The amount of pessimism towards gold companies is severe. If you have been listening to the mainstream financial outlets, you may be convinced by now that they are the worst investment you can add to your portfolio. But I disagree with this notion. In fact, I believe mining companies are setting up to provide investors with solid returns in the long-term.
As it stands, I see three reasons to at least pay some attention to the mining companies: a declining cost of production, balance sheets improving, and gold market fundamentals suggesting higher prices ahead.
Cost to Produce Declining for Gold Miners
I have been following gold stocks closely since the sell-off in 2013. At that point, precious metal mining companies across the board had inefficiencies. But this is changing. Their production price was higher then; now, production costs are declining.
Consider Barrick Gold Corporation (NYSE/ABX) as one example. In 2012, this company’s all-in sustaining costs to produce an ounce of gold were $1,014. In 2013, these costs declined to $915.00. (Source: Barrick Gold Corporation, February 13, 2014.) Fast-forwarding to 2014, Barrick’s all-in sustaining costs were $864.00 per ounce. (Source: Barrick Gold Corporation, February 18, 2015.) Simple math tells us that over two years, the costs for Barrick to produce an ounce of gold declined by almost 15%.
And know this: Barrick Gold is just one example. Many other mining companies have reported even bigger declines in their production costs. Why does this matter? Declining costs essentially keep the company in business. In the long-term, if gold prices rise and costs decline, profit margins for gold miners will be huge.
Balance Sheets Among Gold Miners Improving
Another phenomenon I am noticing is that the balance sheets of gold mining companies are getting better. More specifically, the working capital situation is improving. These companies are able to generate cash from their operations. They are also able to go to the market and offer shares (bought deals) or use their credit facilities. I have even seen firms paying down their debt. (Impressive, to say the least.)
Balance sheets getting better is an important factor. Down the road, when gold prices start to rise, with better balance sheets, mining companies will be able to align themselves nicely for upside potential.
Fundamentals of Gold Prices Are Improving
Finally, gold market fundamentals are improving as well. We see demand remaining strong, and the supply side is facing hardship. For instance, mine production figures from the U.S. are in outright favor of the bulls. Other major gold-producing areas, like South Africa, are reporting dismal production as well.
Meanwhile, as mentioned, the demand side is strong. Central banks haven’t stopped purchasing gold. In fact, they are buying more. According to the World Gold Council (WGC), central banks purchased 16.5% more gold in 2014 than 2013. (Source: World Gold Council, February 12, 2015.) I will not be surprised to hear they’re buying more gold going forward—particularly due to currency market fluctuation. (Read about why I believe this will happen here.)
Higher gold prices essentially will result in higher profits for mining companies. This will eventually translate into higher stock prices.
How to Look for Solid Gold Mining Companies
If you have bought into the notion that mining companies aren’t even worth glancing at, I suggest you do your own due diligence.
Understand this: The precious metal mining sector has improved significantly. With this, it also must be said that not all the companies are improving or are in great shape. Stock picking will be the key here. Investors can still get great mining companies with massive reserves, increasing production, and solid balance sheets for pennies on the dollar—you just have to look.