Closing the gap between gold price and gold mining companies prices

on Oct 25, 2012 in Equity, Home, Precious metals | 2,422 comments

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In an environment of ballooning sovereign debts and major central banks expanding their balance sheets aggressively, real assets, such as gold, should increase in value.

Over the last few years, the physical price of gold has risen steadily, outperforming the S&P Metals & Mining Select Industry Index which tracks the world’s leading gold companies.

The divergence of gold price and gold mining share prices is an example of a market dislocation. Historically, the two move tightly together. The logic is simple: When gold price rises, the mining companies sell their gold for higher prices, and increase therefore there bottom line.

The two main reasons for this performance bridge are the following:

However, as more investors move towards gold as an investment, people will look for new ways to be long gold without actually holding gold bullion or buying an ETF like SPDR Gold Shares.

One way to bridge this performance gap is throughout dividends. Due to higher cash flows that these miners are generating, they have greatly increased their dividend payouts. Some miners have become even more creative and linked their dividends to the gold price itself, and I believe that these attractive dividend schemes could help persuade some investors into the miners instead of into gold. Such changes to dividend policy could mark a paradigm shift in the industry!

To conclude, mining companies have had to be more creative to differentiate themselves from other investment vehicles. But would that be sufficient?