When precious metals prices go up a familiar question is asked: Should I invest in gold miners or physical metal? The answer to this is simple. Physical metal outperforms gold miners over the long run, and it should always be the preferred precious metals investment. Investors who want more 'upside' in their precious metals investment should invest in more volatile metals like silver, palladium or even rhodium.
Why Do People like Mining Stocks?
Mining stocks are attractive because they are "leveraged;" this means that when gold prices go up, these stocks tend to move up MORE due to debt and financial leverage. In the short term, mining stocks seem to outperform gold. For example, here is the one year chart of the SPDR Gold Trust ETF (GLD). Over 12 months, gold miners have performed significantly better than the physical metal.
However, gold mining equities carry many risks that physical metal does not have. Gold mining stocks can fail even if precious metals are in a bull market.
1. Exploration Failure: Miners often spend millions of dollars financing new mines only to find an uneconomical amount of metal.
2. Management Difficulties: Mining companies, have huge capital expenditures and lots of risks, exacerbating the deleterious effects of mismanagement.
3. Financing: Banks are reluctant to finance high-risk operations. When mining firms are unable to get debt, they can be forced to issue more shares and dilute existing shareholders.
Why is Physical Metal Better?
Over the long-term, physical metal will dramatically outperforming mining stocks; this demonstrates how significant the risks listed above are to the success and long-term sustainability of gold miners as an investment. Investing in mines is speculation, and over the long term, most people will lose money.
Physical metal, on the other hand, is tangible. It has safety and intrinsic value as a store of wealth. Investors who want greater upside on their precious metals investment should look to silver and palladium instead of mining stocks.