How I Invest in Gold Stocks

Like when I wrote about investing in oil stocks back in October, I’ll start off today’s post with a bang.

Gold is a crummy asset to own. I generally avoid it with great prejudice.

Yessiree, we are making friends today!

There are exceptions that we’ll get to a little later, but for the most part gold just doesn’t mesh well with what dividend investors are looking for. Dividends come from steady profits, and gold generally doesn’t deliver there. The price of the commodity is all over the place, causing the same mine with the same costs to swing from comfortable profits to temporary losses, all from movements in the underlying commodity.

I’m confident in knowing what a bottle of Coca-Cola will sell for next year. I won’t get it exactly right, but I bet I’ll be pretty close. An ounce of gold? Not a chance. I wouldn’t even try.

Once a decade or so the cycle turns, and gold is hot again. The price marches higher and the bulls come out of the woodwork. You’d think this would be an ideal time for gold producers to start sending some cash back to shareholders, but this never happens. It’s either hoarded for the inevitable downturn, or put back to work developing new mines. This is exactly the wrong time to start going down that path, but gold miner executives just can’t help themselves. They mine for gold, that’s what they do.

Today is one of those times that gold is loved and yet gold producers only pay token dividends. Gold companies are gushing cash right now, but that money isn’t going back to shareholders. It’s being reinvested, and if history is any indication, it’s being reinvested at exactly the wrong time.

In short, just like oil, gold pretty much gives us three risks. They include:

• Commodity price risk - the price of gold needs to cooperate

• Exploration risk - unlike oil, which is abundant in North America, the best gold mines are often located in areas with unfriendly governments. This adds an additional layer of risk for a sector that is already fraught with it

• Management risk - managers put too much emphasis on short-term price movements and make big moves accordingly

Despite this introduction OF DOOM, I still think dividend investors can still add a little gold exposure to the portfolio and end up fine — assuming they keep a couple of rules in mind. Let’s take a closer look at how I do so with my portfolio.

Gold royalty companies

The only gold stock your author owns is Franco-Nevada (TSX:FNV). I bought my shares in the latter part of 2023 as the stock imploded from the Cobre Panama scandal.

Here’s what happened. Amid a groundswell of popular support, the Government of Panama shut down the Cobre Panama copper mine in 2023 after the country’s supreme court ruled the mining concession contract was illegal. Franco-Nevada has a royalty agreement with the owner of the mine — First Quantum Minerals (TSX:FM) — which allowed it to buy a certain amount of production at an artificially low price. This ensured a steady profit for Franco-Nevada in exchange for a capital injection to help develop the mine in the first place.

Naturally, investors were freaking out at this news. Cobre Panama was Franco-Nevada’s largest single source of cash flow. Earnings were temporarily depressed, and they might not recover for years.

What I saw was something quite different. Franco-Nevada had a lot to offer if you looked past the momentary problems. The business of gold royalties is a good one, with the best mines often yielding more production than first thought. Although gold is volatile and moves in big cycles, both the peak and trough do tend march higher over time because of inflation. That helps protect cash flows for royalty streamers. And Franco-Nevada has spent years putting capital to work in mines that were poised to start producing — and delivering cash flow — in 2024, 2025, and 2026.

Plus, the company had a pipeline of royalty deals that were scheduled to start paying out in the 2027-30 time period.

These deals — plus planned production increases from a few existing mines — would be enough to make up for all the lost cash flow from Cobre Panama.

There were a few other things I liked. Franco-Nevada had a debt-free balance sheet and a large cash balance. It didn’t owe a nickel to creditors, and had a nice history of keeping a pristine balance sheet. Although it didn’t pay a huge dividend, it did have an excellent history of growing its payout over time. A low payout ratio gave me confidence that would continue. And finally, shares traded at a multi-year low valuation. Franco-Nevada shares are hardly ever cheap, but here was a rare bargain.

I’ll also mention that even after the stock fell by 30%+ in the latter part of 2023, the stock did have a history of delivering outsized returns.

Mostly what I liked about Franco-Nevada is it minimized the risks of investing in gold stocks. Royalty deals pay out even if the price of the commodity is struggling. Gold companies are always struggling to get mines financed, and so Franco-Nevada has the pick of the crop. And the cash flow generated by these streaming deals is basically like a dividend, predictable cash flow that can be paid back to shareholders or put back into additional deals.

Franco-Nevada has been a successful investment, even after shares have sold off a bit lately. I’m up 57%, or about 33.5% on an annualized basis.

You’ll notice that I analyzed Franco-Nevada without a strong opinion of where gold was heading in the near future. That’s because I firmly believe that nobody can predict the price of a commodity with any sort of accuracy. I knew I wasn’t adding any value by trying, so I didn’t bother. Besides, what I really liked about the stock was it could succeed even if gold didn’t perform up to expectations.

