Precious Metals Mining Stocks

September 10, 2020


By Patrick A. Heller

Although I work buying and selling physical precious metals, many of our customers also own shares of precious metals mining companies. They sometimes ask my opinion on owning mining shares in general or about specific mining companies.

I owned shares of a South African gold mine for some years in the 1970s, but have not since. Although I see peripheral information about the mining industry in following precious metals markets, I am absolutely not the “expert” to consult for those considering buying such stocks.

My late father-in-law lived the last several decades of his life in Alaska. He told me he had a gold mining claim that was a dredging operation. But, after the costs of maintaining the equipment, he was only earning about minimum wage levels from his claim.

I do have some observations to consider for those who might be wondering whether to purchase physical precious metals, mining stocks, or a mixture of both.

  • My friend David Morgan is a silver guru. His company does extensive research in the mining industry, especially those mines producing silver. Even though he advises on which mining stocks to own or avoid, he also has recommended multiple times that 10 percent of any overall investment portfolio in precious metals should be in the form of physical metal in your direct custody or stored under accounts in your name and not in mining company stocks.
  • There are different kinds of precious metals mining companies. Some are devoted to exploration, where profits hopefully come from discovering new sites potentially worth developing into producing mines. Such companies can be yield bonanzas or go bust.  Then there are what are referred to as junior producers that make money from smaller-scale mining operations. Often, the largest payoff in owning such stocks is when they are bought out by the major, or senior, mining companies. The senior companies can be attractive from paying steady rich dividends, which augment any potential stock price appreciation. These companies tend to have longer lives as they acquire junior miners or buy promising claims from exploration firms in order to replace existing mines near the end of their production.
  • Mining operations make their money over years and decades. A major price spike does not necessarily make the company’s stock worth that much more as the metals they will be selling will be mined over many years instead of being sold right now. When I did a rough analysis of what happened to gold mine prices during the 1979-1980 precious metals boom, I saw that mining company stock prices only rose about half of the increase in precious metals prices.
  • The economics of operating mines is different from other industries. A good mining operation will have several veins that could be worked. To extend the life of the mine, the optimum veins to work are those where the output is marginally profitable. The higher-grade veins are kept in reserve for times when prices are lower so that the operation can continue. When precious metals prices spike, that makes some low-grade veins economically recoverable, so the companies tend to work those areas then. By following this strategy, the length of a mine over time is much more profitable than focusing on mining the richest veins first.
  • Mines can make extra profits when prices increase but also have factors that could hurt profitability having nothing to do with mine operations. If new veins are discovered, that could make a mining company more valuable. But political, environmental, operational, or financial problems could harm the company having nothing to do with the price of the metals.
  • In the early part of this century, it was common that it would take three years from the discovery of a new mining site until it could go into production. Today, the delays caused by more political and environmental regulations, searching for mine sites ever further from accessible infrastructures like roads and utilities, and the like can extend the time from discovery to production up to 10 years.  This greater time delay increases the risk to potential investors, who would then want to see a greater return to offset the greater risk if they do invest.
  • In order to obtain financing to develop a mine site, it is common practice for mining companies to lock in the selling price of future production (to guarantee profitable operations) by hedging. When hedged, the price the mines receive for that quantity of metals is fixed. So, rising prices would not add to profitability.  On the other side, falling prices would not hurt operating profits either.
  • Over 10 years ago, I toured the Bunker Hill Mine in Idaho. At one time it was a major producer of lead, with zinc and silver output being by-products. It was mothballed about 1982. A new owner was rehabilitating the mine because the prices of lead and zinc had gone up almost 10 times, potentially making the mine economic again. Near the entrance to the mine was a vein of mostly lead and zinc, but also a little bit of silver. The new owner explained that when the mine closed, the marginal yield from that vein was about $20 per ton, well below the marginal costs to extract the ore. Therefore, that vein had never been mined. But, when I toured the mine, the metals in the vein would yield about $70 per ton of ore versus marginal mining costs of $40. Thus, a mine that was uneconomic at one time later became potentially profitable.
  • I have a brother-in-law who works for the Red Dog Mine north of the Arctic Circle in Alaska. This is one of the world’s largest zinc mines. It is also a significant source of lead and silver. Despite being a by-product of a zinc operation, this is the second-largest silver-producing mine in the United States.  This is an example where those looking to invest in precious metals by owing mining stock may also need to consider the impact of non-precious metals as well.
  • When ores are processed at mine sites, the technology does not extract all of the valuable metals. As technology has advanced over the years, it sometimes has become economically practical to reprocess the mine tailings, the ore waste product of past mining operations, in order to extract additional valuable metals.
  • The world’s largest silver producing mine comes as a by-product of a copper mine in Poland.

Understand that these are random observations and not an attempt to present an all-around discussion of the merits and pitfalls of owning precious metals mining company stocks. If you are considering owning shares of such companies, you need to do far more diligent research to make the best decisions for yourself.

In many ways, owning precious metals mining stocks is riskier than having physical precious metals. The share prices can rise or fall for reasons other than the price of the underlying metals. The long-term results may outperform changes in precious metals prices or could fall far short.

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