Ever since the Stone Age came to a close, the search for metals has driven people to seek out natural resources. As soon as the most obvious sources of metals were depleted, people had to turn to mining. In particular, gold was a favorite among metal seekers, finding a variety of uses ranging from jewelry to a simple basis for currency. As time went by and gold became tougher to find, large gold mining companies gathered up enough capital to bring heavy equipment to bear on the problem of unearthing hard-to-reach gold deposits.
If you're looking to profit from gold mining, then there are a few different ways that you can get exposure to the sector in your investment portfolio. Buying individual stocks is always an option, but there are enough of them that it can be tricky trying to figure out which ones are best suited to your particular needs. Meanwhile, providers of exchange-traded funds have come out with several different choices tailored toward would-be investors in gold mining. Below, we'll take a closer look at these two main ways of investing in the sector, and then offer some thoughts on how to put together the gold mining portfolio that's best for you.
Why investing in gold mining stocks can be so lucrative
Many investors who follow the gold market focus most of their attention on the price of gold bullion. As a commodity, gold prices move up and down every day based on supply and demand. In particular, it's the major mining companies that determine available gold supply, and their production levels play a key role in establishing price trends in the gold market.
Because the gold market is global, the price that gold miners receive for the gold they produce is largely determined by factors beyond their individual control. What a miner can work on, though, is cutting costs of production as much as possible. If gold prices are at $1,500 per ounce, a miner that can produce gold at a cost of $800 per ounce has a huge advantage over one that has to pay $1,200 per ounce in production costs. In fact, during periods of falling gold prices, miners with high production costs often have to face extended periods of losses. That can eventually cause those more marginal gold miners to go out of business, leaving only those companies with more efficient operations to continue operating.
One thing that many gold investors like about mining companies is that their fundamental business performance isn't always correlated to the ups and downs of the broader economy. Gold prices sometimes rise during periods of economic strain, especially when prices of financial assets start to drop and cause investors in those assets to get nervous about preserving their portfolio value. However, that can cut both ways, and gold miners don't always go up as much as the rest of the stock market during times of economic prosperity. The idea, though, is that by providing some diversification, gold mining stocks can sometimes help cushion the blow from losses in other holdings during tough times for the overall market.
Gold mining ETFs
If you don't want to have to worry about choosing individual stocks, then gold mining ETFs could be the best answer for you. These funds typically own many different individual gold mining stocks, combining them in ways that give their investors greater diversification than they'd get from simply purchasing a handful of those stocks on their own.
There are two primary gold mining ETFs for investors to choose from. The larger is VanEck Vectors Gold Miners (NYSEMKT:GDX), which has more than $11 billion in assets under management. This ETF holds almost four dozen different gold mining stocks, ranging in size from the industry's giants like Newmont Goldcorp (NYSE:NEM) and Barrick Gold (NYSE:GOLD) to smaller players in gold mining. In order to be considered for the ETF, a company must get at least 50% of its total revenue from gold mining and related activities.
Because the ETF is weighted by the market capitalizations of the stocks it holds, the most important companies in the gold mining industry have the largest fraction of the fund's assets invested in them. For instance, just Newmont and Barrick together make up more than 20% of the fund's assets under management, and when you look at the top 10 stocks the ETF holds, it represents more than 60% of the ETF's assets. Canadian mining stocks make up almost half the ETF's portfolio, while most of the rest of the stocks are split among U.S., Australia, and South Africa mining companies.
One thing to keep in mind with VanEck Vectors Gold Miners is that it doesn't require the ETF to hold shares only in companies that mine gold. For example, you'll also find among some of the top holdings of the fund companies that specialize in making gold streaming arrangements with gold mining companies. Gold streaming companies provide financing for mining operations in exchange for the right to buy a portion of mining output at a discounted price to the market value of the gold and other metals produced. Strictly speaking, these gold streaming companies aren't really miners, but they rely on gold miners to a sufficient extent that the ETF's investment objective allows the fund to invest in gold streaming stocks.
