Some speculators treat gold stocks like lottery tickets.
- Smart investors have financial goals and fit gold stocks into their portfolio.
- A goal must include a plan, not merely a hope such as gold going to $2,000 per oz.
- Prudent investing requires work, not just hoping and waiting.
Some speculators approach investing in gold stocks like buying a lottery ticket. A smart investor, however, should have a sound financial plan complete with objectives, goals and practical milestones. Investors should avoid selecting any financial instrument based solely on the asset hitting a predetermined price. A prudent investing strategy includes research and experience — not just hoping and waiting for “The Big Win.”
“The risk of paying too high a price for good-quality stocks – while a real one – is not the chief hazard confronting the average buyer of securities.” – Ben Graham.
It might have been my dream to become a professional athlete, but was it my goal? Did I do everything in my power – training, diet, coaching, etc., to get there? Sure talent can go a long way, but you still need dedication and a plan.
Concerning money, is it your dream to make a lot or do you have financial goals? Winning the lottery is a dream, as is getting a ten bagger. Formulating a plan and objective for your money is a goal. If a stock rises 5% the day after you buy it and goes on to double and triple, you may have made a good decision. However, if you wait for the ten bagger as it dips into negative territory, you are focused on a dream.
A proper plan considers the reason you are buying the company, the catalyst for growth, the rate of return and the exit plan. These objectives should be realistic — a goal of 100% growth per year is a dream.
Following the last cycle, investors might benefit by inspecting their portfolios for evidence of dreams. Did you take advantage of drastic moves by selling on the way up? Did you buy quality companies as their prices dropped? Is your mining portfolio littered with well-promoted, but under-achieving, names that wrote off billions in assets and took on billions more in debt?
Goals require time and hard work. Have you downloaded the company’s latest annual report or presentation? Have you met personally with management? Have you educated yourself in geology and conducted a deeper dive of the orebody?
You must consider all of the above factors and others to properly evaluate an asset and understand the value, rather than the price, of a company.
RUMORS VS. KNOWLEDGE
Rumors are “tips” received by friends or newsletters. Understanding the research, if any, that supports the “rumor” is paramount. With the addition of research and investigation, the rumor becomes knowledge.
In the mining industry, knowledge is widely dispersed and constantly generated, typically through the drill bit. This can create opportunities through inefficient pricing.
Consider the diagram below. How should one value the associated company?
Cross Section Drillhole Intercepts From Asset of Junior Mining Company, Source: Sandstorm IR Presentation, Date: April 2018.
The investor should consider how the data is being interpreted and by whom.
The idea of 50 meter width of 5 grams/ton gold might be exciting, but is it “drill width” or “true width?” Furthermore, how likely is this geology to continue? The answer can be the difference between a project with economic potential and a worthless lottery ticket.
As another example, suppose a widely owned company includes a small note in the back of their quarterly earnings report about metallurgy or geological problems. To the untrained eye, it might be just another note with no cause for concern. However, a trained geologist or metallurgist would recognize the issue and potential risk associated with the note.
The quality of the geologist is, perhaps, the most important factor when discriminating between winners and losers.
PROBABLE VS. POSSIBLE
Numerous studies show that emotions get in the way of logic. Individuals are notoriously bad investors because of emotion. The financial services research firm Dalbar runs a study of this each year.
Below is a comparative chart of two major producers since 2011. One is a widely owned “under-performing” name whereas the other is a much less owned “quality” name.
Stock Performance of Two Major Gold Producers From April 2011 to
Present, Source: Thomson Reuters Eikon, Date Accessed: April 9, 2018.
Of the two companies, one had zero write-downs of assets through the bear market whereas the other had write-downs in the double-digit billions of dollars. One had a ROIC of 10% while the other destroyed capital. These criteria are one way to measure quality.
“Chief losses to investors come from the purchase of low-quality securities at time of favorable business conditions.” – Ben Graham.
Graham’s words help us understand why the underperformer is more widely held. During the bull market, many investors piled into the sector and held their positions as they continued higher, choosing not to lock-in their gains. In the excitement of the bull market, they lost control of their emotions.
If you have goals for your money, you might benefit by focusing on company quality based on specific metrics. Planning for more than a gold price of over $10,000 per oz. (a dream) would be prudent for those with goals.
Questions or comments? Contact the author here.
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