Exclusive post: precious metals mining shares are breaking out

As predicted, the previously underperforming mining stocks are outperforming the actual metals spot prices in gold and silver.  One possible reason for their underperformance was hedge funds were correctly playing the long gold trade as euro and US debt problems were emerging.  As a hedge, they were shorting the mining stocks.

But the fundamentals of mining shares are extremely bullish, with low price/earnings ratios.  Despite falling input costs (energy, water, labor costs), output prices in the form of gold and silver production have risen.  It's a perfect storm for margin expansion and share price appreciation.

Since gold-related assets are under-appreciated and under-owned by institutional managers, there is still room to run.  Most are waking up to the fact that major gold producers are raising their dividends, which means large pension and mutual fund managers can now add them to their portfolios.  These fund managers are victimized by groupthink, so when they see their gold bug peers outperforming themselves, they inevitably will jump on the bandwagon--at much higher prices.

A bubble is only a bubble when prices outrace fundamentals.  The fundamentals for gold mining companies couldn't be better right now.  Some shares are priced lower than when gold was $800/oz.  Today, gold is at $1800.  You do the math--see previous blogs on operational leverage.

Other catalysts include major producers runing out of easily recoverable deposits.  They will look to acquire mid-tier and junior mining companies to replace their depleting reserves (remember:  a mine is a constantly depleting asset).  They will apply premiums for any acquisitions.  While shares of major miners will appreciate, their acquisition targets will soar going forward.  I believe major gold mining share prices will appreciate the most initially, but as investors get savvier, they'll turn to solid junior miners, which will propel their shares to the stratosphere.

Of course, most mining companies are intrinsically worthless as they own no recoverable deposits, but for the juniors and exploration companies that do prove up reserves, their shares will soar many-fold.  The mining industry is fraught with risk so that's why deep research is essential.

Own the physical bullion for insurance against currency debasement and to protect purchasing power, while eliminating counterparty risk.  Good luck everyone.

See disclaimers in the side bar.

Disclosure:  long precious metals and mining equities.