Are Miners Worth the Trouble?
Junior miners can be great investments when they hit, but the amount of time and effort required, along with avoiding routine disasters both human and natural, makes them a very difficult space.
The list of troubles is long. Coverage of the sector is sparse. The old joke is a gold mine is hole in the ground with a liar on top. Many companies are run as “lifestyle” companies. The management is there for a paycheck. If they hit on a discovery, it’s like a lotto win for them too and they immediately cash out. Sometimes that’s a good thing too, because bringing a mine into production is fraught with trouble.
The stocks are continually diluted. Gold miners do best when gold is rising much faster than labor and energy costs. An inflationary market could be one where inflation costs rise faster than gold though, sinking the prospect for miners. Many junior miners had affordable mine construction costs prior to the pandemic. Junior gold stocks popped along with gold, but the costs of mine construction went up far faster. The odds of building a mine went down despite higher gold prices or if the mine was still likely to be built, the cost of dilution soared. Any company hitting a hiccup to their timeline imploded as investors calculated ever rising inflation versus what was then a trading range for gold.
The reality is few investors will land on the maybe handful of miners that can 100x. If spreading assets out, the expected return starts falling.
Futures contracts offer leverage on gold itself, as do call options. The June $200 strike contract is about $18 now with GLD at $216, $2 of time value plus $16 intrinsic. Trading brings its own hazards, but one that is similar to that of stocks and indexes.
Another avenue is options on major miners. Newmont NEM 0.00%↑ June calls at the $37.50 strike were $5.40 when I looked, with about 80 cents of time value. A 5 percent rally in NEM between now and expiry would translate into a 22 percent gain in the options, or about four times. A 10 percent rally would translate into 60 percent rally in those options.
In a steady rally, if this trade is repeated a few times, the annual gains can pile up.
The best case for junior miners is that they can be accumulated over time. The risk of going to zero exists for many of them, or effectively zero’s with 90-99 percent drawdowns common.
Many silver and gold juniors, such as this one below, are trading well off their recent highs though. For whatever reason, many stocks haven’t moved much despite the move in metals.
A strike against them is that a lot of them trade in Canada and Australia. Liquidity in the OTC market is low and infrequent. They have to be accumulated slowly in quiet markets and then dumped in active markets when they start rallying. Even in Canada and Australia, many are illiquid. It’s good to buy stocks on panic lows, but it’s almost a necessity in junior miners to build a large position. Larger investors can make use of private placements.
On the plus side, if the 2008 analog echo for gold plays out, there might be panic lows ahead.
Frequency of Trades, Research Time and Risk/Reward
If trading frequently, options and futures are much more attractive. Junior miners move very slowly, then all at once.
It takes a lot of time for researching juniors and compiling a target basket. There are shortcuts such as Gold Ventures portfolio as a starting point. Gold Stock Data has a large database for those who want to research. CEO.CA is the go to site for discussion.
Futures have potentially wide open downside risk. Options have a fixed downside risk as do juniors.
Royalty stocks are a good alternative to junior miners. Some of the juniors in this space are already enjoying strong positive cash flow thanks to the spike in metals prices.
Finally, the ratio of gold to gold mining stocks remains near the low. Getting to the low of the recent range, around 5.4, would take a roughly 70 percent rally in the HUI from yesterday’s close. A better entry could come in an echo of 2008 where gold and miners briefly tumble before the next stimulus is announced.
Now if I’m trading against myself, here’s where I ask if the fact that I’m writing this is not in and of itself evidence for buying miners here. Especially on a day when Newmont is up 12 percent and counting as I tie this up. Compared with gold, NEM would have to rally back to around $90 a share to trade at the same ratio it had back in April 2022. Both a perfect illustration of value destruction and potential upside in one of, if not the, most frustrating sector of the market.