This Real Vision interview with James Rasteh of Coast Capital Management in New York City has been making the rounds on mining websites, already garnering over 10,000 views. A video on why gold mining companies suck getting 10,000+ views you ask? Yep. It's that good and so on the money that I would call it required viewing for any investor in the mining or junior mining sectors. 

Mr. Rasteh makes numerous key points as to why the gold mining industry has destroyed US$157 billion of capital over the last decade:

  • Misaligned management compensation structures that are more dependent upon reserve growth or annual production as opposed to net income profitability or share price performance. 
  • A tremendous amount of money deployed/wasted in various fruitless exploration endeavors. 
  • Terrible M&A decisions. 
  • Excessive management compensation. 

That's looking in the rearview mirror and also helps to explain why gold miners are currently very shy in terms of making any large acquisitions; over the past decade large acquisitions have generally been disastrous for gold producers. On the positive side of things Rasteh makes a compelling case for why mid-tier gold producers are attractively valued relative to the senior producers. Moreover, the seniors are not replacing reserves at a fast enough pace and their only choice will be to acquire mid-tier producers and/or junior explorers/developers in order to replenish the gold they are producing every day. 

So, why should one invest in a sector that has obliterated investor capital at an alarming rate over the last decade? 

I believe that Rasteh is correct that the seniors will have to replace reserves over the coming years and the place to be invested is farther down the food chain in smaller companies with development or exploration stage projects that could be acquired by producers as they scramble to replace reserves. 

An investor in the gold sector should also research management compensation and share ownership before investing in any company. Is compensation adequately aligned with shareholders? Does management have skin in the game? Is management excessively compensating themselves? Everything can be found on SEDAR if you look hard enough. 

Given the relatively poor returns on shareholder capital the gold sector has delivered historically I believe one must also have some special insights into individual companies in addition to having a positive long term view on the price trajectory of precious metals. It's quite possible that a rising tide will lift all boats when gold and silver really lift-off (gold above US$2,000 and silver back above US$30), however, i'd still like to have a margin of safety by investing alongside the best management teams with the best projects in the best mining jurisdictions. 

According to the Barron's Gold Mining Index, gold miners are valued roughly where they were at the depths of the 2008/2009 Global Financial Crisis (the chart below is mislabeled with a duplicate date of 2/10/2004 and the 2nd one should be 2/10/2009):

Meanwhile, the gold price is nearly double what it was at the depths of the Global Financial Crisis - this speaks volumes as to how depressed investor sentiment is on the gold mining sector right now.  Given the dreadful performance of the last decade across the gold sector It is understandable why many investors have soured on sector. However, it is this combination of depressed sentiment and ultra-low historical valuations that has me more interested than ever in the gold mining space. 

An investor should prefer not to buy a stock or sector when performance has been spectacular and everyone is elated with management performance. Too often the market will already be overly-optimistic when recent performance has been stellar. It is often when performance has been weak and companies have not executed well that the biggest opportunities arise. The most successful investors in history have purchased stocks and sectors when they were heavily out of favor and waited until they returned to favor in order to generate outsized returns. 

I believe that the next couple of months will offer investors an attractive opportunity to accumulate precious metals mining shares at historically cheap valuations during the early stages of a nascent bull market. Stay tuned for my junior mining tax loss season shopping list which will be out in early November!

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