Monday, June 18, 2012

Just How Cheap Are The Junior Mining Stocks?

Short answer:  historically cheap.  For those who want an explanatory answer, continue reading.

Anyone who participates in or follows the mining stock sector has read the numerous commentaries recently describing the extreme relative undervaluation of the mining stocks, especially the juniors.  In fact, I saw an article this past weekend which demonstrated that the last time the mining stocks, in general, were as undervalued as they are right now was in 1924.

Regardless of which relative value thesis to which you are want to subscribe, there's no question that the mining stocks as a sector have become extreme value plays.  "Value" as opposed to high growth rate speculative plays (like Facebook, for instance).  And while it's true that vs. "benchmark" metrics, the miners are cheap, for my investing capital nothing reveals "market truth" like a point of trade.  "Point of trade" being that economic intersection at which a buyer is willing for fork over money and a seller is willing to fork over the goods.

Monday provided us the with truth benchmark of an actual trade.  Yamana (AUY) bought Extorre Gold (XG-TO, TSE-listed) for $414 million, mostly cash/some stock.  If you net out the cash on XG's balance sheet of $27 million, this price represents $161/oz of XG's total 43-101 resource of 2.4 million gold-equivalent ounces (XG's defined gold plus silver converted to "gold equivalent").   The price was a 68% premium to XG's closing price on Friday.

The high premium to Friday's close is one way to view the current relative undervaluation of these mining stocks by the stock market.  Furthermore, the $161/oz price is substantially higher than the "generic" $100/oz price of some recent acquisitions.  

To be sure, the high quality attributes of XG's deposit - like the expected high metallic recovery from the ore and anticipated low cash costs of production - would induce an acquirer to "pay up" a bit for XG.  But these highly attractive features are offset by the fact that XG's trophy property is in Argentina, which presumably poses considerable political risk now that Argentina's Government has demonstrated a willingness to nationalize foreign-owned oil companies.

The Wall Street genius analysts, in their desire to come up with reasons to try and convince institutional investors to avoid the sector because Wall Street has very little ability to make money off the mining stock sector by shuffling around paper financing deals and skimming big fees, would tell you that the political risk of most mining stocks is the best reason to avoid them.  In fact, not one single U.S.-based brokerage firm covers Extorre:  LINK  I guess Wall Street's finest have plenty of ideas up their ass that will generate a 68% gain...

Throwing Wall Street aside, besides the fact that this Truth Revealing trade shows just how cheap the mining stocks are - especially the junior miners - it also tells me that the most sophisticated possible buyer of mining assets - an actual successful industry operator - has determined the political risk in South American countries like Argentina is substantially less than is being discounted by the market.  As a result, I expect to see several smaller junior mining stocks experience a strong price move higher.

One company I like that has substantial exposure in Argentina is McEwen Mining - MUX.  MUX has had the crap beaten out of it because of the perceived political risk of Argentina.  MUX traded up over 6% today.  Most of that gain is attributable to the AUY/XG deal.  But MUX is still 57% below its 52-week high of $7.  I am betting that MUX closes that gap relatively quickly and move a lot higher than $7 as the next big move in this sector unfolds.  Oh, by the way, Rob McEwen of McEwen Mining is the same McEwen who guilt Goldcorp into one of the largest and most successful gold mining companies in the world.

About two years ago Goldcorp paid over $1,000/oz. for Andean Resources, which is situated mainly in Argentina.  That's a good benchmark for where the market is headed until the real "internet bubble" dynamic kicks into gear in this sector.

11 comments:

  1. $161 an oz is very cheap...too cheap....more premium is needed for me....if I was a shareholder I would not be happy...In fact...$161 is only about 10% of what gold is selling for!!!!!!!! They are giving it away!

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    1. I agree. Imagine what the price would have been if XG's main mine was in Nevada...but $160 is a start and I expect that eventually we'll see "internet bubble" valuations being paid. Hell about 2 yrs ago GG paid over $1000/oz for Andean Resources, which is mainly situated in Argentina. That's a good benchmark for where we're headed.

