Deep Value Investing: Turning to Gold and Silver (September 20, 2015)

by FI Fighter on September 20, 2015

in Precious Metals

11951_Slab

Although I’ve decided to take some time off from this blog to focus on some other important aspects of my life outside of finance, I feel that I would be remiss if I didn’t at least update readers on my current thoughts and strategies.

As always, I will NEVER recommend anything to anyone, and for the most part, I do realize that the investment decisions that I make for myself are NOT suitable for most people out there. Nevertheless, readers deserve to know the truth so here it is…

In terms of the broader overall market, my thoughts remain the same — I still feel that the stock market and real estate market (at least locally) are overpriced. Also, the amount of volatility that we are witnessing on a day-to-day basis is dizzying, so I’ve decided to sit on the sidelines (mostly) until the market can resolve its uncertainty and finally reach a decisive conclusion on which way to turn.

Regardless, I’ve accepted the consequences and will be prepared for a drastic swing in either direction, should that occur. At present, I have over $250,000 in cash and cash equivalent investments (I’ve cashed out of all my retirement accounts; both Roth IRA and 401k) ready to deploy.

Looking For Deep Discounts

I have made plenty of sudden stops, turns, and restarts this year… Even now, I can’t say that I have any answers or solutions figured out…

Nonetheless, at this difficult juncture, I’ve ultimately decided that I’ve got to go with my gut feeling and do what I feel is in my best interest to not only preserve wealth, but to find a way to enhance it further.

The mantra out there has always been: “Buy low and sell high“.

Funny enough, very few investors seem to ever want to follow this advice. The popular theme at this time is: “Buy all the time and never sell“. Even when the S&P 500 and Dow Jones indexes are sitting near all-time highs… Despite the fact that the markets are highly volatile at this stage of the game and the Dow Jones is now routinely swinging 100+ points seemingly everyday (with spikes larger than 1,000 points on occasion).

You know this strategy all too well — Buy and Hold.

I believe there is a time and place for Buy and Hold. In fact, I am currently holding 8 rental properties for cash flow. Outside of these investments, though, I have very little to zero interest in acquiring more Buy and Hold type of investments.

When it comes down to it, with hindsight, I can see that I built most of my wealth following these two investment principles:

  • Buying hyper-growth assets.
  • Buying extremely undervalued assets.

That’s it.

At this time, I see no attractive hyper-growth stories, but throughout my search in 2015, I’ve stumbled upon a market that is so deeply hated and discounted, that I can’t seem to turn away from it:

Gold and Silver.

Physical Gold and Silver

The price of gold and silver fluctuate on a daily basis and can swing violently at times. Here is the current spot price for gold over the last 5 years:

From Goldprice.org

Gold priced in U.S. dollars:

Screen Shot 2015-09-20 at 8.18.43 AM

As you can see, gold has been in a bear market since peaking in late 2011.

Interestingly enough, this is NOT the case at all in other countries, such as Japan and Brazil.

Gold priced in Japanese yen:

Screen Shot 2015-09-20 at 8.20.48 AM

Gold priced in Brazilian real:

Screen Shot 2015-09-20 at 8.21.00 AM

As investors, we oftentimes have to look at the big picture and realize that our first impressions may never tell the full story… Yes, gold is depressed relative to U.S. dollars, but this is absolutely NOT the case in many other currencies across the globe… Just ask anyone in Venezuela if they wish they had a gold coin right now…

In fact, in many countries, such as Brazil and South Africa, gold prices are at all-time highs right now… Hard to believe, right?

However, physical gold and physical silver do NOT always trade at spot price, or anywhere close to it… When demand is high (like right now) and supply restrained, the premium per coin (or bar) goes through the roof.

Case in point, check out the premiums on American Silver Eagles right now:

From GoldCore:

Screen Shot 2015-09-20 at 8.25.52 AM

Even though the spot price of silver is currently $15.20/oz, some bullion dealers are refusing to part with coins for less than $20.52/oz.

The premium over spot is now an outrageous 35%! That’s $5.32/coin!

