Samuel Johnson once said, “The use of traveling is to regulate imagination by reality, and instead of thinking how things may be, to see them as they are.” Although penned by an 18th century English writer, the idea holds true in today’s highly connected world of search bars, tweets and breaking news. Our portfolio managers’ research trips to foreign countries authenticates the data from a Bloomberg terminal or an earnings report. Treks add tacit knowledge to our wealth of explicit facts.

This week, I’ve been traveling in Peru and Colombia with former president Bill Clinton and Frank Giustra in conjunction with the Clinton Giustra Enterprise Partnership. I’ve been involved with this impressive organization since its inception. I love how it brings together private companies, government and communities in developing regions of the world to eradicate poverty by growing jobs and training local workers.

As part of the trip, Clinton signed an agreement between the foundation and Peru’s Ministry of Foreign Trade and Tourism to promote and reward hotels and restaurants that buy from local producers.

Each group will give $450,000 over the next three years to train local producers to become suppliers for Cusco’s hospitality and restaurant sector. All told, suppliers should bring in more than $5 million in income over the next five years and benefit more than 1,800 people, according to the Clinton Foundation.

In Cartagena, Colombia, Clinton and Giustra celebrated the opening of a warehouse that will provide a local supply chain for the area’s hospitality, restaurant, catering, and supermarket sectors, as well as the Acceso Training Center, which will train about 20,000 local residents over the next 10 years to work in the hospitality sector.

Moving beyond Latin America, other U.S. Global portfolio managers are finding exciting opportunities on their travels. When Michael Ding recently traveled to Thailand, he immediately identified a potential investment as soon as the plane touched down in Bangkok. See the video here.

And with emerging Europe growing faster than its western counterparts, Director of Research John Derrick, and Portfolio Manager Tim Steinle are headed to Warsaw and Prague to visit with local companies and management. We are optimistic about many expanding opportunities in this area and are excited to consider them for a holding in our recently renamed Emerging Europe Fund (EUROX).

Back in the U.S., no one needs to travel far to see the tremendous growth in domestic stock prices. Over the last four years, the S&P 500 Index climbed 21 percent annually.

But how much further should you expect them to go? The Federal Reserve Bank of New York had the same thought and delved deep into data to find out.

Would it surprise you to learn that a vast majority of equity valuation models state that stocks should head much higher over the next five years?

This is research based on 29 different equity valuation models and surveys that use varying economic and market-related data such as dividends or inflation to calculate potential future returns. Using a weighted average, the New York Fed estimated the equity risk premium over the following month.

Simply stated, the equity risk premium is the expected future return of stocks minus the risk-free rate, such as a Treasury bill. For example, if the estimated future return of stocks is 5 percent and a Treasury bond yields 4 percent, the premium is the difference between the two figures, or 1 percent.

Looking back over five decades of annualized results, there’s always some premium for stocks. This intuitively makes sense, because in exchange for taking higher risk, investors expect to receive higher returns.

During these 50 years, the premium nearly fell to zero two times. One time was in 1987, when investors’ exuberance toward the equity market caused stocks to rise quite sharply.

The most recent dip in the equity risk premium was at the height of the great tech boom in 2000. Many investors remember triple-digit price-to-earnings multiples. And some companies saw terrific price appreciation even though there were no reported earnings to be had at all. You’ll remember Fed Chairman Alan Greenspan coining the phrase, “Irrational Exuberance.”

Looking at the chart above, today we see an opposite picture. In fact, today’s equity premium is at 5.4 percent, as high as it was in November 1974 and January 2009.

And what happened in these two time frames? Well, we saw the dramatic increase in equity prices from 2009 to today.

Back in the 1970s, investors experienced the collapse of the Bretton Woods system and “a terrible case of stagflation,” says the Fed of New York. However, that didn’t stop the stock market, as gains were incredible, increasing nearly 15 percent on an annualized basis from 1974 to 1979.

The chart illustrates a tremendous case for U.S. stocks over the next five years. We’re not the only bulls in this field: Business Insider lists economist Jim O’Neill from Goldman Sachs, hedge fund manager David Tepper and Barry Ritholtz as experts who “all love this bullish stock market metric.”

One way to gain access to this potential growth at U.S. Global is through our All American Equity Fund (GBTFX). I encourage you to learn more about the fund and how you can incorporate it into your diversified portfolio. With half of the fund dedicated to our shareholder yield model, we believe investors get the two-fold benefit of growth and income. Take a closer look at its “All American” holdings here.

Please consider carefully a fund’s investment objectives, risks, charges and expenses. For this and other important information, obtain a fund prospectus by visiting www.usfunds.com or by calling 1-800-US-FUNDS (1-800-873-8637). Read it carefully before investing. Distributed by U.S. Global Brokerage, Inc.

