For those considering buying gold or gold mining stocks and struggling to choose between them, here are some helpful thoughts. We are currently in an inflationary environment often compared to the 1970s. When comparing the performance of gold prices with that of gold mining stocks, the answer becomes clear. In addition to the usual risks associated with gold mining stocks, there are inflation-related risks: higher costs for debt repayments, wages, energy and fuel, and also currency risks, such as a strong US dollar, among other things.
GOLD MINER RISKS:
- Exploration risks - no gold, or not enough gold, will be discovered
- Feasibility risks - a company may discover gold, but at current prices it may be uneconomical to mine.
- Management risks - mining companies face substantial upfront costs and ongoing operating costs, and poor management can destroy an otherwise viable asset.
- Pricing risks - as gold moves up and down in price, individual companies can experience positive leverage-to-price increases, or go out of business if prices fall too low. -
Geopolitical risks - governments can become unstable, leading to unreasonable demands, confiscation of assets, and increasing royalty fees.
- Financing risks - during bear markets, banks often refuse to finance operations and, because the share price of many of these companies is so low, raising equity becomes extremely dilutive to existing shareholders.
- Environmental risks - mining companies often work in remote areas that are ecologically sensitive. As well, dam and leach pad failures happen from time to time, resulting serious environmental degradation, and possible fines and litigation costs.
- Stock market volatility - mining shares often correlate with the broad-based equity markets during downturns in the financial markets. Mining shares are extremely volatile and can lack liquidity.
- Productivity and efficiency - mining companies often face major engineering problems such as cave-ins, mill problems, labour issues, increased energy costs, etc.
- Hedging policies - mining companies often lock into price agreements that end up destroying shareholder value when major changes in operating costs related to bullion prices occur.
- Jurisdiction risks - uprisings, war, political upheaval and disasters are all common problems that mining companies face when working around the world.
Originally posted on LinkedIn.