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Small-Cap Gold Miners Offer Upside

NEW YORK (TheStreet) -- Small-cap miners are risky and speculative, but can make great investment with rising gold prices, says analyst Adam Graf.

Mining stocks typically offer a 3 to 1 leverage to gold's spot price. The popular physically backed gold ETF, SPDR Gold Shares (GLD), is averaging a year-to-date return of 27.12% while the Market Vectors Gold Miners ETF (GDX), a basket of large-cap miners, has a year-to-date return of 37.28%.

Small-cap stocks are loosely defined as those companies with less than $2.3 billion in market capitalization. Small-cap miners are usually in the developmental or exploration phase of mining, which comes with certain risks: financing, viability and reserves per share. It can often take a mine 10 years to come into production, during which the companies might have to do multiple share offerings, sell off assets or stop production altogether to preserve capital.

With gold prices holding firmly above the $1,000 level and with many analysts anticipating even higher prices, I asked Graf, director of emerging miners for Dahlman Rose & Co., for his favorite small-cap miners.

TheStreet: Why do you think small-cap miners make good investments right now?

Graf: Well, I think that in general, small-cap miners can give ... similar leverage to the gold price that the large-cap miners do. ...But I think junior minors give something else, what I call indirect leverage ... when gold is going up more ... there's interest in gold and interest in gold miners and the capital markets open up for these names and so they're able to get capital, which is to a large extent their life blood, and able to advance their projects. So not only do their projects gain value with higher prices, but also their ability to bring those projects forward and eventually bring them to construction advances with higher prices. ...So that's what I call indirect leverage. ... You can measure it historically in a stock price performance but you can't measure it going forward.

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