Gold Mining Equities: There's Still Room in the Trade

You are watching Medals in Motion. I'm Thalia Hayden with ETF Guide. We're glad to see you again. Well, we are in the middle of autumn and the leaves aren't the only things turning gold. Many investor portfolios are as well. To help understand the growing importance of gold, we're talking with Steve Schaall, director of ETF product management at Sprat Asset Management. Steve, welcome to the program. So great to see you again.

Yeah, it's great to be back. Thank you. Great. Tell us about the primary drivers behind gold's recent price surge to record highs. Do you believe these factors remain in place going forward? Yeah, it's really about the same story that you would expect out of gold. You tend to see gold tends to perform well during periods of uncertainty, whether it's economic or geopolitical uncertainty. Things like falling interest rates and central bank buying have really been bullish for gold and really pushing prices higher.

Particularly as we see countries moving away from the US dollar to a period of dedollarization. That's really been pushing gold prices higher. I think when you start to look at the yield curve, you're starting to see a steepening that's happening there, which, you know, it's an indication that investors are starting to lose some of the faith in central banks, and that's a positive indicator for higher gold prices going forward. Got it. Now gold miners have historically delivered strong returns during gold bull markets. How have mining equities performed relative to physical gold?

Well, if we were having this conversation a year ago, we'd be talking about the gold miners being poised to have a catch-up trade to the price of gold. A lot has changed this year, where we're now seeing gold miners are actually dominating ETF performance tables. So, if you look at the top performing ETFs, 12 out of the 13 best performers are either gold or silver miners. So when you look at more of a performance-based and how they're doing on kind of gold versus the miners, if you take a broad-based benchmark like the NYC Arca gold miners index, which is a really widely followed miners index, it's returned about 130% this year so far, whereas physical gold's up about 52%.

So this outperformance that we see happening on the miners is really happening even though we're seeing outflows in gold mining ETFs. So far year to date, we've seen about $4.1 billion leave gold mining ETFs, whereas global physically backed gold funds have added about 14 million ounces of gold to their storage. Wow. Now, some investors may look at gold's recent performance and worry they've missed the opportunity. What would you say to those who are hesitant to enter the gold mining sector at current levels?

I'd say in aggregate, gold miners actually stack up quite favorably to the S&P 500. Gold miners tend to have about an 86% greater profit margin, less leverage, and less debt on the books, a dividend yield that's about 40% higher than the S&P 500, which is also going through a period where it seems to be setting records on a very frequent basis. And just the flows that or lack of flows rather that we see going into gold mining ETFs wouldn't indicate that the trade is overcrowded. We haven't really seen flows in any significant portion over even the last 18 months or so.

Prior to last December, mining stocks were really trading at strong consolidation patterns. What this did was it attracted deep value contrarian investors, which really aren't your mainstream investors and don't make up the majority of investors by any stretch of the imagination. So in our view, we're starting to see gold miners are starting to come back into vogue as their balance sheets are improving with higher gold prices and they're really operating much differently than they were in the past bull market. Good to know. Now we do know SPR offers three distinct gold mining ETFs: GBug, SGDM, and SGDJ. Can you walk us through how the strategies differ between these funds and what makes each one unique?

Yeah, so GBug is our active strategy. It's the fund that we launched back in February. Assets are already up to about 120 million. It's the only actively managed gold ETF in the United States and really leverages our portfolio management teams over a century of expertise and gives them the flexibility to manage across market cap. So, small development and exploration companies all the way up to the largest gold miners.

And then we have SGDM, which is the SPAT gold miners ETF. This is a passively managed ETF that tracks a select active index, and it's actually a factor-based index. Meaning that it's not just a pure market cap weighted index. The larger companies in there are being ranked on things like revenue growth, long-term debt to equity, and free cash flow yield. And then our junior miners version or SGDJ, it's also based on a factor-based index.

So this is going to look at those smaller junior exploration and development companies. The smaller explorers are going to be ranked based on price momentum, whereas the smaller producers are going to be ranked based on revenue growth. And so in our opinion, by offering the passive strategies as well as the active strategy, it really gives investors choice to figure out what best fits their investment objectives. And you mentioned you recently launched GBug, which is your active gold and silver miners ETF. What gap in the market does this fund fill and how does the active management approach add value for investors?