If you want the giants of the gold mining industry, then the VanEck Vectors Gold Miners ETF matches up well with your investment objectives. However, if you prefer smaller up-and-coming players in the mining industry, then VanEck Vectors Junior Gold Miners (NYSEMKT:GDXJ) could give you more of what you're looking for. This ETF, which has about $4.5 billion in assets under management, concentrates on smaller gold mining companies that have more modestly sized operations. These companies can be riskier than the well-established big names in gold mining that you'll find in the other gold miner ETF, but the stocks that the Junior Gold Miners ETF holds also have greater potential for growth in the event that the properties that they own pay off with surprising finds.
The Junior Gold Miners ETF has 70 stocks in its portfolio. Although it, too, is weighted by market capitalization, it doesn't have quite the concentration among top stocks that you'll find in the ETF's larger gold mining company counterpart. About 45% of the ETF's assets are allocated to Canadian gold mining companies, with Australia getting a 25% allocation and 10% going to South African miners. Companies with mines in the U.S. and Latin America make up most of the remainder of the fund. To be included in the portfolio for Junior Gold Miners, a stock has to get 50% of its total revenue from mining either gold or silver.
The benefit of going with a gold mining ETF is that you don't have to worry about picking individual stocks. However, that convenience comes at a cost. Both ETFs charge a little bit more than 0.5% in annual expenses, with those costs coming off the top from whatever return the fund's assets generate. Also, the downside of using ETFs to invest in gold miners is that poor-performing mining companies can offset the gains from better performers in the portfolio, leaving you with lackluster results overall. That's been evident in the long-term track records for both of these gold mining ETFs, as a poor environment for the sector has led to outright declines in value for the funds over periods of five to 10 years. Yet if you believe that the gold market is due for a rebound, then past performance won't necessarily reflect what the ETFs can generate on the upside if gold mining companies can take advantage of better conditions when they come.
Investing in individual gold mining stocks
Gold mining ETFs can be good one-stop shops for investors who don't want to put a lot of time and effort into choosing from the hundreds of mining stocks available on major U.S. exchanges. However, if you really want to focus on the best prospects in the gold mining world, then drilling down on individual companies is the best way to find the gold mining operations that have the best ability to profit in their search for the yellow metal. Moreover, because each investor has different tolerance for risk as well as different goals for their overall investment portfolio, what makes the ideal gold mining stock for one person might be completely wrong for another.
As hard as it is to draw generalizations that will apply to every single investor interested in gold mining stocks, there are some questions that any gold investor should ask before committing their hard-earned capital to the sector. The following five questions should help you narrow down the universe of stocks in the gold mining industry, leaving you with the portfolio you really want.
1. Do you want global scope in your gold mining stocks?
The nature of gold mining is such that you can find companies of all shapes and sizes to consider for your portfolio. There are some companies in the mining industry that only have a single mine as the primary source of revenue and profit. That can be lucrative if that particular mine turns out to perform much better than investors expected, but it also leaves the company exposed to massive risk if something happens at that mine to curtail or halt production, such as a labor strike or an accident.
At the other end of the spectrum are companies that have massive operations that span the globe. If you want the giants of the gold mining industry, then two of the biggest companies you'll find are Newmont Goldcorp and Barrick Gold.
Newmont Goldcorp brings together gold mining assets located in nine different countries, and its yearly production of roughly 7.4 million ounces puts it among the leaders of the industry. In early 2019, Newmont Mining merged with Goldcorp to create this colossus in gold mining, and with assets throughout the Americas as well as in key areas of Africa and Australia, Newmont Goldcorp has economies of scale that most miners can only wish they had.
Newmont Goldcorp's mining operations don't just pull gold out of the ground. Investors will also see the company develop silver resources as well as copper, lead, zinc, nickel, and other industrial metals. However, the recent merger identified gold as a high priority for the combined business, and using its leadership role in the gold mining industry, Newmont Goldcorp hopes to unearth new prospects that would intimidate smaller companies.
