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How to Survive and Thrive in the Resource Market

 

By Dr. Richard S. Appel             Printer Friendly Version

June 30, 2006

www.financialinsights.org

June 25, 2006 - The junior exploration market is a minefield to most who enter it. This is because few individuals are properly prepared to maneuver in it, and are thus fated to suffer the inevitable consequences. Yet, if properly approached I believe that junior stock speculation can greatly enhance an investor’s wealth.

An investor may wisely or luckily select a company’s stock that is destined for higher prices. Or, he may become entranced by one of the over-zealous promoters who convince him that his company’s future is destined for a meteoric rise. In either instance the investor may enjoy a roller coaster ride that takes his stock to dizzying heights, only to find it returning to or below his starting point when the meteor falls back to earth.

The purpose of this essay is not to deter investors from this market. My hope is to better educate and prepare the reader so that he or she can reap the rich rewards that it offers, while minimizing their losses.
In order to achieve this goal one must understand the true odds for a company’s lasting success, the players in this market, and the application of risk vs. reward when choosing a company. Further, the risk must be spread among a number of companies. In this fashion if one does well it should more than compensate for any losses produced by the others. Finally, and possibly of greatest importance is the absolute need to control one’s emotions, and especially our greed.

A successful mining stock has many meanings to different people. This runs the gamut between promoters who are only interested in generating excitement in their stock, so that they can sell their cheaply acquired shares to the public, and dedicated mining people who are interested in utilizing their skills to make a mine.

The ultimate goal for all participants is to take a company’s share price from pennies into the multi-dollar range. However, you must first recognize that finding a mine is not the only fashion in which to achieve this end. In fact, if this is your primary expectation your financial future is likely doomed to failure.

A story was related to me several years ago by an experienced and successful mining professional. Around 1990, a major mining company Cominco, now Teck-Cominco, decided to review all of the projects upon which they expended at least $1 million. For newcomers to this industry, the vast majority of potential properties are dropped long before this lofty expenditure threshold is reached. The result was that only six or seven mines were actually brought into production across a period that spanned nearly a century.

This should give you an idea of the industry’s mine finding success rate, which is nil. However, it also exposes the great profitability that results should a company succeed. This track record allowed Cominco to prosper for decades as one of the earliest and foremost north American mining companies.

Correctly evaluating the market’s players is of primary importance and can determine your ultimate investment success or failure. When I investigate a junior company my first goal is to determine the quality of its management. I look for directors who have had past exploration success and who hopefully were instrumental in developing one or more mines. Unless a company is fortunate to already possess an advanced stage project, it is rare that a management team with no earlier successes will prove successful in their present venture.

I also desire to be assured that a company’s management has the ability to attract major projects as well as to finance their development. Importantly, the more successful the individual or team has been, the greater the likelihood that these goals can be achieved.

This results for the following reasons. First, their earlier successes have made substantial sums of money for their earlier followers. This will motivate their investors to again finance their ventures. Next, vendors will offer them their better projects. In exchange for their properties, owners benefit most when the acquired company’s shares either rise in value, or if production ensues and their residual interests becomes valuable. In effect, they get their greatest opportunity to profit if they sell to the best management teams.

The term promotion is normally perceived in a negative light. Indeed, there are “unethical promoters” in this industry who misrepresent their company’s attributes through deceit. They do this in order to attract buying to their stock with little concern for those whose confidence they betray. Knowing this, it is the investor’s duty to be aware of their existence and to do your best to steer clear of them. The old adage, “if it’s too good to be true it probably isn’t”, should be kept at the forefront of one’s mind, and adhered to when you evaluate any company.

In the mining industry a certain amount of promotion is mandatory! This is due to the poor dissemination of information that is inherent in this market. It is virtually impossible for the various market players to know and properly evaluate the progress that thousands of junior companies achieve on a daily basis. This includes the resource market brokers, analysts and other professionals.

For example, if an obscure company “pulls a hole” or acquires an important project that has great implications for its future, few individuals may initially recognize that fact. Those who do will be able to make their purchases without increasing its share price to a level that is commensurate with the company’s new state. Therefore, it is not unusual for a company to be forced to unnecessarily dilute its share structure when they go to the marketplace to fund new work programs or its major acquisition. This occurs because they will have to issue far more stock due to its lower than justified price, and also reduces their shareholder’s profit potential.

It is for this reason that promotions that are meant to make investors aware of a company’s advancement are not only justified but are crucial to the company’s progress, and to their stockholders. If performed successfully it will make a far wider segment of the investment community aware of their progress. This in turn will attract sufficient purchasing of their stock to raise it to a fair market level. When done properly, without the primary motive to prey on the unwary, it will benefit the company, its stockholders, and the industry.

Determining the risk vs reward when evaluating stocks is crucial. As I noted earlier most companies are doomed to fail in their quest to make a mine. Thus, a prudent investor should only be interested in projects that have substantial upside potential. In this fashion you will be greatly rather than lesser rewarded, if it avoids all of the potential stumbling blocks, and your company actually succeeds.

