In these days of coronavirus pandemic, physical gold and silver are selling like toilet papers. They are sold out at numerous dealers. Where they are still in stock, you have to pay a ridiculous premium over the spot prices. To make things worse, operations at precious metal mines are being suspended in major producing countries, so are gold refineries and mints.
By buying physical gold and silver to conserve value of your assets, you clearly believe (1) the world is not coming to an end and (2) you will survive the crisis. Under those beliefs, I submit to you that you perhaps should consider buying physical gold and silver that are in the ground and about to be extracted.
Simply put, I believe a great investment opportunity is arising in pre-production gold and silver mining companies, which currently have mines under construction and are poised to pour the first gold or silver imminently.
Why pre-production precious metal mining companies
There are three reasons why pre-production precious metal miners have become particularly attractive at this particular time.
Firstly, as they transform from a developer to a producer, they will be rerated and assume a significantly higher valuation multiple, a phenomenon described by the so-called Lassonde curve (Fig. 1).
Such a rerating, in select examples, led to an average share price appreciation of 90% (Fig. 2). For example, Lundin Gold (OTCPK:FTMNF) doubled from mid-2019 to the declaration of commercial production in February 2020, and Victoria Gold (OTCPK:VITFF) rose 60% from July to September 2019, when it poured the first gold.
Secondly, from its recent high reached on February 24, 2020, to the recent low made on the Black Friday (March 13, 2020), VanEck Vectors Junior Gold Miners ETF (GDXJ) lost a whopping 50.63% in 14 days (Fig. 3). A group of pre-production miners covered by The Natural Resources Hub saw their in-the-ground mineral resource were being traded between US$5 and $193 per ounce of gold equivalent, merely a fraction of the gold spot price.
The rout of that ETF occurred while the general stock market jumped head first into a bear market. Investors sold every kind of assets, including gold mining stocks, in a flight to cash to deleverage, meet margin calls or rebalance. In panic, they indiscriminately dumped a number of high-quality junior gold/silver miners, plunging them into deep value territory.
However, gold (and supposedly gold mining stocks) tends to snap back from the earlier crash as the recession progresses thanks to ensuing easy monetary conditions and QE operations (Fig. 4). After all, gold is a safe haven.
High probability of a swift recovery in combination with deep undervaluation can create extremely attractive investment opportunities.
Fig. 4. The historical chart of gold:oil ratio. The latest spike of the gold:oil ratio can be explained by the oil price crash caused by the Saudi Arabia-Russia oil price war against the U.S. shale complex.
Thirdly, a new bull market in gold and silver has begun. After hitting the bottom in December 2015, the gold price has since risen to the neighborhood of US$1,500 per ounce, up by more than 40% (Fig. 5). Various analysts projected much higher targets down the road, anywhere from US$2,000 via US$7,500 to US$15,000 suggesting much more to come in this unfolding bull market.
The continuation of the bull market is driven by multiple forces:
- The central banks continue to buy the yellow metal, because “If the entire system collapses, the gold stock provides a collateral to start over. Gold gives confidence in the power of the central bank’s balance sheet. That gives a safe feeling“.
- The zero interest rate policy (ZIRP) and negative interest rate policy (NIRP) of the world’s central banks depress yields, weaken U.S. dollar, and stoke inflation, thus driving more investors to gold, a traditional safe haven, mostly through buying gold ETFs (GLD).
- The stock market crashed and Wuhan coronavirus pandemic of late caused many investors to take a flight to the safety of physical gold, resulting in American Eagle Coins being sold out.
A slew of influential investors, including Ray Dalio of hedge fund Bridgewater Associates and Jeffrey Gundlach of DoubleLine Capital, became advocates of gold as long-term investment vehicle, which may help overcome the stigma on gold created by Warren Buffett and persuade more investors to consider gold as part of their investment portfolios. Egyptian billionaire investor Naguib Sawiris explicitly indicated he was buying gold mining stocks.
Instead of paying a hefty premium for physical gold and silver, if you have an investment horizon beyond the current pandemic, you may want to consider buying high-quality, pre-production gold and silver developers. They have multiple tailwinds on the back, including the inherent rerating during mine construction, the recent sharp sell-off, and an unfolding precious metal bull market.