Daily Gains Letter

Save Yourself from Declining Gold Prices

By for Daily Gains Letter | Mar 13, 2013

130313_DL_zulfiqarGold bullion prices have seen a slight decline since the beginning of the year—the yellow metal was trading well above $1,600 an ounce in early January, and now, gold is trading close to $1,550 an ounce.

The reason behind the sell-off in gold bullion prices is mainly due to the optimism surrounding the expected improvement in the global economy and central banks’ expected move to tighten their monetary policies—raising interest rates and halting quantitative easing activities.

On top of all this, the stock chart for gold bullion, featured below, is showing a significant presence of bearish sentiment. As gold bullion prices declined, the 200-day moving average (MA) crossed above the 50-day MA—a bearish signal called a “death cross.” This is also considered a sell signal by technical analysts.

dl_031313-image003Chart courtesy of www.StockCharts.com

As gold prices slid downward, investors fled from gold miners—selling them at a much faster rate than they had bought them. Since the beginning of the year, when gold bullion prices have decreased by roughly six percent, the gold miners have done much worse. Just consider the Market Vectors Gold Miners (NYSE/GDX) exchange-traded fund (ETF), for example. It has plummeted by about 20% in the same period.

130313_DL_zulfiqarThe reason? When gold bullion prices decline, the profitability of gold miners declines with them. Think of it this way: if a gold miner is able to produce one ounce of gold bullion for a cost of $600.00 and the market price is $1,600 an ounce, then its profit would be $1,000. On the other hand, if its costs remain the same, and the price declines to $1,400 an ounce, the miner’s profit declines to $800.00—which means that the company’s profit is 20% lower when gold bullion prices only decreased by 12.5%.

With all this said, is it still worth looking at gold miners? The charts may paint a miserable picture of gold miners, but as I have said in these pages before, there are always opportunities in every kind of market.

Consider looking at senior gold bullion miners who have cash, reserves, and lower producing costs as compared to their peers. For example, GoldCorp Inc. (NYSE/GG) is one of the more well-known senior miners. In the fourth quarter of 2012, the company’s cost for producing one ounce of gold was $910.00; for the year, it was an average of $874.00. In addition, GoldCorp has a significant amount of cash and reserves. (Source: GoldCorp Inc. web site, last accessed March 11, 2013.) Please note: this is not a specific buy recommendation, but just an example of the type of opportunity you should seek out.

Why senior miners? Why not junior miners?

Junior miners do offer some advantages when gold prices are increasing, but senior miners are a much better investment when prices are declining. The main reason is that they are able to weather the storm. If they have cash, they can wait until the prices increase or even buy out other peers who can produce for a relatively low cost. In addition to all this, some seniors might provide investors with a dividend—which can also provide some relief from price fluctuation.

In contrast, junior miners can be hungry for cash to run their operations if their costs are high and the price of gold bullion declines further. Keep in mind: this doesn’t mean there aren’t any opportunities left; they are just much more difficult to find.

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