Buying Gold Stocks | Homemade Investors

Buying Gold Stocks

Gold Mining Shares
Warning: Not All Are Created Equal!

Provided you pick the right ones, gold mining
shares not only give you an indirect vehicle
for investing in gold, they can provide
additional leverage and profit potential that
goes far beyond what you can achieve with
just the yellow metal on its own.

For example, let's say it costs a mining
company an average of $250 to produce each
ounce of gold.

And let's say we're back in 2001 when an ounce of gold was selling
for $260. At that point, the company's profit margin is just $10 per
ounce.

Now, watch what happens with the price of gold at $740 an ounce:
The company's profit margin jumps from $10 to $490 per ounce, or
4,900%!

This, in turn, can drive up the company's share price many times
more than the corresponding price appreciation of bullion. Therein
lies the leverage you can achieve by buying the right shares.

Gold is Underpriced by $1,400 per Ounce!, Part 2
by Larry Edelson, Money And Markets
Reprinted Saturday April 19th, 2008

But two points of caution:

First, timing is critical.

If you buy while gold shares are near a temporary peak, you may initially be disappointed.
Indeed, even right now, a correction in the price of many gold shares is likely, since
they've had such a huge run up.

Second, if you own the wrong mining companies, you could be left behind as gold
bullion surges.

Some companies will be unable to meet the gold demand, failing to capture a large portion
of the profit opportunity.

Others, mistakenly fearing a sharp decline in gold prices, will hedge a lot of their
production. In other words, they'll sell gold in the forward market or sell short gold
futures. While this is designed to protect them from volatile prices, it could greatly reduce,
or even wipe out, their profits for the year.

So to avoid disappointment, here are my top six criteria for selecting the best gold mining
shares. These aren't hard-and-fast rules, but they are critical factors to consider:

1. Low debt. I generally like mining companies that have less than 50 cents in long-term
debt per dollar of stockholders' equity.

2. Moderate hedging. Stick with companies that do not hedge more than 20% of their
annual production. After all, what's the point of buying into a company's bullion to ride
the bull market in gold when that same company has already sold most of its gold or
production at today's lower prices, or worse, at yesterday's even lower prices?

3. Low cost of production. Try to stick with mining companies that have total
production costs no higher than $300 per ounce. The lower the better, of course. And if
it's a bit higher, it's necessarily not a deal killer. But the $300 mark is a good benchmark
to work from.

4. Healthy expansion. Look for companies that are expanding their reserves through
property acquisitions. Since new exploration can be expensive, I favor companies that are
actively engaged in buying proven gold properties and smaller mines.

5. Experienced management. I want to see management that demonstrates not only a
solid track record of experience, but also talent for thinking outside the box, especially
when it comes to the acquisition of hot properties.

6. Don't go strictly by P/E ratios to determine value. Mining shares should also be
valued on the basis of their proven reserves. Generally, the lower the ratio of the
company's market cap to the value of its reserves, the better.

Never forget: A company with a market cap of, say, $10 billion with gold reserves worth
$2 billion at the current gold price is much more expensive than a company with $4 billion
in market cap and $2 billion in reserves!

Best wishes for your health and wealth,

Larry********************

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Disclaimer: This issue of Money And Markets was originally published on September 27, 2007 and was republished
with permission in Homemade Investors by Homemade Investors LLC. The information contained in this article
does not constitute personal investment advice and is not designed to meet the personal financial needs of any
individual. Investors should seek advice from a qualified investment advisor before entering into any transaction.
The information contained in this article is deemed reliable but is not guaranteed. The information and opinions
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