October 2, 2022

How Would Gold Perform In A Full Blown Depression?

“We need to do massive stimulus, otherwise there’s going to be another Great Depression.  Things are getting worse, and the big difference between now and a few years ago is that this time around we’re running out of policy bullets.”  – Professor Nouriel Roubini

As the global financial system lurches towards financial Armageddon, would a safe haven asset such as gold maintain its value in a severe depression?

This and other questions were addressed in a Barron’s interview with Martin Murenbeeld, chief economist for Canada’s DundeeWealth, an asset management firm.  Murenbeeld has held senior positions with various gold mining firms for 40 years and turned bullish on gold in 2001.

In response to questions from Barron’s, Mr. Murenbeeld provided the following insights on the gold market and where he thinks prices are headed.

-Murenbeeld told Barron’s that the recent surge in gold prices was related to investor worries over impaired sovereign balance sheets, monetary reflation, global financial instability and strong demand for physical gold from Asia.  In addition, global gold production has barely increased.  Murenbeeld sees an average gold price of $2,200 in 2012 and only a 10% chance that gold will pull back to the $1,500 range.

-The current gold bull market could last another 10 years due to expanded Asian demand and unprecedented adverse financial conditions in the world economy.  Murenbeeld says history “has shown that gold prices…go through very long cycles.”  The last gold bull market of the early 1980’s was one of the shortest on record.

-Regarding the current disconnect between gold bullion and gold stocks, Murenbeeld notes that during times of severe financial stress, bullion outperforms gold stocks since investors avoid equity issues in general.  Over the long term, however, gold stocks have outperformed bullion.

-If the world enters a major depression, gold prices would likely drop since “demand for everything falls off.”  Murenbeeld notes, however, that monetary response to a depression would be fast and aggressive which would quickly propel gold prices higher.

-Murenbeeld says that current demand for gold in “unprecedented” and due to Federal Reserve policies, the introduction of gold ETFs and huge demand for physical gold by billions of consumers in Asia.

-In response to how world governments will deal with the current severe financial problems, Murenbeeld said “during my working life the risk of monetary debasement – the outright printing of money supply in the developed countries has never been higher.  Thus, we see the unprecedented interest in gold…Most likely governments will meet the bulk of their debt obligations with currency devaluations and the monetizing of debt”.

-As far as the possibility that investors will lose interest in gold, Murenbeeld says that could happen if “confidence in monetary and fiscal policies is restored”.   (Not much chance of that happening any time soon in this writer’s opinion.)

Gold Mining Stocks Break Out To New Highs; 3 Gold Stocks That Should Double

The divergence between the performance of gold bullion and gold stocks seems to be coming to an end.  Both the Market Vectors Gold Miners ETF (GDX) and the Gold Bugs Index ($HUI) have broken out to new highs as investors move into undervalued gold mining shares.

 

During the initial stages of the gold bull market,gold stocks significantly outperformed gold bullion.  From October of 2000 to June of 2008 gold stocks, as measured by the PHLX Gold/Silver Index (XAU), rose 345% compared to a gain of 252% for gold bullion.

Since 2008 gold stocks have significantly underperformed bullion as gold prices increased by over $1,000 per ounce.    As a result, many gold stocks are selling at bargain prices based on increased earnings and the value of proven gold reserves.

Investors have a wide variety of options for investing in gold mining shares including ETFs and gold stock mutual funds.  One of the best performing gold funds is the Tocqueville Gold Fund (TGLDX) run by John Hathaway.  TGLDX has achieved an average annual return of 26% over the past 10 years.   An investment of $10,000 in the Tocqueville Gold Fund made in June 2001 was worth $102,929 as of June 2011.

For investors who prefer to invest in individual gold mining shares, here’s a short list of three gold mining stocks that could easily double in price.

Newmont Mining (NEM) is a large cap gold mining company with proven and probable gold reserves of 93.5 million ounces.  NEM has a strong balance sheet, is forecasting an increase in gold production of 35% over the next six years and pays a cash dividend of 50 cents per share (see A Large Cap Gold Stock That Could Double in Price). NEM hit a new all time high today.

