Gold & the gold stocks – the Great Divide!

I heard an analyst on a business talk show say that the price of gold (just north of $1600) is not being reflected in the prices of gold stocks.  No kidding!  He figures the stocks are being priced as if gold was priced $250 lower.

The talking heads out there of course have a flippant explanation – stock markets will get hammered by the debt crisis (and gold companies are listed on stock exchanges) but gold should benefit (as safe store of value)

A runup in the gold price of over 2% in a few weeks is nothing to scoff at; especially when it would take a year or more to earn that in money market paper.  Contrast that with what some of the premier gold producing stocks have done of late (plummeted) and it gives me the shivers.

Why?  Because fundamentally this doesn’t make a whole lot of sense in my (admittedly simple) mind.  Part of it must be psychology, and a large part of it must be great marketing by issuers of securities tied to the price of bullion.  Most investors are ‘playing’ gold using ETF’s, futures and other financial instruments.  If the stock market goes belly up because the U.S. defaults (like this is really on option for the United States of America) on its obligations, virtually all securities using yet other securities to replicate gold ownership will undoubtedly collapse as quickly as the twin towers did on 9/11.

Below are stock charts for gold producing companies Agnico-Eagle, Barrick Gold and Goldcorp. 

There are only three scenarios I can come up with:

  • Gold keeps climbing and the gold stocks rebound to catch up
  • Gold nosedives and the stocks fall too
  • All hell breaks loose and everybody’s screwed

Earnings results for the companies at these gold prices are spectacular, but clearly investors are worried they may not be sustainable (there’s still a pinch of wisdom out there).  Barrick just beat analysts’ earnings estimates, but the following concerns me:

Quote from research report:  Q2/11 adj. EPS of $1.12, above CS estimates and consensus at $1.10.: The major variance from our estimate is primarily attributable to better than expected costs, partly offset by higher taxes. While production was also 5% better than our forecasts, sales were lower than production at 1.92Mozs vs. 1.98Mozs. Had all ounces been sold it we estimate a further $0.09 in EPS.

Sales lower than production at these prices might mean prices are too high and discouraging buyers? Just a thought.  Another bizarre thing that worries me – I ran across a new EFT that shorts the stocks and is long gold.  The stock prices and gold price have just begun going in opposite directions, and whammy there’s a security to “play” this already?  How many whacky ETF’s can be invented anyway?  Maybe I should introduce an EFT that sells short Harley-Davidon shares but owns (long) the motorcycles?

Bottom line is panic is likely the root cause of gold’s popularity, and as I discuss in A Maverick Investor’s Guidebook nothing good can come of getting caught up in what I call an ‘investment traffic jam.’  An investment ‘traffic jam’ is just like it sounds – everybody is on the same road but moving nowhere.  Best to stay away from traffic.  As should be evident from prior commentaries – I believe the debt crisis issue is a red herring and the U.S. economy is well on the road to recovery.  Why?  On top of the earnings recovery (the real working economy) I’ve cited in earlier blogs, the news keeps getting ‘just a little bit’ better all the time.

U.S. pending home sales unexpectedly rose in June, up 2.4% in the month (May’s increase was unrevised at +8.2%), or 19.8% above year-ago levels. Both gains …. month-over-month and year-over-year…..were the second in a row, so it wasn’t a one-month phenomenon. This is an encouraging piece of news for such a hard-hit sector that is in dire need of good news.

U.S. initial claims fell, as expected, in the week of July 23rd. But the improvement was better than many would have anticipated (or hoped for), as the 24k drop left the headline at 398k, the lowest level since early April (and the first time below 400k since then).

I could be wrong, but my ‘heebeejeebies’ indicator (I mention it in the book) says it may be best to sell gold in whatever form and lighten up on the stocks.  There’s too much leverage buried in gold speculation nowadays – and in my experience leverage only makes money for the lenders….until it’s discovered that there’s a shortage of physical assets behind the paper assets.  Does nobody remember the financial crisis?

Live to Ride!

About Mal Spooner

Malvin Spooner is a veteran money manager, former CEO of award-winning investment fund management boutique he founded. He recently authored A Maverick Investor's Guidebook which blends his experience touring across the heartland in the United States with valuable investing tips and stories. He has been quoted and published for many years in business journals, newspapers and has been featured on many television programs over his career. An avid motorcycle enthusiast, and known across Canada as a part-time musician performing rock ‘n’ roll for charity, Mal is known for his candour and non-traditional (‘maverick’) thinking when discussing financial markets. His previous book published by Insomniac Press — Resources Rock: How to Invest in the Next Global Boom in Natural Resources which he authored with Pamela Clark — predicted the resources boom back in early 2004.
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