Yeah, it really comes down to that over a century of experience that the portfolio management team has. That's something that we don't see in the ETF Raptor for gold miners since it is the only active strategy. The investment team actually conducts over 200 management team meetings a year. So this is their opportunity to really dig in and understand the management of each of these companies.

In addition, they're also getting boots on the ground where they're getting up to 30 site visits a year. And I know some of our PMs are actually out on the road now visiting mindsets as we record this. What these mindsite visits allow is for them to get up close and personal with the mind but also talk to all levels of employees and management within the organization so that they can get a full grasp of the overarching picture and how each individual mind sites are being operated.

This becomes very helpful when you look at kind of the makeup of our portfolio management team. One of our senior PMs on the fund spent two decades working as an economic geologist where he would work for mining and exploration companies and he would lead teams across the globe as they were looking for new mind sites. So this experience of the entire team really comes together and allows them not only to look at just the aspects of how things are going operationally. But when they go back and start to look at their proprietary models when they're looking at valuation models and sensitivity analysis it allows them to bring the whole picture together.

Just one last point on this, in particular to the mining sector, it's a industry that's notorious for being difficult to value in a lot of cases because there are so many operational complexities. By having this expertise and doing all these site visits and management team visits, it allows them really to dig into the miners and look to get outperformance which is something that we tend to see a very large dispersion in outperformance among top performers and bottom performers when it comes to gold mining exposure. Steve, what should investors consider when deciding between an active strategy like GBUG verse passive strategies like SGDM or SGDJ?

The first thing to note I guess is that there's really no right or wrong answer. A lot of it comes down to investor preference. Some investors don't want to take on active manager risk and that's totally understandable whereas some investors may want to have that active management and extra alpha that can potentially be generated by an active strategy. One thing we wanted to do as we developed our lineup is just give investors choice and realizing that for some investors they might be comfortable taking on active manager risk and for that we think GBug strategy is really well positioned within the market.

For investors that prefer a passive approach and don't want that active manager risk we have the two factor-based indexes that we think are well positioned as well. Okay. Now, beyond just price momentum, what fundamental factors support the case for gold mining equities today, whether that's production metrics or sector dynamics?

Yeah. So, these are some of the components that actually come out of our proprietary pricing models. So, things like revenue growth and free cash flow and operating leverage, those are all important factors. But I think one thing that you can't necessarily pick up in different models is management capability. This is one aspect that if you were to go back to the previous gold bull market earlier this decade, this is one aspect I think that's really changed.

Back in 2010 or so when the gold prices were really moving through the early part of the 2010s. What you saw generally was management teams that were looking to increase output at any cost. We've actually now seen management teams be much more measured in their approach to growth and they're really focused on returning capital to investors whether through share buybacks or increasing dividends. So all of this is putting gold miners in a place where we think they're much better able to not only bring in the capital but much more importantly spend it wisely and grow the business on a much more measured approach.

Another aspect that we have that's different is the rising costs that we've seen over the last decade or so whether it's from labor or energy costs have really allowed them to invest in new technology and methods which makes their operations more efficient. So all of these are kind of those non-financial factors that have become so important to the gold miner space. All right, Steve, one final question before we let you go. What about gold mining ETFs fitting into a broader portfolio strategy? How might they complement holdings in physical gold products like your PHYS trust?

Yeah, it's a great question and one we get a lot. We believe a core allocation of physical gold somewhere in the neighborhood of 5 to 15% is probably reasonable for most investors where gold miners can really come in and enhance that is that they do provide leveraged returns to the price of gold because they do have operational leverage. Because of this we see some investors can use miners as a way to either dial up or dial down their gold exposure.

So in periods of bull markets we see investors might add to their mining exposure. One thing I think it helps for investors to keep in mind as they invest in mining stocks is it is different from physical gold you do start to introduce some equity risk in your portfolio and that should be viewed in the overall context of the entire portfolio. Steve thanks so much for your timely insights. We always learn so much after speaking with you. Keep up the great work and we'll see you soon.

Yeah, looking forward to it. Thank you. And if you would like more information on what we've discussed today, you can always visit spraets.com. That does it for this episode of Metalsin Motion. If you enjoyed the show, please tell us in that comment section below. Hit that like button. Also, check out our season 2 playlist to watch all of this year's archived episodes. It's located in the description section below. I'm Thalia Hayden with ETF Guide. Thanks for watching. We'll see you next time.