21 March , 2012 How do you pick out the good junior mining stocks?
From Dominic Frisby, in London
Dear ,
Last week, I came back from PDAC – the Prospectors and Developers Association of Canada.
This is the biggest mining conference in the world. Something like 30,000 people from 120 different countries turned up in Toronto for the convention.
Today, I’m going to share some of my observations from the conference with you…
Investors in mining stocks are hurting
The PDAC conference was about as well attended as I’ve ever seen it.
The Sunday session – day one – was interesting. This is when the newsletter writers all make their presentations, so you get an idea how many retail investors are attending.
And numbers were significantly down on last year. There was standing room only in 2011 for speakers such as Rick Rule, Frank Holmes and Brent Cook. This year they gave their talks to half-empty floors.
There are a million things you can read into this. But my interpretation is that small investors are hurting after a horrible 2011. I was mobbed after my presentation when I outlined a simple method to make sure you are out of the market during extended downturns, and in it during up-runs. As well as being extremely flattered, I found this reaction interesting. Retail investors (of which I am one) were clearly feeling the pain.
Of course, from a contrarian point of view, this is also bullish. If small investors are largely out of the market, when they come they come back in, prices will get pushed up.
There are just too many junior miners
While small investors might be smarting, the mining business itself is still thriving, as evidenced by the 30,000 attendees. But I can’t help thinking there were just too many companies.
There were something like 1,000 exhibitors, of which probably 70% were junior miners of some kind. Of these only one in 50 will make it, according to geologist and newsletter writer Brent Cook (www.explorationsinsights.com).
As friend and fellow investor John Wolstencroft puts it, a junior mining company is like a shark. If it doesn’t generate a constant flow of exciting news – if it doesn’t keep swimming – it dies. Right now, too many of these companies are struggling to finance their operations. Unfinanced – and thus generating no news-flow – their share price slips.
As they start to struggle for oxygen, they are forced to raise finance at too low a price and dilute all the existing shareholders. Goodness knows how many times I’ve seen this happen.
I lost count of the companies I saw at PDAC that were formed in the great credit boom at the beginning of the ’00s and are now on their last legs. Typically, a junior has five to eight years to make it, observes another geologist, Mickey Fulp, (www.themercenarygeologist.com). If they don’t, the inevitable dilution will take the company down.
And there aren’t enough deposits to go round
Why do so few junior miners make it? Cook, whose presentation I particularly enjoyed, says it’s because there simply aren’t the deposits. All sorts of companies find anomalies or geological faults. But the jump from there to an actual, metal-producing mine is too great.
Only those few with legitimate, high-grade deposits will make it. One in 1,000 companies find a major economic deposit or get taken out by a major. Just 2% of gold deposits are greater than 500,000 oz.
The Bingham Canyon Mine in Utah, owned by Rio Tinto, is the deepest open pit mine in the world. Since it went into production in 1906 it has yielded more than 17m tons (15.4 Mt) of copper (making it the second-most productive copper mine in history after Chuquicamata in Chile), 23m oz of gold, 190m oz of silver, and 850m pounds of molybdenum. The value of the resources extracted so far from Bingham is greater than the Comstock Lode, Klondike, and California gold rush mining regions combined.
And yet, says Cook, the equivalent of Bingham’s all-time production is being consumed each year. In other words, we have to find a new Bingham every year. But where? There have been just 12 major copper deposits found in the last 35 years. Spending on exploration may be up, but discoveries are down.
There is a similar problem with gold. Annual demand is 83m oz. That’s equivalent to the entire historical production of Nevada’s Carlin trend, one of the world’s richest gold mining districts.
I particularly enjoyed combining Cook’s insights with those of Frank Holmes (www.usfunds.com) in his excellent presentation. Frank – unlike many of my colleagues here at MoneyWeek – is extremely positive about growth in China. In fact, he thinks there is a bubble in anti-China sentiment (he even displayed a graph to chart this). Holmes makes the claim that in 2009, 28% of the world’s middle class came from China or India. By 2020 that number will double.
And for middle class you can read metal demand.
The world needs metal, but the junior exploration, development and mining companies are struggling to find it. All in all it makes me bullish on metals, base and precious, but less bullish on miners. Judging by the gap in performance between the two - a theme I keep coming back to - the market feels pretty much the same way. Too many companies are failing to find anything and take it to production. (I’m conscious that not all at MoneyWeek agree with me on base metals).
However, those few companies – that 2-5% that do – have the potential to do very well. So my focus this year was to be as selective as possible; to disbelieve everything I was told by managers, unless share structures were extremely tight; and to focus on high grade. After all, as they say, grade is king.
I’ll shortly be publishing a report detailing my pick of the companies I saw at PDAC – we’ll be sending you more details on how to get hold of it in the very near future.
Finally, I’ve signed up for Twitter. Please follow me @dominicfrisby.
Got a comment on this article? Leave a comment on the MoneyWeek website, here.
Until tomorrow,
Dominic Frisby
FNT Price at posting:
9.5¢ Sentiment: None Disclosure: Held
(20min delay)