Kinross Gold (KGC) is selling at a large discount to the value of its gold reserves.  One value investor is forecasting a price target of $27 per share (see How Patient Investors Can Buy Gold At $250 Per Ounce).  KGC closed Thursday at $18.18, up $0.40.

Richmont Mines (RIC) is a junior gold producer.  Earnings for the second quarter of 2011 increased from $0.01 per share to $0.16 per share compared to the prior year.  RIC hit a new high of $12.03 at yesterday’s close.

 

 

 

 

 

Why Have SPDR Gold Trust (GLD) Holdings Dropped As Gold Soars?

The SPDR Gold Shares Trust (GLD) reported that holdings of gold bullion remained unchanged from the previous week, after dropping by 39.67 tonnes for the week ending August 24th.

On a year to date basis, GLD gold holdings have declined by 48.41 tonnes as the price of gold has increased by $425 (30.6%) from the first of the year.  Why would the GLD show a decline in gold holdings as the price of gold has soared?   Even more interesting, the GLD reached a record high of gold holdings on June 29, 2010 when it held 1,320.47 tonnes and gold was selling at $1,234.50.  From June 29, 2010, while gold has soared by $579 per ounce, the GLD has actually seen a decline in gold holdings of 88.16 tonnes.

The decline of gold holdings by the GLD as the price of gold bullion has skyrocketed indicates that investor preference for gold investment has diversified.  The demand for physical gold has soared as the world financial system becomes more precarious with each passing day.  Confidence in paper assets is becoming more fragile as hapless central banks desperately print money and drive rates to zero in a futile attempt to restore economic growth.  Investors looking for the ultimate safe haven feel more comfortable  holding physical gold.

There have been questions raised about  the safe keeping and even the existence of the gold held by the GLD.  Although these concerns appear to be unwarranted, the financial panic of 2008 blatantly exposed the fact that even institutions considered to be rock solid wound up failing.  (Also see GATA dispatch – How exchange traded fund GLD lets you pretend to own gold).

The SPDR website stresses that the gold with the SPDR Trust is deposited in an allocated account.  According to the SPDR Gold Trust,  “An allocated account is an account with a bullion dealer, which may also be a bank, to which individually identified gold bars owned by the account holder are credited.  The account holder has full ownership of the gold bars and, except as instructed by the account holder, the bullion dealer may not trade, lease or lend the bars.”

Another reason why the GLD gold holdings have not expanded is competition from numerous other gold trusts such as the Sprott Physical Gold Trust which has advantages over the SPDR Gold Trust.

In addition, the shares of many gold mining companies are selling at extreme discounts and investors may be moving funds from gold trusts such as the GLD into mining shares (see Gold Shares Are Positioned For Explosive Move Up).

The GLD currently holds 39.6 million ounces of gold valued at $71.8 billion.

Meanwhile, the case for holding gold grows stronger as concerns about the stability of the world financial system continue to increase.

The Wall Street Journal disclosed today that Goldman Sachs, in a confidential report, estimates that European banks will need as much as $1 trillion in additional capital and that the current situation in world markets is similar to those that preceded the 2008 financial panic.

According to the Wall Street Journal, strategist Alan Brazil of Goldman told clients “Here we go again.  Solving a debt problem with more debt has not solved the underlying problem. In the US, Treasury debt growth financed the US consumer but has not had enough of an impact on job growth. Can the US continue to depreciate the world’s base currency?”

GLD and SLV Holdings (metric tonnes)

August 31-2011 Weekly Change YTD Change
GLD 1,232.31 00.00 -48.41
SLV 9,836.18 -89.38 -1,174.77

Holdings of the iShares Silver Trust (SLV) dropped by 89.38 tonnes this week after increasing by 109.08 tonnes for the week ending August 24th.  The SLV currently holds 313.4 million ounces of silver valued at $13 billion.

 

Gold Stocks Are Positioned For An Explosive Move Up

Historically, gold stocks have outperformed gold bullion.  Mining companies typically benefit from leveraged earning gains as gold prices rise and production costs remain stable.  Higher gross profits on each ounce of gold produced flow right to the bottom line, boasting profits and stock prices.

During the initial phase of the gold bull market, investors reaped greater profits by owning a basket of gold mining stocks as opposed to holding gold bullion.

