Blue chip gold stocks like Goldcorp and Barrick Gold can be good investments because, unlike juniors, they are less likely to wither away to nothing and frequently offer dividends. But timing is crucial because producers can also be quite volatile. Other precious metals investment options might include mining ETFs which holds a basket of gold producers, but be prepared for a daily roller coaster ride. Regardless of the type of investments chosen, every investor’s portfolio should be diversified with precious metals.
Bullion held its own during the 1987 market crash, while mining stocks fell
During sharp market declines, such as the 1987 stock market crash, mining stocks tend to become correlated to the broad equity markets rather than the price of bullion. Figure 3 shows the comparative performance of mining stocks, gold bullion and the Central Fund of Canada (CEF), a closed-end fund that holds gold and silver bullion, during the crash. As the chart shows, mining stocks declined more than the Dow even though the price of gold was rising. The exchange-traded Central Fund behaved like an equity even though it holds bullion.
While mining stocks have significant appreciation potential beyond the price of bullion, they are leveraged plays on bullion prices, and like any form of leverage they carry a variety of risks. In addition to stock market volatility and deteriorating economic conditions, potential risk factors include: geopolitical issues, environmental issues, management skills and performance, business model, financial strength, mine life, production costs and efficiencies, increases in operating and energy costs, hedging policies and exploration success.
Gold bullion is not an investment
Many investors jump on the gold bandwagon without taking the time to assess whether they are savers seeking wealth preservation or speculators seeking capital gains. Mining stocks, especially juniors and exploration companies, tend to be for speculation, while bullion is about wealth preservation. But physical bullion should not be viewed as an investment. An investment is defined as an asset that is expected to produce earnings or capital appreciation at a later time. Bullion does not pay dividends, income or interest, and should not be held, primarily, for capital appreciation. If bullion isn’t an investment, what is it and why does it continue to rise in price?
