Gold vs. Gold Mining Shares – Just The Facts, Ma’am

“…but what I do know is the people running the company are practically married to their shareholders and investors, like you.”

That’s good to know.  After two decades of sharing their bed(s) with investors “like you” since the honeymoon period and birth of gold’s bull market in 1999/2000, the management of this particular gold mining company is still committed.  And, presumably, other companies’ managements are similarly committed. Are you? 

Whatever your answer, if you are an investor in gold mining stocks, you might soon want a divorce. Let’s go back in time to see why.

At the end of February 1997, the HUI (NYSE Arca Gold Bugs Index) to gold bullion ratio stood at .52. It was .14 at the end of October 2000.

During the period referenced above, gold fell from $347.00 per ounce to $270.00 per ounce, a decline of twenty-two percent. Not too bad; unless you owned gold shares.

The HUI index of gold mining shares dropped a whopping seventy-five percent.

You were a lone wolf if you were buying gold mining shares in the nineties. And you were a loser, too.

Most investors who own gold mining shares do so for the purpose of leveraged participation in the gold market.  They got what they bargained for that time. Unfortunately, all the leverage was on the downside.

Nevertheless, redemption (and maybe a bit of revenge), was soon to be had.

Beginning with our ending point (October 2000) above, gold rose from $270.00 per ounce to close to $390.00 by the end of November 2003.

And gold mining shares went on a tear.  The HUI to gold bullion ratio rocketed from .14 to .64 by the end of November 2003.  It was nearly five times more profitable to own gold mining shares than bullion itself for those three years; generally speaking, of course. Some individual companies did even better.

But some did not do nearly as well. A few of the more conservative companies hedged their future output because of concern about the ongoing ill effects from continually lower gold prices.  Hence, they did not participate as fully in the march to higher share prices and potentially higher profitability.

This was still the early stages of what was by then considered by some to be a major trend to the upside for gold.  Yet, why buy gold?  A lot more profit potential existed in the mining shares.  Among the more reasonable expectations was that mining shares would outpace gold on the expected upside by as much as 2-3 to 1.

Gold did not disappoint. From $390.00 per ounce it climbed steadily to almost $1000.00 per ounce in March 2008.  There was a brief period in 2006 when gold declined by twenty percent or so but otherwise the move was gradual and consistent.

And gold mining shares? Rather than lead the way onward and upward, they had trouble keeping up.

The HUI to gold ratio bounced back and forth in a relatively narrow range between .45 on the downside and .55 on the upside, ending at .57 in March 2008; lower than the .64 mark five years earlier. Not only did mining shares not produce the expected additional profits, they barely (at most) matched gold’s increase. And the shares were more volatile than gold itself.

Between March and October 2008, gold dropped from near $1000.00 per ounce to $730.00 per ounce; a decline approximating twenty-five percent. Gold mining shares did a lot worse.  The HUI to gold ratio dropped from .57 to .27 and share values were more than halved with some companies losing as much as two-thirds of their value. Again, the leverage was readily apparent.  And, again, it showed up in full force on the downside.

When gold peaked at close to $1900.00 per ounce in August 2011, it had risen one hundred sixty percent from its aforementioned low of $730.00 per ounce in less than three years.

And after being beaten up so badly in 2008, gold mining shares actually outperformed gold for that same period.  The HUI to gold ratio increased from .27 to .33 and mining shares were up over two hundred percent.  Vindication at last!

Not really.  A two hundred percent gain for mining shares versus one hundred sixty percent gain for gold doesn’t come close to matching the  expectations of leveraged profits mentioned earlier.  At a minimum, a three hundred percent gain for the mining shares would be more in line with those expectations.

A more favorable possibility for investors in mining shares would be to have purchased them at or near the lows in 2000 and held them until 2011.  Selling them at or near the top that year could have resulted in profits within the range mentioned earlier.  That would certainly make up for the extreme volatility experienced up to that point and maximized the total profits even though the HUI ratio to gold was in a confirmed downtrend and much lower than its peak of eight years earlier.

But the actual gains referred to are calculated on the assumption that someone purchased gold mining shares at the bottom in October 2000 (or October 2008).  Not likely.  And held them until the eventual top in 2011.  Even less likely. And then sold. Yeah, right.

The majority of people who own gold mining shares are not astute speculators who buy and sell at specific turning points. And if they approached their mining share investments with longer term participation in mind, they are likely still holding shares they purchased years ago.  At much higher prices.  Not good.

The only period that justifies the hype associated with gold mining shares is 1999-2001 thru late 2003.

After November 2003 anyone would have been better off holding gold itself rather than the mining shares. And with a lot less risk.

After gold peaked in 2011, it declined over the next four years to a low of about $1060.00 per ounce in September 2015; a decline of more that forty percent.

Mining shares declined too, losing as much as ninety percent of their peak values.  The HUI to gold ratio continued its long decline dropping from .33 to a low of .10 in September 2015.  Again, the leverage factor was strongly in evidence on the downside.

At that particular point mining shares in general were as low or lower than they were sixteen years earlier.  What makes it even worse is that gold itself had quadrupled ($270.00 per ounce x 4 = $1080.00) during the same period of time.

Both gold and gold mining shares rebounded from January 2016 to July 2016.  And for those six months (only) the mining shares significantly outperformed gold bullion on the upside.

Currently the HUI to gold ratio is at .15, midway between its previous low of .10 (January 2016) and its recent high of .20 (July 2016).

All of which leaves the HUI to gold ratio just about where it was seventeen years ago.  Mining shares at their low in January 2016 were as low as they had been in over fourteen years.  Very disappointing.

This year’s turnaround in Gold Mining shares had helped to buoy the hopes and dreams of investors who were ‘betting’ that their long, agonizing wait for euphoric, exponential gains is over. They continue to believe that the future for the Gold Mining Industry is quite rosy. Unfortunately, they are probably wrong.   Gold Mining Shares Are A Lousy Investment  9/19/2016

Most investors in gold mining shares are not betting on the mining industry as much as they are betting on gold itself.  Interest in mining shares is associated with convenience and appearance as well as expectations of leveraged gains discussed earlier.

But much of the larger leveraged gains anticipated for mining shares are based on expectations of hugely higher gold prices.  How long might it be before those higher prices manifest themselves?  It took twenty years for gold and mining shares to find a bottom after the peak in January 1980.

Are you committed to your gold mining shares “til death do you part”?

 

 

 

 

 

 

 

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