"I think when institutions get around to gaining more gold exposure to their portfolios it's going to be hard for everybody to buy the GLD, so the stocks will move." Bigger gold miners like Newmont Mining (NEM - Get Report) have been trying to woo those institutions with gold-linked dividends.
Larkin has a strong buy on Barrick Gold (ABX - Get Report), the biggest gold miner in the world, and buy ratings on Newmont and Randgold Resrouces (GOLD - Get Report), a West African gold miner with a paltry dividend but huge growth profile -- third quarter production was up 9% quarter on quarter and profit soared 335% year over year.
Many gold stocks like Newmont or Barrick had to issue a lot of shares over the last 10 years to finance operations, keeping a lid on share prices. "Between 2001 and 2010, Barrick increased shares outstanding by 86%," says Larkin. "Once they start to get better earnings, they might think about buybacks to offset some of the impact of the dilution."
Other analysts are counting on mergers and acquisitions with gold stocks. Big gold miners like a Newmont "have a hard time maintaining their reserves and spend a lot of time running in place," says Larkin, which leaves purchasing small miners as a good alternative. Junior miners, those companies with small production or those in the development stage, have also gotten cheaper as the gold price sunk, which makes them even more attractive to the seniors."Valuations have been pushed so low they're nearly at record levels," says Holmes. "This means you're going to start seeing more and more of them gobble each other up ... that is why we've seen take-outs at 60%, 80%, 120% premiums." Eldorado Gold (EGO) recently bought European Goldfields for a 56% premium, a trend Holmes thinks will continue in 2012. Jeb Handwerger, editor of GoldStockTrades.com, recommends International Tower Hill (THM) in Alaska as a good way to play this take-out theme. International Tower Hill has what big miners want -- 100% ownership of the 20th-largest gold deposit in the world, Livengood. It ranks in the top 2% of gold discoveries over the past 20 years. The mine could produce an average of 562,000 ounces of gold over a 23 year life, delivering 664,000 ounces of gold during the first five years. The company has 7 more years of feasibility, permitting and construction ahead of it before it will start producing gold. Although it has $116 million in cash and no debt, its capital costs will still reach $1.6 billion -- all preproduction cost. Costs might be helped, however, by a new development. Tower Hill recently bought the land rights to an area near Livengood originally used for placer gold mining -- gold that was originally at Livengood but has been moved over decades by rain and now lives in valleys at the base of the deposit. Tower Hill now owns that land. Due to the concentration of gold, the grade is 3 to 4 times higher than the average grade at Livengood, according to the company. Tower Hill is working on a preliminary economic assessment which will provide cash costs and production capability, but the company now has the ability to become an overnight producer and use the cash to fund construction and production at Livengood. This might eliminate the need for Tower Hill to issue shares to raise cash and might make it even more appealing for a major searching for gold. Rick Trotman, senior research analyst at MLV & Co, is looking at gold stocks in a different way. One of the companies he recommends is Royal Gold (RGLD), a gold royalty company. The company gives money to a miner to help with financing and gets a portion of the gold over the life of the mine. The company also has a streaming option where it puts less money upfront and then buys gold over the life of the mine at a low fixed rate such as $400 an ounce. One of these streams at the Mt. Milligan mine owned by Thompson Creek Metals just increased from 25% of its gold production to 40% in exchange for $270 million with $112 million given on signing and the rest over time through 2013. "Cash costs and margins are key for miners," says Trotman and Royal Gold avoids those mining risks while still taking advantage of high gold prices. To be sure investing in gold right now comes with risks. As investors continue to deleverage in the midst of a European debt crisis, they could continue to sell euros for dollars which could continue to hurt gold. Gold really needs the crisis Europe to ebb in order to mount another big rally, but it doesn't mean there aren't significant buying opportunities along the way.
-- Written by Alix Steel in New York.
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