Gold Miner ETFs: Breaking Down All The Options

by on March 25, 2011 | ETFs Mentioned:

The ETF industry as a whole has grown tremendously in recent years, with both assets and the number of products surging as investors embrace the exchange-traded structure as an efficient vehicle for accessing everything from U.S. stocks to Asian bonds to corn and cocoa. Certain corners of the market have, of course, expanded more quickly than others. One hotbed of activity is the commodity space, where investors have flocked to a number of new products opening up an asset class with potential to enhance returns and smooth volatility.

The commodity ETF boom hasn’t been limited to products offering exposure to natural resource prices through either physical bullion or futures contracts–though many funds meeting those descriptions have seen massive inflows over the last two years or so. More and more, investors are utilizing funds that focus on stocks of companies engaged in the exploration, extraction, refining, and sale of commodities as a way to profit from a prolonged rally in commodity prices [see ETF Ideas For Contango Free Commodity Exposure].

Companies with operations that focus on a specific commodity or group of commodities often exhibit a strong correlation to the spot price of the related resource or resources. Because their profitability is impacted by the prevailing market price for their goods, increases in resource prices generally correlate to an increase in earnings–and vice versa. So investing, for example, in an agribusiness ETF offers indirect exposure to agricultural commodities.

There are now nearly 30 ETFs in the Commodity Producers Equities ETFdb Category, including broad-based funds such as HAP and resource-specific ETPs focusing on everything from timber (CUT) to copper (COPX) to rare earth metals (REMX). These products have more than $15 billion in aggregate assets, reflecting the investor interest in this strategy.

Several of the products in this category–and a big chunk of the assets–are in products that focus on gold miners and explorers. While some of these ETFs are similar in certain ways, there are some nuances to each product that give them a unique risk/return profile. Below, we highlight each of the options for achieving exposure to gold through an investment in the companies that discover and mine the yellow metal [for more ETF education, sign up for our free ETF newsletter]:

Gold Miners

Mining companies are generally involved in extracting gold from the ground. Because miners often maintain a cost structure with significant fixed expenses, these companies can trade as leveraged plays on gold prices, exhibiting considerably more volatility than a physically-backed gold ETF such as IAU. There are multiple options for investing in gold miners, and the distinguishing factor is the extent to which underlying securities focus on other precious and industrial metals as well:

Market Vectors Gold Miners ETF (GDX): The most popular way to access gold miners, GDX offers exposure to an index that consists of both U.S. and international gold miners. Underlying companies include companies that own many of the world’s largest gold deposits and mining operations, including Barrick Gold and Goldcorp [see GDX holdings].

Companies must be involved primarily in gold mining to be eligible for inclusion in the index underlying GDX, and as a result many of the stocks that make up this ETF maintain moderate exposure to other precious and industrial metals as well. Silver Wheaton Corp., which makes up about 5% of GDX, is one of the world’s largest silver miners. Barrick Gold generates a portion of its revenues from copper, while Goldcorp is involved in the mining of gold, silver, and copper.

Global X Pure Gold Miners ETF (GGGG): Global X recently debuted another gold miner ETF option designed to deliver more targeted exposure to gold. In order to be included in the index to which this ETF is linked, a company must generate at least 95% of total revenues from gold. That requirement filters out many of the largest precious metals miners, as silver, copper, and other metals may make up more than 5% of total revenues for many companies. Of the ten largest holdings of GDX, only three are found in any quantity in GGGG, highlighting the extent to which metals besides gold account for the operations of the Market Vectors fund.

While gold and silver will generally exhibit a strong correlation to one another, movements in these precious metals are far from identical. In fact, 2010 serves as an excellent illustration of the potential for return differentials between gold and silver; IAU added close to 30% on the year, but SLV was up a whopping 82%. The direction was the same, but the magnitude was obviously very different.