To give you some perspective, when I first started loading up on physical back in May, the premium was just $2.59/coin for an American Silver Eagle…

The story continues…

The COMEX (Commodity Exchange, Inc) is now trading at unprecedented levels… For every 1 oz of physical gold trading, there are 255 oz of paper gold!!!

From Seeking Alpha:

280094-14426684224207993-Hebba-Investments

Goldbugs have been predicting a default on the COMEX for years now… That may or may not happen, but we are for sure entering uncharted territory…

Locally, I can confirm that the recent low prices in gold and silver have created massive demand. I was at a coin shop recently and the phones were ringing off the hook. Not to mention a waiting list to be seated to talk to a local rep…

Demand for physical precious metals is insatiable right now, which easily explains the surge in premiums…

From APMEX:

Screen Shot 2015-09-20 at 6.05.20 PM

Screen Shot 2015-09-20 at 6.05.34 PM

Strangely enough, although demand is strong, the spot price has been trading mostly sideways for the year (you can thank JP Morgan, or HSBC, etc. for that)…

As an investor, I’m not complaining the least bit! When I’m buying, I want low prices!

But with surging premiums, it seems that the floor for physical silver (gold to follow?) may have already been established… So, even if the spot price of silver were to collapse to say $12.00/oz (like many mainstream pundits predict), you won’t actually be able to obtain coins or bars at that price. As illustrated above, when the spot price gets out of line with reality, the dealers (and sellers) will all raise the price of the premium to compensate.

I won’t be surprised if the premiums rise to 50%+ in the near future…

Why You Should Own Gold?

Do You Trust The Fed?

Gold and Silver Mining Stocks

I’ve always looked at owning physical gold and silver as akin to owning an insurance policy for your overall portfolio. Although it is possible to trade and make money off of physical bullion, that is NOT the intent for most of its owners.

On the other hand, if you are looking to speculate, there may be no better avenue for wealth building than through investing in the junior resource sector.

In U.S. dollars, the spot price of physical gold is depressed from its $1,900 peak set in 2011 by about 40%.

But the discount off of most gold mining stocks is far worse…

The NYSE ARCA Gold Bugs Index (HUI) from Google Finance:

Screen Shot 2015-09-20 at 8.55.19 AM

The HUI is down 72.3% over the last 5 years!

Pretty bleak, right? How do things look in the juniors space?

The Market Vectors Junior Gold Miners ETF (GDXJ) index from Google Finance:

Screen Shot 2015-09-20 at 8.43.04 AM

Over a 5 year period, the GDXJ is down an astounding 84.4%! Gold mining stocks are a leveraged play off the commodity itself, so they are inherently more volatile in either direction.

As an investor looking for steep discounts, this is absolutely music to my ears! I’m a Market Cycles Investor, and as we all know, what goes up must come down.

And vice versa.

Again, it’s simply back to basics — “Buy low and sell high“.

When a sector is down 84.4%, you better believe that I’m paying attention carefully!

If you aren’t convinced that gold and silver will have its day in the sun again, look no further than to the following chart below:

150727CDDchart1

Gold and silver are volatile, for sure; the rise and subsequent fall in either direction are mind-numbing. But should precious metals become en vogue again in the future, I’m certain the next rise up will produce staggering, outsized returns…

If I didn’t already have enough conviction, I found the following chart, which depicts the HUI/Gold ratio:

From Macro Trends:

Screen Shot 2015-09-20 at 8.53.29 AM

In other words, gold mining stocks (relative to the price of physical gold) have never been this cheap before… As shown above, although physical gold is down about 40% from its 2011 peak, many mining stocks are down over 80%, and in many cases up to 90%

When the sector was HOT in 2011, a stock like Kinross Gold (KGC) was trading north of $19/share. Now that we are in a time of despair in the resources sector, KGC recently plunged as far down as $1.35/share.

From Google Finance:

Screen Shot 2015-09-20 at 9.00.12 AM

KGC is not a “speculative” mining stock. It’s not a prospector, or explorer. This is a proven mid-tier/major gold producer that owns legitimate gold mines around the world and produces upwards of 2 million ounces per year!

