I recently interviewed Jeff Clark about using gold as an inflation hedge. Jeff asked why I never write about gold stocks. I own several – time to fess up!
Why don’t I write about gold stocks? I don’t recommend stocks, I know my limitations.
You can make a lot of money with gold stocks, but you better know what you are doing.
One of the top metals analysts is former Casey Research colleague Lobo Tiggre. He wrote for Casey under the pen-name Louis James.
One minute he would be traveling the world with his hardhat looking at explorers, then in the next, he would be in established mines looking at their economics. Lobo’s the real expert – and he agreed to an interview.
DENNIS: On behalf of our readers, thank you for taking the time for our education. Before we get into stocks, I want to discuss how gold is different.
Unlike most commodities, which are consumed, gold is primarily used as a store of wealth. When oil prices rise, demand slows – industry looks for other sources of energy. Sometimes can’t higher gold prices create additional demand? Lobo, am I correct?
LOBO: You’re partially right, Dennis. Gold is a safe-haven asset. It rises when people see rising risk (economic, political, or even on the personal safety risk). But the gold price is also seen as an indicator. Rapidly rising gold prices can act as a warning signal, creating more demand for gold.
In a gold mania, fundamentals can be overtaken by momentum, as happened in 1980 and 2011, but that’s rare.
Higher gold prices can cause increased demand for gold, but oddly enough, so can lower prices. In recent years when gold sold off in the West, instead of tanking after breaking below a “psychologically important price level,” it rebounded because the “sale” spurred a surge of buying in Asia.
There has been a massive transfer of physical gold from West to East over the last 10 years. Official Chinese reserves alone have doubled over this time, not including all the gold private individuals in China have socked away.
This win-win outlook should be very reassuring to gold investors. It tells us we should do well, whether safe-haven demand drives gold sharply upward or not.
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DENNIS: I look at mining companies in different categories.
The first is exploration companies, sometimes called junior mining companies. They may be boom or bust; if/when they find gold, the payoffs can be enormous.
The second group is the big boys, they have millions invested and harvest gold all over the world.
The third group doesn’t really mine, but rather provide capital for mining companies. In addition to interest income, they also receive royalties.
LOBO: Well, there’s no “official” or uniformly accepted way of categorizing mining companies, there are some small producers, however, your explanation is as good as any.
DENNIS: I know you have recommended junior mining companies that produced tremendous rewards. What do you look for?
LOBO: When I first started, solid people with great track records, highly prospective targets, and money to explore them, seemed worth a shot. Sometimes we got lucky and landed 1000% gains or better, but too often we did not. Even the very best explorers in the business routinely struck out. A general industry guideline is only one out of 300 discoveries ever becomes a mine. Many good geologists go through thousands of targets and may never make a significant discovery in their entire career.
Today, I am extremely selective with stringent criteria. I’ll speculate on early stage exploration – but only if the company has not only great people and targets, and either revenue of some kind of joint venture partners paying for all that super-high-risk work. I also look for more advanced exploration plays, in which the company has already made a discovery, and it looks to me like a real winner.
One of my favorite speculations is in the pre-production sweet spot. At this stage, there’s no exploration risk; the discovery has already been made. There’s technical risk, but only about 5% of first-time mine builders fail to build their mines.
I’ve seen companies appreciate over 800% from the time they started building their mine until the time they poured their first bar of gold or silver. Silvercorp (SVM) was an example of this sort of extraordinary gain when it built its first silver mine in China back in 2006.
A note of caution; while 95% of first-time mine builders succeed at building their mines, not all deliver positive share price results for investors. In the end, all experience extreme volatility along the way. Traditional stop losses would have been triggered in every case, sometimes causing the investor to sell at a loss.
|The junior mining/exploration space should always be considered as a realm for speculators, not investors protecting a nest egg.|
Personally, I try to invest the money I need cautiously and speculate only with money I can afford to lose.
DENNIS: What do you look for in the big mining companies?
LOBO: I start with the standard metrics: Price to Earnings Ratio (P/E), dividend yield, Earnings Per Share (EPS), Free Cash Flow (FCF) and such. I look for companies that manage to keep growing and delivering net income.
Operationally, growth is key. Mines are depleting assets. If a miner doesn’t have growth on tap, it’s going to shrink. You must discover or buy more, or you mine yourself out of business!
The tricky variable is political risk, which can change in an instant. Countries that are solidly pro-mining can go off the deep end for many reasons; an unfortunate election, a fiscal crisis, or a mine accident in some other part of the world. Generally, they increase taxes and regulations on once-profitable mines. It takes some work, but it’s essential to stay ahead of the curve on this.
Even the biggest mining companies can be extremely volatile. For example, In 2008 Teck Resources (TECK) dropped from about $50 per share to just over $3. While it was a market-wide crash – almost 94% is scary! In two years the stock rebounded to over $60 per share. The rout was an opportunity for the most courageous among us.
Gold stocks, even in the biggest and best companies in the world, are always going to be much more volatile than blue-chip stocks most investors are used to. Different strategies and risk tolerance are required.
DENNIS: The third group is royalty companies. What should an investor look for here?
LOBO: I love the royalty space. These companies get paid based on the top line of a miner’s production. Investor’s profit from the price of gold/silver without the risk of discovering and mining it. You can do well, but don’t expect the kind of extraordinary gains that a junior mining company many produce.
In addition to sound company metrics, I look for a good dividend and stock with a track record of rising by some multiple of the movements in gold prices. If gold goes up 1% or 2% in a week, I’d like to see the royalty company’s shares rise 4% to 10%. This happens – but again, it happens when gold drops as well.
|If your only investment goal is to protect your nest egg, frankly, there isn’t a gold stock in the world for you. The prudent thing to do is to buy gold itself, which will hold some level of value no matter what happens.|
DENNIS: Lobo, can you tell readers what you are doing and how they can find you?
LOBO: While I’m greatly appreciative of what Doug Casey taught me, I no longer work for Casey Research. In 2015, to avoid conflicts of interest company policy was changed. I couldn’t buy the stocks I wrote about; putting my money where my mouth was.
Today I foresee a major commodities boom; particularly precious metals. I want to participate. And my readers want me to be in the trenches, suffering and celebrating the consequences of my work alongside them.
I’ve started my own newsletter – www.IndependentSpeculator.com. We provide educational material for investors of all levels. Our monthly newsletter outlines the actual speculative investments I’m making. I post evidence of all my trades, including capital committed, prices bid, fees paid, everything. The goal is 100% transparency.
“Independent Speculator”, is what we are all about. I’m truly independent; none of the companies I write about pay me to do so. Investments are highly speculative and should only be considered by people with capital to allocate to speculation. My goal is to make money for my readers and myself.
DENNIS: Today you heard from a true expert. Lobo, thank you for your time.
|NOTE: I have no financial arrangement with Lobo of any kind. I’m happy to promote his new venture in exchange for him sharing his expertise with our readers.|
LOBO: My pleasure, Dennis.
Dennis here. I currently own stock in 3 mining companies and 2 royalty companies, all paying dividends. One is up 158%, and the other four are down about 60%. I hope I never have to sell my