The Case for Precious Metals Mining Stocks

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Jim H's picture
Jim H
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The Case for Precious Metals Mining Stocks

I am not a stock picker... I gave that up some time ago.  My investment worldview these days is to actively time the market for macro plays that make sense to me, using baskets of stocks, or even ETF's.  Holding PM's has made sense to me for some time, and the fundamentals behind them become stronger every day, though watching the recent price action in the metals, and especially in the mining stocks, would lead one to think otherwise.  The mining stocks are a beaten down sector.. unloved... left for dead.  The HUI Gold Bugs index of miners is bouncing around near a two year low, the sector left in the dust by most every other type of stock.  Some might say investing now in Gold and Silver miners is akin to catching falling knives.. and they might be right.. for a while longer at least.  Take a look at the UNG chart if you don't believe that knives can just keep falling and falling.  But... and this is a big But... there is going to come a time when more folks.. more investors.. more hedge funds..  realize that QE has gone worldwide  (Looks like Japan may be next in the daisy chain;  http://globaleconomicanalysis.blogspot.com/2012/04/economic-madness-bank...) and that real inflation.. the kind that gamed Gov't statistics can no longer deny.. will be coming.  The PM asset class will come back in favor.. what is old will become new again!  

So if you did want to speculate with some of your money on stocks.... which ones should you buy now?  Which ones are so out of favor it leaves you a little sick to your stomach to push the "buy" order key on your brokerage account screen?  Which ones represent not what has been hot.. but where the puck is going to?  I think you know where my speculative dollars are going. 

I am not going to reiterate the case for manipulation.. .it is real, and it is the basis of my belief that Gold, and especially Silver, are underpriced at present.  If you believe that Gold and Silver are underpriced now, and have strong fundamentals that should continue to drive them higher in the future, then the miners are a way to get more leverage behind your convictions, without doing it through paper entities like AGQ.  To illustrate the opportunity, I would like to compare/contrast a few miners with a few stocks that are REIT darlings... both groups offer dividend yield, which is a big plus these days.  

Commercial Real Estate darlings;

Stock          Market cap ($)    P/E          EPS         Div ($)      Div yield (%)

-------------------------------------------------------------------------------------------

SPG           44.1 B                 42.6         3.48         3.80            2.50 %

BXP            15.3 B                 55.6         1.86         2.20            2.10 %

VNO           15.3 B                 25.6         3.23         2.76            3.30 %

High Yielding Miners;

GFI               9.2 B                 10.3         1.23        0.61             4.80 %

AU               12.9 B                10.3          3.24       1.06             3.10 %

IAG               4.8 B                  5.9          2.14        0.25            2.00 %

 

So.. let's look at these small baskets and think about them (noting that I am talking my book and that I own some IAG).  The first thing you note is the rich PE's of the commercial real estate stocks... that means you are paying more to get each dollar of earnings.  For reference, the historical average price/earnings ratio of Dow stocks is 15.5, and the Dow overall was running to the high side at 17.8 as of early March 2012.  So, relatively speaking... the REITs are priced with an expectation of continued growth, whereas the miners are priced, from the vantage point of PE.. like some kind of big old boring utility that is not going to grow it's earnings.  The second thing we can look at is the dividends themselves.... and what is amazing to me is that the little basket of miners throws off more cash.  Would you rather have a 10 year bond throwing off 1.97% interest, or a basket of miners throwing off something like 3%?  Which investment do you think will provide better protection of your capital five years from now?  Ten years from now?  Finally, we can look at the sustainability of the dividends themselves... and this is where the really dramatic contrast lies.  Two of the three CRE stocks payout more on a yearly basis than they earn.... Div is higher than EPS.  Think about this... where is the money coming from the pay the dividend?  I know that REITs play some funny game with their cash flow on an accounting basis... but to me, that is just yet another GAAP-legitimized ponzi scheme.  The miners pay out very sustainable fractions of their earnings as dividends... very simple math here. 

