Frank Holmes and the co-managers of the U.S. Global Investors Global Resources Fund (PSPFX), Evan Smith and Brian Hicks, participated in a special webcast for the Peak Advisor Alliance last week. Here are some candid portions of the Q&A:

Q. How are interest rates currently affecting commodity prices?

A. The magic number for real interest rates is 2 percent. That’s when you can earn more than 2 percent on a U.S. Treasury bill after discounting for inflation. Our research has shown that commodities tend to perform well when rates fall below 2 percent.

Take gold and silver, for example. You can see from this chart that gold and silver have historically appreciated when the real interest rate dips below 2 percent. Additionally, the lower real interest rates drop, the stronger the returns tend to be for gold. On the other hand, once real interest rates rise above the 2 percent mark, you start to see negative year-over-year returns for both gold and silver.

Whether you are Republican, Democrat, Independent or Agnostic, it’s important to realize that it’s not about politics, but about policies. During the 1990s when President Clinton was in office, there was a budget surplus and investors could earn more on Treasury bills (about 3 percent) than the inflationary rate (about 2). This gave investors little incentive to embrace commodities such as gold, and prices hovered around $250 an ounce. Now under President Obama, there is a large budget deficit and we have negative real interest rates, and gold is in great demand.

Interest rates in the U.S. have been near zero since 2008 and we don’t see the Federal Reserve increasing them until at least 2012. The U.S. economy remains in intensive care: Stimulus efforts have been unable to stimulate significant job growth and unemployment remains near 10 percent. In addition, the existing home sales figures released last week reminded everyone that housing is still on life support.

Even though there has been a lot of talk about reducing deficit spending and the U.S. House of Representatives voted against raising the debt ceiling this week, we don’t see any desire from the Federal Reserve to raise interest rates. The government realizes it is extremely dangerous to pull back the reins right now.

Q. How do the financial troubles of European countries such as Greece and Portugal affect gold prices?

A. The market has definitely been more volatile as some of the financial problems started to pop up again in Europe. The re-emergence of these issues is just another example of how many developed economies around the world are overleveraged and heavily burdened by their debt.

Some of the weaker countries, particularly Greece, could end up ditching the euro as their main currency. This would obviously be a destabilizing event for the euro and would result in some short-term strength for the U.S. dollar, thus providing a headwind for commodities. However, the U.S. dollar is plagued by the same problems as the eurozone; i.e., a weak economy and higher unemployment.

Meanwhile, central bankers in emerging markets have excess reserves and are looking for ways to diversify away from these paper currencies. To protect themselves from paper currency devaluation many of them have turned to gold. Last year was the first net positive year for central banks’ buying of gold since 1985. They’ve chosen to own gold over trying to guess whether Portugal or Greece’s debt is the best investment.

This isn’t a completely new phenomenon. Russia announced that it was going to diversify roughly 5 percent of its reserves into gold back in 2005 when gold prices were at $500 an ounce. The tipping point came in 2009 when India purchased 200 tons of gold from the International Monetary Fund (IMF), which effectively set a floor under gold prices at $1,000.

Since then, we’ve seen countries such as Thailand, Bangladesh, Vietnam, Venezuela and the Philippines add to their official gold reserves. Earlier this year, Mexico purchased 100 tons of gold to boost its reserve holdings.

This trend should continue.

Q. With oil prices hovering around $100 per barrel, what is the outlook for oil prices for the next two to five years?

A. We remain bullish on crude oil for one simple, fundamental reason: Demand is greater than supply. We don’t see that changing in the foreseeable future.

One big driver is a rapidly growing demand for cars and automobiles in emerging markets (Read: Booming Global Auto Market Good for Many). There’s also rising demand for oil due to urbanization and rising per capita incomes in emerging economies. As their economies grow and their populations become more prosperous, they want and can afford to upgrade infrastructure and other construction projects which require oil to be produced (Read: Why Asia is the Epicenter of Oil Demand Growth).

However, it is important to manage expectations. As the price of gasoline rises and inflation fears grow, countries such as India have been forced to lower government fuel subsidies. This will cause some demand destruction as consumers adjust to paying more at the pump, a situation not very different from what we’ve seen recently in the U.S. Though it has the potential to spread if inflation gets out of control, we think this dip in demand will only be temporary.

On the supply side, it’s getting more difficult to find new supply and even when large reserves are discovered, they lie deep beneath the ocean floor or in parts of the world where it’s dangerous to operate (Read: Why High Oil Prices Are Likely Here to Stay).
We think these trends appear to be firmly intact and are why we remain constructive on crude oil prices over the next several years.

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. Because the Global Resources Fund concentrates its investments in a specific industry, the fund may be subject to greater risks and fluctuations than a portfolio representing a broader range of industries.

All opinions expressed and data provided are subject to change without notice. Some of these opinions may not be appropriate to every investor.

