Here’s a lead-in that really gets to straight to the point, in the latest ad from Stansberry’s “value guy” Dan Ferris:
“I’ve found a $13 gold stock that every Stansberry reader should buy today.
“Not next week. Or next month.
“Before it moves out of buy range. (It’s very close.)”
And, of course, the details of that stock are… just a subscription payment away. They’re currently peddling Extreme Value for $1,200 in the first year, renewing at $1,500 in future years (and as we see so often with higher-priced letters these days, they will not offer a “trial period” or any refunds).
The promise is similar to Ferris’ last gold pitch, which was the tease he made that we should all buy Sprott (SII.TO, SPOXF), repeated a few times over the past year and a half… that this is a safer way to “ride the gold bull market.”
And, well, we’re finally seeing a day where gold takes a meaningful fall in price, so now seems a good time to cover it and see if we can ID that “Rare $13 Gold Stock” for you. Here’s some more from the ad:
“It’s not a miner… explorer… or developer… but this SINGLE rare gold stock could safely make you a fortune long-term during this gold bull market….Are you getting our free Daily Update
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“This gold stock trades on the NYSE. And, in just a minute, I’ll show you how to get its ticker symbol — so you can buy it right away.
“Because this is the safest way to cash in on all of the upside of this new gold bull market — WITHOUT any of the risk normally associated with traditional gold stocks.”
Is there a bull market coming? Well, no one knows for sure and there have been plenty of “head fakes” in the past, but Ferris argues that the odds are pretty good:
“Several catalysts that have recently taken place which, historically, have been clear signals for higher gold prices….”
Among those are that “yield curve inversion” that we’ve seen take place recently…
“… on average… the price of gold essentially doubles within a year of the yield inversion.
“That would put gold around $2,500/oz. by May 2020.
“Now again, I’m not saying that’s what WILL happen — but if history repeats, that’s what is likely to happen.”
And the likely rate cuts:
“Fed officials are lowering rates. And it never stops at just one cut.
“If you recall back to the days of the financial crisis… this may be disastrous for the economy and stocks… but it tends to be a positive signal for gold.
“In fact, every time the Fed has cut rates in the past 50 years, it sent most stocks plummeting… while gold absolutely soared.”
As well as the looming spectre of “maybe the stock market will collapse”….
“How much longer can this bull market realistically go on?
“It’s anybody’s guess at this point.
“But it will come to an end at some point — sooner, rather than later.
“And what do you want to own when the market corrects 50% or more?
I’ve noticed that what you really want to do is own gold after the market goes down, that’s when it has gone most bonkers… but no one knows quite when the broader market will go down, or stop going down, and there is, of course, no real science to this — the gold price is all twirled up in the spaghetti mess that is global investor psychology, smothered in a sauce of competitive currency devaluation and trade wars.
The point being, really, that Ferris says a rising gold price would be really good for his $13 gold royalty stock:
“Remember: If gold soars to $7,500/oz. or higher, this gold royalty stock could turn into a 20-bagger over the long term.”
Most of you who’ve been aboard the good ship Gumshoe for a while know that I’m a sucker for a royalty — they appeal to the lazy man in me, I love buying something once and getting paid back over and over… but if you’re unfamiliar, here’s how Ferris touts the idea:
“I’m talking about a little-known kind of gold opportunity called a royalty company.
“Royalties date back to the middle ages. In Great Britain, all minerals — even in the ground — were the property of the British crown.
“To extract anything, you had to first make a payment — a royalty.
“Luckily, you no longer have to be a king to collect royalties….
“A ‘royalty’ is a payment you receive over and over again from a single asset.
“You can either buy a royalty-paying asset with cash… or you can earn royalties from something you created yourself… like a book.
“Once you own a royalty-producing asset, you never have to spend another penny.
“And you can keep collecting profits — worth many times more than your original investment — for years, or even decades.”
And, of course, like anything else some royalties are better than others…
“The secret of the royalty business is having the knowledge and discipline to tap into a stream of royalties worth far more than the upfront cost to acquire them.”
In the case of a book or a piece of music, that means you buy the royalty because you think it’s going to sell a lot more than other bidders expect… or in the case of a mine, you think it will produce more than is currently expected, or that prices will be higher for that commodity than the market thinks.
