There are three types of mining businesses:
explorers, developers and producers. We should understand which one we are buying before we buy shares in a company. A lot of investors want to hit a home run so they buy penny stocks — these are often explorers. Some make that home run, but many don’t.
I don’t buy penny stocks as a rule because I don’t have a good source of what I consider solid information. I don’t think busy farmers should either, but then we are all big boys or girls and you are free to choose your strategy. For me, I own shares in developers and producers and sell covered calls on most of them. I’m quite happy with the money we have been making the past four years with this strategy.
Let’s look at the three types of companies.
As the word says, these companies are exploring for gold, silver, uranium, oil and so on. Most of the time they sell shares at low prices so often they have millions of shares. Many run out of money, go back to the market and sell more shares and keep exploring. Most hope to develop a map of the stuff they find and then sell the company to another big company that hopes to make a mine or oilfield out of the area.
Some explorers are in areas some would call moose pasture. Some explorers are in areas next to a proven and producing mine. Some are between two existing producers. Somehow they got control of that land before the big guys did.
I don’t usually buy these stocks because they don’t have options and they move up and down very quickly. I’m quite happy with my 15 to 22 per cent per year so I don’t aim for home runs. But I know people who do and they use interesting strategies. Some find out how much gold or silver or whatever is in the land under their control, figure out the value and divide by the number of shares times the price of gold or silver or copper. They bid low and well when they double their money.
Personally I’m not in the mood to go to all that work so I just don’t buy these stocks.
Developers have moved up the ladder. They have a good idea of the metal or oil or whatever they have in under their land. They likely have some money. They might need to go to the market and sell more shares or borrow more money. But if their plans work out they should have an operating mine some day.
Many things can go wrong that can derail the startup of a developer. But if management is determined enough it will find the money to get the ore out of the ground and to market or bring the oil up from underground.
We have two developers in our portfolio and the third one just got sold. They are Osisko (OSK) and Copper Mountain (CUM). A third one, Consolidated Mining (CLM), just got bought out and we doubled our money on that stock.
OSK is a gold mine in Quebec. This will be an open-pit mine and is scheduled to start later this year. We started buying shares at around $7 in October 2009 and we now own about 6,000 shares at an average cost of around $8. Plus I have sold covered calls on most of those shares and likely collected another $2.50 worth of premiums from selling covered calls, so we have more than doubled our money. I believe a big gold company owns a piece of OSK but I don’t recall which one.
CUM is a copper mine in British Columbia. I started buying it after our CLM shares were bought out for cash. We now own 4,000 shares and I sold calls on all of them for 60 cents per share and up for April and July. This mine opened in the early 1920s and has shut down four times when copper was cheap.
The company is building a good-size crushing mill and expects to be producing copper, gold and silver by June 2011. The company had 90 million shares, more or less, when I first read about it. Two readers of StocksTalk mentioned it to me and when I looked into it I liked what I saw and started buying shares 1,000 at a time. I expect we will own 6,000 or 8,000 shares by the time we are done.
As far as I know there is no silent partner behind this company. It did sell $40 million or so worth of shares just after I bought a couple thousand and
the price dropped six per cent or so for a week or so. So far we have collected about $2,600 of cash from selling calls on a cost of around $28,000 which is about nine per cent but of course that is spread out over several months.
The mine has the road, electricity, water and permits in place so all it needs is the mill to be done. It should be in business in a few months and will grow from being a developer to a producer.
DEVELOPER TO PRODUCER
CLM is the third company we had that was a developer for most of the time we owned it. This was a gift from above because I had no business watching television the day I found this company on BNN. So I looked into it and sure enough it had a huge amount of iron ore measures in Labrador. It had to build 20 miles of track and it built a loading dock on the St. Lawrence on tidewater. It started shipping ore July 27 which was a little later than expected but it got the job done.
I started buying shares at $7 in the fall of 2009. Shares ran up to $10.25 which was the right-hand side of its cup-shaped chart. Then when the market dropped in April 2010 the shares started to drop. I sold out at $9, and bought back under and over $8 and we had 6,200 shares. The premiums always seemed a bit low so I didn’t sell calls on them because I expected some good numbers from the stock when it started shipping ore.
The numbers came out in November for Q3 and they looked good so shares went from $8 to $12 quickly. They hovered around there and up to around $15 and in early January Cliff Natural Resources (CLF) bought the shares outright for $17.25. The day after the offer shares were trading for $17.50 so I sold out. That’s when I went looking for a replacement and it looks
like CUM might be part of that.
Both HECLA (HL) and COEUR D’ALENE (CDE) have grown from developers to producers. We own a few hundred shares of CDE just so I can keep track of it. We can’t own every good share we find. Both produce silver.
Silver Wheaton (SLW) has a different business model and I like it. It more or less lends money to companies that are developers or producers and in exchange buys silver for a fixed price for some time. That could be for years or for the life of the mine or whatever. The point is the company has no mine, no research costs, no expensive equipment and no big labour costs. It buys silver fairly cheaply from the mines it is working with, smelts it down someplace and sells it on the open market. I think we own 2,000 shares and I sold calls on all of them. I might end up buying them back and selling at a higher strike price.
The shares dropped along with most other precious metal stocks after December 6, 2010 and seemed to have bottomed around January 27. As I write this in early February we will have to wait and see if the shares will use the 50-day moving average as a ceiling or if they will punch right through and go to their old high of $42 and change.
Many precious metal stocks go up and down according to the seasons as money rotates from one sector to another and time will tell if the next few months will be in season for the silver and gold commodities and stocks.
Most of our gold and silver stocks will make money at current prices ($1,350 for gold and $28 for silver) and if the shares peak out here I will just sell covered calls on them until the prices decide to rise. It is a good way to bring in cash while we wait for stocks to go up. We keep the dividends when we sell calls on our stocks.
I guess SLW is neither a producer nor a developer. But I figured I would put the stock in here since it has added several companies to its roster of suppliers so in a sense it has been a developer.
San Gold (SGR) is a gold mine at Bissett, northeast of Winnipeg, Man. The company is mining gold but it is a developer too. I’m putting this one in for a reason. Companies often use terms like proven or inferred or measured and implied reserves when they refer to how much gold or silver there is in the ground.
Often the more measured the amount the higher the price of shares. Well, in the fall of 2010 the company cut back on the amount of gold it had in the two numbers. So shares dropped from around $4.20 to the low $3 price or even under $3 for a while. I got 10,000 shares at $1.40 out of a four-month flow through. I paid $15,000 for the flow through and deducted the whole amount from taxable income. We lost a grand on the original price but our after-tax cost was around $7,500. I sold 5,000 at $2 and the rest of them at $4.20 or so.
As I said I put this stock in here to show how the measured and inferred number can influence the price of shares.
Sometime in late 2010 OSK announced it had more gold in the measured and inferred number so the stock jumped a buck or so but since it is not a producer the price did fall back some when the price of gold dropped.
Andyismostlyretired.Hepublishesanewsletter calledStocksTalkwherehetellswhat hedoeswithhisstocks.Ifyouwanttoread itfreeforamonthgotoGoogle,typein StocksTalk.net, clickonfreemonth,clickon formsandtypeinyourname,emailaddress andphonenumberandwewillsignyouup foramonth.
Many things can go wrong that can derail the startup of a developer