The gold mining industry appears to be heading for “merger mania.” The big players are trying to buy the smaller players, like big fish eating little fish. And the big fish are also attempting to swallow each other whole.
As a result of this, we think there is a clear choice between the two major gold stock ETFs. In our opinion, GDXJ, the Junior Gold Miners ETF, is a better investment vehicle than GDX, the biggest gold miner ETF, and will probably remain so for the duration of the gold bull market ahead.
This holds true for two reasons. First, because when merger mania is afoot, it is better to own the medium or smaller-sized players who are ripe to get bought at a premium.
The chance of an acquisition, or better yet a bidding war, is like a free raffle ticket for capturing 10% to 20% share price gains overnight. But you generally want to be long the target, not the acquirer, in these deals. That is because the buyer is usually forced to pay a juicy premium. When Newmont Mining announced its plan to buy Goldcorp in January 2019, for example, the Goldcorp share price rose more than 7% — while Newmont’s share price fell nearly 9%.
The second reason we favor GDXJ is because the mid-tier and junior miners have more room to grow production than the big guys do — a desirable feature in a gold bull market.
Gold miners have been down on their luck for years if not decades. In addition to a lackluster gold price, high grade global gold reserves have been dwindling. It is getting harder to find new sources of gold production, and rates of exploration have been in decline since the early 2000s.
Lack of new production is a particular challenge for the biggest gold miners. Because they are already massive in size, the big miners have to work much harder to “move the needle” in terms of meaningful expansion. That is partly why the big miners have decided to hunt for new gold on Wall Street — through buyouts and mergers more than exploration.
The two biggest players are Barrick Gold (GOLD) and Newmont Mining (NEM), both of whom produce millions of ounces per year. They are the ones who kicked off merger mania in the gold miner space with the following series of events:
- In September 2018, Barrick announced the acquisition of Randgold Resources for $6 billion in an all-share merger.
- This put pressure on Newmont, the No. 2 player, to make an acquisition of its own.
- In January 2019, Newmont announced plans to buy Goldcorp in a $10 billion all-stock deal.
- With the Goldcorp purchase (not yet finalized), Newmont would surpass Barrick in size.
- Barrick wasn’t happy about that. So, Barrick launched an $18 billion bid — for Newmont!
The Barrick-Newmont battle is centered around the state of Nevada, where both miners have substantial operations. Nevada represents three-quarters of U.S. gold production and just under 6% of total world gold production. The state of Nevada by itself is the fourth-largest gold producing region in the world, just behind Australia.
Barrick and Newmont are like the Hatfields and McCoys, with bad blood (from being Nevada neighbors) going back to the 1980s. The two have also held merger talks in the past.
They failed to get anything done, though, because these companies really, really don’t like each other, and it’s hard to cooperate under those circumstances. On that front, not much has changed.
Barrick is sticking with its hostile bid for Newmont as of this writing, on the grounds that a combined Barrick-Newmont could save billions in operational costs in the state of Nevada alone.
As a counteroffer, Newmont has proposed a joint venture for the two companies’ Nevada operations rather than a merger, with the awkward notion of rotating management control.
Meanwhile both CEOs have said insulting things about each other in the press, and the clock is ticking because Barrick wants to stop the Goldcorp acquisition from going through.
The ultimate fate of any deal may depend on what the top shareholders in each miner decide, or alternatively on whether Barrick sharply raises its buy price or accepts a Nevada joint venture.
Whatever happens with the Barrick-Newmont merger stand-off, the future looks bright for mid-tier and junior gold miners.
The mid-tier producers have an easier time expanding production because they are starting from a much smaller reserve base in the first place. In the next few years, most of the growth in global gold production is likely to come at the mid-tier level. And the big fish will be hungry to eat the small and medium-sized fish, especially as the gold price rises.
It’s important to know that GDXJ, the Junior Gold Miners ETF, is misnamed. However things started out 10 years ago, GDXJ in 2019 is more of a mid-tier miner ETF than a junior miner ETF.
The standard convention is to say a junior gold mining company is one with annual production of 200K ounces or less. If a miner has more than 200K ounces of annual production but less than 750K, it is not a junior producer but rather a mid-tier producer. (Above 750K it is a senior producer.)
The vast majority of GDXJ components by weighting, using this rule of thumb, are actually mid-tier miners, and not junior miners as the official ETF name implies.
But that is a good thing, because the mid-tier miner space combines the general advantages of being more stable than the junior space (less speculative and more proven), while enjoying better growth prospects than the bloated, bulky senior miners.
What this suggests is that, if a full-on bull market in gold gets underway, both GDX and GDXJ could rise substantially — but GDXJ could rise much faster, or farther, or both, because it is less weighed down by the senior miners with their subpar growth prospects.
In terms of a new bull trend, it is still early days for the gold stock industry. Both of the bellwether gold stock ETFs, GDX and GDXJ, are still in Stock State Indicator (SSI) Red Zone status as determined by our Stock State Indicators.
But internally, the components of each ETF — the individual stocks that create the basket — are turning a corner. Below we have posted a selection of bull-trending (green zone) components from GDXJ, the Junior Gold Stock ETF. (Which is, again, actually more mid-tier than junior.)
Everything moves in cycles as we know, and gold stocks have been cyclically out of favor for a long time.
If the major long-term cycles are moving in favor of gold and gold stocks now — and we see evidence this is happening — GDXJ could be the best ETF for investing in the new trend, and one of the best hunting grounds for finding bullish individual gold stock names.
Richard Smith, Ph.D.
CEO & Founder, TradeSmith