Gold bullion is rising and shares in gold miners have powered ahead too. Are mining stocks the shining investment of 2016?

 
Annabelle Williams
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Gold prices are picking up (Source: Getty)

Gold bullion has been among the best-performing investments so far this year, as prices rose 18 per cent from the start of January up to mid-March.

Since gold’s low of $1,050 an ounce in December 2015, it has risen over 20 per cent, “a percentage turnaround generally regarded as signalling the reversal of a major trend”, says Paul Burton of research firm QuotedData.

“So, the March high may mark the end of a four-year bear market and the start of a new bull run.”

Some experts say gold prices could hit $1,300 this year.

That optimistic outlook was tempered somewhat last week when the gold price fell again.

The precious metal has risen and fallen in tandem with investor expectations of further interest rate hikes from the Federal Reserve. Ahead of rate rises, gold prices tend to fall. If the economy is strong enough to withstand higher rates, other investments seem relatively more attractive. On the flipside, when interest rates are cut – normally to stimulate a flagging economy – investors turn to gold.

Read more: Three reasons why gold prices are heading upwards

So it was no surprise when comments from the US Federal Reserve before Easter, which suggested more rate rises are coming, caused gold prices to fall.

Gold hasn’t been helped by a slew of speeches from Federal Reserve members over the last couple of days,” says David Morrison of SpreadCo. “However, investors would do well to take anything that Fed members say now with a shovel-full of salt. This feels like nothing more than pre-planned Fed jawboning designed to keep investors guessing over the timing of future tightening.”

COMPANIES GOING FOR GOLD

Investors hankering after gold have another option too. Miners of the precious metal have had a strong start to the year.

A higher gold price means greater profits for miners, or in some cases, lower losses. The FTSE Gold Mines index, which is an index of the world’s largest gold producers, has risen 52.7 per cent since 4 January, far exceeding the growth in the metal price.

This highlights a feature of the gold market which has been absent for a number of years, says Burton. That is, shares in gold miners performed better than the yellow metal itself during the raging gold bull market of 2001 to 2008.

Read more: Silver prices could streak ahead

Mining companies can be difficult investments. They sometimes struggle with the cost of getting metals out of the ground and volatile market prices. In recent memory miners have been affected by striking workers and tussles with governments in far-flung places.

BUSINESS MARGINS GROW

But the bare bones of business analysis remains. If the gold price rises while the miner’s costs stay the same, then the miner will make a higher margin on each ounce of gold.

“There are many flaws in the logic, not least that an increase in margins doesn’t necessarily mean that shareholders will have a chance to share in the profits. But empirically this ‘leverage effect’ is one of the main reasons that investors are attracted to the sector,” Burton explains.

“If you believe that the gold price will rise, you are likely to get a better return on your money by investing in gold stocks.”

SHARES AND FUNDS RISING

Burton highlights a number of London-listed gold producers whose share prices are speeding ahead. Trans-Siberian Gold boasts a share price rise of 147 per cent year-to-date. Avocet Mining has posted a 72 per cent increase and Pan African Resources has increased by 71 per cent. Funds which invest in selected gold mining companies have also shown strong returns this year.

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Three of the top performing funds worldwide are the Baker Steel Gold fund, which is up 50.4 per cent year-to-date.

The BlackRock International Gold and General fund is up 36.3 per cent and the Sprott Gold and Precious Minerals fund is up 27.7 per cent, according to figures from QuotedData and Bloomberg.

“Investors have had opportunities to make phenomenal returns on gold shares. If the gold price is really steadying itself for a major bull run, then there will undoubtedly be further opportunities,” Burton adds.

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