CEF - Sprott Physical Gold and Silver Trust: Eyes On The Prize

2023-10-13 17:02:52 ET

Summary

• Sprott Physical Gold and Silver Trust shares have retraced their gains from earlier this year.
• CEF shares are now trading at a 5% discount to the net asset value of the fund.
• The macro setup is very troubling for broader risk assets like equities. In my view, safe haven assets are the right place to be today.

In October 2022, I covered the Sprott Physical Gold and Silver Trust ( CEF ) for Seeking Alpha. At that time, I assigned CEF a "Strong Buy" and laid out my case for why I felt the shares were a gift under $16. After rallying up to $20 per share in April, things looked good for the metals and for CEF shareholders. But in the time since, metals have retraced and CEF has given back much of the gains from earlier this year. That retreat has led to questions like this one from the comments section in my last CEF article:

A year later, still a gift? No recession and gold prices well below $2000 all a bit disappointing.

I share the feeling. It is disappointing seeing investments do the opposite of what we think they should be doing. For me, this is a good opportunity to take another look at the setup for precious metals and bullion funds like CEF. Should we bail now and lock in what is left of our gains or stay the course?

How Bad Is It Really?

While it has been a frustrating back half of the year for CEF holders to this point, it's important to keep in mind how the fund shares have performed since my last article was published. The price change in CEF shares has actually outperformed the S&P 500 since that time:

That said, the total return is a slightly different story. Two things working against CEF here are the 0.49% expense ratio and the small dividend yield from longing the index. Something else to consider though is that CEF can often trade at a sizeable discount to the net asset value of the fund and that has actually worked against CEF lately as well.

Net Asset Value

While there has been some oscillation in CEF's discount to NAV in the year since my last article, it's actually trading at a bigger discount today than it was last October:

At 5.18% under NAV, CEF shares are trading well below the discount trend over the last three years. I think this is indicative of a market that is getting disgruntled with metals since the triple top in gold earlier this year. For investors who like to pick allocation percentages themselves, CEF might be a bit limiting. However, for investors who want a simple proxy on precious metals increasing in price, I think CEF works well and the skew to gold is justified. The current makeup of the fund looks like this:

Sources: Sprott, ounce figures as of 9/29/23, spot price as of noon 10/13/23

With over 67% of the fund's market value coming from gold, silver bulls may find Sprott's Physical Silver Bullion Trust ( PSLV ) to be a better option. Though I think it's worth pointing out that when comparing the share price to NAV, CEF is a much better buy today than buying the individual bullion funds:

Again, if you're a silver maximalist, CEF may not have enough silver for your liking. Especially with a Gold/Silver ratio currently flirting with high 80's. But if you're just looking for simple precious metals exposure, CEF at more than a 5% discount to NAV is tough to pass up, in my opinion.

Metal vs Yields

I think the other thing to keep in mind is that short term T-bills now pay 5%. The US 10-year is over 4% and the metals are actually holding up really well in spite of that:

We saw CEF have an inverse relationship with US debt back during the COVID boom in risk assets. CEF is only down about 16% from the 2020 high even though bond yields have absolutely ripped from under 1% to over 4% in the time since. To me, that's indicative of the "system insurance" value of the metals. And given what we're currently seeing in the macro, I still think CEF and other bullion funds offered by Sprott are a fine place to be.

Macro Environment

Let us not forget that since last October, we've had a banking crisis, a US credit downgrade, and now we can add tragedy in Israel as conflict with Palestine escalates to the list of problems in the world. Furthermore, we still have the looming possibility that China may soon attempt to take Taiwan.

At the same time, the US public debt outstanding just surpassed $33,500,000,000,000. I've intentionally shown the nominal figure because the amount of commas and zeroes are incomprehensible to me. With yields still rising, interest payments have already gone absolutely skyrocketing:

This is almost certainly unsustainable and the problem is there isn't a good way out of it. And that's precisely why foreign nations want a different system and are positioning for de-dollarization. That positioning includes gold.

Risks

You're not going to get any argument from me that in a broader market decline, good assets are often liquidated in sympathy with assets that are under pressure. When equities move lower and margin calls happen, market participants sometimes sell winners to satisfy obligations. There is a possibility metals could go lower from here in a broad market decline. But I continue to believe the long term rewards outweigh the risks today in metals.

Summary

There is absolutely a case to be made for parking capital in short duration t-bills and waiting out what I believe is impending market turbulence. Even I'm looking at the "t-bill and chill" opportunities and finding what I believe to be solid plays . But that positioning is coming at the expense of equities for me, not metals.

In my view, there is quite a bit of geopolitical pressure that I think warrants safe haven positions. I also think we're already seeing signs of stress in the economy and while I like t-bills that pay me 5% to wait today, I'm not sure how much longer US debt can handle rates where they are. If rates come back down and inflation stays sticky, CEF should work really well. Stay patient and keep your eyes on the prize.

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