Similarly, Barrick Gold has grown through organic expansion as well as acquisitions, with its purchase of Randgold in early 2019 helping to expand its global footprint. Barrick has huge resources in Nevada, with low costs helping the miner maximize its overall profit. However, you'll also find Barrick interests in the Caribbean, Australia, and elsewhere in the Americas. Although it has suffered setbacks from time to time -- most notably, the frustrating experience Barrick has had with its Pascua-Lama mine on the border between Chile and Argentina -- the gold mining company knows where it can mine gold most efficiently and has sought to capitalize on those opportunities when they arise.
It takes more growth to move share prices for large companies like Newmont Goldcorp and Barrick, but it also takes tougher conditions to hurt them. Conservative investors looking to add gold mining stocks to their portfolios should take a close look at Barrick Gold and Newmont Goldcorp.
2. Do you want significant exposure to metals other than gold?
It's rare for a mining company only to mine gold. As a natural part of the gold mining process, companies almost always find other valuable materials in the ore that they mine. In particular, it's not unusual to see silver, copper, and various base metals produced alongside gold from gold-bearing ore.
However, there are some mining companies that get a large portion of their revenue from metals other than gold. There's nothing inherently wrong with that, but if your primary goal is to benefit from favorable conditions in the gold market, then you might not want the ancillary exposure to metals other than gold. On the other hand, if you like the idea of diversification beyond gold, then a company that mines multiple types of metals might be attractive to you.
A couple of examples can show you exactly how wide the range can be. Freeport-McMoRan (NYSE:FCX) mines extensive amounts of gold, but it's probably best known as a copper producer, as it has access to the Grasberg mine in Indonesia, which is one of the largest copper and gold deposits in the world. It's been that copper business that has played an instrumental role in holding Freeport's returns back over the past several years because the global economy hasn't seen the strength that it had during the long boom in the commodities market. Thus, even as gold prices have climbed, Freeport has had to struggle with pressure from the copper side of its business -- much to the frustration of anyone who invested in the stock thinking they were getting more exposure to gold.
On the other hand, Sibanye-Stillwater (NYSE:SBSW) has benefited from its dual exposure to gold and platinum group metals. Sibanye already had extensive holdings of platinum and palladium even before it bought out Montana's Stillwater Mining in 2017, but Stillwater's concentration in platinum group metals made it even more of a focus for the combined company. Palladium prices have climbed through the roof recently, even rising above the price of gold, and so that's been a pretty good move for Sibanye-Stillwater. However, there's no guarantee that the prices of gold, platinum, and palladium will have any relationship with each other in the future. So, you have to decide to what extent you want exposure beyond gold before you can pick a certain individual gold mining stock.
3. Do you want to concentrate on -- or avoid -- South Africa?
South Africa has extensive natural resources, so it's been one of the most popular areas in which gold mining companies operate. However, South Africa has gone through economic difficulties that are different from what you see in certain other countries with extensive gold reserves, including the U.S., Canada, and Australia. Because of that, South African gold mining companies have a political risk that those in other areas don't always have.
In particular, investing in South African miners creates the risk of working in an economy that relies heavily on natural resources. That's fine when commodity prices are healthy, but the extreme volatility in the gold market and in other important commodities has wrought havoc on the South African economy. Mining companies in the country now routinely have to deal with labor actions and government regulation, and the rising costs of operating in South Africa have led some companies to consider simply exiting the area. For instance, AngloGold Ashanti (NYSE:AU) has looked at divesting all of its South African assets, instead concentrating on the mining properties it has in other parts of Africa as well as in South America and Australia. For a South African country to consider such a move is a bold step, but it shows just how much uncertainty there is about gold mining there. Investors who buy shares of South African mining companies need to appreciate that risk in order to make informed decisions.
4. Are you willing to speculate on projects in development?
The most prominent gold mining stocks that you'll typically find in exchange-traded funds almost always have existing mines that are already in production. But there are plenty of tiny mining companies that don't have producing mines, and their entire value depends on their ability to get projects out of the development stage so that they can start pulling gold out of the ground.