Using the PHLX Gold/Silver Index (XAU) as a proxy for mining stocks, the XAU significantly out performed gold bullion during the initial stages of the gold bull market from 2000 through 2008.  From 43.87 in October 2000, the XAU advanced to 195.25 in June 2008 for a gain of 345%.  During that same period of time, gold rose from $264 in October 2000 to $930 in June of 2008 for a gain of 252%.

XAU GOLD/SLVER INDEX - COURTESY YAHOO FINANCE

Since 2008, however, the price correlation of gold mining stocks to gold bullion has reversed.  Despite a doubling in the price of gold since 2008, the XAU is only marginally higher at 210.93 for a very paltry gain of 8%.  An investor who was super bullish on gold since 2008 would have gained virtually nothing in mining stocks while the price of gold soared.

Investors in broadly diversified precious metal mutual funds had equally poor results.  As of June 2011, both the Vanguard and Fidelity gold mutual funds have drastically under performing gold bullion since 2008.  The Vanguard Precious Metals Fund (VGPMX) actually delivered a horrendous three year return of minus 0.46% as the price of gold soared 80%.  The only investors in gold mining stocks since 2008 who made profits were those astute enough to pick the handful of mining stocks that out performed gold bullion.

Even the Tocqueville Gold Fund (TGLDX), run by legendary gold investor John Hathaway, has been unable to outperform gold bullion since 2008.

 

XAU, GLD, TGLDX - COURTESY YAHOO FINANCE

Some of the reasons for the disconnect between gold mining companies and gold bullion since 2008 include the following.

  • Investors learned the downside risks of leverage during 2008 when gold stocks got absolutely crushed while the price of gold bullion had a relatively modest decline.  As measured by the XAU, gold stocks declined by a devastating 65.7% during 2008 while gold bullion declined by only 29% from a peak of $1,011 to a low of $713.
  • A growing preference for holding physical gold and silver.
  • The realization by investors that it takes an in-depth technical knowledge of the mining industry as well as the ability to analyze financial statements to be able to pick the gold mining stock that will outperform gold bullion.
  • Gold mining companies can go bankrupt while gold bullion is eternal and will always retain a value and constitute a store of wealth.  Long time gold investors may remember stocks like Echo Bay Mines, Royal Oak Mines and many others which became worthless.
  • The introduction of gold ETFs such as the SPDR gold shares (GLD) created competition for gold mining stocks.  Before gold ETFs were established, investors who wanted exposure to the gold market without having to hold physical bullion would have had to invest in gold mining shares.  The GLD recently became the largest ETF by value with holdings of over $70 billion in gold bullion.

Investor preference for gold bullion and gold ETFs over mining stocks has created a vast pricing disparity between gold bullion and gold stocks.  High quality major gold producers with vast proven reserves of gold are now on the bargain table.  Gold stocks are selling at almost all time lows compared to gold bullion.   Two bargain gold mining stocks previously featured in goldandsilverblog.com are Newmont Mining (NEM) and Kinross Gold (KGC).  Investors in Kinross Gold, for example, are effectively buying gold at around $300 per ounce.

Markets can price stocks far below fundamental values, sometimes for an extended period of time, but ultimately the underlying value will be reasserted.  Gold mining stocks at this time represent immense value and are being steeply discounted.

What will be the trigger for an explosive move up in quality gold mining stocks?  Consider Glencore’s recent bids for nickel, coal and copper miners as reported in ft.com.

Glencore on Wednesday launched a A$268m (US$280m) bid to acquire full control of Minara Resources, an Australia-based nickel miner in which it already has a 73 per cent stake. Last month it offered $475m (£295m) to acquire one of Peru’s largest copper prospects, the Mina Justa project.

Industry executives said that Glencore’s latest target was Optimum, South Africa’s fourth largest coal exporter. The trading house is close to launching a bid for the Johannesburg-listed miner with the support of several South African partners, executives said.

Gold mining stocks have become  irresistible take over targets.  The first takeover bid for a gold mining company will trigger a buying stampede which could rapidly result in a doubling of gold stock prices from currently depressed levels.

Smart Money Investors Assess Gold Market

Given the recent extreme volatility in worldwide financial markets, Barron’s interviewed their Roundtable Panelists for an assessment on where we are headed next.   Three of the smart money investment pros interviewed gave their insights on where they think gold is headed next.