I begin my risk vs. reward assessments by comparing a company’s fully diluted market capitalization (number of fully diluted shares multiplied by its current stock price) with the value that the company’s interest in a project should reasonably be expected to be worth, if they develop an economic orebody. I then arrive at a multiple; the company’s projected market cap if they prove successful, divided by its current market capitalization. This helps me compare one company with another and choose the one that should percentage-wise benefit me the most if I am correct.

There are some intangibles that also must be factored in. They include working capital and other project’s already in the company, their management’s ability to acquire new projects, their overhead and burn-rate, and the pluses or minuses of the country in which they are working.

As you can see this requires some work. There is truly no easy road to riches! If you are not prepared to do your own due diligence, you should avoid not only this but all investment areas. You must remember that you are working with your hard-earned money. Do not be deterred. After a while it will become an easier exercise.

Controlling one’s emotions and a business like approach to investing in this market are mandatory. The volatility of the junior companies compares best with that of commodities. However, the price movements of the juniors often pale those of even the most explosive commodities. This allows for substantial profits, but also for great losses. Many investors are drawn to purchase junior companies when they see the excitement generated by some news announcement or a rocketing share price. This is quite dangerous and is a primary cause why most investors lose money in this field. They buy during a run-up only to later see their stock prices whither away. Or, they ride a company from its lows to its peak only to have their greed keep them invested as it crests and cascades downward.

I strive to acquire shares in companies that are well managed and already have one or more projects offering great potential. Further, I do this when their markets is quiet and its prices are low. This requires much patience to allow their projects to advance. But, I believe it is the best method that one can utilize to survive and thrive in the junior resource universe. If you choose a good mix of stocks using these methods, I believe that you will give yourself the best opportunity for success.

You must learn to sell into strength! Assuming that you have picked a number of well-managed explorers you should periodically be presented with exciting price rises. Given the fact that most projects will ultimately fail for one reason or another, you should always take profits when the opportunity presents itself. Some analysts suggest selling half of your holdings when a stock doubles in price. It is my belief that if you are fortunate enough to experience more than a doubling in a share price, you should make a partial sale of your position if for no other reason but for self-preservation.

The longer that you speculate in this market the more times that you will see a stock explode in price only to later give back half or more of its spirited advance. This will occur even if the company ultimately achieves the greatest possible success. Remember, you can usually buy back later. In fact, as time progresses, you will have more information and the stock price will likely be lower after the initial excitement wears off.

If you rigidly follow the above suggestions I believe that you will have the best opportunity for success. Our greed is our worst enemy! Its effect must be overcome if we are to succeed in this or in any investment endeavor. Routinely taking partial profits whenever they are offered to you is one of the surest methods to survive and flourish in this field. I wish you all the very best of luck in achieving this goal.

 

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The above was excerpted from the July 2006 issue of Financial Insights June 25, 2006.

I publish Financial Insights. It is a monthly newsletter in which I discuss gold, the financial markets, as well as various junior resource stocks that I believe offer great price appreciation potential.

Please visit my website www.financialinsights.org where you will be able to view previous issues of Financial Insights, as well as the companies that I am presently following. You will also be able to learn about me and about a special subscription offer.

CAVEAT

I expect to have positions in many of the stocks that I discuss in these letters, and I will always disclose them to you. In essence, I will be putting my money where my mouth is! However, if this troubles you please avoid those that I own! I will attempt wherever possible, to offer stocks that I believe will allow my subscribers to participate without unduly affecting the stock price. It is my desire for my subscribers to purchase their stock as cheaply as possible. I would also suggest to beginning purchasers of these stocks, the following: always place limit orders when making purchases. If you don't, you run the risk of paying too much because you may inadvertently and unnecessarily raise the price. It may take a little patience, but in the long run you will save yourself a significant sum of money. In order to have a chance for success in this market, you must spread your risk among several companies. To that end, you should divide your available risk money into equal increments. These are all speculations! Never invest any money in these stocks that you could not afford to lose all of.

Please call the companies regularly. They are controlling your investments.

FINANCIAL INSIGHTS is written and published by Dr. Richard Appel and is made available for informational purposes only. Dr. Appel pledges to disclose if he directly or indirectly has a position in any of the securities mentioned. He will make every effort to obtain information from sources believed to be reliable, but its accuracy and completeness cannot be guaranteed. Dr. Appel encourages your letters and emails, but cannot respond personally. Be assured that all letters will be read and considered for response in future letters. It is in your best interest to contact any company in which you consider investing, regarding their financial statements and corporate information. Further, you should thoroughly research and consult with a professional investment advisor before making any equity investments. Use of any information contained herein is at the risk of the reader without responsibility on our part. Past performance does not guarantee future results. Dr. Appel does not purport to offer personalized investment advice and is not a registered investment advisor. The information herein may contain forward-looking information within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. In accordance with the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, the statements contained herein that look forward in time, which include everything other than historical information, involve risks and uncertainties that may affect the company's actual results of operations. © 2006 by Dr. Richard S. Appel. All rights are reserved. Parts of the above may be reproduced in context, for inclusion in other publications if the publisher's name and address are also included for credit.