Mining Stocks Are the Best Way to Play the Gold Rally

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by E.B. Tucker, Casey Research:

Gold is up 11% over the last two months.

While that might not seem like much, it signals the start of a new bull market.

As the chart below shows, the gold price moved higher quickly.

And it just broke out of a key level it hasn’t hit since 2013.

Chart

In the latest issue of my Strategic Investor newsletter (which subscribers can access here), we said we expected a huge rally. We pointed out that we couldn’t find one fund manager positive on gold. Now, we can’t find one who thinks the $141 run in the gold price is real. That tells us there’s more to come.

You see, at the beginning of a new bull market, even the most loyal industry veterans don’t trust higher prices. At the end of a bull market, every fool tells you there’s more to come.

There’s more to this new bull market in gold than lines on a chart. The three largest central banks in the developed world declared they’ll do anything to stimulate their economies. That’s central bank lingo for “create more money.”

Keep in mind, the Federal Reserve’s balance sheet was $800 billion before the 2008 crisis. It rose more than five-fold to $4.5 trillion by the end of 2014.

The Fed promised to “normalize” its involvement in the U.S. economy. After reducing its bloated balance sheet by a mere 15%, it cried uncle, promising to reverse course.

Gold sniffed that in advance of the announcement. As plans for the Fed’s next monetary ruse formalize, we expect gold to know first.

We think $1,500 per ounce this year is a lock. In an interview with the popular gold industry news network Kitco News, I made this prediction last December, again in March, and recently in May. Each time, the $1,500 call seemed crazy. After moving up $104 per ounce in June alone, my prediction doesn’t seem so crazy.

A decisive move over $1,500 will wake up asset managers who haven’t looked at gold in years. They’ll buy exchange-traded funds and mutual funds.

But those asset managers don’t realize funds own a declining number of mining stocks. You see, the mining industry is in the middle of a consolidation wave. (This is a rising trend… and my colleague Teeka Tiwari came up with a unique way to profit from it. Go here to learn more.)

Everything looks to be in place for the mother of all gold rallies. If you don’t own any gold, start with buying physical ounces.

The Power of Leverage

After owning physical gold, mining stocks can provide leverage to a rising gold price.

The word “leverage” usually means borrowing. That’s not the case at all in the gold market.

If you aren’t familiar with the concept of leverage in gold stocks, here’s a quick example of how powerful it can be…

Say the price of gold rises from $1,300 to $1,400. That’s roughly an 8% gain. If you own physical gold, you’re up 8%.

Now, say a mining company owns a million ounces of gold in the ground, and gold is trading at $1,300. The value of the gold in the ground isn’t simply $1.3 billion (1 million ounces x $1,300 per ounce). Instead, the gold in the ground is worth much less than that, because it will cost a lot of money to extract.

Say it costs the company $1,250 per ounce, all-in, to mine the gold. At a gold price of $1,300, the company has a potential profit of $50 on each ounce of gold.

However, if the price of gold rises only 8% to $1,400, the company’s profits per ounce increase by 200% ($1,400 – $1,250 = $150 profit per ounce). This small move in gold can cause the stock price to increase 40%, 50%, or more. This is why a small increase in the price of gold can cause a gold stock to soar many times that amount.

It’s happened before…

Gold producers boomed during three separate cycles when gold surged: 1979-1980, mid-1990s, and 2001-2006.

First up, the king of all gold bull markets: 1979-1980…

Gold more than doubled during this period. But gold stocks more than tripled.

Returns of Producers From 1979-1980
Company Price on
12/29/1978
Sept. 1980 Peak Return
Campbell Red Lake Mines $28.25 $94.75 235.4%
Dome Mines $78.25 $154.00 96.8%
Hecla Mining $5.12 $53.00 935.2%
Homestake Mining $30.00 $107.50 258.3%
Newmont Mining $21.50 $60.62 182.0%
Dickinson Mines $6.88 $27.50 299.7%
Giant Yellowknife Mines $11.13 $39.00 250.4%
AVERAGE 322.5%
Gold 214.0%

This wasn’t the only time gold stocks ran further than gold itself…

There was another boom in the 1990s. The average gold producer went up more than 200%…

Cambior rose 124%. Kinross Gold returned more than 190%. And Manhattan Gold & Silver skyrocketed over 760%.

All while gold only rose 8%.

Then, another big boom hit from 2001-2006.

Gold returned 158%, while the average gold producer gained over 400%.

Newmont shot up 270%. Gold Fields soared over 500%. And Goldcorp returned over 800%.

As you can see, an increase in the price of gold (even a small one) can lead to huge returns.

Now’s the Time to Take Advantage

Trade tensions, political dysfunction, and ballooning deficits set the stage for gold today. On top of that, central banks like the Federal Reserve have more power over the economy than ever before. That means this rally could be bigger than any of the past rallies we mentioned earlier.

Read More @ CaseyResearch.com

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