Here’s what they had to say:

1.  Investor Felix Zulauf thinks that the stock market will see new lows in the fall and that eventually both the Fed and the European Central Bank will step in to support the financial system.  Although Felix feels that providing additional liquidity is not a solution, “if we don’t do it the system will break down.”  According to Felix, at some point, as the problems get bigger, central banks may hit the panic button and wind up “like Zimbabwe”.  The increasing price of gold reflects the loss of confidence in policy makers, central banks and the currency.  Felix’s recommendation for a bleak future – “own a lot of gold, and don’t have debt.”

2.  Fred Hickey, who is editor of The High-Tech Strategist, also sees the Fed being forced to initiate more quantitative easing as economic conditions deteriorate.  The drawback of more money printing, however, is that “the Fed…can raise the nominal prices of assets – but not the real prices, because inflation will rise.”   Hickey, who owns both bullion and gold ETFs think the better play right now is in gold mining stocks since they have lagged the price increase in gold bullion.  Hickey is recommending Agnico-Eagle Mines (AEM), Newmont Mining (NEM) and Yamana Gold (AUY).

3.  Marc Faber, Editor of The Gloom, Boom & Doom Report, sees a short term bounce in stock prices and a possible correction in gold of $100 to $150.  After a rally off oversold levels, Marc thinks stocks will drift lower due to concerns over sovereign defaults, a dollar crisis, continued social upheaval in the Middle East and developed countries in the West, recession, lower corporate profits and the possibility of a “bust in China.”   As for the gold market, Faber remains long term bullish saying that “As long as the trio of Obama, Geithner and Bernanke are in power, gold is destined to move higher.  Long term treasuries have no value.  They will default by paying interest in a worthless currency.”

Bill Gross, head of investment firm Pimco, while not specifically addressing the gold market, is also bearish on the economic outlook for the the United States and implied that the more quantitative easing is the only option left.  According to Gross, the recent Fed announcement that it will keep interest rates at zero for another two years “indicates that monetary policy has been exhausted, while fiscal policy is hammerlocked by the results of the debt ceiling debate.”

Gold is beginning to look more and more like the only safe haven in a dangerous world.

Debt Limit Fiasco Could Push Gold To $2,000

Gold has advanced almost nonstop since the beginning of July.  As measured by the London PM Fix Price, gold has advanced in 10 out of the 14 trading days since July 1st, gaining $118.  London gold closed today at $1,586.00 but soared in late New York trading to end the day at $1,602.90.

Gold has decisively broken out of the two month trading range it has been in since early May at the $1,500 level.  All the fundamental factors driving gold higher continue to strengthen.  The fragility of the paper financial system has been exposed.  Efforts by politicians to solve the debt crisis are only serving to hasten the collapse of the system they are trying to preserve.

The debt ceiling problem in Washington continues to fester as politicians dither and delay.  With every top official in Washington warning of financial Armageddon if the debt ceiling is not raised, the betting is that a compromise to increase the debt ceiling before August 2nd will be reached.  Whatever compromise is reached is likely to be a meaningless “agreement to disagree later” as the debt ceiling is raised but the hard choice of where to cut spending is postponed.  If gold sells off in a knee jerk reaction to Washington’s “solution” to the debt crisis, it will provide another buying opportunity for gold investors.

A solution to the nation’s spiraling debt crisis no longer seems possible.  Neither political party has the will nor the desire to realistically address the basic problem of excessive deficit spending.  There is no upside for those with the courage to call for the austerity measures needed to put the Nation on the path towards sound financial footing.  A majority of Americans favor increasing the debt limit and that majority naturally consists of those who derive all or most of their income from government payments.  Politicians get the message – keep the payments coming no matter what or we will vote you out of office.  The strategy of dealing with too much debt will again be to increase debt.

With debt compounding at rates far in excess of the country’s income gains and with taxes already at punitively high levels, the only option left for servicing the debt is to debase the currency and repay creditors with devalued dollars (see Ron Paul Says US Is Already Defaulting on the Debt).

As long as Washington can keep selling its debt and as long as Ben Bernanke is there to purchase government debt with freshly printed money, the spending and deficits will continue until the entire financial system collapses.  This is what the gold market recognizes and that is why there is  no effective limit on the upside to gold prices.

