Watch Out For Warning Signs With These Gold Miners

Gold traded recently at around $1,224, close to a 1 year low. Bearishness began late last year, after the metal peaked at $1,800. Practically all gold miners dropped substantially, so the short-term speculation now lies on the price gold will rise to on a rebound. There are many problems with this strategy. The biggest problem is that no one knows when or if gold will rally again. On each small rally since the peak, prices declined:

Gold Prices

Data Source: Kitco

Gold miners are an even riskier play. Investors should think of miners as a leveraged bullish play on gold prices. The debt accumulated by miners will generate a disproportionately higher cash flow with rising gold prices. When gold prices drop, the debt becomes a burden to the balance sheet. Many miners spent heavily on mine fields that have yet to be developed. Positive cash flow and easy access to equity or debt markets is needed to finish these mines. When gold prices drop and cash flow turns negative, investors are unwilling to fund expansion.

4 gold miners with a market capitalization of under $1 billion deserve special attention. Notice that Allied Nevada (ANV) was worth around $3.4 billion 2 years ago:

Click on the image below to see market capitalization data over time. Data sourced from Zacks Investment Research.

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In the last year, Allied Nevada is down 78%. NovaGold (NG) is down 50%, Rubicon Minerals (RBY) is down 60%, and Sandstorm (SAND) is down 36%:

Click on the image below to see return data over one year. Data sourced from Zacks Investment Research.

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Allied Nevada was worth watching because it was once held in Seth Klarman’s hedge fund, the Baupost Group. The fund sold its entire position in the first quarter of this year. The miner has around $550 million in debt. Debt was reduced in May when Allied Nevada issued shares, but debt is still at $400 million. On the bright side, its Hycroft mine has around 27 million ounces of gold.

NovaGold is struggling to stay above $2. Worry of higher costs, declining gold prices, and lower production will hurt this miner in the short-term. John Paulson, whose hedge fund has a large position in the Gold Trust (GLD), also holds a position in this miner.

Bearish bets on Rubicon Minerals are high. By June 15, 2013, short selling volume was 40.5% of float. Sandstorm shares bounced back up in recent trading sessions, only to fall again. Traders are reacting to the fall in gold prices, worried that Sandstorm will reduce production. The firm could lower its extraction costs to adjust to the lower gold prices.

 

Written by Chris Lau

 

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Allied Nevada Gold Corp. (ANV, Chart, Download SEC Filings) NovaGold Resources Inc. (NG, Chart, Download SEC Filings) Rubicon Minerals Corporation (RBY, Chart, Download SEC Filings) Sandstorm Gold Ltd. (SAND, Chart, Download SEC Filings)

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