He gives some examples of huge gains made in royalty companies — Mills Music Trust (MMTRS), Ligand Pharmaceuticals (LGND) (which used to be a large holding of mine, before it sold off its most valuable royalty and hit my stop loss trigger), the A&W Revenue Royalties Fund (AW-UN.TO) and Mesabi Trust (MSB) — but comes back, as most royalty pitches do, to oil and gold royalty companies, the most well-known of the royalty stocks. The oil ones are largely referred to as “trusts,” like the Texas Pacific Land Trust (TPL) or one of the many higher-yielding royalty trusts, but those are less exciting to folks with oil prices down, and are often more rapidly depleting.
But gold, of course, is having a heckuva year and the gold royalty companies are the focus of a lot of chatter… more from Ferris:
“But probably some of the most famous royalty firms are in precious metals. Companies like Franco-Nevada, Royal Gold, and Wheaton Precious Metals.
“They’re all great companies — don’t get me wrong.
“But they’re not the company I’m recommending today.
“Frankly, they’re nowhere near as good a stock… and I would be surprised if any of them produced gains even half as big as the opportunity I’d like to show you today.”
The appeal of royalty companies is, in part, that they are not mired in the permitting, cost overruns, labor disputes and other operating hassles of building and operating a mine — which is always an appealing idea of a business, because you’re essentially digging up dirt and turning it into something far more valuable, but in practice turns out, so often, to be a terrible business because of the dirty, expensive challenges of finding, extracting and processing the stuff. And although often the smaller royalty companies are overwhelmingly dependent on just one big project, they do generally have a much more diversified portfolio of cash-generating assets (or potential cash-generators) than do regular miners.
More from Ferris:
“… the genius of these firms (and why they have such a strong track record for making money) is what they don’t do.
“They don’t dig.
“They don’t operate mines at all.
“They simply make an upfront investment in mining assets in exchange for a cut of everything that comes out of the ground at a particular site.”
Then we get into the pitch about why Ferris likes this particular stock:
“This gold stock owns a royalty on a massive deposit of gold in Quebec.
“The company which owns this specific mine which this royalty company has a stake in produced 342,000 ounces in 2018 — it’s biggest year yet. And they believe it will continue to produce 400,000 ounces per year for several years.”
And then the sentence that really caught my eye:
“But what excites me the most (and I heard this from the CEO of the mine owner) is that the deposit is ‘entirely open at depth.'”
Which means that though there is already expected to be four million ounces more of gold to mine in this spot, given existing reserves, it might be more.
And that, really, is the secret of royalties — the royalty owner generally has to pay a pretty price to get a royalty on a mine that is either already producing or expected to be operating in the next couple years, since such projects are “de-risked” to some degree.
You might, for example, structure buying a new royalty or gold stream in a way that ensures your capital is repaid in five or six years, for example, with the upside provided as the mine life, based on the bankable feasibility statement, is expected to extend to eight years… and that’s probably a decent deal… but since a lot of royalties fail or are delayed, you don’t want just a “decent” deal, you have to look beyond that eight-year mine life and hope there’s more.
What creates gargantuan returns is when either the gold price soars higher than you expected, or when the mine turns out to be much larger. Royalty investors count on the fact that most mines, once they’ve been built, will eventually see the life of the mine extended as they drill in surrounding areas or drill deeper to see what else they can find in that spot.
And that happens pretty regularly — partly because there’s huge incentive for a miner to identify and “prove” an asset in order to get financing to build a mine, but little incentive for them to go further and find the full extent of the ore body.
Drilling is expensive, so once you’ve identified your profitable deposit that can be mined for, say, 10 or 15 years, easily repaying the loans you’ll need to build the mine and generating a nice profit, you stop drilling and focus on planning and building the mine… but after a while, say, five or six years in, you have some cash flow and you start drilling again, because you want this mine that has a 10 or 15 year expected life to continue to generate more cash flow — if you can mine that deposit for 25 or 30 years, or even much longer in some cases, you’re making a far better return on the sunk costs of building the mine (and postponing the costs of closing the mine). And since you’re producing for 25 years instead of 15, you’re paying a lot more in royalties than was originally envisioned and the person who bought those royalties enjoys a long-running windfall.
There’s some leverage in this, too, because if gold prices rise then expanding the mine looks far better — if, for example, the mine was built with an all-in sustaining cost of $1,000 an ounce (meaning that’s the real cash cost of operating the mine) and the richest part of the deposit is easily profitable because you’re sure you can sell that gold for $1,400 an ounce… then maybe the lower-grade parts of the mine become profitable if gold is at $2,500 an ounce, and the mine life grows dramatically longer or there’s more incentive to expand teh processing plant to produce faster, or drill more to further expand the project.