So... what is going on here?  Why would such an "efficient" and liquid marketplace like the US stock market allow such inequities to exist?  I can speculate : )       CRE is to the banks as the banks are to the FED... the FED cannot.. will not, let the (TBTF) banks die.  REITS live and die by their ability to serially refinance their debts.  the banks cannot let the REITS die.. otherwise the banks die, along with all that debt, with them.  Low interest rates, and willing banks, have been manna for the REITS.  The forward looking bull case for REITS, especially those with a retail or other CRE focus, is that the economy recovers.  If you believe this will happen.. I recommend you invest in SPG and own a piece of your local shopping mall.

If though you think PM's might continue to rise in value.. though the ride may be bumpy... I would make the case that the miners are very near a bottom.  I would also make the case that the least speculative of the miners are the ones that have dividend payouts and PE ratios that make them look like old fashioned value stock plays.. which is exactly what they are.  There are always risks... and we need to keep them in focus... MIners could be nationalized (as SagerXX has pointed out recently), rising energy costs could take a bite out of earnings... or a natural or mine safety disaster could crimp the earnings of one or more companies.  That being said, I still think that investing today in a small basket of good miners will bring stunning returns over the next few years.  

I invite your constructive criticism of the case for mining stocks...

   

              

          

Jim H's picture
Jim H
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James Turk agrees.....

http://kingworldnews.com/kingworldnews/KWN_DailyWeb/Entries/2012/4/20_Tu...

"We’re making history here.  Gold stocks have never been this undervalued before.  We’ve had a 12 year bull market in gold, but we’ve also had a 15 year bear market in the mining shares that began with the Bre-X collapse.

It’s very rare in market history to see an outlier like this.  This is an extraordinary event.  Years from now we are going to look back and shake our heads in disbelief at how undervalued gold stocks were in 2012.

This 15 year downtrend and historic low has effectively destroyed the morale of virtually the entire gold mining investment community.  Psychologically, this has also had a tremendous dampening effect on the morale of those watching the gold bullion market."

 

hucklejohn's picture
hucklejohn
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Posts: 281
Thanks

Thanks for posting, Jim.  I will have to take some time to absorb.

JAG's picture
JAG
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James Turk via Jim H.
James Turk via Jim H. wrote:

"We’re making history here.  Gold stocks have never been this undervalued before.  We’ve had a 12 year bull market in gold, but we’ve also had a 15 year bear market in the mining shares that began with the Bre-X collapse. 

Jim,

How does Turk claim a 15 year bear market in the miners? Are my eyeballs lying to me again?

According to this chart, the HUi was in the upper $30's at the start of gold's run in the 2001-2002 period, and now its $440 plus about 10 years later.

That's a 10 bagger move.

I don't get it. What kind of groupthink cocktail do I need to swallow to call this a bear market?

Nice post by the way, I enjoyed reading it.

Best...Jeff

Disclosure: Via my investment mananger,  I own shares of 13 miner stocks in my daughter's trust.

Jim H's picture
Jim H
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Posts: 2379
Thanks for the comment JAG...

Turk's whole point was his chart of Gold vs. the miners... and I think this was the context of his remark.  If you look at the chart in the link;

http://kingworldnews.com/kingworldnews/KWN_DailyWeb/Entries/2012/4/20_Tu...

you see that from a peak in 1996... the relative value of a miners index vs. Gold has been dropping for the entire time...   a Bear market of sorts I guess. 

tricky rick's picture
tricky rick
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Posts: 92
too politiky

Nice commentary Jim...  but IMO mining stocks (jr's and the majors) are perfect targets for political trickery come time for bankrupt officials to generate some cash.  Nationalization (it's starting already), excise and production taxes, etc.

Matter of fact, PM holders will come a day be targets also.  That's probably down the road but we are a minority and as such, will be spun some sort of threat to the status quo and treated as most minorities are. 

sigh... it's a sad situation and if YOU can make a buck in this robo-controled, hft driven environment... more power to you!

