low visible stockpiles. At some point, someone’s going to have a delivery failure. Someone’s going to turn around and say, where’s my silver powder? I need it to make x. That hasn’t happened yet, but we’ve definitely got close to that. In Q4 last year, there was a lot of smoke coming out. There was a problem. 

You add to that the fact that, for example, in India, a lot of people are now buying silver jewellery rather than gold jewellery. Now, this is a very, very big market for physical, as you can imagine. It’s a much more accessible jewellery market for a lot of people in India. So, you’ve added another huge source of demand here. 

Personally, I don’t see physical gold really as risky. In terms of returns, if you want to think about it in sterling or dollars, OK, they’re going to move around a lot. But buying physical metal, they’re monetary investments, if you want to use that word, and people generally, when they do it, they do it for the long term. But with mining stocks, of course, that’s not the same. That’s, like I said at the beginning, an active investment. 

Dave Baxter: We briefly touched on this in the first video interview, but can you elaborate on the regions you invest in in the fund? Where you wouldn’t focus on, and perhaps whether that would evolve in the future?

Ned Naylor-Leyland: Yeah, so it’s not going to change. Properly analysing, doing due diligence, and maintaining a model on a gold or silver mine is a lot of work. More work than would be the case with a normal equity. It’s a lot variables. It’s lot of of work, so trying to cover six, seven, 800 of these companies, in my view, is a fool’s errand. So, we don’t do that. We say, look, we’re not going to try and do that, we don’t need to do that, there’s nothing about that that really adds anything to the outcome, so let’s narrow it. 

What we decided when we set the fund up is just to stick to the Americas and Australia. The Americas and Australian are mining jurisdictions. So, you have several generations of trained labour, you have clear regulations, you have good equipment and services, and the top management teams want to be operating themselves in these countries versus going elsewhere. 

I’m not going to throw shade on elsewhere in particular. There are many elsewheres beyond where we operate. In fact, I think we are exposed to about a third of the Earth’s surface, to give you a sense of it. So, two-thirds of it, we just don’t need to be there. 

Occasionally, we’ll miss something as a result. There’ll be something very, very good in that area that we’re not investing in. But it allows us to better understand our stocks and be more on top of the news flow, do enough meetings with the companies that we like and we know and we cover. 

Dave Baxter: And our usual question, do you have skin in the game? 

Ned Naylor-Leyland: Do I have skin in the game? The question is more, do I have any skin out of the game? And the answer is no. 

Dave Baxter: Ned, many thanks for your time.

Ned Naylor-Leyland: Absolute pleasure. 

Dave Baxter: And thank you for watching. As always, do let us know what you think in the comments and if you like this series, do hit the like button and the subscribe button. Thank you, take care.