Of course, the reverse happens as well — if gold falls to $900 an ounce, it might be that the miner decides they don’t want to lose money, and they shut the mine down or put it on “care and maintenance”, halting production until it can be restarted at a profit at some future date. Miners don’t shut down lightly, it’s not cheap and it’s hard on the employees, but it does happen… and certainly they spend less to expand or extend projects when gold prices are low.
Which means that the biggest downside of being a royalty company is the exact corollary of the biggest upside — you don’t have to spend money to expand or explore because you’re a passive investor in the output… but because you’re a passive investor, you also can’t force the company to mine. If gold falls to $1,000 an ounce and the operator decides to halve production, or shut down for a time, most of the time you’re just out of luck. And if the mine is a large part of your portfolio, or if the miner is at all on shaky ground, you might also find yourself being a little less passive — sometimes royalty companies do step in and alter agreements or provide additional financing in an attempt to “rescue” their royalty, which doesn’t always work out.
Enough of my screed, though, let’s get back to the clues… what else does this company own, aside from that big royalty? Quite a bit, per the ad:
“They just began exploring more areas on this property this year (which, by the way, spans 200 square miles — bigger than all of Tulsa, Oklahoma).
“I think it’s a good bet to think that such a huge area… in one of the richest gold regions in the world… contains more than one big gold deposit.
“And this isn’t even the gold stock’s only royalty!
“Altogether, it owns more than 130 royalties and streams — the overwhelming majority of which are located in North America.”
Final hints and temptations?
“… since 2003, the company has created roughly $8 billion in shareholder value.
“The stock is cheap enough right now that we actually don’t need higher gold prices for an investment to work out well.
“But if higher gold prices are coming — as I believe they are — this thing could go astronomical.
“According to my calculations, the share price should rise about 4 times faster than the price of gold itself.”
No argument there, gold royalty companies do tend to have very strong leverage to big moves in the gold price — not as extreme as actual miners, who are riskier and get both more upside and more downside as gold fluctuates, on average, but certainly some good leverage.
So which one is this? As you might have guessed by now, Ferris is teasing Osisko Gold Royalties (OR), which was launched as a result of Osisko’s discovery of the gigantic Canadian Malartic Mine, which has been in commercial production now since 2011. That mine is now operated by Agnico Eagle and Yamana Gold in a 50:50 partnership, but Osisko held on to a 5% net smelter return royalty… and that is by far their most valuable asset. The operators expect it to continue producing for 13-14 years or so given the current reserves, which would have meant closure in 2024 or 2025, but they are also exploring several other zones on the property to assess their potential, so it seems that most folks expect it to keep going after the original “life of mine” envisioned. I haven’t seen a new date yet, but might have missed that — I’d be shocked if they actually shut it down in five years, assuming that gold remains well above $1,000 an ounce.
So the risk for Osisko Gold Royalties is that they’re quite dependent on this mine, which generates almost half of their revenue… but it is a beauty, one of the most valuable mines in the world, and in everyone’s favorite mining jurisdiction (Canada). They do hold some other high-value assets that produce a lot of gold (or in a couple cases, diamonds and silver), including the Eleonore mine, also in Quebec, and the Renard diamond project (which as their second-largest revenue source is a substantial drag right now, since the diamond business has been terrible — Renard is still operating under owner Stornoway Diamond, with bridge financing that Osisko participated in, but is trying to sell itself to rescue the project and has apparently received no reasonable bids, with a deadline coming in 10 days or so for the latest round of rescue hope). They do have the teased 120+ royalty agreements in their portfolio, but only about 20 of them are producing right now (another dozen or so are “in development,” while most are early-stage exploration), and most of them are quite small.
In terms of production, right now about 2/3 of the revenue comes from gold (with 2/3 of that just from Canadian Malartic), 15% from silver and 13% from diamonds… that diamond portion is at significant risk of disappearing or being meaningfully depressed, given the weakness in the diamond market and the troubles at Renard, but higher spot prices mean the gold and silver royalties and streams will be generating a lot more cash than was expected at the beginning of this year.
Right now, Osisko expects to earn about 90,000 gold equivalent ounces (85-95,000 is the range, the get “gold equivalent” by just translating silver, diamonds etc. to gold at then-current prices). Analysts expect that to translate into about $400 million in revenue for the year, and to grow 20% in 2020… so that’s pretty impressive (though we don’t know what gold prices those analysts are using). They don’t look super impressive on an earnings basis, but gold miners and royalty companies often don’t — that’s partly because they have to write down their assets for depletion and impairments (like a big charge for Renard’s recent troubles, I imagine).
