Value Defined: Fundamental Investing in Mining and Exploration Stocks

Brien Lundin  |

Financial planners will tell you that it doesn’t pay to try to time the market. And volumes of statistical evidence back them up, conclusively proving that attempting to get in and out of investments at just the right times is, like playing the lottery, a mug’s game.

Yet we can’t resist the temptation.

We plot our charts, pore over economic data and follow analysts and newsletters (like mine) trying to time the oscillations in the various asset classes. Sometimes we win, and sometimes we lose.

But some people always seem to win. These are the Benjamin Grahams and Warren Buffets of the world, legendary investors whose buy and sell decisions are based not on timing, but on differentials between price and value.

When those two metrics get sufficiently out of whack...when real value is on sale...the smart investors buy. And these are the investors who are the consistent winners.

This is the great secret behind successful investing. And frankly, I find myself ignoring it as much as the next guy. I can’t help trying to figure out when the next big rally in gold is going to launch. And as subscribers to Gold Newsletter have seen from my ongoing analyses, I’m still trying.

Granted, we’ve found some success in timing the ebbs and flows of the resource sector over the years, and in pinpointing specific companies before they took off. And in our defense, it’s not easy to use value-investing methods in the realm of micro-cap exploration stocks.

But there is a place for analyzing the fundamentals, for finding and buying value when you see it. In fact, this is especially valid when analyzing the metals and minerals underlying the mining and exploration stocks.

And in this age of unlimited credit and fiat currency, the concept of value is particularly applicable to the monetary metals of gold and silver.

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I can go over a list of comparisons as long as my arm to demonstrate the relative value of gold and silver compared with important measures, including the explosion in the U.S. national debt (currently $17.55 trillion, and on track for $20 trillion soon) and the similar explosion in global debt (a rise of 40% just since mid-2007, to $100 trillion).

But let’s briefly analyze the oft-quoted Dow/Gold ratio and consider its implications for gold going forward.

The Dow/Gold ratio famously traded at a 1:1 ratio in January 1980, at the peak of the great bull run in gold, when the Dow was coincidentally at a low ebb. After that brief period at par, the ratio soared to as high as 44.85 in late August of 1999, at the peak of the tech bubble in stocks and the nadir of the gold bear market.

But the trend changed dramatically at that point, as the gold began a long, powerful rise, thereby driving the Dow/Gold ratio to a low of 5.76:1 on August 31, 2011. While this represented a dramatic fall in the ratio, it was still considerably above the low reached in early 1980.

Since that 2011 low in the ratio, it’s risen to, as of this writing, 12.6:1. In short, the Dow at around 16,500 would “buy” about 12.5 ounces of gold at current price levels.

So let’s consider a scenario in which a shift in the economic landscape — say, an economic slowdown or crash that would launch the Fed into another round of quantitative easing. In such a scenario, stocks could go anywhere (probably up with the advent of more QE), but gold would almost certainly rise considerably.

If the Dow/Gold ratio returned to 5.76:1 and the Dow remained at its current level, it would imply a gold price of $2,864. If the Dow rose from current levels, which is likely, then it would imply an even higher gold price.

But even if the Dow dropped considerably — let’s say around 14,000 — it would still project to a gold price of $2,430 at that 5.76:1 ratio.

Again, all these projections are based on the Dow/Gold ratio falling to its recent level of 5.76:1. The ratio could fall even lower, and a 1:1 ratio as in 1980 would imply truly astronomical price levels for gold and silver.

Which brings us back to my original point: Value.

When you compare gold against any other asset in today’s world, it’s obvious that the yellow metal represents real value trading at a significant discount. Gold’s price, as measured against other assets, is cheap.

And thus, a value investor should just buy it, and worry not about the timing.

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not necessarily represent the views of Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to:


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