Are There “Values” in Gold Stocks?

Looking at any analysis of gold stocks, you would think that fundamentals matter.  The companies have quarterly reports that reflect operating expenses, pre-tax profits, estimates reserves, sometimes earnings and in rare instances dividends. 

However, when it comes to gold stocks, the only thing that matters is the direction in the price of gold.  If you believe you know the direction of gold then, by default, you know the direction that gold stocks are headed.  All semblance of fundamental analysis is ultimately not relevant to the price of a gold stock, in spite of proven & probable reserves, acquisitions, share buybacks, AISC or claims by the CEO that things are looking up (they rarely, if ever, say the opposite).

Take a look at a comparison between gold and the price of Barrick Gold Corp. (ABX) in the period from October 2003 to April 2017.

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The only distinction to be made between the price of the stock and the price of gold is the magnitude of the direction up or down.  If fundamental investing mattered, then at some point there should be some level of divergence in the general direction of gold and gold stocks.  This would allow savvy investors to seize on the mispricing of a stock and ride the wave up or down.

For the sake of comparison, look at the difference between corn and Archer Daniels Midland (ADM) over the same period as the ABX and gold review.

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In the case of ADM, we can see the areas (blue boxes) where there are distinct divergences between the price of the stock and the price of corn.  These are key areas where fundamental values, and basic economics, demonstrate key levels of under/overvaluation.  Of course, ADM is not simply a pure play on corn as they’re involved in other agricultural products.  However, knowing the industry, pricing, competition and other attributes of the business could give you a distinct advantage as a buyer and seller of ADM stock.  This is not the case for gold stocks.

Lest we be called out for being selective in choosing a period that was only in a rising trend, we have included the period from 1983 to 2001 and compared the Philadelphia Gold and Silver Stock Index (XAU) to the price of gold, a time when gold was in a declining trend.  In this more expansive period of time, there was only one point in time, January 1986 to July 1986, when there was a material divergence between the price of gold and gold stocks.

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It is precisely when there is a material divergence between gold and gold stocks that a fundamental review will reveal the true “value” and therefore warrant contrarian investments (short/long) in the gold stock complex.  If a period of divergence isn’t as readily identifiable, as in the ADM example, then you know that what should be examined isn’t the stock but the underlying commodity.

Ultimately, when a well known stock analyst ( or unknown) applies fundamental analysis to a gold stock, you know that you are reading material that is of little or no value in relation to reality.

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