How to Invest in Mining Stocks

It’s human nature to be obsessed with shiny things — we’ve been seeking out metals since the beginning of time. They were valuable trading items, often used for construction and personal and ceremonial uses.

And they still are, but nowadays, you don’t need to get your hands dirty to get a share of these precious metals yourself…metaphorically speaking.

The mining industry today is one of the biggest and most important sectors of Australia’s economy. It’s also one of the most covered industries in mainstream news. For this reason, it can be oversaturated with opinions, warnings and recycled information.

It’s a market in which you can be exposed to a high amount of risk — especially with the mining sector under pressure from environmental concerns.

In saying all this, if done right, I believe holding mining stocks could play an important role in your investment portfolio.

Thankfully, there are a number of ways to hold stock in the sector.

Note: All the information given below is purely informative. Any stocks mentioned are not recommendations, but only a starting point for your own research. If you’d like to see actual commodity recommendations, check out our premium investment advisory, Gold & Commodity Stocks Trader.

That said, let’s look at some basic principles that every mining investor should keep in mind.

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cobalt mining

10 options for resource investment

  1. Diversify your exposure

When entering the mining sector, it can be hard to navigate where you should place your investment — and the answer tends to depend on what exactly you’re looking for.

It’s a universal rule that you should try not to put all your eggs in one basket. Diversifying your stocks across a number of companies is one method investors use to mitigate losses should the market go south.

  1. Reduce your exposure with a producer, rather than an explorer

This is a distinction you may not have heard before. Producers earn billions of dollars by selling coal, iron ore, gold and other minerals to resource-hungry customers. They are preferred by some investors as their financials are properly valued by the market compared to their peers.

Explorers, on the other hand, rarely have more than a piece of land and a mere belief that there is something valuable underneath it. Now, don’t get me wrong, explorers have been known to offer explosive gains when they do find something under their patch of land. They’re a speculative investment, with the potential for massive gains for those willing to take the risk of losing their entire investment. They are not suitable for conservative investors.

While they could bring explosive capital gains through the right find, they will not generate earnings until sometime in the future.

  1. Know how to arm yourself against risk

It may all sound pretty positive, but there are some things you need to consider before pouring your hard-earned dollars anywhere.

You need to do your research.

As the Godfather of investing, Warren Buffett famously said, ‘Risk comes from not knowing what you are doing’.

Commodities, especially gold and silver, have recently become so deeply oversold that we’re starting to find ourselves on the cusp of a ‘snapback rally’.

A ‘snapback rally’ occurs when the markets are so oversold and in such a straight-down plunge that investors find themselves trapped in the market. They often hit hard and fast — and usually fall lower as the market tries to correct itself.

  1. Stick to the major commodities

These being gold, iron ore, coal and oil. Locally, Australia is the world’s largest iron ore exporter and the second largest gold producer, so you can put your money in your own backyard. While you may not expect to find the biggest gains in these commodities, I believe they’re often a better place for beginner resource investors to start. 

  1. If you plan to hand your selections to an external manager, choose LICs

Rather than betting your money through individual miners, you can diversify by investing in a ‘Listed Investment Company’ (LIC) on the ASX which invests in a range of resource companies.

  1. To match the resources index, buy an ETF

One of the most effective ways to invest in the mining sector is to use exchange-traded funds (ETFs) that own mining stocks.

While there are hundreds of individual mining company stocks in which investors can purchase shares, many are extremely small and risky. ETFs, like LICs, offer a way to get diversified exposure to the entire industry. Some investors prefer to use them compared to many other complex products that give you exposure to whole sectors like this. Especially if you don’t want to take on the extra risk of trying to pick which companies will be the big winners on your own.

The SPDR (Standard & Poor’s depositary receipt exchange traded funds) and iShares ETFs (a global leader in exchange-traded funds) both give exposure to the broader range of mining stocks, including both precious and base metal companies. Whilst each have a slightly different investment objective.

