How Billionaires are Preparing for the Next Bear Market
No one likes to lose money, even if you have billions to spare.
It’s why the prospect of a bear market – a prolonged downturn which sees stock prices fall by at least 20% over two months or more – is something that keeps even the world’s most elite investors awake at night.
To hedge against this concern, the world’s billionaires use a variety of strategies and tactics to protect their wealth, including setting up their portfolios with specific asset allocations that can help soften any blow caused by an extended market downturn.
Today’s animation comes to us from Sprott Physical Bullion Trusts and it highlights a strategy being used by billionaires ranging from Ray Dalio to John Tudor Jones II.
Because market sentiment can change so quickly in the market, these elite investors protect themselves by having diverse portfolios that include uncorrelated assets.
While this sounds complicated, uncorrelated assets are simply investments that don’t move up or down in the same direction as the other asset classes in the portfolio. A small allocation to these uncorrelated items can help protect the value of a portfolio when market sentiment changes.
The King of Uncorrelated Assets
What kind of asset classes can be used for this kind of purpose?
While options like real estate, commodities, and cash can contribute to a more diversified portfolio beyond traditional stocks and bonds, many experts say that gold is the undisputed king of uncorrelated assets.
The price of gold doesn’t usually doesn’t move with the wider stock market – and often, because of its history, the yellow metal can even increase in price during the course of a bear market.
Here are some of the reasons billionaires turn towards an allocation in gold:
- Gold has acted as a store of value for thousands of years
- Gold can lower the volatility of a portfolio
- Gold can act as a hedge against inflation in some scenarios
- Gold is a traditional safe haven asset that investors flock to when the market goes astray
To kick off 2019, a new billionaire jumped onto the gold bandwagon – along with previous advocates such as Ray Dalio, David Einhorn, John Paulson, and John Tudor Jones II.
The newest entry to the club is Sam Zell, the pioneer behind real estate investment trusts (REITs). He bought gold for the first time in January, citing that it is “a good hedge” and that “supply is shrinking” as new mine discoveries dries up.
With market volatility back in the fray, it’ll be interesting to see how many more of the world’s elite investors also jump on the bandwagon.
How to Avoid Common Mistakes With Mining Stocks (Part 5: Funding Strength)
A mining company’s past projects and funding strength are interlinked. This infographic outlines how a company’s ability to raise capital can determine the fate of a mining stock.
A mining company’s past projects and funding strength are interlinked, and can provide clues as to its potential success.
A good track record can provide better opportunities to raise capital, but the company must still ensure it times its financing with the market, protects its shareholders, and demonstrates value creation from the funding it receives.
Part 5: The Role of Funding Strength
We’ve partnered with Eclipse Gold Mining on an infographic series to show you how to avoid common mistakes when evaluating and investing in mining exploration stocks.
Part 5 of the series highlights six things to keep in mind when analyzing a company’s project history and funding ability.
View all five parts of the series:
- 1. Common mistakes made with the team
- 2. Common mistakes made with the business plan
- 3. Common mistakes with the jurisdiction of the project
- 4. Common mistakes with the project and technical risks
- 5. Common mistakes with raising money
Part 5: Raising Capital and Funding Strength
So what must investors evaluate when it comes to funding strength?
Here are six important areas to cover.
1. Past Project Success: Veteran vs. Recruit
A history of success in mining helps to attract capital from knowledgeable investors. Having an experienced team provides confidence and opens up opportunities to raise additional capital on more favorable terms.
- A team with past experience and success in similar projects
- A history of past projects creating value for shareholders
- A clear understanding of the building blocks of a successful project
A company with successful past projects instills confidence in investors and indicates the company knows how to make future projects successful, as well.
2. Well-balanced Financing: Shareholder Friendly vs. Banker Friendly
Companies need to balance between large investors and protecting retail shareholders. Management with skin in the game ensures they find a balance between serving the interests of both of these unique groups.
- Clear communication with shareholders regarding the company’s financing plans
- High levels of insider ownership ensures management has faith in the company’s direction, and is less likely to make decisions which hurt shareholders
- Share dilution is done in a limited capacity and only when it helps finance new projects that will create more value for shareholders
Mining companies need to find a balance between keeping their current shareholders happy while also offering attractive financing options to attract further investors.
3. A Liquid Stock: Hot Spot vs. Ghost Town
Lack of liquidity in a stock can be a major problem when it comes to attracting investment. It can limit investments from bigger players like funds and savvy investors. Investors prefer liquid stocks that are easily traded, as this allows them to capitalize on market trends.
- A liquid stock ensures shareholders are able to buy and sell shares at their expected price
- More liquid stocks often trade at better valuations than their illiquid counterparts
- High liquidity can help avoid price crashes during times of market instability
Liquidity makes all the difference when it comes to attracting investors and ensuring they’re comfortable holding a company’s stock.
4. Timing the Market: On Time vs. Too Late or Too Early
Raising capital at the wrong time can result in little interest from investors. Companies in tune with market cycles can raise capital to capture rising interest in the commodity they’re mining.
Being On Time:
- Raising capital near the start of a commodity’s bull market can attract interest from speculators looking to capitalize on price trends
- If timed well, the attention around a commodity can attract investors
- Well-timed financing will instill confidence in shareholders, who will be more likely to hold onto their stock
- Raising capital at the right time during bull markets is less expensive for the company and reduces risk for investors
Companies need to time when they raise capital in order to maximize the amount raised.
5. Where is the Money Going? Money Well Spent vs. Well Wasted
How a company spends its money plays a crucial role in whether the company is generating more value or just keeping the lights on. Investors should always try to determine if management is simply in it for a quick buck, or if they truly believe in their projects and the quality of the ore the company is mining.