That’s how beat up this sector is right now! You can easily find high quality producers trading for 1/10 of what they were at the peak. Because the entire sector is on the clearance rack right now, you don’t have to “buy lottery tickets” on start-up explorers, gambling on the prospect that they will be able to find a major new gold/silver deposit (the odds of that are about 1 in 1,000).

I added 1,500 shares at $1.36/share. I now own 3,500 shares of KGC with a cost basis of $1.59/share.

Opportunity Knocks

Opportunity is seldom found by looking at investments that the rest of the world is glued to on a daily basis. For instance, oil is a commodity just like gold and silver and copper, but the entire investment community is fixated on its every move. So, although wonderful companies like Exxon Mobil (XOM) and Chevron (CVX) are trading at a massive discount (relative to just over a year ago), these stocks are just too loved to ever dip too far down…

Even at today’s prices, I would find it hard pressed to envision a future in which a stock like XOM or CVX could multiply by 3x or 4x or 5x on the rise up when oil returns back to say $100/barrel over the next 5-10 years.

On the flipside, when the price of gold rallies, it isn’t uncommon to witness a 10% rise in the shares of the miners for every 1% increase in the spot price. Although this can happen for the big producers of the world such as KGC, Barrick (ABX), Newmont (NEM), Goldcorp (GG), etc., the sharp peaks and valleys are most evident with the junior mining stocks…

From McEwen Mining:

Screen Shot 2015-09-20 at 9.09.52 AM

Volatile junior stocks like McEwen Mining (MUX) have historically risen by factors of greater than 20x on the rebound, from peak-to-peak.

Disclaimer: Mining stocks, and junior miners in particular, are EXTREMELY volatile. Any investments made in these stocks (and sector) should ONLY be made with capital that you can afford to lose. It is not uncommon for junior companies to go bankrupt and out-of-business. Mining stocks are speculative, at best, and NOT an appropriate investment vehicle for most investors. If you want to speculate, do so at your own risk!

Summary

These days, I’m looking for deep discounts in the market. And although I would love to invest in oil and energy stocks, I’m just not seeing the value at this present time. In fact, there are almost no sectors out there that interest me right now, outside of gold and silver mining stocks. Well, uranium energy stocks look dirt cheap as well (far cheaper than even gold and silver stocks!), but I’m guessing that sector will need a good 10+ years to rebound… There will be ample time over the next few years to gradually buy into any uranium energy positions, is my best guess.

Anyway, I’m sitting mostly in cash these days as I await for better investment days. With that said, I have decided to slowly start easing my way into gold and silver mining stocks. My plan is to buy in tranches and wait for down days to further add to my positions.

Currently, I’ve been focused on acquiring shares of the mid-tier major producers: KGC, Yamana Gold (AUY), Iamgold (IAG), Eldorado Gold (EGO), Pan American Silver (PAAS), First Majestic Silver (AG), etc.

Currently, I own (of the aforementioned stocks above):

  • 4,000 shares of AG
  • 5,350 shares of AUY
  • 1,600 shares of EGO
  • 4,000 shares of IAG
  • 3,500 shares of KGC
  • 1,300 shares of PAAS

To get started, I decided to stick primarily with producers since I feel that these companies are somewhat lower risk and more stable than the juniors…

However, at some point in the future, I will branch off and start acquiring shares of junior producers, developers, and exploration companies as well because I feel that the biggest discounts are found in these particular stocks.

With that said, let’s be clear here — My foray into the resource sector is 100% speculative. These type of assets are NOT Buy and Hold stocks! You cannot invest in the resource sector space if you never plan to sell (you will lose a ton of money)!

Most of the aforementioned companies are barely cash flow positive (maybe even negative) today, don’t pay a dividend, and need a stronger gold price to survive.

Why am I “risking” my portfolio by playing in the resource sector game? Well, as I’ve said all along, I’m an investor who is looking for either hyper-growth or deep value. With gold and silver mining stocks, today, I’m definitely finding deep value in a sector that has fallen off a cliff by upwards of 90% over the last 5 years.

You want to talk about “risk”? Although unpopular, as I’ve been stating since May, I feel that extreme risks exist with investing in the S&P 500 when it’s sitting at, or near all-time highs. To me, that’s “risk”!