Foreign and emerging market investing involves special risks such as currency fluctuation and less public disclosure, as well as economic and political risk. By investing in a specific geographic region, a regional fund’s returns and share price may be more volatile than those of a less concentrated portfolio. The Emerging Europe Fund invests more than 25 percent of its investments in companies principally engaged in the oil & gas or banking industries. The risk of concentrating investments in this group of industries will make the fund more susceptible to risk in these industries than funds which do not concentrate their investments in an industry and may make the fund’s performance more volatile.

All opinions expressed and data provided are subject to change without notice. Some of these opinions may not be appropriate to every investor. The S&P 500 Stock Index is a widely recognized capitalization-weighted index of 500 common stock prices in U.S. companies.

A strong stomach and a tremendous amount of patience are required for gold stock investors these days, as miners have been exhibiting their typical volatility pattern.

That’s why I often say to anticipate before you participate, because gold stocks are historically twice as volatile as U.S. stocks. As of March 31, 2013, using 10-year data, the NYSE Arca Gold BUGS Index (HUI) had a rolling one-year standard deviation of nearly 35 percent. The S&P 500’s was just under 15 percent.

I believe the drivers for the yellow metal remain intact, so for investors who can tolerate the ups and downs, gold stocks are a compelling buy. Here are three reasons:

1. Gold Companies are Cheap.

According to research from RBC Capital Markets, Tier I and Tier II producers are inexpensive on historical measures. Based on a price-to-earnings basis, RBC finds that “shares are currently trading not far from the recent trough valuations observed during the 2008 global financial crisis.”

And on a price-to-cash-flow basis, gold stocks are trading at bargain basement prices. The chart below shows that average annual cash flow multiples for North American Tier I gold companies have fallen to lows we haven’t seen in years. Since January 2000, forward price-to-cash-flow multiples have climbed as high as 26 times. This year, we see multiples at the high end that are less than half of that.
On the low end, today’s price-to-cash-flow of 6.5 times hasn’t been seen since 2001.

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Tier I and Tier II companies “offer investors an attractive entry point from an absolute valuation perspective with respect to the broader market,” says RBC.

2. Gold companies are increasing their dividends.

With the Federal Reserve suppressing interest rates, investors have had to adapt and reallocate investments to generate more income.

That’s where gold companies come in. I have discussed how miners have become much more sensitive toward the needs of their investors as they compete directly with bullion-backed ETFs and bar and coin buying programs.

In response to shareholders’ desire to get paid while they wait for capital appreciation, gold companies have rolled out dividend programs and increased payouts. “The growth in dividend payout has been spectacular when looking at the industry as a whole,” says my friend Barry Cooper from CIBC World Markets.

His data shows that over the past 15 years, the world’s top 20 gold companies have increased their dividends at a compound annual growth rate of 16 percent. By comparison, gold only rose 12 percent annually.

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Not only are gold companies increasing their payouts, the yields offer a tremendous income value to investors compared to government bonds today. Whereas investors receive a 1.5 percent yield on a 10-year Treasury, the stocks in the Philadelphia Stock Exchange Gold and Silver Index (XAU) are paying a full percentage point more!

This is a significant change from the past: In April 2008, the Treasury yield was nearly 3 percent more than the dividend yield of the XAU.

In addition, the yields of gold stocks have been climbing over the past year while the 10-year Treasury remains low.

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3. Enhanced returns in a diversified portfolio.

We have long advocated a conservative weighting of 5 to 10 percent in gold and gold stocks because of the inherent volatility you are seeing today. But despite the extreme moves, there’s a way to use gold stocks to enhance your portfolio’s returns without adding risk.

Take a look at the efficient frontier chart below, which creates an optimal portfolio allocation between gold stocks and the S&P 500, ranging from a 100 percent allocation to U.S. stocks and no allocation to gold stocks, and gradually increasing the share of gold stocks while decreasing the allocation to U.S. equities.

The blue dot shows that from September 1971 through March 2013, the S&P 500 averaged a decent annual return of 10.34 percent.

What happens when you add in gold stocks? Assuming an investor rebalanced annually, our research found that a portfolio holding an 85 percent of the S&P 500 and 15 percent in gold stocks increased the return with no additional risk. This portfolio averaged 10.96 percent over that same period, or an additional 0.62 percent per year, over holding the S&P 500 alone. Yet the average annual volatility was the same.

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Although 0.62 percent doesn’t seem like much, it adds up over time. Assuming the same average annual returns since 1971 and annual rebalancing every year, a hypothetical $100 investment in an S&P 500 portfolio with a 15 percent allocation in gold stocks would be worth about $7,899. This is greater than the $6,246 for the portfolio solely invested in the S&P 500 while adding virtually zero risk.