Money Well Spent:
- Raised capital goes towards expanding projects and operations
- Efficient use of capital can increase revenue and keep shareholders happy with dividend hikes and share buybacks
- By showing tangible results from previous investments, a company can more easily raise capital in the future
Raised capital needs to be allocated wisely in order to support projects and generate value for shareholders.
6. Additional Capital: Back for More vs. Tapped Out
Mining is a capital intensive process, and unless the company has access to a treasure trove, funding is crucial to advancing any project. Companies that demonstrate consistency in their ability to create value at every stage will find it easier to raise capital when it’s necessary.
Back For More:
- Raise more capital when necessary to fund further development on a project
- Able to show the value they generated from previous funding when looking to raise capital a second time
- Attract future shareholders easily by treating current shareholders well
Every mining project requires numerous financings. However, if management proves they spend capital in a way that creates value, investors will likely offer more funding during difficult or unexpected times.
Wealth Creation and Funding Strength
Mining companies that develop significant assets can create massive amounts of wealth, but often the company will not see cash flow for years. This is why it is so important to have funding strength: an ability to raise capital and build value to harvest later.
It is a challenging process to build a mining company, but management that has the ability to treat their shareholders and raise money can see their dreams built.
How the World’s Top Gold Mining Stocks Performed in 2020
The GDX is an ETF that tracks the performance of the top gold mining stocks. How did the GDX and its constituents perform in 2020?
How Top Gold Mining Stocks Performed in 2020
Gold mining stocks and the GDX saw strong returns in 2020 as gold was one of the most resilient and best performing assets in a highly volatile year.
But picking gold mining stocks isn’t easy, as each company has a variety of individual projects and risks worth assessing. This is why the GDX (VanEck Vectors Gold Miners ETF), is one of the most popular methods investors choose to get exposure to players in the gold mining industry.
While the GDX and gold miners can generally offer leveraged upside compared to gold during bull markets, in 2020 the GDX returned 23%, just a couple of points shy from spot gold’s 25.1% return.
This graphic compares the returns of gold, the GDX, and the best and worst performing gold mining equities in the index.
Understanding the GDX ETF and its Value
The GDX is one of many index ETFs created by investment management firm VanEck and offers exposure to 52 of the top gold mining stocks.
It provides a straightforward way to invest in the largest names in the gold mining industry, while cutting down on some of the individual risks that many mining companies are exposed to. The GDX is VanEck’s largest and most popular ETF averaging ~$25M in volume every day, with the largest amount of total net assets at $15.3B.
In terms of its holdings, the GDX attempts to replicate the returns of the NYSE Arca Gold Miners Index (GDM), which tracks the overall performance of companies in the gold mining industry.
How the Largest Gold Miners Performed in 2020
As a market-cap weighted ETF, the GDX allocates more assets towards constituents with a higher market cap, resulting in larger gold mining companies making up more of the index’s holdings.
This results in the five largest companies in the GDX making up 39.5% of the index’s holdings, and the top 10 making up 59.3%.
An equally-weighted index of the top five GDX constituents returned 27.3% for the year, outperforming gold and the index by a few points. Meanwhile, an equally-weighted index of the top 10 constituents significantly underperformed, only returning 18.4%.
Newmont was the only company of the top five which outperformed gold and the overall index, returning 37.8% for the year. Wheaton Precious Metals (40.3%) and Kinross Gold (54.9%) were the only other companies in the top 10 that managed to outperform.
Kinross Gold was the best performer among the top constituents largely due to its strong Q3 results, where the company generated significant free cash flow while quadrupling reported net earnings. Along with these positive results, the company also announced its expectation to increase gold production by 20% over the next three years.
The Best and Worst Performers in 2020
Among the best and worst performers of the GDX, it was the smaller-sized companies in the bottom half of the ranking which either significantly over- or underperformed.
K92 Mining’s record gold production from their Kainantu gold mine, along with a significant resource increase at their high-grade Kora deposit nearby saw a return of 164.2%, with the company graduating from the TSX-V to the TSX at the end of 2020.
Four of the five worst performers for 2020 were Australian mining companies as the country entered its first recession in 30 years after severe COVID-19 lockdowns and restrictions. Bushfires early in the year disrupted shipments from Newcrest’s Cadia mine, and rising tensions with China (Australia’s largest trading partner) also contributed to double-digit drawdowns for some Australian gold miners.
The worst performer and last-ranked company in the index, Resolute Mining (-36.9%), had further disruptions in H2’2020 at their Syama gold mine in Mali. The military coup and resignation of Mali’s president Ibrahim Keïta in August was followed by unionized workers threatening strikes in September, slowing operations at Syama gold mine. Outright strikes eventually occurred before year’s end.
How Gold Mining Stocks are Chosen for the GDX
There are some ground rules which dictate how the index is weighted to ensure the GDM and GDX properly reflect the gold mining industry.
Along with the rules on the index’s weighting, there are company-specific requirements for inclusion into the GDM, and as a result the GDX:
- Derive >50% of revenues from gold mining and related activities
- Market capitalization >$750M
- Average daily volume >50,000 shares over the past three months
- Average daily value traded >$1M over the past three months
Gold mining stocks already in the index have some leeway regarding these requirements, and ultimately inclusion or exclusion from the index us up to the Index Administrator.
What 2021 Will Bring for Gold Mining Stocks
The GDX has had a muted start to the new year, with the index at -2.3% as it has mostly followed spot gold’s price.
Gold and gold mining stocks cooled off significantly following their strong rally Q1-Q3’2020, as positive developments regarding the COVID-19 vaccine have resulted in a stronger-than-expected U.S. dollar and a rise in treasury yields.
This being said, the arrival of new monetary stimulus in the U.S. could spur inflation-fearing investors towards gold and gold mining stocks as the year progresses.
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