Yes, mining stocks are volatile and perhaps the sector hasn’t reached final capitulation yet… Maybe these mining stocks will fall another 50% in value from where they are now… Who knows, really?

Obviously, I’m ok with that… I’m not scared of market volatility and a plunge in share price with the caveat that I’m convinced that the upside potential far outweighs any remaining downside left.

In other words, I like the prospect of a speculation that risks losing 50% more in current value when it offers the realistic potential to climb upwards of 1,000%+ during the next bull run.

On the contrary, I dislike the prospect of a speculation that risks losing 50% more in current value when it offers the realistic potential to climb no more than 5-10% during the remainder of an already outstretched 7-year bull run (that is now running very long in the tooth).

I’ll take the odds of the former as opposed to the latter and allocate a small portion of my free capital to these type of high upside type of speculations.

With gold and silver mining stocks, no doubt I feel that we are much, much, much closer to a bottom than top. I can’t say the same for the S&P 500 or Dow Jones, sorry…

When in doubt, my preference to invest will ALWAYS err on the side of investing into a prolonged, brutally ugly bear market story (currently being experienced by gold and silver mining stocks) as opposed to buying into the tail end chapter of a roaring bull rally of epic proportions (any such stock that has already doubled, tripled, even quadrupled since the start of the 2009 market upturn).

I have no crystal ball, obviously, but I have absolute conviction that these mining stocks will bounce back up in the future. Oil is cyclical. So is copper. Ditto for zinc and other base metals. It’s no different with corn, wheat, cotton, etc.

So, why should gold and silver be any different? Sure, it could take 3 years… or 5 years for the turnaround to occur… That’s why I’m only investing in these stocks with capital that I can afford to lose.

My Best Idea

Stanley Druckenmiller Buys $300 Million in Gold; Should You Buy, Too?

I’ve got to be patient with this. But if I’m right, I’m confident that this speculation will be my best move ever.

Better than Bay Area real estate, where I made 300%+ leveraged returns.

 

But we’ll see…

 

Happy Investing Speculating!

{ 27 comments… read them below or add one }

1 Consultant September 20, 2015 at 6:33 pm

Well, good luck with your new approach. Still, its 100% logical fallacy to say that “markets are at all time highs” is good reason to not invest in stocks. Stocks have reached “all time highs” dozens upon dozens of times throughout the years. Hello, its because over the long term stocks always go up, despite their volatility. You could wait for years hoping for the market to become your definition of “cheap” only to miss out on capital gains and reinvested dividends. Even investing in the peaks of the past would have caused you to have more money now thanks to that powerful compounding.

I for one coincidently invested a few thousand into VSTAX on Tues Aug 25 at its recent low price and couldn’t be happier, but it was still dumb luck. You can not time the market. Its impossible. FI Fighter, you have simply fell prey to the same emotional response so many people have during volatilty. If you would relax and stayed in the market you would be fine. Perhaps since you are too emotional for an index approach you could just do dividend growth investing (an approach that some choose because of feel good cash flows instead the Vulcan logic-based total return over decades approach).

The stuff happening now in the markets is just a repeat of the past. I’m not worried at all.

Reply

2 Ryan September 21, 2015 at 6:14 am

Awesome article. Your level of thinking is beyond what Consultant can comprehend yet. It undoubtedly looks like an awesome opportunity.

Reply

3 Consultant September 21, 2015 at 8:15 am

Don’t get me wrong Ryan, I never said he was wrong to take an opportunity to take some money and speculate on those particular stocks, he might make good money. I was just commenting on the general theme of his blog lately which was irrational fear of remaining in stock. He completely cashed everything out 100%. If that’s not an attempt at market timing I don’t know what is.

If I had the free time, I would probably look into more stuff like this myself, but I barely have enough time just to focus on my career, home, and other concerns. At least I rest easy knowing that indexing will always work. It’s science.

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4 FI Fighter September 21, 2015 at 8:25 am

Consultant,

Index investing is a wonderful way to build wealth over time; if it lets you sleep well at night, that’s all that you can ask for.

As I stated in the article, my methods/techniques may not be suitable for everyone… Right now, staying majority cash is what lets me sleep at night, so I’m sticking to that approach.

All the best!

