Thursday, July 21, 2016

A Common Sense Approach to Picking Gold Miners

A lot of my early posts on this site were about gold (& silver) mining shares, covering which I owned or was looking at in the precious metals space (& why). Over the years I’ve had a number of people email, ask in person, direct message me (on Facebook/Twitter) about gold mining shares, asking for my advice on which miners they should buy, opinions on specific companies or whether it’s time to re-enter the market. My replies have remained relatively broad (& probably unhelpful), because I haven’t spent very much time researching or keeping track of companies in the precious metals space for around 4-5 years. I held some long term gold miner positions in my super (unfortunately given the price trend!) and in 2013/2015 I spent a little time looking at some options adding NST & SLR/MML. Thankfully the rise in these 3 has far more than made up for the losses in the others I hold.

I thought I would write a quick post on how I narrowed down and compared gold miners in the past (2009-2011), which will hopefully provide some ideas for those interested in the gold miner sector who want to take a punt. I am not a fund manager and have no experience in the mining industry, so most of the below is just a common sense approach I took as an individual investor. A lot of the below was simply learned along the way over several years speculating.

Suffice to say if you do not share my view that the price of gold is headed higher over the next couple of years, it would probably be a waste of time reading past this point. My view is that gold miners will provide leveraged exposure to a continuing secular (& new cyclical) bull market in the price of gold. If you think this is another false move or that the price of gold isn't likely to head much higher, then avoid owning gold mining stocks at all.

I am going to look at what are considered nano/micro-cap (capitalisation) stocks. This is the riskiest end of the market (but also the most potential for lucrative gains), so DYODD and don’t consider any companies I narrow it down to here as an invitation to buy. They should make up only a very small percentage of your portfolio. I don’t own any of the companies listed below, however may buy/sell any of them in the future at various times. I prefer researching this end of the market (<$200M market capitalisation) because their finances are often simpler, they have fewer projects and other moving parts which can make peer comparison easier. You can take a similar approach when comparing larger gold miners, but you probably won't need to dig as deep into the specifics (e.g. if they have a $100M in cash, you probably don’t need to be checking their cash burn rate to see if they have enough to last the next two quarters). To balance your exposure to gold mining companies you may choose a handful of companies in each size range, for example 6-12 nano/micro-cap companies (spread your risk!), 3-4 mid-cap and 1-2 large-cap miners.

Here is the basic agenda:

1. Find a list of gold miners
2. Narrow selection based on quantitative criteria
3. Narrow selection based on qualitative criteria
4. Choose the companies you will consider buying
5. Find a good entry point
6. (…)
7. Take profit (or cut your losses)

And here we go…

Find a list of gold miners

The list of gold miners you want to consider will depend on your situation. You may want to only consider those on your local stock exchange. You may only be able to consider those in the ASX300 if you are in Australia and looking to buy using a superannuation fund which allows direct share investment. As an Australian investor wanting to stick with those available on the ASX I find a Gold Nerds subscription an invaluable time saver and tool (you will see why later as we narrow the selection). If you want to compile your own spreadsheet (making it easier to compare the stocks) Gold Nerds handily has a list of the companies they cover on their website (see here) or try Mining Feeds / Junior Miners for broader lists which cover miners in other countries along with Australia (don’t rely on any list to be 100% complete or accurate).

Narrow selection based on quantitative criteria

Here is where having a spreadsheet like Gold Nerds or having created your own with the relevant information makes things easier. We can narrow down our list in a variety of ways, for example limiting those we look at by market cap, gold reserves or cash. Here is a quick list on what I will be using to narrow the selection of miners (using the Gold Nerds spreadsheet):
  • Less than $25M market capitalisation (as above, looking for nano/micro-cap stocks)
  • Cash holdings of more than $1M (looking for cash that will last for at least 2 quarters) 
  • Market cap more than $2M (to avoid absolute bottom of the barrel stocks, probably best avoided) 
  • Share price higher than .001 (to avoid companies whose shareholders may value it less, but can’t price that in)
  • 75%+ in Gold (as opposed to having Gold as a side show to other minerals)
Here's how the list looks after the following factors are taken into account (narrowing a list of 200+ companies to 40):

Click Table to Enlarge

Keep in mind that some of these may change with regular updates. For example sorting based on market capitalisation, you may find that stocks fall into and out of your selection based on share price movement from one day to the next, so you may want to run these checks over a period of days or even weeks to ensure all relevant companies are captured. Another option is to use a buffer approach, for example instead of searching for companies with a market capitalisation under $25M, bump it up to $30-35M.

This isn’t an exhaustive list of quantitative comparisons you might consider. For example some other relevant data to check for:
  • How many listed shares do they have? (low share price, high number of shares can be indicative of significant past dilution)
  • How many listed and unlisted options do they have?
  • If the company is producing, what is their cash costs (per ounce mined)? Total costs? Net profit? Earnings per share?
  • What size is their JORC mineral resource? Ore reserve? What is the grade?
  • How long will their cash last?

