GLDX: What Does The Upcoming Reverse Split Mean For Shareholders Of Gold Miners?

| About: Global X (GOEX)
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As my readers know, gold and silver have been struggling since the year began, with a historic selloff in mid April. The losses add to the decline from the highs in the fall of 2012. In the last 6 months, the SPDR Gold Trust (NYSEARCA:GLD) and the iShares Silver Trust (NYSEARCA:SLV), the two most popular ETFs that track spot gold and silver prices, are down 12.6% and 22.3% respectively. The gold and silver miners, as measured by the Gold Miners Index (NYSEARCA:GDX), the Junior Gold Miners Index (NYSEARCA:GDXJ) and the Global X Silver Miners (NYSEARCA:SIL) have been hammered in the same time frame, down 40.3%, 47.4% and 39.0% respectively.

One of the popular investment vehicles to gain exposure to the gold miners, the Global X Gold Explorer ETF (GLDX), has seen an incredible 53% loss in just 6 months. As such, Global X, a leader in providing popular ETFs announced on May 2, 2013 it will execute a reverse share split of GLDX, which seeks to provide investment results that correspond generally to the price and yield performance, before fees and expenses, of the Solactive Global Gold Explorers Index. Highlighting the problems the stocks in the gold mining space have had, Global X believes that its post-split investment prices will be more attractive for buyers.

The most popular gold mining indices, the GDX and GDXJ will not be affected by this reverse split, but some of Global X's other products will be adjusted as well. The reverse split will be conducted at a ratio of 1 for 4 and will apply to shareholders of record at the close of the markets on May 15, 2013, and will begin trading at the adjusted price May 17, 2013. The ticker symbol for the fund will not change. The reverse split will increase the price per share of the fund with a proportionate decrease in the number of shares outstanding.

In a 1 for 4 reverse split, every four pre-split shares held by a shareholder will result in the receipt of one post-split share, which will be priced four times higher than the value of the pre-split share. The following example best illustrates what to expect: If you hold 1000 shares of GLDX priced at $4.00 each, then after the reverse split, you will hold 250 shares valued at $16.00 each. As you can see, the reverse split does not change the value of a shareholder's investment; it still remains $4,000.

Shareholders who have quantities of shares that are not a whole number with an exact multiple of the reverse split ratio will be left with what is known as a fractional share. A fractional share will be created and affect any shareholder who does not hold a number of shares that is a multiple of five. After the reverse split occurs, fractional shares will be redeemed for cash and sent to your broker of record, generally within two to three weeks post-split. One issue to consider in this event is that redemption of fractional shares forces shareholders to realize either small gains or losses, which could result in a taxable event in addition to having a potential loss on investment if prices are below where they were purchased. Given that the gold and silver markets are near lowest levels in years and the miners are still forming a bottom, a loss is a strong possibility with GLDX. To avoid this scenario, investors can purchase more shares to round out their GLDX holdings to a multiple of four, or to sell an appropriate number of shares to round out the holdings.

Options contracts are an important consideration as well. Traders who may be holding options on GLDX should realize that this split will affect your contract(s), albeit minimally. Once Global X conducts the reverse split, the contract undergoes an adjustment referred to as "being made whole." When contracts are adjusted to be "made whole", it simply means that the option contract is modified accordingly so that options holders are neither negatively nor positively affected by the split. While we know the reverse split will adjust the price of the underlying shares of the GLDX options, the options will be adjusted so that the changes in price due to the split do not affect the value of the options. The options clearing corporation will automatically adjust the price of all existing contracts to maintain the option market.

For those who want an estimate of what their current GLDX option will be worth, the calculation is simple. Each GLDX option contract is (usually) in control of 100 shares of GLDX at some predetermined strike price. To find the new share coverage of the option after the split, all you do is simply take the split ratio and multiply by the old share coverage (normally 100 shares). To find the new strike price, take the old strike price and divide by the split ratio. Let's look at an example of a call option contract for 100 shares of GLDX at a strike of $5.00. Since the split is 1 for 4 we divide $5.00 by 1/4, generating a new strike price of $20.00. The option will now cover 25 shares because we multiply 100 by 1/4. Thus, your new call option contract which still expires on the same day as originally scheduled, will be good for a purchase of 25 shares of GLDX for $500. On your brokerage account, the contract may be adjusted to read "GLDX1" or similar and still state it is worth 100 shares at the original price, but for redemption purposes, the contract would be redeemed for 25 shares at the post-split price.

In conclusion, we are seeing the gold miners struggle to find a bottom in light of the weakness of gold and silver prices. This reverse split is a symptom of the struggles the mining stocks have faced. GLDX is down 53% in just six months, currently trading at $4.00. I personally believe this sell-off is a buying opportunity for long-term investors. GLDX is likely a buy at current prices, even pre-split for the long-tem investor. To bring the product to an investment price that Global X believes is more attractive, it is conducting this reverse split. The reverse split of shares only really negatively impacts investors who own common shares at a total that is not a multiple of five, as they will be forced to sell fractional shares at a loss, or a potential gain, that could results in a taxable event. Owners of options contracts will not be affected besides being faced with owning a new contract at a different strike price for a different number of shares. The total value of the contract will, however, remain the same.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.