Reply

5 FI Fighter September 21, 2015 at 8:26 am

Ryan,

Definitely, I see a lot of opportunity in this space at present time and perhaps even more so in the near future should gold/silver retrace even further and enter “final capitulation” which is long overdue.

Cheers!

Reply

6 Chris September 21, 2015 at 5:46 am

“Happy Speculating” is right & that is exactly what you’re doing. Best of luck to you though!

Reply

7 FI Fighter September 21, 2015 at 8:28 am

Chris,

Thanks! Just got to stay patient and wait for the next bull cycle to commence. That train should (hopefully) be pulling into the station over the next 3-5 years.

Best wishes!

Reply

8 Roadmap2Retire September 21, 2015 at 7:38 am

Nice overview. I completely agree that once a sector is down 80%+, it deserves a close look. I am not crazy about owning physical gold or silver, but owning the mining companies is a great way to gain exposure.
I continue to hold IAMGold in my portfolio, even though its beaten down and has been a dog in my portfolio. The fundamentals are sound and I dont mind that they cut the dividends to save cash. I am thinking of buying up more either IAG or other gold miners at these levels.

cheers
R2R

Reply

9 FI Fighter September 21, 2015 at 8:34 am

R2R,

Agreed, as investors, we should salivate at the buying opportunity when any sector declines 80%+ (when it isn’t fundamentally broken and demand is still robust). In the case of precious metals, demand is especially strong in the East (Russia, China, India), which warrants our consideration even if gold/silver are considered “barbarous relics” in the West (as endorsed by the talking heads in the mainstream media).

If anything, we have probably reached peak silver and the above surface supply of silver has diminished tremendously, from over 4-5 billon oz in the 1980s to just over 1 billon today… The Gold/Silver ratio is an absurd 1:70 when it only comes out of the ground at 1:15…

This all points to prices going up in the future. As it pertains to gold, the story is similar as high grade (and large size) deposits are getting more and more difficult to find. Building a new mine typically takes 10+ years and new exploration has grinded to a halt because of this extreme bear market; it’s not economical to drill when you can literally pick up preexisting mines/projects for pennies on the dollar.

As Rick Rule likes to say, “the cure for low prices is low prices”.

Further, gold is money, so being able to purchase money for 1/10 of its peak value with paper fiat currency is an easy proposition for me.

Gold/silver prices will not stay depressed forever. That, I am certain.

Take care!

Reply

10 Mike September 21, 2015 at 9:56 am

Great perspective on precious metals/miners.

I’ll be curious to see what happens to the USD and subsequently gold/silver, when the Fed finally decides to raise rates.

Reply

11 FI Fighter September 21, 2015 at 10:07 am

Mike,

Indeed, it will be interesting to see what happens in December. Each subsequent Fed Meeting is becoming a spectacle itself with Wall St, Main St, and every other street tuning in with more and more attention and interest.

Who would have thought that something seemingly so trivial as 25 basis points could cause such commotion in the marketplace?

In any event, I’m just grateful that the dollar is strong today and that I am able to deploy it basically anywhere and find good deals. If I had the time and resources, I would actually be traveling around the world right now and enjoying the good life 🙂

Cheers!

Reply

12 Taylor September 22, 2015 at 12:28 pm

Do have any thoughts on buying coins vs. bars?

Reply

13 FI Fighter September 22, 2015 at 2:55 pm

Taylor,

In general, the premium over spot for gold bars is cheaper than for gold coins. For gold bars, I see no problem with them if you stick to the high quality brands like Pamp Suisse or Credit Suisse. You want to stick to the brand names that are universally accepted.

For coins, you’ll pay more, yes, but coins such as American Eagles, American Buffaloes, Maples, Krugerrands will also be universally accepted.

My own preference is to stick to the aforementioned coins and Pamp Suisse Lady Fortuna bars. I would stay away from generic rounds and generic coins.

All the best!

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14 Igor S. September 22, 2015 at 10:32 pm

“Interestingly enough, this is NOT the case at all in other countries, such as Japan and Brazil. Just ask anyone in Venezuela if they wish they had a gold coin right now… In fact, in many countries, such as Brazil and South Africa, gold prices are at all-time highs right now… Hard to believe, right?”