The relevant questions may depend on the stage of the company (explorer, developer or producer). In the nano/micro-cap space you won’t have many companies producing (or even nearly at that stage), so some of the above questions won’t be relevant.

Remember you are not trying to calculate the absolute best miner/explorer in your list, but typically a group of the best among their peers. So the measures you use here to narrow the field are more about ruling out the worst. 

Narrow selection based on qualitative criteria

This is probably the more difficult measure to narrow the selection. Quantitative data can be relatively easy to compare (e.g. Debt too high? Forget it. Not enough cash to fund the next quarter? Too risky.), but qualitative is where you need to review various aspects of the company where it may not be so easy to choose one over the other. Also you may need to review some of the quantitative findings in a qualitative manner.

For example, perhaps they have a high number of shares issued… many junior mining companies have had to issue a lot of shares over the past few years just to survive. Did they raise capital in a responsible manner (minimising dilution of existing shareholders where possible)? Did they provide an opportunity for all shareholders to take part (through a Share Purchase Plan)? Did institutional buyers retain their shares in the company or just flog them off (or still trying to sell them, creating a supply overhang which may keep the share price low)? If they have a low number of shares on issue, is that just because they’ve had a share consolidation recently?

Some of the numbers may not be directly comparable, for example a low-grade body of gold bearing ore close to the surface may be far more lucrative than a deep high-grade vein style deposit which can be costlier and more difficult to mine.

The easiest way to work through this review and selection process would be to come up with a set of questions that you think are important and work through them for each company. Some areas you may look at:

  • What relevant experience do they have? (Many small company directors are lawyers/accountants)
  • How long have they been with the company? (Recent changes in management can be a warning signal)
  • What are they being paid? (I typically prefer companies where exploration expenditure exceeds administration costs) 
  • How many are there (relative to size of the company)? (Does a small cap company with 1 project need 6 directors?)
  • Are they looking after the little guy? (SPPs instead of only institutional placements when raising capital)
  • Are they marketing the company? (Investor presentations, conference appearances)
  • Do they deliver what they say they will? (Time frames for drilling results or development milestones)
  • Do they have a significant stake in the company? (If they aren’t prepared to invest their money, why invest yours?)

Mineral Resource/Ore Reserves
  • Do they have a resource/reserve? Does it comply with the JORC code? (Some may use less reliable international measures)
  • What is the grade of the resource? How does that grade compare with similar mine types which are currently producing?
  • Is the resource spread over multiple deposits or in one location?
  • Are resource upgrades expected?
  • Is there a large enough resource/reserve to justify development? (Answer often lies in a mining feasibility study)
  • How long has the company had the resource? (If the resource was defined 10 years ago is there any sign it will be developed?)
  • Has the discovery cost of existing resource been justifiable? (May give indication of viability to extend resource/reserve)
  • How many years’ worth of mining will their resource/reserve last?
  • Is it likely current resources can be converted to reserves?
  • What other minerals have been detected and of value if mining occurs? (e.g. Silver, lead, copper credits may offset production costs)

  • How much cash do they have? (Check balance from quarterly report then add any $ from placements/minus estimated expenditure)
  • What’s their rate of cash burn? How long will their cash last? (Less than 2 quarters and you’re at high risk of near term dilution)
  • If they have a significant cash balance, what are their plans for it?
  • Do they have any liabilities (loans)? Any outstanding accounts? Hedging?
  • Do they have a financing facility which dilutes the share base? (Often a bad sign if a company resorts to this type of financing)
  • If an advanced explorer how will they fund development/plant costs?

Exploration/Drilling Results
  • What drilling results do they have due soon? (Which could be a catalyst to send the share price higher) 
  • What is the grade, length, depth of past drilling results? Is it open along strike? (Could indicate more positive news to come)
  • Are they funded for upcoming drilling programs?

Tenement/Project (Including History)
  • Has the project got a history of mining? Was it successful? (Attempts may have been made by other companies to explore/mine the same project or deposit)
  • Have any companies gone into administration mining the same project? What will the current company do avoid the same?
  • Has the price of gold risen enough to consider the project viability again? (Despite any past failings)
  • Does the company own 100% of each tenement/project or only part of? (May need to split profit or pay royalties)
  • Where is the project located and does its geographical location pose substantial sovereign risk? (See KCN on the ASX)
  • Is their tenement/project in a region known for gold exploration, development and production? (i.e. Supportive local government)
  • Has there been any local protests or concerns raised in relation to the company or project?
  • Are there underutilized plants nearby? (They may be able to truck ore to process it without incurring mine development costs themselves)

  • Are they meeting or exceeding projected targets? If not, why not?
  • If they are exceeding targets, why? Is there room for further improvement along these lines?
  • Are they returning dividends to shareholders? Is this in their best interest or would they get more value reinvesting into further exploration?