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  2. michael schumacherTuesday, 19 June, 2012

    Dave-

    I'm afraid the system is going to make sure that the valuations of the mining shares are never allowed to appreciate according to any of it's fundamental valuations. Hell..the fed values it's own gold (another topic if they even have it)at $42 an ounce...sort of tells me all I need to know. Total and complete capture IMO.

    MS

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    1. Throughout history, Government intervention always fails. Ultimately it's not up Governments, it's up to markets.

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  3. michael schumacherTuesday, 19 June, 2012

    I really hate to say this because I normally agree with you 100% but with all the mechanisms for corruption (that have not really been utilized in this way in the past) I fear that it really is different this time. Think about roughly three years ago (we were in the third month of the ramp) would you have guessed the level of equities', bonds, and PM's where they are now? Certainly not I.....much lower for equity's, bond yields higher (much) and PM's higher (much). They may even let the market fall however they will then, mechanically, just make it not have any consequence. Like they have up until this point......Be it with the CFTC, ISDA, and all of the other "agency's" that are tasked with not allowing a market to get into this shape they will just wave a magic wand and have an outcome that allows them to continue the game. Can't really say what event it will take th eform of however as we have seen if you don't like the result...change the rules.

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    1. We can agree to disagree. I'm good with that. When the HUI went hit 520 in March 2008, I would have bet a zillion dollars that it would never break below 300. It hit 150 in October 2008. Then it spent the next 3 years running over 600. If the HUI bottoms here, and I think it has, a 380 bottom is a very significant higher low. I believe Embry has projected a HUI over 800 on this next extended run and I don't disagree with that view. If he and I are correct, you got anything else you can invest in that more than double from here in the next couple years?

      Mining stocks are volatile. They are manipulated. They will go to much higher levels. At some point the big elitist mining firms like ABX and NEM and GG will need to pay up in order to increase their reserves. The mid-tier and juniors will enjoy that price inducement and will require it before they agree to sell out. This is why NEM takes 10% positions in companies like EMXX and why ABX has a satellite office set up in Vancouver in order to keep track of and shadow all of the junior exploration developments.

      Unless we collapse into totalitarianism, the markets will prevail. If we collapse into totalitarianism, we got bigger personal problems than being invested in undervalued juniors.

      I've been doing this sector since 2001. I remember when the HUI dropped from 150 to 100. Everyone said "it's over man." Prechter said gold would go back to $50. It's been the same wash, rinse, repeat dynamic for 11 years. Speaking of Prechter, where is he on gold these days? He's been noticably mute. Maybe he's tired of pissing in his pants...

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  4. michael schumacherTuesday, 19 June, 2012

    as I said I certainly don't disagree with the fundamental analysis of the mining sector (anyone who does is fooling themselves). I'm just cautiously aware of the amount of crap they can pull to get an outcome. I also am a little weary of using any historical pattern to back up a fundamental analysis. You know that old saying "Past performance is not indicative...." Before all this crap started in earnest (late 2007) I certainly would have been on the same boat as you regarding the reasoning of mining stocks but they will have an outcome that benefits the trading positions because they have enough control to "make it so".....

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    1. Again, disagree. This "crap" per my earlier comment has been going thru the same cycle for the 11 years I've been doing this. The cartel manipulation is nothing new.

      The only way the market will not ultimately prevail - again - is if our system collapses into totalitarianism. We are unequivocally headed in that direction and Obama has acclerated the process started by Bush.

      Again, if Obama and his successor are not stopped, it won't matter what you have in your portfolio if you stick around this country.

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    2. Dave, what country would be sticking around in if the US devolves into totalitarianism?

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    3. Good question. Let me know if you find one. Uraguay is probably the best option I've found. But how willing would you be to leave your family and friends and move there? One of the sovereign Caribbean Islands might be good. Life would be very slow but the weather would be awesome.

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  5. michael schumacherTuesday, 19 June, 2012

    I think we're already in the totalitarianism phase... Our markets just don't work as a price discovery mechanism they once did in the past. Yes the manipulation is nothing new...what is new is the scale and scope. It's not that I disagree with you....it's that the outcome of the situations are mostly pre-determined at this point and if it benefits the house.........

    MS

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