By Nick Hodge
I'll spare you the clichéd end of year opening and just say this: the junior mining sector has been decimated.
The Market Vectors Junior Gold Miners ETF (NYSE: GDXJ) — which holds companies as small as $10 million — lost over 20% of its value in 2015. It's lost 87% of its market capitalization over the past five years.
And some have met even more dreadful fates.
Global X launched a junior mining fund in September 2012 with the clever ticker JUNR. But you won't find that fund exchange-traded anymore. The New York-based ETF sponsor decided to shut the fund down less than three years later.
Back in 2012 when JUNR debuted, CEO of Global X Bruno del Ama said his firm saw “value in junior miners at current valuations.” Little did he — or many others, including myself — know metals prices had already peaked. Four of that fund's original top ten holdings are now bankrupt, circling it, or otherwise defunct.
We now know late 2011 and early 2012 was the top of the commodity cycle. It was not a buying time, though many of us — again, myself included — bought.
Four years later, four years wiser... what have we learned?
The High-Price Trap
We learned the hard way that past is not prologue.
Basing your gold mine's economics on a price of $1,500 gold when gold had never been at that price before was an obvious peak-cycle mistake. We now know better.
Some of the companies that rushed headlong into junior mining and based their projects on unsustainable prices are now gone. More soon will be.
Look for projects that have economic models that will not break if their underlying commodity falls more than 15% in price.
The Moose Pasture Trap
I got suckered into more than one deal that has turned out to be nothing more than cheap paper and flyover country.
Now we know not to give immediate credence to prospective properties or upstarts with a good-looking land package.
Drill-hole plays are no more.
Companies with proven assets economic at today's prices are on sale at a ~90% discount.
The Me-Too Management Trap
There were gold companies in 2011 that were housing companies in 2007.
There were graphite companies in 2013 that were gold companies in 2011.
See how that works?
You wouldn't believe how fast a suit will rename a shell company, print out some cheap paper, and say it's going after the asset du jour.
Rare earths, anyone? Graphite?
The Cheap Paper Trap
Speaking of cheap paper, we are now much more keen to take more than a cursory glance at the capital structure of a company.
Who owns how much at what price?
Does management have skin in the game? Did they participate in the last financing?
Is the company trying to get you to buy the stock three-and-three-quarter months after the last financing that was done at a discount to market?
You know what they say about knowing who the sucker is.
End of the Rainbow
We are now nearing the end of the rainbow.
That's gold prices, silver prices, the SPDR Metals & Mining, and the Market Vectors Junior Gold Miners.
In the past seven or so years — since late 2008 — the commodity cycle has gone nearly full circle. Prices have troughed, peaked, and now they're troughing again.
If the months in late 2011 and early 2012 were the worst buying time, it's my belief these current months will be looked back on like 1976 or 2000.
The pot of gold is coming.
But only if you employ the lessons learned of the past decade...
The commodity prices used in economic assessments and feasibility studies matter.
The people running the company must have done it before. There are seasoned geologists and mining executives out there who have made major discoveries, who have taken projects from drill hole to tailings pond, and who are now at the helm of junior companies with quality assets.
The jurisdiction matters. You can now buy assets in safe, proven, and mining-friendly jurisdictions for which you'd normally have to pay a premium. But here near the bottom, they have been tossed out with the bathwater.
The Ship & Tide Thing
Rising tides, we know, lift all ships.
And that's true of mining stocks as well.
You can bet that if gold started screaming back toward $1,600 an ETF basket of junior gold stocks would take off as well.
But we aren't ETF investors are we? This is MicroCap Review.
We want the best leveraged bang for our buck. And that's exactly what quality, well-run junior miners offer in the current climate.
A mentor of mine once told me he and his six-year-old daughter could each pick 100 mining stocks and that during a screaming bull market they'd each be up similar percentages.
But I don't want to buy 100 mining stocks and be up a similar percentage to a six-year-old.
I want to buy five of them that are extremely well-vetted and that will dwarf the gains of the rest of the ships just floating in the tide.
Those ships are out there right now.
Editor's Note: Nick Hodge bio (from www.OutsiderClub.com) Known for a “call it like you see it” approach to money and policy, his insights have led to numerous appearances on television and in various outlets on the Web, including the Business News Network and Yahoo!'s Daily Ticker.
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