You can see a great example of how volatile pre-production gold mining stocks can be in the shares of Northern Dynasty Minerals (NYSEMKT:NAK). The tiny Canadian company has an interest in what's known as the Pebble Project, an area that experts believe could have some of the largest measured and indicated reserves of gold, silver, copper, and molybdenum in the world. With some estimates of reserves suggesting 71 million ounces of gold that could be potentially available for eventual extraction, excitement about Northern Dynasty's prospects reached a fever pitch in recent years.
The problem, though, is that the Pebble Project isn't even close to moving forward to development. For years, Northern Dynasty has struggled through the permitting process, and because the property is close to Bristol Bay, Alaska -- a vital location for salmon fishing activity -- there's a lot of resistance to the idea of putting a mine there. Not only are environmentalists and local residents fighting Northern Dynasty, but commercial interests in the salmon industry have joined forces to try to forestall further development of the Pebble Project.
Because of that, Northern Dynasty doesn't have any revenue, yet it still has to spend money in its attempts to move forward. Not only does the permit work require financial resources, but Northern Dynasty is also doing engineering, feasibility, and environmental studies that will provide vital information later on in the approval process. To raise the money to pay those expenses, Northern Dynasty has occasionally turned to the public markets by making secondary offerings of stock -- diluting the equity interest that early shareholders have in the company. That means that even if Northern Dynasty eventually proves successful -- far from a certainty at this point -- the profits that early investors get might well be watered down as a result of the long wait and the things that the mining company had to do in order to survive and make progress in the interim.
The potential payoffs from developmental stage gold mining companies can be huge if things end up working out well. However, many companies never get out of the developmental stage, creating total losses for their shareholders. The gains from the success stories can outweigh the losses from the failures, but investors have to have a huge tolerance for risk to be able to endure the inevitable disappointments along the way before they score big wins.
5. Do you want exposure to gold streaming stocks?
Finally, as we mentioned above in our discussion of gold mining ETFs, investors have to decide whether they want to invest solely in companies with active gold mining operations or if they want to include gold streaming companies. The fortunes of streaming companies are linked to those of miners, but the nature of their exposure is quite a bit different.
Streaming companies like Franco-Nevada (TSX:FNV), Royal Gold (NASDAQ:RGLD), and Wheaton Precious Metals (NYSE: WPM) enter into partnerships with mining companies to provide valuable capital for mine production and exploration. In a typical deal, a gold streaming company will offer a certain amount of cash for a gold mining company to use in its business operations. In exchange, the mining company will agree to sell a certain portion of a mine's production -- either a set amount or a percentage of gold produced -- to the streaming company. The price that the streaming company pays for the gold is usually just a fraction of its market value, which effectively repays the capital that the streaming company extended in the first place.
You can see how this business model relies on the success of the mine. With a fixed amount of money out of pocket, the streaming company has to make sure that what it will receive back from the mine is likely to repay its investment and produce a reasonable return. If the mine proves to be unsuccessful, then the streaming company will lose money along with the miner. Depending on how the deal is structured, the streaming company can see big profits if the mine does better than expected.
Yet the exposure that streaming companies have is typically limited in both directions. On one hand, the streaming company won't have the same liability as the mining company in the event of a major problem like a mining accident. But, on the other hand, because the amount of production subject to the streaming arrangement is typically capped at a certain amount, the streaming company won't necessarily participate if initial estimates of a mine's production turn out to be wildly understated.
There's no right or wrong answer as to whether gold streaming stocks belong in your portfolio. They're just a slightly different way to get exposure to the gold industry, with pros and cons that investors can weigh in their own ways and make their own conclusions.
Make your portfolio golden
Gold mining stocks can be a valuable diversifier for a stock portfolio because they give investors exposure to a commodity that's well-known for its role in holding its value and providing some protection against systemic risks to the global economic and geopolitical situation. Whether you go with gold mining ETFs or select individual stocks that are tailored to your particular needs, having at least some of your portfolio in gold mining stocks is worth careful consideration.