Collecting generous gold dividends

Two memes in one newsletter? You’re not fooling anyone, guy with grey in his beard.

As mentioned earlier, gold companies don’t usually pay anything higher than a token dividend. In Franco-Nevada’s case I’m quite okay with that, since they have the opportunity to reinvest capital at a high rate of return. After all, they have their pick of potential mines to finance.

In most other scenarios, gold execs take all their profits and put them back to work in new mines. But when gold is high — as it is today — everybody in the sector is looking for new opportunities. That drives up prices and causes producers to look at countries that offer attractive reserves but higher political risks.

Still, there are a couple of solutions for those of you who are looking for decent dividends to go with your gold exposure.

The first I’ll highlight is Gold Fields (NYSE:GFI), a South African miner with assets in Australia, South Africa, and Ghana, among other places. Production is projected to grow by between 9% and 18% in 2025 after a weak 2024. It generates tons of cash and has relatively low costs of production versus peers. Debt is quite reasonable, too.

The company has three things it prioritizes on the capital allocation side. It wants to maintain a good balance sheet, invest in its facilities, and then pay a dividend of between 30-45% of normalized earnings.

Based on the last dividend paid, the yield is 3.2%. We’ll note that European and African companies tend to set their dividend policies based on recent earnings, so that payout might fluctuate more than a dividend in North America.

A slightly different solution is a covered call ETF that owns gold producers. The Global X Gold Producer Equity Covered Call ETF (TSX:GLCC). This is a covered call ETF that owns a bunch of large gold producers — including Newmont, Barrick, Kinross, and Agnico-Eagle, among others — and supplements the meagre income generated by selling covered calls. Gold stocks are fairly volatile, so selling call premiums is lucrative. This fund currently offers an 8.5% yield, and it pays out monthly distributions.

The bad news is the fund will likely underperform during gold bull markets, since covered calls cap your upside. At the same time, the fund should slightly outperform when gold inevitably heads lower. And the management expense ratio is quite high; that number was 0.79% in 2024.

I’ll also quickly point out that Dynacor Group (TSX:DNG) also pays fairly generous dividend. The current payout is $0.013 per month, which works out to a 3.6% yield annually. It has raised the payout six times since 2018.

Dynacor also offers a debt-free balance sheet, and is targeting US$1B in sales by 2030. That compares to a US$300M run rate today. Dynacor doesn’t just produce gold, either. It also serves as a processor of gold that comes from artisanal and small-scale miners. It sees promise in the processing business, and plans to invest an additional US$100M in new plants in both LATAM and Africa.

Other than these three options — and a couple other gold covered call ETFs offered by other ETF providers — there just aren’t many choices for those who want gold and dividends. Sure, there are gold miners that pay investors each and every quarter, but most yields don’t exceed 2%. That’s not very exciting.

The bottom line

I’ll be blunt; I think it’s a lousy idea to buy gold stocks (yes, even Franco-Nevada) when gold is within about 5% of an all-time high.

The time to buy gold, or oil, or most other commodities, is when the price is low.

I also like the idea of owning physical gold. Sure, selling it is a pain in the you-know-what, and you’ll likely have to unload it at a 5-10% discount to the prevailing price. There’s also theft risk. But gold coins are neat, dargbloomit. They feel good when you hold them in your hand, and there’s something about owning them. I feel like a pirate.

(I should note I own zero physical gold today, and don’t anticipate doing so unless the price of the underlying commodity falls a lot from today’s prices. What can I say? I’m a value investor at heart.)

Generally, I’m not a big fan of owning gold. My preferred way is to own the gold royalty companies, but they tend to trade at sky-high valuations. I own Franco-Nevada and I’m pretty fine with that. I only have a small weighting, which I’m comfortable with.

Gold and dividends just don’t really go together, so I’m happy to (mostly) avoid the sector altogether. Remember, not every investment is going to be appealing to dividend growth investors, and that’s okay. You can ignore entire sectors and it’ll be alright.

One more thing

When I bought Franco-Nevada shares, I outlined my thought process for Canadian Dividend Investing premium subscribers. I took a close look at the stock, watched it fall even further, and then bought right near the lows.

And premium subscribers who bought right along with me generated a terrific profit. Shares are up more than 50% since I bought.

I’m not buying Franco-Nevada (or any other gold shares) today, but I am still buying stuff. Each of my buy decisions are disclosed to premium subscribers within a day or two of buying, plus I feature other interesting stocks — each and every week.

Just one profitable investment can net you thousands of profits, plus set you up for a lifetime in dividends. And it only costs $200 per year. Don’t delay, upgrade your subscription today!