I can’t go through all the questions you need to be looking at (and they will change depending on the stage the company is at). For the most part it’s not about writing down the answer for each of these to compare with their peers, but instead being aware of this type of information to get an understanding of each company to rate and compare their overall quality.

Something else to consider is the liquidity of the company. Some of the small cap resource companies might be tightly held leaving only a small number that can be publicly traded, this can cause liquidity issues in the event you want to sell with large gaps up and down in price when it changes hands. An example of this is RND on the ASX:

Click Table to Enlarge
Not that companies like this aren't worth considering, but it's an additional risk to be aware of and given the choice between this and another gold miner you think will perform similarly as well, you're best to go with the one easiest to buy and sell.

Another method of research I can recommend is to visit online forums and read through the history of discussion on the companies you’re looking at. A good one for ASX listed companies is Hot Copper. You do need to be aware that many users on the site are posting there simply to ramp the company/ies they are holding at any particular time, but you can often get a feel for investor sentiment by reading the threads or discover potential problems (or even positive aspects) that you may have missed when performing the above due diligence.

Choose the companies you will consider buying

If you’ve been over the above and feel out of your depth, don’t worry. If you are new to the stock market or even new specifically to resource companies, then it’s a lot to think about and learn. If you feel uncomfortable selecting companies based on narrowing your selection above, then either keep your position size very small while you continue to learn or you could consider an index which will expose you to a variety of gold miners without needing to pick them specifically. I don’t believe there is any index on the ASX that will give you exposure to those which make up the XGD (S&P/ASX All Ordinaries Gold Index), however I was recently made aware there is a ticker on the ASX (GDX) which attempts to track the performance of the NYSE Arca Gold Miners Index (before fees/expenses), you can read more about the VanEck Vectors Gold Miners ETF here.

Assuming you have been able to narrow down your selection to a smaller number of companies that fit your criteria, you can put them all on to the watch list of your share trading platform (I would hope that you'd narrow down the example list of 40 above to around 10-20 max). From this point forward you just need to watch share price and any market updates provided through announcements which may affect your interest in buying them (for example they may end up outside of your criteria).

Find a good entry point

What do I mean by a good entry point? In my mind you don’t have to be a professional technical analysis trader to apply a common sense approach (or rules) when entering positions in the stocks you are watching. Don’t chase the price. Keep a cool head and don’t get emotional. You may be better off buying a breakout if the stock price has been crawling along at a low price for a period of time. I would recommend taking a look at the trading rules of Assad Tannous of Asenna Wealth published here (also follow him on Twitter, he presents a very cool, calm and collected approach to trading).

The share price of many gold miners has soared over the past 6 months. I expect they will continue to rise over the next couple of years along with the price of gold (hence interest in exposure to the sector), however that doesn’t mean there won’t be corrections along the way or even long boring flat periods. BTFD (Buy The F*cking Dip), don’t BTFP (Buy The F*cking Peak). Average in if you think it may go lower.

With a recent decline in the price of gold, gold mining stocks have taken a beating over the last couple of weeks with the XGD declining around 13% from it's recent peak and the RSI suggesting it's as oversold as other recent corrections (not to say that it can't be longer and deeper on this occasion):

Click Table to Enlarge
There's a chance that a reasonable BTFD opportunity is already upon us, but it's best to look at the charts of those in your watch list for the best opportunities.


This step is a reference to a South Park meme. In the episode the gnomes are stealing children’s underwear for the purpose of “profit” with no real plan. If you follow the above and below you most certainly do have a plan, so really it’s just a matter of waiting to see what happens at this point. Continue to monitor the companies you own (particularly for any  company announcements). If something of substance changes which has the potential to impact on price you may choose to sell and switch into another company that measures up.

Take profit (or cut your losses)

Through trial and error I have found this step is one of the most difficult, but you should always have an exit plan. My plan owning gold miners is to hold them as leveraged exposure to a rising gold price I expect to see in the years ahead. Chances are that any small mistakes will make a negligible difference (if you’ve spread your risk over multiple stocks) with most companies ‘rising with the tide’ and hopefully careful selection results in a few which will significantly outperform.

If you pick a company and unexpected news causes them to tank, consider selling and taking the hit rather than marrying yourself to a company and riding them into the dirt. A bad drill result or three may be worth holding through, but (for example) if you’re holding a company who has begun production where the grades expected are not being achieved through the mill, this can be a precursor to needing to revisit their ore reserves and mining profitability.

Taking profit is also important. As I said at the start, my view is to ride these companies as leverage to a rising gold price, so my time frame to hold may be years in some cases, but that doesn't mean it's not a good idea to take some profit off the table along the way.


Good luck. I hope providing this structured approach to picking gold mining companies has been of benefit to you. Any commemts, suggestions or feedback (positive or constructive) is welcome in the comments section below. Would be particularly interested to know if any readers invested in this space have any of the stocks in the table above and if so their reasons for owning over peers...


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