On Thursday morning, the price of gold soared nearly 3 percent to over the $1,300/ounce level. This came in the face of analysts telling us that the price would head lower as the economy improves (even as we saw negative GDP growth in the first-quarter) and as inflation remains tepid (even as the CPI is trending higher.)
The fact is that the economy is fairly weak and the Federal Reserve’s attempt to re-inflate it through its quantitative easing program worked to a limited extent, but it is ultimately failing. While this money first started to find its way into stocks, I think this will end as corporate profit growth decelerates and investors realize that it doesn’t make any sense to own shares in companies that are trading a 20X, 25X, or even 30X earnings or higher. Much of this money will ultimately find its way into gold, especially as the price begins trending higher as short sellers realize their bet is a lost cause and as Asian buying of physical metal increases global demand.
With that being the case, it is quite possible that we have begun to see a new uptrend in the gold price, and a good way to play this is through mining stocks. But not all miners are created equal. As investors, we need to decide what sort of risks we are willing to endure in order to realize a particular reward.
The following two stocks have been weaker than most in the sector, although there are good explanations for this and I believe that this weakness has provided an excellent entry point for investors who are looking to profit from the next move higher in the gold price.
1. Kinross Gold (NYSE:KGC)
Kinross Gold has been weak for many years. The company has had a lot of problems with debt and geopolitical risk. As a result, it ousted its management in 2012 and the new team has been turning the company around. It has lowered production costs and it has refocused the company’s energy and capital on generating cash-flow while mitigating risk as opposed to simply maximizing the number of ounces produced.
Despite this clear turnaround story, the stock has languished this year. The reason is that about 20 percent of the company’s production comes from Russia, and Russia has been one of the most hated investment venues for Westerners. It gets worse for Kinross. While “only” 20 percent of the company’s production comes from Russia on a per-ounce basis nearly half of the company’s cash-flow comes from Russia, as production costs and taxes are very low there. This sent shares falling as tensions over the Ukraine have escalated.
However, investors need to realize that this risk has been blown out of proportion. First, the Central Bank of Russia has been buying gold, and it is doubtful that we would see the Russians do anything to reduce gold production on its own land. The second is that Kinross is a Canadian company, not an American one, and the tension is between the United States and Russia. While the United States and Canada are allies, they are not necessarily going to act in lock-step in their foreign policies. It may take investors some time to realize this, but ultimately, I think investors who buy Kinross shares now will be rewarded — especially if the gold price rises.
2. Allied Nevada Gold (NYSEMKT:ANV)
Allied Nevada Gold is one of the few gold mining companies listed primarily on an American exchange, as most are listed and headquartered in Canada. It owns a massive project — the Hycroft Mine — in Nevada, which is one of investors’ favorite places to mine given the geopolitical stability and the mining friendly policies of that state.
However, the shares have languished because of the company’s massive debt load. The company’s debt adds over $200/ounce to the company’s production costs, and this means that it is highly leveraged to the gold price. This sent shares tumbling from over $40/share a couple of years ago to under $3/share within the last month. But if the gold price rises, there are few stocks out there that will offer investors the incredible leverage that Allied Nevada will. Furthermore, as the price of gold rises investors will be less concerned about the company’s debt, and they will become more confident in buying and holding the shares. Finally, given the company’s debt load, Allied Nevada has been a favorite target for short sellers who want to leverage their bets against the gold price. Thus, we could see a short squeeze propel shares higher. While it is risky, Allied Nevada is among the most lucrative ways to play a rising gold price.
Disclosure: Ben Kramer-Miller is long Kinross Gold.