The Wall Street Journal recently published an article “Facing Up to End of ‘Easy Oil’” that highlights the supply constraints I’ve discussed with you for several years. Alex Munton, an energy analyst from Wood Mackenzie, told the WSJ that “the major oil fields in the Gulf region have pumped more than half their oil—the point at which production traditionally begins to decline.”

Specifically, Saudi Arabia, the world’s second-largest oil producer, is experiencing difficulties as its oil fields mature. Known for its ample amount of easy-to-tap, high quality reserves, Saudi Arabia is now exploring the country’s heavy-oil deposits in order to maintain long-term production.

“Heavy” oil refers to a grade of oil that contains high amounts of sulfur and components which make it very dense. Heavy oil, such as Canada’s tar sands, is generally more expensive to pull out of the ground and refine into gasoline.

The U.S. Geological Survey estimates that there are 3 trillion barrels of heavy oil scattered around the earth—worth about 100 years of consumption—but only about 400 billion barrels are recoverable with today’s existing technology, according to the WSJ. You can see from the map that the Middle East, North America and South America hold the majority of these deposits. Saudi Arabia is estimated to have 78 billion barrels of recoverable heavy-oil reserves.

In order to tap those reserves, Saudi Arabia is teaming up with Chevron on a pilot program at the country’s Wafra oil field. To pull out the oil, workers “[inject] steam into the ground to heat the oil and make it less viscous, allowing it to flow to the surface…A technique that is tricky, expensive and unproven,” says the WSJ.

If successful, the difficult project will turn Wafra into a steady producer for Saudi Arabia and Chevron.

Chevron is particularly suited for the task since it has been using steam technology at its Kern oil field in California since the 1960s. Steam has successfully taken the production yield at Kern from 10 to 80 percent, the WSJ says.

The project is being watched closely by other Middle East countries and global oil companies alike. Similar partnerships have been forged between Oman and Royal Dutch Shell, Bahrain and Occidental, and Abu Dhabi and Praxair.

As long as oil prices hover at historically high levels, projects such as these remain economical. However, they could quickly be shelved if we were to see a prolonged pullback in prices.

Read the WSJ Article

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It’s officially hurricane season in the Atlantic, and another year of above-normal activity is expected. If the prediction from several well-known weather forecasters comes to fruition, the potential disruption of offshore oil production may add to already turbulent oil prices.

The National Oceanic and Atmospheric Administration (NOAA) says due to a continuing high activity conditions, warmer water, and La Niña’s wind sheers, this season may produce 12 to 18 named storms, six to 10 of which could become hurricanes. Two or three of these hurricanes may be major. National Hurricane Center seasonal averages are 11 named storms, six hurricanes, and two major hurricanes.

And the more severe the storm, the more oil production is affected. As threatening weather arises, offshore energy companies suspend oil production to protect their facilities and employees. With damage to facilities from major hurricanes, there can be significant disruption to supply, thus causing an increase in oil prices.

Over the past several years, major hurricanes Katrina, Gustav and Ike wiped out substantial offshore natural gas and crude oil production in the Gulf of Mexico. In 2008, Hurricane Gustav, a Category 4 storm, caused 100 percent of Gulf crude oil and 95 percent of natural gas production to be temporarily shut in. Category 4 storms have winds up to 135 miles per hour and can cause a storm surge as high as 18 feet as they near the shoreline.

Hurricane Ike, another Category 4 storm, came through only weeks later. In total, almost 65 million barrels of crude oil and 400 billion cubic feet of natural gas supply were impacted by these two storms.

In contrast, 2009 was quiet, with only minor setbacks from Hurricane Ida affecting 2.5 million barrels of crude oil and 11.4 billion cubic feet of natural gas, according to the Energy Information Administration (EIA). Last year was an above-normal Atlantic season with 19 named storms, but the majority dissipated over the ocean.

These past two seasons have resulted in very little impact on commodities markets, giving investors what the Financial Times calls, “a false sense of security.”

Last year, we wrote about the effect an active hurricane season can have on oil prices (Read: “Extreme” Hurricane Forecast – Energy at Risk). We indicated that the Gulf Coast accounts for one quarter of U.S. oil production, 15 percent of domestic natural gas and 40 percent of the nation’s refining capacity. However, the warm, shallow waters of the Gulf make it a likely cauldron for summer hurricane activity.

With oil prices currently at high levels due to the Middle East unrest and the summer driving season upon us, oil prices could see another leg up if storms disrupt the Gulf’s supply.

Evan Smith, co-manager of the Global Resources Fund (PSPFX), has first-hand knowledge of how dependent these oil and natural gas supplies are on the weather. See the photos he snapped while touring facilities in the Gulf of Mexico.

Photo Slideshow - “Drilling in the Deep Blue Sea”

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. Because the Global Resources Fund concentrates its investments in a specific industry, the fund may be subject to greater risks and fluctuations than a portfolio representing a broader range of industries.