The great thing about investing in mining ETFs is that you don’t have to worry nearly as much about company-specific problems that can often arise with mining stocks.

Alternatively, if you invest in the shares of a single miner and the company suffers a catastrophic problem — such as a mine collapse or an on-site accident that requires a closure of the mine — then you could be vulnerable to major losses.

ETFs diversify your risk, so you’re investing more in the prospects for the entire sector.

Mining Boom: Could these 10 cheap, top-quality Aussie mining stocks lead this year’s commodities comeback? Find out here.

  1. For physical commodity exposure, buy into ETCs

These include:

  • The ETFS Physical PM Basket (ETPMPM), which covers precious metals (gold, silver, platinum and palladium)
  • The ETFS Physical Platinum (ETPMPT), based on the platinum spot price
  • ETFS Physical Silver (ETPMAG)
  • ETFS Physical Palladium (ETPMPD)
  • ETF Physical Gold (GOLD)

To find these instruments and further details on the commodities, type in their code to the ASX website.

  1. If you’re looking for higher risk plays, consider a mid-cap producer

If you’re looking to take on more risk, mid-cap producers tend to dominate when it comes to mergers and acquisitions activity. For example, total deal activity in the mid-tier 50 companies boomed from $8.9 billion in 2009 to $31 billion in 2010, according to PricewaterhouseCoopers.

Choosing a mid-cap investment increases your risk, but could potentially double or triple down your investment. It’s worth doing your research and evaluating your options and finances before making a decision.

  1. If you’re a speculator, consider a junior explorer

When entering the mining sector, you have the choice to invest in their junior mining stocks or major mining stocks — two distinctly different risk levels.

Major mining companies are well capitalised with decades of history on the playing field, with operations across the world, seeking to deliver investors a slow, steady income. Similar to that of major oil companies, both have proven and probable reserves, except miners tend to break down profit and cost on a given deposit by ton instead of barrel.

Junior miners, on the other hand, are almost the exact opposite of majors. They have a smaller capital, a shorter history and high hopes for large returns in the future. But when it comes to juniors, they can succumb to three common fates…

Failure, a buyout from a major player, or positively (but rarely), the power to achieve incredible gains on the finding of a large deposit of a well-sought mineral.

Despite their differences, majors and juniors share one common characteristic — their business model thrives and survives on using up all the assets they have in the ground.

If a mining major has hundreds of deposits staked or being mined, the contents of any single deposit aren’t likely to shake the stock’s value too much. But a change in the market value of a mineral making up a significant percentage of the deposits, will have a much larger effect than a new or failed deposit.

  1. Consider a mining IPO for an even higher risk profile

Mining IPOs are probably the most risky for an investor to buy into, but they could potentially pay off greatly if chosen correctly.

The top three performing IPOs in 2016 — Doray Minerals, Hunnu Coal and Forge Resources — returned 595%, 570% and 340% respectively. 13 other IPOs more than doubled their issue price by the end of 2016, with only one not being a resource company.

Again, though, this is the riskiest play by far.

Vector Resources

Finally, keep yourself up to date

According to the analysts at Street Wise Reports:

The dollar is now struggling at resistance at the upper boundary of a suspected Head-and-shoulders bottom, so it may be about to drop back to mark out the Right Shoulder of the pattern before then advancing strongly as the stock market crashes — just as it happened back in 2008.

Gold is now at a trendline target and very oversold relative to its 200-day moving average, making a snapback rally probable as the dollar reacts that will be given added impetus by short covering.

Whilst not as oversold as gold, silver has also dropped a considerable amount.’

So, is it still worth entering the sector?

It should be noted that resource stocks tend to go up or down with the wider commodity cycle, it’s an ever-changing market. For all the latest on resources investing, check out our articles on the topic here: Precious metals, Iron Ore, and Energy Markets.

If you enjoyed this analysis and want more, you can sign up to our free publications, Money Morning & Markets & Money.

Regards,

Jason Stevenson,
Resources Analyst, Markets & Money

Markets & Money