Sometimes we feel like we’re always beating the same drum, but when we see investors’ money flowing into products that are giving them substandard return, we can’t help but point it out. In the past we’ve looked at how futures are the more efficient way to get exposure to gold, criticized long-only commodity ETFs, and aired our grievances with managed futures mutual funds. Now we have another beef to add to our list: investing in mining stocks as a proxy for metals exposure.
The idea here is that mining stocks can be a better investment than the commodities they mine because: 1. Their cost for mining the commodity can be less than what they can sell it for (if I buy $1 million worth of land, spend $5 million mining it, and pull out $10 million worth of Gold – I’m ahead $4 million) and 2. Being a company can smooth returns on the commodity itself, via the company being able to increase/decrease production, lock in low cost contracts, sell production forward, etc. The downside of course is that Gold the commodity doesn’t take on debt to finance equipment and land purchases, or have management who can make bad decisions, or lawsuits to fight, or shareholders to please, etc.
Owning a piece of the Gold (or Silver, or Copper) that actually gets pulled out of the ground has been a dream of investors dating back to the Gold Rush days; but does it hold any water? To check, we looked at three mining industry ETFs: Global X Silver Miners (SIL), Global X Copper Miners (COPX), Market Vectors Gold Miners (GDX). We compared these ETFs to the performance of buying and rolling a December futures contract on each metal annually. The results? Well, for the mining ETFs it wasn’t pretty:
Not only did the mining company ETFs have worse returns, but the copper and gold ETFs even had greater max drawdowns and higher volatility. So much for that corporate shell smoothing returns… Silver futures had a slightly higher drawdown, but was even on volatility.
It appears the theory that mining companies are a better play than the underlying commodity doesn’t hold much weight. If you’re looking for exposure to silver, gold, copper, or any other exchange-traded commodity, mining companies may not be your best bet.