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By almost any measure, gold stocks are undervalued. Should we load up?
After completing my research on this question, I’m convinced
that as gold stock investors, we’re in the right place. See if you
agree…
Let’s first get a handle on the degree of undervaluation. The
more undervalued, the lower the buying risk. A fairly valued stock, on the
other hand, requires added caution.
Gold accelerated higher in August and September, peaking around
$1,900/ounce, while gold stocks lagged. Here’s a chart of the
HUI-to-gold ratio (HGR). In a rising gold environment, a climbing HGR
indicates that gold stocks are outperforming the metal; a falling HGR means
they’re trailing gold.
 
Today’s 0.32 HGR means gold stocks as a group have not been this
cheap, relative to their underlying metal, since January 2010. And a lower
ratio hasn’t been seen since February 2009, when it was recovering from
the 2008 global meltdown.
I think there’s a more compelling situation that demonstrates
the undervalued nature of gold stocks. It’s hard to read a mining
company’s quarterly report these days without hearing about
“growing margins.” The gold price has risen faster than operating
costs across our industry, which has lifted profit margins of the better-run
producers.
Higher margins are key to increasing earnings
and cash flow, which in turn lead to rising stock prices. Have gold mining
equities kept pace with ever-increasing margins?
Gold mining companies are earning record margins, averaging a whopping
$1,268 per ounce last quarter. In both nominal dollars and percentage above
costs, margins have never been this high for gold
producers. Stock prices, however, have not responded in
similar fashion.
This is a potentially significant point, because margins of this
magnitude will be ignored only so long. When the broader investing community
begins to take notice, investors will snap up these highly profitable stocks
and push prices higher. The “catch-up” in gold stocks could be
tremendous.
The conclusions from these data seem clear: Gold stocks, as a group,
are undervalued. The incredible profit margins generated by our sector will
attract investors – sooner or later. We also have data that indicate
that picking the better stocks – like most of those in BIG GOLD –
is more profitable than buying a gold stock fund.
We’re in the right place.
The question, of course, is timing. We don’t know when
gold stocks will begin to catch up. And the data don’t suggest that
they must rise right now nor that they’ve hit bottom. We’re convinced
they’ll someday hit lofty levels, but for now we maintain the same
refrain: keep one-third of assets in cash. This reduces risk and gives us a
nice pile of funds to deploy during selloffs.
In the big picture, gold has ratcheted steadily higher throughout the
rallies and corrections, a trend we’re confident will continue for some
time. As the price sets new highs and margins remain robust, our sector will
attract more attention. We must patiently stay the course until those new
realities begin to set in.
Make sure you have exposure to gold stocks, but it’s not yet
time to jump in yelling “Geronimo!”
[As fiat currencies accelerate
their inevitable paths to eventual destruction, gold will ascend. How far and
how fast remain to be seen, but you can get insights and actionable advice on
gold and gold stocks – and much, much more – from the recently
held Casey Research/Sprott Summit, When Money Dies. You can learn what legendary investors like Rick
Rule and Doug Casey are doing and recommending… get invaluable insights
from analysts including Adam Fergusson and Lew Rockwell… from audio recordings of the entire event that are available now.]
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