A brief pause at the $1,600 level should soon be followed by an even stronger advance.  Since 2009, every consolidation in the gold market has been followed by strong advances that lifted gold by hundreds of dollars per ounce.   Gold could quickly get to the $2,000 range as the current rally progresses, given the rapidly deteriorating condition of the global financial system.

 

Gold - Courtesy stockcharts.com

In the final analysis, it doesn’t even matter what the imperial leaders in Washington decide to do – we are already beyond the tipping point – the only matter of consequence is how to prepare for the inevitable collapse of the world fiat monetary system.

 

Gold Resource Asks Why Short Positions Soared Prior To Negative Barron’s Article

The latest edition of Barron’s published an extremely negative article on Gold Resource Corp.  Barron’s raised questions about the gold miner’s reserves, stock sales by company insiders, mine production delays, gold production below targeted results and the use of stock dividends to “promote” Gold Resource’s stock price.

In response to the Barron’s article, Gold Resource issued a press release disputing all of the Barron’s allegations.  In addition, Gold Resource also raised serious questions about the massive increase in short positions prior to the publication of the negative Barron’s article.

By way of background, Mr. Santoli contacted the Company on May 18, 2011 which was just after the short interest in the Company’s common stock jumped by 1,585,906 shares to its largest short position of 2,235,554, an increase of 41%, according to the Amex May 2011 short interest report. As Mr. Santoli pointed out in his article, the short position has continued to increase substantially since that time to approximately 3.4 million shares, according to the latest NYSE report.  However, one thing Mr. Santoli failed to mention in his article is that he was in direct contact with investors holding short positions during the time he was preparing his article.  While we can only speculate about his motivations while creating this article and the reason why the short position increased significantly during this time period, we are going to focus our energy on correcting a few of Mr. Santoli’s incorrect factual assertions.

As  previously discussed, one week prior to the publication of the Barron’s article, the trading volume in Gold Resource exploded to  7.7 times the daily average volume with the stock down about 5%.  The massive increase in short positions prior to the publication of Barron’s article appears to be more than a coincidence.  Short sellers appeared to know in advance that a negative article on Gold Resource was due to be published and dramatically increased short positions.

The shorts profited handsomely as the stock plunged in the first day of trading after the Barron’s article was published.  After trading as low as $20.55, GORO closed at $22.63, down $1.47.  Shareholders of Gold Resource certainly deserve more information on the circumstances relating to the massive short position in Gold Resource stock and hopefully the Company will pursue this matter further.

The Gold Resource press release disagrees with every negative point in the Barron’s article and defends the Company’s approach in not using an SEC compliant reserve report.

Gold Resource effectively reputes the Barron’s charge that management “have been consistent sellers of the stock”.  The amount of stock sales by management amounted to only $13.7 million in the past year which is immaterial in relationship to total stock holdings by management, who remain the largest shareholders of Gold Resource.

One issue not resolved by either Barron’s article or the Gold Resources press release is a definitive answer on the amount of gold reserves in the El Aguila mine.  Since Gold Resource never conducted a study to assess the “proven and probable reserves” of El Aguila, this question will ultimately be resolved as mine production progresses.  Indications that mine production is increasing was provided by another Gold Resource press release on July 5th, in which the Company disclosed record production, revenue and earnings for the second quarter.

If Gold Resource continues to put up records results, the stock price of GORO could soar as nervous short sellers scramble to cover short positions.

 

GORO - COURTESY YAHOO FINANCE

 

Will Gold Resource (GORO) Become A $5 Stock?

Gold Resource Corp (GORO)  has been one of the best performing gold stocks over the past five years, outperforming the appreciation in gold bullion by around 2,000%.  From a price of $1 per share in September 2006, Gold Resource rose to the $5 per share range by mid year 2007 and earlier this year hit an all time high of $31.38.  GORO closed at $24.10 on Friday and may head much lower in the aftermath of a devastating article published in this week’s Barron’s.