Their currencies simply devalued compared to USD:
http://finance.yahoo.com/echarts?s=USDBRL%3DX+Interactive#{“range”:”5y”,”allowChartStacking”:true}
http://finance.yahoo.com/echarts?s=USDJPY%3DX+Interactive#{“range”:”5y”,”allowChartStacking”:true}

It’s not gold being on all time high in some countries, it’s the local currencies being on all time low, isn’t it?

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15 FI Fighter September 22, 2015 at 10:36 pm

Igor,

The way I look at it, gold never moves… only currencies move relative one to another. When I see a high gold price in U.S. dollars and a low gold price in say Brazilian real, what’s really going on is that the U.S. dollar is strong compared to the Brazilian real.

So, yes, it’s the local currencies being low compared to the U.S. dollars. Currencies fluctuate all the time, as countries devalue, etc.

Gold will look weak as long as the dollar is strong. My take is it’s a good idea to buy low and sell high. Right now, I can buy low because of the strong dollar.

Cheers!

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16 Jerry Harrison September 24, 2015 at 7:16 am

Bought 100 shares in KGC today (9/24/2015) at $1.67. We’ll see what happens. Heck I’d be happy to see it at $2.00 share

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17 FI Fighter September 24, 2015 at 7:56 am

Jerry,

Best of luck on the trade! The risk/reward profile should be in your favor at these low prices, so if you have a reasonable timeframe for holding (give or take at least a year or two, although these stocks are highly volatile and can swing crazily), it should pan out.

I think it’s a good idea to only speculate with small amounts of capital that you can afford to lose.

Cheers!

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18 Jerry Harrison September 24, 2015 at 8:21 am

Thanks for the response. I’ll probably DCA some more over the next couple months. May even pick up Yamana just for a little more diversity.

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19 FI Fighter October 2, 2015 at 7:11 am

Jerry,

Sounds like a plan! I own some AUY as well as it has taken quite the beating over the past year and looks cheap at these levels.

Best wishes!

Reply

20 No Nonsense Landlord September 27, 2015 at 7:00 am

I will say this, you are not afraid of risk. Those are size-able positions for the amount of liquid assets you hold.

Have you ever thought of just throwing it all on black (or red) on a roulette table?

Reply

21 FI Fighter October 2, 2015 at 7:11 am

Eric,

No, I only like to gamble when the odds are in my favor… With gold mining stocks, I believe this to be true.

Cheers!

Reply

22 Common Reporting Standard October 1, 2015 at 3:24 am

Interesting.
Through research and experience, you just made a really
informative post. Just made an investment 3 weeks before.

Reply

23 FI Fighter October 2, 2015 at 7:12 am

CRS,

Glad you found the post useful.

All the best!

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24 Tom October 1, 2015 at 7:35 pm

When you say you have “cashed out of all my retirement accounts; both Roth IRA and 401k” do you mean you moved to cash within those accounts, or that you actually did an early withdrawal and paid the 10% penalty?

Reply

25 FI Fighter October 2, 2015 at 7:14 am

Tom,

I was up around 100% on my Roth IRA, so I actually cashed out my contributions and just parked the gains in a money market equivalent fund held inside the Roth.

For the 401k, I did something similar, but no, I did not actually go through with an early withdrawal. My contributions are still in the company plan, just not invested in stocks.

Cheers!

Reply

26 Tom October 2, 2015 at 4:57 pm

Okay, had me worried for a second there. A lot of times when I read comments on investing forums from gold bugs they are talking about actually withdrawing their whole 401k, paying a giant penalty, and putting it all in gold coins they bury in the backyard. Nothing wrong with a little speculation, but there’s no reason to pay more taxes than you have to.

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27 FI Fighter October 2, 2015 at 7:47 pm

Tom,

Agreed. I wouldn’t say I’m a classical gold bug, per se… I’m just finding a ton of opportunity in this most beaten up sector.

This is no different than when I loaded up on shares of the S&P 500 in 2009 or real estate in 2012. When one investment vehicle loses appeal, typically you can unearth value elsewhere…

Best wishes!

Reply

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