How to Avoid Common Mistakes With Mining Stocks (Part 4: Project Quality) Visual Capitalist


Investors consider gold and silver as safe haven investments. But the companies that produce gold and silver often offer volatile returns, creating opportunities for astute investors.

Volatility is a double-edged sword, particularly when it comes to commodity investing. During the good times, it can create skyrocketing returns. But during bad times, it can turn ugly.

Today’s infographic comes to us from Prospector Portal, and shows how investing in precious metals equities can outperform or underperform the broader metals market.

Capitalizing on Volatility: Timing Matters

Just like most investments, timing matters with commodities.

Due to the complex production processes of commodities, unexpected demand shocks are met with slower supply responses. This, along with other factors, creates commodity supercycles—extended periods of upswings and downswings in prices.

Investors must time their investments to take advantage of this volatility, and there are multiple ways to do so.

Three Ways to Invest in Commodities

There are three primary routes investors can take when it comes to investing in commodities.

Investment Method Benefits Limitations
Direct physical investment
  • Purest form of exposure
  • Intrinsic value of a commodity and physical possession
  • High transaction costs (buying, shipping, transport)
  • Costs of physical storage limit the quantity and returns
Commodity futures
  • Commodity investment without the need for storage
  • Diversification benefits and inflation hedge
  • Complex and frequent transactions
  • Risk of contango—when futures contracts are more expensive than the underlying commodity
Commodity-related equities
  • Exposure to prices without storage or transaction limitations
  • Opportunity to benefit from commodity prices and company performance
  • Returns depend on the company’s valuation
  • Companies may mitigate risk by producing multiple commodities—reducing leverage to prices

Among these, commodity-related equities offer by far the most leverage to changes in prices. Let’s dive into how investors can use this leverage to their advantage with volatile metal prices.

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The Fundamentals of Investing in Mining Equities

When it comes to commodity investing, targeting miners and mineral exploration companies presents fundamental benefits and drawbacks.

As metal prices rise, the performance of mining companies improves in several ways—while in deteriorating conditions, they do the opposite:

Category Rising Commodity Prices Falling Commodity Prices
Outlook – Improved outlook – Deteriorated outlook
Stock Price Movement – Equity growth – Equity decline
Dividend Payouts – Increased dividends – Decreased dividends
Financial Performance – Increased earnings – Decreased earnings

With the right timing, these ups and downs can create explosive opportunities.

Mining companies, especially explorers, use these price swings to their advantage and often produce market-beating returns during an upswing.

But how?

The Proof: How Mining Equities React to Metal Prices

Not only do price increases translate into higher profits for mining companies, but they can also change the outlook and value of exploration companies. As a result, investing in exploration companies can be a great way to gain exposure to changing prices.

That said, these types of companies can generate greater equity returns over a shorter period of time when prices are high, but they can also turn dramatically negative when prices are low.

Below, we compare how producers and exploration companies with a NI-43-101 compliant resource perform during bull and bear markets for precious metals.

All figures are in U.S. dollars unless otherwise stated.

Mining Company Company Stage Primary Metal
Produced
Market Cap.
Oct 31, 2019
Market Cap.
July 29, 2020
Bull Market Performance
(Nov. 1, 2019-July 29, 2020)
Bear Market Performance
(Jan 02 – Dec 31, 2018)
Banyan Gold Exploration/
Development
Gold $6M $40M 500% -44%
Renforth Resources Exploration Gold $8M $10M 11% -10%
Auryn Resources Exploration Gold, Copper $181M $330M 60% -39%
Wesdome Gold Mines Ltd. Production Gold $1,104M $1,885M 68% 110%
Monarch Gold Exploration/
Development
Gold $57M $148M 139% -23%
Red Pine Exploration Exploration Gold $13M $22M 29% -55%
Revival Gold Inc. Exploration/
Development
Gold $27M $74M 113% 5%
Erdene Resource Development Exploration/
Development
Gold $36M $111M 222% -56%
Endeavor Mining Corp. Production Gold $2,622M $5,874M 54% -13%
Yamana Gold Inc Production Gold $4,572M $8,279M 87% -22%
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During the bear market period, the price of gold declined by 2.66%, and despite engaging in exploration activity, most companies saw a slump in their share prices.

In particular, exploration companies, or juniors, took a heavier hit, with returns averaging -31.66%. But even during a bear market, a discovery can make all the difference—as was the case for producer Wesdome Gold Mines, generating a 109.95% return over 2018.

  • Average returns for gold producers including Wesdome: 24.83%
  • Average returns for gold producers excluding Wesdome: -17.65%

During the bull market period for gold, gold mining companies outperformed the price of gold, with juniors offering the highest equity returns averaging 153.43%. Gold producers outperformed the commodity market, the value of their equities increased 69.61%—less than half of that of exploration companies.

Silver: Bears vs Bulls

Similar to gold mining companies, performances of silver producers and explorers reflected the volatility in silver prices:

Company Company Stage Primary Metal
Produced
Market Cap.
Oct 31, 2019
Market Cap.
July 29, 2020
Bull Market Performance (Nov. 1, 2019-July 29, 2020) Bear Market Performance (Jan 02 – Dec 31, 2018)
Silvercrest Metals Exploration Silver $694M $1,449M 78% 117%
Pan American Silver Production Silver $2,973M $10,550M 125% 1%
Golden Minerals Exploration Silver $30M $80M 80% -42%
Americas Gold and Silver Production Silver $335M $482M 10% -56%
Dolly Varden Silver Corp. Exploration Silver $28M $74M 152% -32%
Endeavour Silver Production Silver, Gold $458M $837M 72% -10%

During the bear market period for silver, its price decreased by 9.8%. Explorers and producers both saw a dip in their share prices, with the equity of silver producers decreasing by 21.63%.

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However, the discovery of a high-quality silver deposit again made the difference for SilverCrest Metals, which generated a 116.85% return over the year.

  • Average returns for silver exploration companies including SilverCrest: 8.32%
  • Average returns for silver exploration companies excluding SilverCrest: -27.86%

On the other hand, during the bull market period, the price of silver increased by 34.33%. Silver exploration companies surpassed the performance of the price of silver.

  • Average returns for silver producers: 69.04%
  • Average returns for silver exploration companies: 95.36%

The potential to generate massive returns and losses is evident in both cases for gold and silver.

The Investment Potential of Exploration

Mining equities tend to outperform underlying commodity prices during bull markets, while underperforming during bear markets.

For mining exploration companies, these effects are even more pronounced—exploration companies are high-risk but can offer high-reward when it comes to commodity investing.

To reap the rewards of volatile returns, you have to know the risks and catch the market at the right time.

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