Highlights of the disclosures and questions raised about GORO in the Barron’s article include the following:

  1. The company is run by the Reid family and Bill Conrad, who helped the company in its initial public stock offering in 2006.  Barron’s discloses that the Reids and Conrad “have been consistent sellers of the stock” with $13.7 million of sales in the just the past year.
  2. Gold Resource’s primary mine in El Aguila, Mexico, has seen constant production delays despite promises since 2007 that production would soon increase.  In April of this year, according to Barron’s, the mine produced only 20,000 ounces  after being targeted for 70,000.  The expenditure of $95 million, raised in equity offerings, has produced minimal results in terms of gold production.
  3. The El Aguila mine was abandoned by Apex Silver Mines after they explored the site in the early 2000s.
  4. Gold Resource has never conducted a study to accurately assess the “proven and probable reserves” of the El Aguila mine.  According to Barron’s, investors only have the Reids’ word to rely on for estimates of gold deposits and the cost of extraction them.
  5. The two largest investors in Gold Resource are Hochschild Mining of Peru and the Tocqueville Gold Fund.  According to Barron’s, “the largest holders, who have known the company the longest, have not been buying stock at anywhere near the current price”.   Legendary gold investor John Hathaway of the Tocqueville Gold Fund told Barron’s that his geologist has visited the El Aguila mine twice and ore samples are “consistent with a potential deposit of two to three million ounces of gold equivalent”, worth up to $4.5 billion in gross revenue.  Almost 4% of the Tocqueville Gold Fund is invested in Gold Resources.
  6. Barron’s discloses that Gold Resource President Jason Reid sold $700,000 of stock “on May 19th, a day after Barron’s  first emailed him some questions”.
  7. Barron’s claims that Gold Resource management is “promoting the stock” with cash dividends despite the fact that “the company has never, in a single quarter, produced positive cash flow”.
  8. Barron’s concludes that investors shorting the stock “are probably wise” not to take management’s word on how much gold Gold Resource actually has or how much it will cost to mine.

The recent trading action in Gold Resource Corp stock raises some intriguing questions.  On June 24th, GORO traded down $1.47 as trading volume exploded to 3.3 million shares, the highest volume in the stock’s history and 7.7 times the stock’s daily average trading volume.  The massive surge in trading and lower stock price a mere week before the damning Barron’s article was published suggests that some investors knew in advance what was coming.  Investors also have a significant short interest position in GORO of almost 11% of the stock’s float.

 

GORO - COURTESY YAHOO FINANCE

If Barron’s doubts about Gold Resource prove correct, the stock may be looking at a return trip to $5 per share.

Is The Plunge In Gold Stocks Predicting A Drop In Gold?

American Gold Buffalo

Gold stocks have been under performing gold bullion for the past three years.

The poor performance of gold stocks is reflected in the sub par returns of gold mutual funds run by two of the countries largest investment companies.  The three year return on Vanguard’s Precious Metals Fund (VGPMX) has actually had a negative return over the past three years as the price of gold has soared by 80%.  The Fidelity Select Gold Portfolio (FSAGX) has returned only 16.2% over the past three years. (See Physical Gold Outperforms Vanguard and Fidelity Gold Mutual Funds).

Senior gold producers such as Newmont and Kinross Gold are increasing gold production and solidly positioned for significant earnings increases but their stock prices have not been able to match the returns of gold bullion.

Although there are many reasons to expect that gold stocks will catch up to gold and deliver large gains to investors, so far this has not been the case.

Adding fuel to the investor debate over the relative merits of gold stocks versus gold bullion has been the drastic price divergence exhibited since the beginning of 2011.  While gold has held virtually all of its gains, the price of many gold stocks has plunged.  An investor in gold stocks not tracking the price of gold would probably conclude that the price of gold had collapsed during 2011.

Since January 1st, the price of gold has gained $116 per ounce or 8.3%.  From January lst to recent June lows, the price of Newmont Mining is down  by $9.27 (15.2%), Kinross Gold is down by $3.96 (20.8%) and Agnico-Eagle Mines is down by $16.01 (20.9%).  A broad basket of gold stocks, as measured by the Gold Miners ETF (GDX) has declined by $9.69 or 15.8%.

Adding to concerns about the recent sell off in gold stocks is the especially wide price divergence seen since May lst.  Although many individual gold stocks have long lagged the returns of gold, the GDX, a broad based index of gold stocks has generally tracked the price movement of gold over the past several years.  Since the beginning of May, however, the linkage between gold stocks and gold completely broke down, leaving investors to ponder the significance of such a wide divergence.

