Gold Mining Shares: Less than Glittering

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Gold Mining Shares: Less than Glittering

Turning a Near Quadruple into Losses

By Paul Price

From this week's Market Shadows Newsletter 7-9-13, Fail and Fail Well

Jesus was hailed as a miracle worker when he turned water into wine. What would the appropriate name be for the Wall Street geniuses that managed to turn a 258%, decade-long rise in the underlying price of gold into losses for investors in most gold mining companies?

The per ounce price of the yellow metal has almost quadrupled from its 2003 low point even after pulling back from its Aug. 2011 pinnacle above $1900.

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Almost two years later, gold sits 35.6% below the 2011 top and pundits are now calling for $700 - $1,000 on the downside before bottoming.

True believes were not big sellers even at the peak. Most were of the view that fiat-based money was on its way to worthless and that gold was simply pausing on the way to $5,000, $10,000 or higher.

Even if they missed exiting at the top, owners of physical gold have made nice profits over the past decade. Players who used the SPDR Gold ETF (GLD) or its equivalents ("paper gold") have also done decently. The GLD did not exist ten years ago. It began trading on Nov. 18, 2004.

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Traders who bought shares of gold mining companies as a way to play rising metals prices made a huge miscalculation. Shares of all the major producers have posted significant losses for the past one and two years. Excepting Goldcorp their price declines dwarfed the fall in the actual per ounce price of gold.

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Three of the four highlighted gold-mining shares also showed horrible results over the most recent five and ten-year periods. Goldcorp (GG) managed to record a moderate gain since July 6, 2008 and more than doubled investors’ money since July 6, 2003. Still, that was substantially below the 258% percent increase of the underlying metal. 

Why did mining shares do so badly?

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Per share production costs vary by company and geographical area (chart below). All four of the profiled companies spent from $910 - $1149 per ounce based on their 2012 "all-in sustaining costs." That metric is defined in Newmont Mining’s (NEM) company information.

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At today’s gold price, miners’ profit margins are anemic compared with the past couple of years. If gold declines much further, none of these companies would remain profitable.

Emerging market governments are having money problems just like those of Europe and America. Politicians in many countries are trying to renegotiate valid contracts with miners to dramatically increase royalty payments. This is a very real threat. Multi-billion dollar capital investments in foreign lands can’t be picked up and moved elsewhere. Legal remedies are ineffective. They are costly, time consuming and hard to enforce even if successful. 

Environmental groups are pushing for ever tighter controls on waste treatment and disposal of toxic materials needed for processing ore. At best, this will make business more costly. At worst it could kill production entirely in some areas.

Every mining company depends on replacing their proven reserves. They do this through exploration and/or more efficient extraction techniques. The low-hanging fruit has been picked. This should be a matter of grave concern for long term shareholders.

Bottom line? If you hope to profit from a resurgence in gold, you are better off owning physical gold or gold-based ETFs. Avoid mining shares which have severely under performed and have every reason to continue along that path.

Read: Market Shadows Newsletter 7-9-13, Fail and Fail Well

Previous Articles on Gold:

What have you done for me lately? Precious (metals) little. 

All That Glitters… 

Hidden Dangers in Gold – Part One

Hidden Dangers in Gold – Part Two

Gold’s ‘Highly Inflated’ Track Record

Mettle Trumped Metal

Disclosure:  No position in any stocks mentioned, no gold holdings.