Mining: who are the sharks and who are the fish?

In general, I think that the underwriters are the sharks and investors are the fish.  As I have written elsewhere on this blog, too much of the industry is focused on mining investors rather than mining ore.

The sharks

Underwriters / Casino operators

If you really wanted to, you could invest in casino operators such as Dundee Corporation (TSE:DC.A).  I haven’t looked into these companies much because I only like to invest in financial companies that take their fiduciary responsibilities seriously.  If they don’t care about their clients making money, they may not care about their shareholders making money.  Rodman and Renshaw is an example of an American casino operator (Chinese reverse mergers and other awful junk) where shareholders did not make money.

That being said, I think that the companies underwriting mining stocks have very attractive economics.  There is the potential for very high returns on capital and very little risk compared to miners.

In theory, an underwriter could take its fiduciary responsibility seriously and only do deals where its clients would benefit.  Examples would be Allen & Company and the old Solomon Brothers (before it became a public company).  I haven’t run into the equivalent of this in the mining world.

Senior miners

Norman Keevil of Teck Resources strikes me as unconventional and entrepreneurial in the way he ran Teck.  He made a great investment in Diamond Fields Resources, which would later turn into the Voisey’s Bay nickel mine.  By buying a stake in Diamond Fields, he gave the company credibility that would help Robert Friedland sell the company to Inco at a very high valuation.  However, since Keevil stepped down as CEO, Teck isn’t quite as well-managed as it used to be.

There may be some other senior miners that are well managed.  However, the problem is that many of them are trying to use their overpriced stock to buy up assets.  Kevin McArthur, the former CEO of Goldcorp, understands this game.  After leaving Goldcorp and briefly retiring, he raised capital to start a new mining company (Tahoe Resources).  He used the cash to buy the Escobal project from Goldcorp.  In terms of keeping costs low, Tahoe’s capital structure does not make a lot of sense.  If Escobal was part of Goldcorp, Goldcorp could have easily funded the project via internal cash flow and/or debt.  With Escobal as part of Tahoe, financing becomes quite expensive because Tahoe has to sell equity and pay underwriting fees (and other expenses).  The structure is not good for shareholders.  I see Tahoe as another mining roll-up with a smaller capital base than Goldcorp.

In general, I see that many of the smarter people in mining (e.g. First Quantum, Pierre Lassonde) are trying to pump their stock.  I do not think that it is a good idea to invest alongside these people while the stock is overpriced.

Brian Dalton

Of all the mining CEOs out there, I like Brian Dalton of Altius Minerals the best.

On one hand, Altius hasn’t created anything of value.  So far, not a single Altius-related deposit has resulted in a (profitable) mine.  Despite this, Dalton has made a lot of money shuffling paper around.  He has bought many mining-related assets at low valuations and later sold them at very high valuations.  Part of his success is due to luck.  Altius has benefited from a boom in commodity prices and lots of dumb money (retail, institutional, Chinese) flooding into mining.  Part of Altius’ success is due to Dalton’s skill in negotiating deals and in flipping assets.

I do think that his process makes a lot of sense.  He buys undervalued assets and has largely invested within his circle of competence.  Also, favoring mining royalties over mining equity strikes me as a smart strategy since royalties benefit whenever the equity funds dumb exploration projects, funds dumb expansion projects, builds unprofitable mines, etc.

Investors who don’t buy mining stocks

Perhaps the best approach to mining stocks is simply to stay away.  For example, Warren Buffett hoarded physical silver instead of buying silver miners.  (*He also owned Cliffs Natural Resources when it was a vertically integrated iron ore miner and steel mill company.)

Short sellers

Given that the borrow on Yukon-Nevada/Veris Gold was quite expensive, I know that there are some smart short sellers out there.  Unfortunately I don’t know who any of the Veris Gold shorts were.

The fish

Institutional money managers

One of the most dangerous books I’ve ever read is Stock Market Superstars by Bob Thompson.  The reason why I find this book dangerous is because I am gullible and thought that all of these managers really were superstars.  Of the money managers profiled in the book, many of them had a “good” track record because they rode the commodities bull market.  It did not occur to me that their performance may have been due to luck rather than skill.  Eventually, I figured out how to spot the worst of the worst mining scams.  I realized that many of the money managers profiled in the book had invested in some of the most obvious scams out there.  A few of the money managers profiled in the book have a “good” track record because they started a very large number of funds and shut down the ones with poor performance.  Their advertised track record is intentionally misleading.  Fund managers who are currently running several different funds simultaneously are likely engaged in this practice.