 

STOCKS VS GOLD - COURTESY YAHOO.COM

 

 

On past occasions, weakness in the gold mining shares has been a harbinger of a sell off in the gold market.  Is the current weakness in gold stocks currently forecasting a decline in the price of gold?  The end of the Fed’s money printing campaign, the world wide debt crisis, concerns about deflation, a weakening economy and the decline in commodity prices lead some to believe that a liquidity driven crisis could result in lower gold prices.

Despite short term concerns over the price of gold, the reasons for remaining long term bullish on gold are numerous.  The fundamental problems of excessive debt, debased currencies, widespread insolvency among sovereign states and out of control spending by the U.S. government all suggest that we remain on the precipice of another economic crisis.  Governments and central banks have no solutions except for the printing presses, which will be turned up to full speed at the inception of the next financial crisis.

At the margin selling may temporarily drive down gold prices in the short term, despite the solid long term bullish fundamentals for gold.  The long term trend for gold remains higher and any temporary price weakness would be a buying opportunity for gold investors.

 

 

 

Why Gold Stocks Are A Better Value Than Physical Gold Or Gold ETFs

Many investors in gold mining companies are probably asking “where did I go wrong”?   While the price of gold bullion has moved relentlessly higher,  many large cap gold stocks have seen little or no price appreciation in recent years.

In a previous post, we examined the poor returns of two major gold stock mutual funds compared to the return on owning physical gold.  While the price of gold has soared 80% over the past three years, the three year return on the Vanguard Precious Metals Fund (VGPMX) was -.46% and the three year return on the Fidelity Select Gold Portfolio (FSAGX) was only 16.2%.

Why gold stocks have so badly lagged the run up in the price of gold remains subject to conjecture.  Some analysts speculate that investors prefer to avoid the risks associated with gold mining stocks and as a result have turned to physical gold and gold ETFs.  Since their introduction in 2004, gold ETFs have become very popular with investors, and now hold a total of almost $98 billion in assets.  By way of comparison, the market value of three of the largest gold mining companies, Barrick Gold (ABX), Gold Corp (GG) and Newmont Mining (NEM) total $108 billion.

If the gold ETFs did not exist, it is likely that some of the funds that flowed to gold ETFs would have instead flowed into gold mining companies.  However, the historical correlation between gold bullion and gold mining stocks has not always been perfectly linked.  There have been times when gold stocks outperformed or simply matched the price gains of gold bullion.

The recent under performance of gold stocks relative to gold bullion will probably not continue.  Many large cap gold mining companies are positioned to see significant increases in earnings that will eventually propel their stock prices higher.  Going forward, it is likely that gold investors will see higher returns on quality gold mining stocks than on holdings of physical gold or gold ETFs.

Two high quality gold mining companies previously featured in the GoldandSilverBlog that should see significant price gains are Newmont Gold (NEM) and Kinross Gold (KGC).

Newmont Gold is one of the world’s largest gold producers.  The Company has been increasing profits and production for several years and is forecasting an increase in gold production of 35% over the next six years.  Newmont has gold and copper reserves valued at $363 per share and pays a cash dividend of $0.50 per share which will be increased by $0.20 for every $100 increase in the price of gold.  Newmont shares closed on Friday at $52.10.

Kinross Gold had very strong first quarter results with revenue up 42% and earnings up 81%.  The Company’s cost of production is $543 per ounce and Kinross is forecasting an increase in gold production of 77% by 2015.  At the current price of $15.50 per share, an investor is effectively buying gold at around $250 per ounce.  Kinross Gold pays a dividend of $.10 per share.

The current pricing disparity between quality gold mining stocks and gold bullion has presented investors with an opportunity to purchase gold shares at deeply discounted prices.

Besides being able to effectively buy gold at a steep discount, gold mining companies pay dividends which are likely to increase substantially.   Another significant benefit of owning gold mining companies is the much more favorable tax treatment on gains.  Gold bullion and gold ETFs are taxed as collectibles at 28%, while the long term capital gains tax rate on gold stocks is only 15%.