Perhaps a better illustration is the performance of GDX relative to the Global X Silver Miners ETF (SIL). Since SIL debuted in April 2010, the fund has gained about 85%. Over the same period, GDX is up about 26% [see Precious Metal ETFs: Physical vs. Equity Exposure].

So while GDX and GGGG may seem similar, the risk/return profiles maintained are actually quite unique. GGGG is more of a pure play on gold, and can be generally expected to outperform GDX when gold outperforms silver. GDX is very heavily tilted towards gold, but maintains exposure to silver, copper, and other metals as well. When silver outperforms gold–as it did in 2010–GDX will likely beat the “pure” gold miners ETF.

PowerShares Global Gold and Precious Metals Portfolio (PSAU): This ETF is linked to an index that includes global companies engaged in gold and other precious metals mining-related activities. From a metals exposure perspective, PSAU casts an even wider net than GDX; included among the largest holdings are companies that focus primarily on platinum, such as Anglo Platinum Ltd. and Impala Platinum Holdings. As such, PSAU will be impacted by the prices of a number of precious metals, including gold, silver, and platinum.

This exposure, of course, isn’t necessarily a negative; PSAU may be a preferred option for investors looking to achieve more broad exposure to precious metals mining companies without betting too heavily on any one commodity [Inflation-Fighting ETFs Back In Focus].

Junior Gold Miners

Van Eck bifurcates the universe of gold miners into large caps and small caps, and offers a mid-cap and small-cap complement to the large cap-heavy GDX. Smaller mining companies will often be more actively engaged in the development of new sources of gold through either greenfields exploration of utilizing new technologies to search for gold in abandoned areas. As such, junior gold miners will often be earlier stage companies, generally producing less than 300,000 ounces per year (by comparison, Barrick produced almost 8 million ounces of gold in 2010).

Market Vectors Junior Gold Miners ETF (GDXJ): This ETF offers exposure to about 60 different junior gold miners, with exposure spread across both domestic and international securities. Similar to GDX, the holdings of this fund include a number of companies engaged in silver extraction; Silver Standard Resources, Silvercorp Metals, and First Majestic Silver are all among the seven largest holdings. So while gold prices will definitely have an impact on this fund, there is also exposure to other precious metals included as well [Compare more ETFs with our free Head-to-Head Tool].

Gold Explorers

Global X offers a fund that can be thought of as the venture capital of gold miners; the underlying securities of the Gold Explorers ETF (GLDX) often have little in the way of proven reserves, and are engaged in searching for new supplies of gold. Many of GLDX’s components have little in the way of revenues, and most are operating at a cash loss presently. But the upside potential of this asset class is huge; GLDX offers a way to bet on exploration companies striking gold–quite literally.

The inherently risky nature of this asset class–the potential outcomes for many of the component companies are binary–makes achieving exposure through a broad basket of securities appealing [see Case For The Gold Explorers ETF]. GLDX has about 30 different holdings, and companies listed in Canada account for a major portion of assets (though many of them maintain operations throughout the world).

Inverse & Leveraged Options

In addition to the ETF options profiled above, there are also leveraged products offering exposure to gold miners. As mentioned previously, gold miners often trade as leveraged plays on spot bullion. So adding leverage on top of these securities can obviously create an extremely volatile security; single session movement of 10% or more aren’t all that uncommon for these funds. That makes them extremely attractive for investors looking to bet on short term movements in gold stocks [Gold ETFs: Boom Or Bust?]:

Direxion Daily Gold Miners Bear 2x Shares (DUST): This ETF seeks to deliver daily results that correspond to -2x the daily change in the NYSE Arca Gold Miners Index, the same index to which GDX is linked.

Direxion Daily Gold Miners Bull 2x Shares (NUGT): This ETF is the bull counterpart to DUST, offering a way to bet on rising gold prices and improving profitability for gold miners.

[For more ETF ideas sign up for our free ETF newsletter.]

Disclosure: No positions at time of writing.