Comment VANCOUVER, BC - Lately, the big story in the media has been the notion of "peak oil", where it is argued the world's reserves of oil are now, for the most part, known, and that we have topped the biggest hill on the roller coaster ride of energy exploration, and are now poised to accelerate towards the "end of oil".
I'm not in a position to argue against that. However, I would like to point out a fact that is much more of a certainty, and presents an even greater opportunity for those of us with the ability to appreciate its significance.
Here's the fact: We're running out of gold.
This is no joke.
Experts estimate that there are only 41,000 tons of gold left in the earth's crust to be mined. Considering the total global mine output of gold in all of human history is roughly 90,000 tons, we are two thirds of the way to complete depletion of available gold.
And unlike oil, which will ultimately be replaced by other fuel sources, thus mitigating the effects of its absence, there is nothing that can replace gold. So when Bill Murphy of GATA (Gold Anti-Trust Action Committee) suggests a future price of US$3,000 to 5,000 per ounce, he may not be so far off of the mark.
Never mind the "end of oil". In terms of opportunity for investors, it's the end of gold that presents itself as the best bet for commodity price increase due to resource depletion.
Gold is widely dispersed in the Earth's crust in very low concentrations of 0.001 grams per tonne. For mining to be viable, gold needs to be concentrated between 2000 and 10,000 times (2 - 10 g/tonne) to form a gold deposit.
Gold usually occurs in its metallic state, commonly associated with sulphide minerals such as pyrite, but it does not form a separate sulphide mineral itself. The only economically important occurrence of gold in chemical combination is with tellurium as telluride minerals.
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Primary gold deposits form deep in the Earth's crust when hot fluids containing carbon and sulphur move upwards, dissolving gold and other ore components from the rocks through which they pass. These fluids travel along faults, fractures and other weaknesses in the rocks, carrying the gold in solution as a gold-sulphur complex. Around 5 to 10 km beneath the Earth's surface, the gold-bearing fluids react with iron rich rocks, causing gold to precipitate within pyrite crystals and in quartz veins.
Over the millions of years since primary gold deposits formed, the land has been pushed up and eroded in a continually changing climate. Under humid tropical conditions of 100 million years ago, primary gold was dissolved by rainwater and precipitated in horizontal layers just below the water table. About 15 million years ago, the climate became increasingly arid and the water table dropped. The gold dissolved in the saline groundwater and was carried downwards. During periods when the water table was stable, gold concentrated at this level. Changes in the position of the water table have resulted in a series of layers of concentrated gold.
So does this mean we should all sell everything and buy! Buy! Buy?!
Not exactly.
There are some rather powerful interests for whom a runaway gold price would be disastrous, and these groups exercise sufficient clout that they are capable of suppressing demand for gold, by creating the impression that gold is much riskier than it in fact is.
They include governments, their central banks, and large investment institutions. Precisely how an explosive gold price breakout can hurt them is the subject for an entire future article.
For now, I'd like to concentrate on how we individual investors can capitalize on gold's diminishing supply while limiting the downside exposure represented by the powerful groups in question, who, it remains possible, could combine collectively to send the price of gold sharply downward.
There are four ways to own gold. You can buy bullion, ETF's (exchange traded funds backed by bullion), jewelry, or, my personal favorite: junior mining companies.
When it comes to the juniors, a higher tolerance for risk is required, but that can be offset by thorough due diligence.
When it comes to juniors, the bottom line is this: ounces in the ground. Those junior exploration companies who consistently build gold inventory through drilling and land acquisition represent the best possible exposure to the upside price of gold.
In trying to identify companies that are undervalued, and therefore represent a good buy, here are a five key ingredients to look at and questions to ask:
- Who are they? - Management remains one of the most important indicators as to quality of exploration targets and likelihood of exploration success. The team that has been there, done that, is most likely to go there and do that again.
- Where are they? - Developing gold deposits in a place like....say....Iraq comes with some rather obvious "political" risk. In some places, like Africa, political risk is harder to quantify, because political situations change rapidly and are often not quite what they seem. Exploration plays in G7 countries are almost entirely devoid of political risk. But don't forget environmental political risk. G7 countries can focus well-organized environmental pressure against companies on a project-specific basis.
- What are they? - Though there are some truly brilliant geological talents out there who are experts in multiple mineral types, individuals focused on specific mineral expertise tend to have a higher level of success than generalists when it comes to finding their mineral of choice.
- How were they financed? - This is an exercise in financial investigation. Through company web sites, SEDAR (in the case of Canadian mining companies, where over half of the world's miners are listed), and press releases, you need to look at how many shares of a company were created at what average price. High numbers of shares created by financing at low prices means a harder slog when it comes to raising the share price upon exploration success.
- What is the price of ounces? - A simple calculation: Take the market capitalization of the company (shares outstanding X share price) and divide by number of ounces in the ground (reserve or resource - the former should be weighted over the latter).
No investment strategy is bullet proof, and obviously you need to consult with a registered investment advisor and other professionals before wading into the exploration market. In mining, like anything else, a fool and his money are soon parted.
But if anybody tells you that the price of gold is going to go down because we have lots, you know what to tell them.
- James West
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