The biggest problems with institutional managers is that:

  1. They do not have mining expertise.  A money manager should either have a background in the field or hire mining professionals with technical expertise.
  2. They own too many mining stocks (e.g. more than 30).  Unfortunately, there simply aren’t that many good mining stocks out there and there simply isn’t a lot of honest people in the industry.  Owning too many mining stocks makes it almost impossible to avoid the garbage.  It also makes it difficult to perform due diligence on every stock in the portfolio.  Then again, it is incredibly rare for institutional money managers to perform due diligence on a mining stock.

Perhaps this is an extreme viewpoint.  I’m not aware of a single hedge fund or mutual fund manager that fulfills both of my criteria.  In general, I think that institutional investors are going to lose money on mining stocks.  The level of analysis and due diligence being performed is awful.  Few managers have figured out that mining stocks have too much fraud, stock promotion, and insider compensation.

Chinese companies

As explained in my post on mining mania, some Chinese companies and state-owned enterprises do questionable things.

Poorly-managed senior miners

  • Any CEO who promises increased production in the long term is suspect.  To meet their target may require the company to purchase deposits or mines in development.  The CEO is basically saying that the company will expand production at any cost, which is irrational.  Many senior miners do this.
  • Rio Tinto – In my opinion, they were scammed by Robert Friedland.  However, this one mistake won’t hurt them that much.
  • Barrick – They seem to have invested in a lot of expensive and uneconomic projects.

How to make money in mining

I just don’t see a lot of attractive opportunities.  You can make a small amount of money by shorting cash-flow negative miners (see the post “My current thinking on mining stocks (Dec 2013)“).

Some companies are trading below the value of their cash and/or stock portfolios.  See my posts on Kobex Minerals and cheap Canadian stocks.

*Disclosure:  No position in any of the stocks here except for Veris Gold (I am short) and Kobex (long).  I own some shares of NFD.A, which owns Goldcorp and one or two stocks which I think are scams.  I am short some mining stocks that aren’t mentioned in this post.

6 thoughts on “Mining: who are the sharks and who are the fish?

  1. Thanks for the post. I agree that the Keevils are impressive, and I’ve tried to read as much as I can about them. Unfortunately there’s not a lot that I’ve found- just a few scattered newspaper/magazine articles online.

    Richard Hall is another mining exec who’s done well for shareholders. He was CEO of Metallica Resources and Northgate when they were acquired at large premiums and was involved in selling a few other juniors as a director.

  2. The trouble I always have with investing in these companies is that the due diligence required (time wise) is huge, the level of esoteric knowledge required is high, and even if you are willing and able to fulfill both of those requirements the chances of a success are STILL rather slim. I rarely find myself confident enough in my understanding of a project to justify a position of any great size, and then in turn the position ends up being so small it hardly seems worth the effort of continuing to monitor the company.

    What you hear again and again is the the people behind the project are the most important component. Rick Rule goes on about “proven winners” and such. I tend to believe it, but it’s also strikes me as one of the hardest things to really *know*. Like you say, you can get a lot of false positives. People who had the right project at the right time, doesn’t necessarily mean they knew what they were doing. One success is not a trend. Even two successes may not mean anything. It could be that by the time you are convinced of the people you’re in bed with they may have retired or switched to just lining their pockets BEFORE retirement, cashing in on their good name. Or they simply don’t happen to have a success.

    I don’t know… maybe I’m just just disillusioned about the “people are paramount” thing after reading Fooled By Randomness. It makes a pretty convincing case against the the notion that millionaires possess some common quality that makes them successful. People are successful (even serially successful) for all kinds of reasons, and success can drop off or appear just as fast. Picking stocks by picking management seems like almost as much of a crap shoot as picking the companies in the first place. I would agree about filtering out the serial crooks at least. Guys involved in too many projects, in too many places, none of which have any real chance of ever getting off the ground.

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