Case Study: Alamos Gold (AGI)

Not all miners are worthy of your investment, and the task of picking quality gold company candidates isn’t simple. One company we currently like is Alamos Gold, which reported first-quarter 2013 results last week.

To the delight of many mining analysts, the company beat analysts’ expectations on both the top and bottom line. Alamos grew its production to 55,000 ounces of gold from 40,500 ounces in the same quarter last year.

In addition, AGI boasts an 8.76 percent free cash flow yield, allowing executives to build the business through paying off debt, making acquisitions or returning money to shareholders. In Alamos’ case, the company announced a stock repurchase of 10 percent of its float over the next 12 months.

While the company trades at a premium to most junior producers, it may be well worth the extra coin, as its low cost profile, cash generation and self-funding capabilities, as well as its discipline in returning capital to shareholders fit our growth at a reasonable price (GARP) model.

Recent Posts About Gold:
This Chart Answers a Classic Question About Gold
Gold Buyers Get Physical As Coin and Jewelry Sales Surge
Four Important Facts to Remember About Gold

The NYSE Arca Gold BUGS (Basket of Unhedged Gold Stocks) Index (HUI) is a modified equal dollar weighted index of companies involved in gold mining. The HUI Index was designed to provide significant exposure to near term movements in gold prices by including companies that do not hedge their gold production beyond 1.5 years. The Philadelphia Stock Exchange Gold and Silver Index (XAU) is a capitalization-weighted index that includes the leading companies involved in the mining of gold and silver. The S&P 500 Stock Index is a widely recognized capitalization-weighted index of 500 common stock prices in U.S. companies. The Toronto Stock Exchange Gold and Precious Minerals Total Return Index is the total return version of the Toronto Stock Exchange Gold and Precious Minerals Index with dividends reinvested.

Time series for Toronto Gold & Precious Minerals Index is a composite of this index’s returns from 1970 to 2000.  Thereafter, the S&P/TSX Gold Index is used.  Both series are analyzed based on their returns achieved in US dollar terms.

Standard deviation is a measure of the dispersion of a set of data from its mean. The more spread apart the data, the higher the deviation. Standard deviation is also known as historical volatility. All opinions expressed and data provided are subject to change without notice. Some of these opinions may not be appropriate to every investor. Diversification does not protect an investor from market risks and does not assure a profit.

The following securities mentioned were held by one or more of U.S. Global Investors Funds as of 3/31/13: Alamos Gold

If you look toward Nebraska over farm fields, cottonwoods and goldenrods, the state is likely still radiating from the 30,000 people who descended upon a quiet Midwest town last weekend.

What’s the draw pulling investors away from their busy weekend routines?

This year, I discovered the allure of the annual Berkshire Hathaway meeting, as U.S. Global’s director of research John Derrick, our president Susan McGee, and I were among the thousands of guests who headed to Destination Omaha.

The two-day event was as exhilarating as attending a San Antonio Spurs basketball game, with fans cheering for American capitalism. CenturyLink Center was packed with investors who had as much fervor for gaining tidbits of wisdom and insights from Warren Buffett and Charlie Munger as spectators have when watching their favorite star players in action.

Investors were equally enthusiastic to shop, as a nearly 200,000 square foot center was filled with Berkshire subsidiaries peddling their goods that ranged from books to diamonds to insurance. In his latest shareholder letter, Buffett says in 2012, guests bought more than 1,000 pairs of Justin boots, 10,000 pounds of See’s candy, nearly 13,000 Quikut knives and nearly 6,000 pairs of Wells Lamont gloves. “Anyone who says money can’t buy happiness simply hasn’t shopped at our meeting,” writes Buffett.

In Omaha, I’d say it’s not only money buying happiness, it’s also the fun that Berkshire Hathaway and its subsidiaries had with their own promotional images, as well as of Buffett and Munger. I found rubber duckies donning suits, grey hair and glasses, and cardboard cutouts bearing a striking resemblance to the investment managers.

What I especially enjoyed was the banter between Buffett and Munger, as they took lighthearted jabs at one another, disagreed and debated politics and investments. Each man stands by his own achievements, philosophies and beliefs, yet together they’ve built a successful empire that is now the fifth most valuable company in the U.S.

I have always admired Buffett’s down-to-earth style and his composure and sensibility toward the stock market and have often encouraged investors to mind his wisdom in times of market volatility.

During the meeting this year, he said that many people fret over where interest rates are heading or what the outcome of today’s unprecedented monetary policy will be.

Buffett says investors should think of the markets like a movie with a surprise ending. You don’t know how it will end, so keep on investing and enjoy the moment now.

Well said.

None of U.S. Global Investors Funds held any of the securities mentioned as of 3/31/13.