How does that come out in valuation terms? Well, mostly just as a determination that “Osisko is a lot cheaper than the other royalty companies” — just looking at some top-level numbers. OR trades at only about 6X sales, which is far less than competitors like Sandstorm Gold (SAND, 15X) or the longer-lived royalty companies Royal Gold (RGLD, 20X), Franco-Nevada (FNV, 27X) or Wheaton Precious Metals (WPM, 17X).
On a cash-flow basis, though, I still prefer Sandstorm (SAND) — here’s a look at the EV to Cash From Operations valuations of all the big gold-focused royalty companies — I used enterprise value mostly because Osisko carries quite a bit of debt and I wanted to take that into account:
So why would Osisko be relatively cheaper? Mostly it’s because they don’t have as much of a history, their portfolio is pretty young, and they are extremely reliant on that one Canadian Malartic mine, which might indeed either cease production or dramatically scale back in five years (it might not, too, but that’s the risk). Most of the royalty companies have some sort of similar risk in their portfolios, but Osisko’s is more extreme — Sandstorm’s biggest risk, for example, is that a lot of their future growth is penciled in as coming from the Hod Maden mine in Turkey, which does not yet even have a feasibility study but is the main reason SAND is projecting that they will double their gold production from 2021 to 2023, but that’s a little less immediate a risk than seeing half your current cash flow come from a (maybe) fast-depleting mine.
But yes, because of the large current production from Canadian Malartic, which generates that big 5% NSR for Osisko, they might be a bit more exposed to gold prices right now than Sandstorm is, so they could move more sharply higher, a little more quickly, if gold goes up crazy fast for some reason. They’ll also fall harder if gold falls back to $1,200. That extra leverage hasn’t shown up yet, however, and it’s the big guys who’ve bene winning so far… here’s what those royalty stocks have done in the past six months as gold rose 15% or so (that’s OR in light blue, SAND in orange, FNV in red, RGLD in green, WPM in purbple, the GDX Miners ETF in navy blue, and gold itself (GLD) in pink)…
And, for context, here’s the past five years with that same group — and I’ll throw in the S&P 500 just for a comparison (in brown):
Here’s how I think of this little segment of the market: Franco-Nevada (FNV) is the blue chip that can do almost no harm, but it’s awfully expensive… Royal Gold (RGLD) is the half-forgotten light-blue chip in FNV’s shadow, hurt by a couple bad projects years ago and still punished for that until just recently, Wheaton is the strange uncle that no one can figure out, and everyone remembers them getting in trouble on their taxes once. Sandstorm and Osisko are the young punks, with SAND probably the more trustworthy and OR the faster runner. That might not be accurate, but it’s how they’re lined up in my mind after keeping an eye on this sector over the past decade or so.
And yes, I have held Sandstorm Gold as a major position for longer than I’d care to recount, have owned some of the others off and on over the years, and I do also have a smaller bet (through call options) on Osisko Gold Royalties, which I’ve also written about a few times this year. I also dabble in some other little miners or options speculations on gold from time to time, and like to keep something close to 5% of my portfolio in physical gold and silver as a hedge against disaster and currency debasement, but for substantial equity positions I try to stick with gold royalty companies, which I think are much safer than miners and, compared to big mining stocks, have above-average upside when the gold price climbs.
I wouldn’t try to talk you out of a position in any of the gold royalty companies, but I do still think Sandstorm has the best valuation and most upside potential over the next few years (though I’ve thought that for years, and have so far been incorrect)… and, of course, if gold does indeed go to $2,500, well, you won’t regret holding any gold royalty stock. And the dirty secret is that they’ll probably all do so well that you might not care that much which ones you hold. Here’s what a chart looked like of most of those (Osisko wasn’t around yet) from 2008 to 2012, when gold soared by 75% — Sandstorm was still just a startup back then:
That’s just my thinking, though — Osisko is an interesting idea, and may be a little sexier than Sandstorm, but those littler guys have definitely been living in the shadow of the big fellas in recent years. I haven’t studied the expansion potential of Canadian Malartic, or looked at the details of most of their smaller assets, and it’s your money at risk, so it’s your thinking that matters. Do you see grand times ahead as Canadian Malartic expands for Osisko? Think their other royalties will provide growth even if Malartic slows down in a few years? Prefer one of the bigger or more established royalty names, or the somewhat smaller Sandstorm or one of the genuinely teeny upstarts in the space? Let us know with a comment below.
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Disclosure: I currently have positions, through commons stock or call options (or both), in Sandstorm Gold, Osisko Gold Royalties, Sprott, and the GDX Gold Miners ETF. I will not trade in any investments covered for at least three days, per Stock Gumshoe’s trading rules.
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