The Conversation (2)
In spite of the steady climb in gold’s spot price since the beginning of 2011, the overall share price of gold mining companies has not followed suit, particularly in the majors. Gold is up about 4.6 percent since January while gold mining stock indexes have shown a drop of as much as 10 percent.
By Damon van der Linde – Exclusive to Gold Investing News
“With gold the commodity going up, you’d think gold shares would be going up, but obviously that’s not the case,” said Wayne Atwell, Managing Director of Research with Rodman & Renshaw. “It has happened in the past that gold stocks shoot up beyond gold.”
Though Atwell says that he is not certain what the exact reason is for this disconnect, he does say that it is often the smaller gold mining companies that have the most to gain in a bull market, as larger companies must rely on larger finds in order to maintain their profits.
“I’ve looked at several indexes and they are all down, and most of them are majors. In a rising- to flat-performing market the juniors should out-perform the majors,” said Atwell. “From that standpoint, it would favor the juniors. Juniors are more risky, the management’s not as good, but as a junior moves from 50,000 to 100,000 to 200,000 ounces, they’ll get a higher multiple [ratio between resource and market cap] because you pay more of a multiple for a larger company.”
The production of gold has for the most part not risen in terms of volume since 1997, when it was worth around $350 an ounce. The value is now crowding $1,500 an ounce in 2011. Atwell said that with the major gains in the gold spot price through 2010, major mining companies were up 25 percent while the juniors were up about 49 percent.
“It was sort of like ‘gold on steroids’ if you owned a company. If you own a gold share you’re hoping that they are going to out-perform gold or at least maintain their production and presumably grow while maintaining their costs.” said Atwell. “Obviously, costs have gone up because of inflation and just it’s harder to get to the gold deposits because they’re more remote. If you think gold is going higher, at least in theory the gold shares should outperform gold because the benefit to the company is greater than the pure arithmetic advantage.”
Atwell speculates that perhaps one reason for the detachment between the gold spot price and gold share prices has something to do with certain investors wondering whether the metal is nearing the peak of its long climb.
“One conceivable factor could be those investors who get nervous as the commodity price gets higher. The higher the price of a commodity gets, the higher the probability that it’s peaked out,” said Atwell. “Gold is off a bit from its peak, but I happen to think the price will continue to rise for another one to two years at least. The sovereign debt problem in Europe, inflation that’s surfacing a bit, and the deficits in the US government spending are very serious issues that don’t seem to be on the verge of coming under control.”
Another possibility for lower values in gold shares could be the advent of gold ETFs like the SPDR Gold Trust (NYSE:GLD) diverting investors’ money away from mining companies.
“If you just want to invest in gold, you don’t have to worry about political risk, you don’t have to worry about execution, you just buy ETFs that pretty much track gold price,” said Atwell. “You also don’t have to worry about management making mistakes, so it has certainly drained investors away from gold shares. If you think gold is going to be flat or up a little or down a little, you probably want to own the ETFs.”
For those interested in putting their money into gold, Atwell says that gold mining company stocks still are a viable alternative to ETFs and physical metal – especially in a bull market – as long as investors exercise caution.
“Basically, you want to have a diversified portfolio,” said Atwell. “Sometimes a company will be in a political jurisdiction where there is a problem, and the stock can get hit pretty hard. You’re certainly going to want to have more than one name in your portfolio.”