Gold’s Bull Run Has Just Begun: Top 5 Stocks For Growth

| November 18, 2016

After pulling back this week, investors can now buy shares of gold ETFs, gold mining stocks, and gold royalty stocks at a massive discount. With the long-term bull thesis still well intact, use this market sell-off to purchase cheap shares that will turn into long-term winners. 

Why to Own Gold and Gold Stocks

Gold tumbled to a five-month low to $1,223 an ounce after the election of Donald J. Trump as our nation’s 45th President.

Some had expected gold to soar if Trump won, but that was always a dumb idea. After a new President is elected, there is always a silly period where investors superimpose their fondest wishes for markets on the new President.

Those in the financial industry now think all regulation will melt away, others think that the massive infrastructure spending increase (public-private partnerships) will somehow not balloon our debt and raise interest rates to a level high enough to hammer stock valuations.

All of these happy thoughts were reinforced by the Republican sweep in Congress.

The Reflation Trade

And of course, there will never ever be a need again for gold, the ultimate insurance against financial market turmoil.

This silliness is why I find myself in the unusual position of being in agreement with Goldman Sachs (NYSE: GS). The investment bank says that the current price of below $1,250 an ounce is a bargain and a buy “as market performance indicates a continuation and intensification of the reflation trend since the summer.”

One needs look no further than the recently soaring prices of industrial materials such as iron, coking coal and copper to see the reflation trade. Copper, for instance, just saw its biggest weekly rally since 1980, jumping by more than 15% in a week to $5,800 a ton.

Interest Rates Still Matter

Another factor in gold’s favor is global interest rates. There are still about $10 trillion worth of sovereign government bonds with a negative yield.

The naysayers on gold always point out that it pays no interest or dividend. Still true, but a zero yield looks great in comparison to negative yields.

Of course, rates have gone higher quickly over the past week. As I write this, the 10-year U.S. Treasury bond is yielding 2.13%. It wasn’t that long ago that the yield was 1.35%.

There is a danger to the financial markets if this sharp reversal in rates continues.

Just this past week, investors in bonds suffered one trillion dollars in losses! These losses will only rise as yields do. Will bond investors, who are nursing huge losses, be so willing to fund infrastructure spending?

Once again, I find myself in agreement with Goldman Sachs, which warns that the bond market is fragile and rising rates could cause chaos.

When you translate the word chaos into financial terms, it means gold will move higher in price.

And there’s that popular Wall Street myth that rising interest rates are kryptonite for gold.

But a look at history shows interest rates were rising in the late 1970s. Yet gold rose to a then record $850 an ounce. And the Fed raised rates from 1% in 2003 to 5.25% in 2006. Yet, gold prices kept climbing.

Last July, HSBC (NYSE: HSBC) published research showing that the price of gold actually increased after the previous four Fed interest rate hikes. And now, with the hike last December and the subsequent rise in gold, we can now make that five.

In other words, a rise in rates from the current ultra-low levels is not necessarily bad for gold.

Gold Demand

I’ve discussed the macro so far, but what about the actual fundamentals for gold?

Total demand for gold is strong in 2016. The third quarter saw global investment demand rise by 44% year-on-year to 336 tons.

There’s been a lot of talk lately about demand for physical gold slowing in China and India. But it’s much ado about nothing.

As the Financial Times put it, “India and China’s Love Affair with Gold Turns Financial”. Gold demand in these populous countries is becoming more sophisticated.

Some of their citizens are buying gold through ETFs, just as in the western world. For example, in the first half of 2016, demand for two gold ETFs listed in Shanghai grew tenfold.

The recently strong U.S. dollar and weak Chinese yuan and India rupee will only add to the demand for gold in those countries. Just ask the Brits how well gold performed when the value of the pound plunged after Brexit.

Less Gold Bullish for Miners

What about the supply side of the equation?

Here, the news is even better. Mine production of gold may have peaked in 2015, at least for this cycle.

That’s largely due to the dire financial straits that the gold mining companies got themselves into by emphasizing volume over quality of assets. They spent billions on deposits that were low-grade, while running up debt.

But they’ve now faced reality. Unlike the oil companies, the capital expenditure slashing cycle has been underway for years in the gold industry.

That translates directly to less gold being mined. Forecasts from Thomson Reuters GFMS and others are that gold output from mines will actually decline by 3% in 2016.

RandgoldThe situation in gold was summed up nicely by Mark Bristow, the CEO of Randgold (Nasdaq: GOLD), in September. He said, “To keep the gold industry supplied, we need to discover 90 million ounces a year. We are only discovering 10 to 15 million ounces a year.”

That is fabulous news for gold mining companies.

Even better news is the fact that all-in sustaining cash costs have fallen by a whopping 26%. All-in costs have gone from $1,265 per ounce in the third quarter of 2012 to about $935 per ounce now.

Barrick GoldThis has boosted miners like Barrick Gold (NYSE: ABX), the world’s biggest gold miner. Barrick has cut its debt by nearly a third over the past 15 months. It also knocked off 20% from its all-in costs.

Many analysts, such as those at RBS, think earnings at large players like Barrick could double over the next two years.

Gold Investments

Higher demand and lower production will translate to higher prices for gold.

How can investors play this?

Merk Gold TrustFor those interested in owning physical gold, take a look at the Merk Gold Trust (NYSE: OUNZ). This exchanged traded product allows you to exchange your holdings into physical gold. By simply filling out a form with your broker, you can convert your OUNZ into gold bullion or coins.

Gold stocks are, of course, a leveraged and yet cheap way to play gold. The ratio of gold equities to gold is less than half its historical average. Valuations are still hovering near the lowest they’ve been in 15 years.

gdx111516One can own a basket of the top gold mining stocks through an exchange traded fund such as the MarketVectors Gold Miners ETF (NYSE: GDX).

On an individual stock basis, the more conservative route is to go with gold mining royalty and streaming companies.

Franco-NevadaThe world’s premier gold royalty and streaming company is Franco-Nevada (NYSE: FNV).

Here’s why its business is safer than buying a gold exploration and mining firm. Franco-Nevada merely provides funding for projects that it has done its due diligence on. In exchange, the miners give Franco Nevada royalties on future metals production.

This conservative business model is the reason FNV has no long-term debt. And yet, its stock has outperformed both gold and the S&P/TSX global gold mining index since 2008. And it is a dividend champion, having raised its annual payout eight years in a row!

Once the good feeling about a new President subsides, smart investments into any of these gold vehicles will look very appealing.

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Category: Commodities

About the Author ()

Tim Plaehn is the lead investment research analyst for income and dividend investing at Investors Alley. He is the editor for The Dividend Hunter, an investment advisory delivering income investments with double digit growth in share price and dividend payments, and 30 Day Dividends, a specialty income service that takes advantage of opportunities for relatively fast, attractive profits around potential dividend payouts.

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