Thursday, 17 October 2013

The 90% club - gold miners fall off a cliff

Any good conspiracy economics blog will have "gold" in there somewhere.  If readers have watched the HiddenSecretofMoney videos and believed the hype then you would be rushing out to buy gold by the bucket (or matchbox) load.

The relationship between gold investing, the gold price and the price of gold miners is an interesting one.

Should an investor buy physical gold, paper gold or shares in a gold mining stock.

Hinde capital have a nice piece updating the membership of the 90% club which consists of those gold mining companies who's shares have fallen at least 90%.  There are a lot of them.

It is a simple econ101 article about supply and demand and the fact that if the cost of production are greater than revenues from selling the product produced (mined in this case) then the only rational move is to shut down operations.

The relationship with the price of gold is more complicated.  In theory, a fall in production of gold limits supply and should lead to an increase in the price of gold.  Of course, then the mothballed mines will open again and the price will return to its previous levels (although this all takes time).

Buying shares in large low cost gold miners would appear to have legs as an investment strategy.  A few gold-eagles buried in the back garden might be a sensible investment against a global collapse.

[Warning: Never ever take investment advice from this blog or any other blog for that matter but especially this one :-)]

Hinde Capital article below:

The growing 90% club and why gold production is going to go to zero

[..]

If gold prices stay at the current levels for a prolonged period of time, do not be surprised if gold production falls much closer to zero. From an investor’s perspective it is a treacherous minefield. Of course, there are companies who really do have high grade ore reserves who can really claim to mine at $800/ ounce but these are very rare, maybe less than 5% of the 2000 quoted companies. The Northern Miner writes that out of their survey of 1400 Toronto listed firms, 721 currently have less than $200k cash in the treasury.

While the big caps that make up the GDX index are unlikely to go out of business in the short term and may offer some trading opportunities for a bounce here, the very nature of this desperate business remains. Huge capital is required a long time before there is even the sniff of future cash flow.  All companies can go to zero but mining companies get there much faster than most. Strangely it might well be the demise of 1000 mining companies over the next year that is the most bullish reason for the survivors.

If gold production really does fall off a cliff, the standard laws of supply and demand should be a huge positive factor for the price of gold.   The sentiment in the gold market is horrendous led by the media and the price action. It is down 25% on the year. If you were looking for an asset class with a high margin of safety, (production cost) that was universally hated with no speculative long positions for a long term value portfolio allocation, you could do a lot worse than gold bullion at $1250 ounce.

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