Despite Doubling in 2016, Investors are Overlooking This Group
For as much time as analysts spend studying charts and getting the opinions of other professionals, sometimes the most useful information comes from people outside the job.
Whenever I attend one of my kids’ activities, I invariably end up near someone who wants to talk about what I do for a living. My answer, that I’m a market analyst, often leads to the question, “What do you think about ABC?” where ABC can be a company, the market in general or anything else I’m assumed to have an opinion on.
These questions are valuable to me. Throughout the work day, I interact with investment professionals, so I already understand what they are interested in. Youth activities provide me with important insights into what average investors are thinking about.
Lately, I’m hearing questions about stocks and interest rates. People I meet seem to be worried that stocks are going to crash and interest rates are going to skyrocket. They’re not interested in hearing bullish arguments for stocks, and they are unwilling to accept that interest rates can remain low for a long time. Their opinions seem irrational given the data, but as the economist John Maynard Keynes noted, “Markets can remain irrational longer than you can remain solvent.”
But individual investors don’t care about Keynes. They have become accustomed to fear mongering about the economy, politics and investments. There is no room for optimism or rationality when you’re constantly being told the world is ending and the markets are about to crash.
What’s interesting to me is what I’m not hearing about amid all that fear: gold.
The metal is trading more than 25% above its December lows and appears to be in the early stages of a bull market, yet it isn’t attracting much attention from the general public.
Part of the reason for a lack of interest in gold might be its multiyear bear market. At its November lows, gold was down about 45% from its 2011 highs. Gold tends to be an emotional investment, with individuals buying near tops because they’re worried about missing out on gains and avoiding it when prices are low.
Digging deeper, we see that an index of gold miners is up 134% since its January lows. And an index tracking junior miners has gained almost 170% over that time. After the big gains, I believe it’s finally safe to start looking at gold miners as investments again.
Miners are volatile investments partly because they offer leveraged exposure to the metal, meaning that gains (and losses) exceed what we see in gold prices.
Let’s assume it costs a miner about $810 an ounce to produce gold and they mine 5 million ounces a year. If gold is selling at $1,000 an ounce, the company should generate a profit of about $950 million assuming it has no other costs and no additional revenue.
If gold prices increase by 30%, to $1,300 an ounce, the miner’s profits would increase to nearly $2.5 billion, a gain of more than 160%. Even smaller gains in the price of gold have a large impact on earnings. A 1% increase in gold prices (to $1,010) would result in a 5.3% jump in the miner’s earnings.
Leverage helps on the upside but hurts on the downside. A 1% decline in the price of gold would result in a 5.2% drop in earnings. A 20% decline in gold would push the miner to a loss in this scenario.
Operating leverage can explain why miners are a risky investment.
But with gold in a confirmed bull market after gaining more than 20%, I believe now is the time for average investors to get back in. And I have a strategy that can minimize your risk.
But first, I want to tell you about my favorite gold mining stock:
Barrick Gold (NYSE: ABX).
Barrick mines gold and copper with an interest in mining properties across North America, South America, Africa and the Pacific region.
At the end of last year, Barrick’s total proven and probable gold mineral reserves were 91.9 million ounces, and total proven and probable copper reserves were 11.7 billion pounds.
Barrick’s five core mines are expected to account for about 70% of total production in 2016, and production costs at these locations are below the company’s average.
Miners report their costs of production with a metric known as “all-in sustaining costs” (AISC). In 2015, major miners reported AISC measures between $800 and $1,000 an ounce. ABX produced 6.12 million ounces of gold at a cost of $831 per ounce.
The company’s core properties are its most profitable, with an AISC of $660 per ounce to $730 per ounce at those mines. These mines are among the most attractive in the industry, containing more gold than most.
This year, Barrick plans to mine 5 million to 5.5 million ounces of gold at a cost of $760 per ounce to $810 per ounce, and 370 million pounds to 410 million pounds of copper at an AISC of $2.05 per pound to $2.25 per pound.
The price of gold is near $1,335 an ounce, and ABX should easily turn a profit on that segment of its operations. Copper is near $2.20 a pound, so it’s questionable whether this side of the business will be profitable. Overall, though, analysts believe the company’s earnings will jump 90% this year to $0.57 and another 30% next year to $0.74.
There’s one more reason I like ABX right now: Recent SEC filings revealed that legendary hedge fund trader George Soros bought 19.4 million shares, over $220 million worth, in the first three months of the year. Soros has frequently traded ABX in the past five years, but this was by far his largest purchase in the stock.
However, I don’t recommend buying shares outright. The stock has tripled since its January lows, and as I mentioned above, gold miners can be volatile.
But I did recently tell my Income Trader readers how they could generate an 11% return with ABX and get the chance to buy shares at a 20% discount.
They’re using an award-winning, 10-minute-a-week trading system that delivered 124 straight winning trades.
Now, I’ll be honest, this strategy may not be for you. It’s different, and there’s no guarantee you’ll make money using it. But, on average, it’s delivered annualized returns of 48% per trade since I started showing it to investors.
If you’re interested in seeing if it could work for you, follow this link.