When you are inspired by some great purpose, some extraordinary project, all your thoughts break their bonds; You mind transcends limitations, your consciousness expands in every direction, and you find yourself in a new, great and wonderful world.
Dormant forces, faculties and talents become alive, and you discover yourself to be a greater person by far than you ever dreamed yourself to be. - Patanjai (C.First to Third Century B.C.)
We are in the midst of "...some extraordinary project" as we watch one of the biggest financial anomalies of all times unfold before our very eyes. There has been cautious optimism for precious metals for many months in spite of some drastic volatility. The one-year chart of the gold ETF (GLD) dramatically illustrates what's been happening and how gold's price has broken above its significant 200-day moving average.
This past week saw that optimism accelerate from cautious to bubbly as the US Federal Reserve vowed to keep rates at all-time low levels. According to Bloomberg,
Gold traders are bullish for a fourth consecutive week, betting that the Federal Reserve's pledge to keep interest rates low until late 2014 will extend the metal's best start to a year in more than three decades.
As one article, quoting UBS pointed out,
More accommodative policy is a very good foundation for gold to build on the next move higher. And as the Fed slowly becomes more open about the idea of further stimulus and as European QE remains a possibility, there are significant upside implications for gold.
How high will this current "wave" take gold and silver as well? Michael Pento, the President of Pento Portfolio Strategies LLC, recently predicted that gold is heading towards $2,200. If that happens, silver is likely to break above its old high of around $50-per-ounce. As the "tidal wave" in the pricing of gold and silver builds, the equities that mine and produce these metals will surge.
John Hathaway, C.F.A., the legendary Senior Managing Director & Portfolio Manager at Tocqueville Funds recently spoke out on this topic. Mr. Hathaway, who is a Portfolio Manager of the Tocqueville Gold Fund, Tocqueville Gold Partners and the gold equity strategy, has been involved in the precious metals markets for decades. In a recent interview Mr. Hathaway said this:
[We] still maintain, that gold mining equities represent a compelling investment strategy to participate in the secular bull market in gold bullion, and conversely, the secular bear market in paper currencies...We believe that the decline in both the metal and the shares has run its course. We also believe that this painful correction has set the stage for significant new highs in both the metal and the shares in 2012.
Which Stocks to Own When Riding Gold's Monster Wave Higher?
I've said it before and I'll say it again, the gold royalty stocks are a less risky place to invest while hoping for some positive leverage.
Companies like Franco-Nevada Gold (FNV) fit this description perfectly. FNV operates as a gold-focused royalty and stream company with additional interests in platinum group metals, oil and gas, and other assets in the United States, Canada, and Mexico.
As of March 24, 2011, FNV held 206 mineral assets; 135 oil and gas assets; and another 157 undeveloped oil and gas agreements. It's like owning a basket of precious metals and energy mineral rights. The company was incorporated in 2007 and is headquartered in Toronto, Canada with additional offices in Denver and Perth. Franco-Nevada has no debt, almost $372 million in total cash (most recent quarter) and over $185 million in levered free cash flow (trailing twelve months).
Led by another legend in the precious metals world, Chairman Pierre Lassonde who was President of Newmont Mining Corporation (NEM) from 2002 to 2006 and prior to that from 1982 to 2002 was a co-founder and co-CEO of the original Franco-Nevada. Mr. Lassonde is past chairman and a current director of the World Gold Council, author of "The Gold Book" and has served on many mining boards and industry committees. The rest of the Franco-Nevada story and their profile is best learned by going to their website.
FNV's stock price has been catching up with its "cousin" and another smart way to ride the gold wave. I'm referring to Royal Gold Inc. (RGLD). Like FNV, RGLD is selling for around 30 times forward earnings, and that should tell us of the potential upside for net earnings.
RGLD's latest year-over-year quarterly earnings growth was a powerful 90% and their operating margin (also known as "net profit margin") is north of 58%. They concentrate on the acquisition and management of precious metal royalties. RGLD owns royalty interests in various producing, development, evaluation, and exploration stage projects that explore for gold, silver, copper, lead, and zinc metals, so they are more focused on the metals sector.
On Friday January 27th, RGLD moved up 1.89% while its "cousin" FNV stock price was up 1.51%. If you want a fascinating education into the business model and operations of RGLD click on this link.
By investing in a royalty, Royal Gold buys a percentage of the metal produced from a given property in exchange for an initial payment, without assuming any responsibility for the actual mining operation.
Royal Gold's site also explains,
Another interest similar to a royalty is known as a metal stream. This product allows for a smaller front end payment, but requires that payments be made as metal is delivered to Royal Gold over the life of a mine. In either case, Royal Gold does not have to contribute to the operating or capital costs at the mine after the initial payment is made.
A friend recently asked me which of these royalty-stream companies I would prefer. With typical Yogi Berra specificity I answered, "Both of them at the same time even." Indeed I do, and I accumulate more on pullbacks.
On the other end of the "risk spectrum" for riding gold's move higher are the "junior" explorers and producers. To spread the risk out you may want to consider the Market Vectors Junior Gold Miners index ETF (GDXJ).
The fund normally invests at least 80% of total assets in securities that comprise the index. The index tracks the overall performance of foreign and domestic publicly traded companies of small- and medium-capitalization that are involved primarily in the mining for gold and/or silver. In the past the index has included companies like Allied Nevada Gold Corp. (ANV). It engages in the evaluation, acquisition, exploration, and advancement of gold exploration and development projects in the state of Nevada, and you can view their website here.
On January 25th ANV released their Preliminary 2011 Operating Results and 2012 Operating Guidance With Gold Production Expected to Double in 2012. It isn't rocket science to see how a rising gold price benefits this story.
Is it time to get into gold junior mining plays? Some analysts and gold commentators are saying "yes" in a cautious and selective way, like the following article. It might be more prudent to invest in the mid-cap precious metals stories like Hecla Mining (HL) or proven money-makers like my long-time favorite Alexco Resources (AXU).
There's still money to be made in proven producers like Yamana Gold (AUY) and take-over candidates like Kinross Gold (KGC) and Agnico-Eagle Mines (AEM). These have far less risk than the juniors with plenty of upside potential.
If you're looking to ride the "wave" higher in "the poor man's gold", aka silver, consider another royalty-stream company that dominates that space---Silver Wheaton (SLW). Their story is quite compelling.
If you're looking for a silver-producer that knows how to make profits and produce in resource-rich areas of the world like China, check out Silvercorp (SVM). It has no debt, $177 million in total cash and is trading at a little more than 12 times forward earnings. Plus it's currently yielding a 1.2% dividend.
If gold smashes through the $2,000 an ounce overhead barrier and silver follows suit, can you imagine how much profit is going to made in the companies mentioned in this article? It staggers the imagination.
Things can go wrong (just study the Kinross Gold news stories of the past two months or Silvercorp's problems about 5 months ago), and that's why we need to diversify - and set mental stop losses.
But you're going to have some big winners too. Recently I sold half my position in Pretium Resources (PVG) at around $16.20. I bought it late last year for under $9 an ounce, so I felt good about taking half off the table and letting the rest "ride". It won't be the only winner in the months ahead, that's for sure.
Additional disclosure: I'm also long PVG.