I would dissuade anyone from throwing their money into the market casino...

But I'm interested in your opinion regarding PHYSICAL gold and silver.  You see a greater upside to either one? 

 

Nate's picture
Nate
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Joined: May 5 2009
Posts: 573
gold stocks

Hi Jim,

Son #1 came home this past weekend and we always talk about investments.  His view of investments is a good one - what provides the biggest bang for the buck?  That being said, he asked me if I would prefer $1000 of gold or $1000 of natural gas.  His point was simple - natural gas has dropped (and continues to do so) to a multiyear low and gold is near an all time high.

Will gold continue to go up?  Most here, including me, would say yes.  Are gold stocks cheap?  You bet.  I own them.  Especially with gold at ~$1650 and oil at ~$100/barrel.  Are their risks investing in gold stocks?  Sure.  No investment is risk free.

My own view is that no one here - and I mean no one - is going to bat 1.000 regarding the future.  Some will do better, but the winners aren't labeled.  That being said, I think diversification makes the most sense.  And I don't mean financials.  The CM investment theme of PM's, resourses, and farmland make the most sense to me. 

Nate

 

Jim H's picture
Jim H
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Posts: 2379
Hello Rick and Nate...

Here's how I look at things;  I hold much more dollar value in physical Gold and Silver... between bullion coins safely stored, and PSLV/PHYS.. than I do miners.  If the miners get nationalized... then my physical metal gains that much more because supply from mines will be restricted. 

I am about 50:50 right now in terms of the two metals... but I lean toward accruing Silver right now.. I agree with Gregor's statements to that affect in his latest piece.  If there is another hit to $28, I will probably borrow money or hit the credit card to buy a monster box.. I do believe that we will look back on these prices at some point and see it as the last opportunity to get cheap Silver.  My farmland investment is in the form of my CSA share this year  : ) 

Inflation is here... I just took two kids and my wife for ice cream at a no-name place... we each got a two scoop cup.  $17 + tip.  Wow.

        

 

JAG's picture
JAG
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Joined: Oct 26 2008
Posts: 2492
Jim H wrote: you see that
Jim H wrote:

you see that from a peak in 1996... the relative value of a miners index vs. Gold has been dropping for the entire time...   a Bear market of sorts I guess. 

Hi Jim,

Thanks for the reply. That chart begs the question...hasn't the relative value of everything (except AAPL) vs Gold been dropping over the last decade?

Though I can see the marketing appeal of it,  I have to reject the logic behind pricing assets in units of gold. If you could actually buy something with gold/silver, then I would say that it's a valid observation. 

I remember being excited a few years back when Turk's GoldMoney service came out with an iPhone app that would allow one to exhange digital gold units with another person or business. It never panned out because I never could find another person or business with a GoldMoney account (not even CM.com). 

The chances are that I will be able to buy groceries with my Apple stock long before digital gold transactions are a viable option.

Best....Jeff

Jim H's picture
Jim H
Status: Diamond Member (Offline)
Joined: Jun 8 2009
Posts: 2379
Hi Jag..

I guess I am not so hung up on the idea of using my Gold/Silver at the point of purchase.  As long as there are liquid markets where I can exhange them (with some small premium loss as expected) then I can just buy something on credit... sell some metals.. and pay the credit off before I get dinged.  The metals are long term savings... a means to protect the value of my kids college savings.  This is not an either/or proposition... it is a, "retain some portion of my saved labor in the non-neglidgible event of a currency crisis" proposition.  I do happen to think that the values of Gold/Silver/Miners will overshoot to the upside... but one has to be very cognizant of the risks of that not happening... or miners getting nationalized... etc.  That is an investment outlook.  What I am talking about here is hedging against a currency crisis, significant inflation.. etc... and this I don't consider controversial... it is not investing.. just saving in the form of a hard asset that will never go to zero.     

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