During the two most recent mining conferences which I attended and at which I had the honor of presenting workshops, one of the themes I heard most often was how the performance of many mining shares, particularly the junior miners involved in exploration and early development, appears to be lagging the actual performance of the metals themselves, in some cases rather badly.

After spending a great deal of time examining the price charts of well over one hundred relatively well known junior miners, it is impossible to avoid the conclusion that not only are many of the share prices lagging, they are actually reminiscent of one of the worst epochs of junior mining shares, the debacle of 2007 to early 2009.  Major mining shares with strong production revenue have held out quite well on balance, but many of the juniors have indeed seen their share quotes drop to levels where their ability to continue their exploration and development work has been placed into some degree of jeopardy.

While there are many factors worth noting, two in particular – especially when they are in combination as may presently be the case – appear particularly important.

First, the costs of advancing properties from acquisition through “Bankable Feasibility Study” and either eventual production or significant buyout offer have been rising steadily through the years for several reasons.  Petroleum costs for diesel-generated electric power generation, various lubricants and a host of transportation services are in a rising trend, up from a Crude Oil price of just $20 per barrel or so just a couple of decades ago to a range centered on $100 per barrel over the past couple of years.  Professional geological costs are on the rise as are wage scales for general mining workers.

But there are others of perhaps even greater impact.  The costs related to settling aboriginal claims and disputes are on the rise, frequently involving the giving away of a portion of a project’s ownership or assets.  All manner of regulatory demand for water purity, worker safety, Environmental Impact Statements, mining safety requirements combined plus a host of permitting requirements are steadily increasing the non-exploratory costs of developing a project, meaning the host company must not only succeed in raising exploratory capital but must also raise additional capital to meet all the regulatory and social requirements as well.

And so, our first conclusion is that the cost of proceeding along the path to mining success is increasing, meaning continually advancing financing needs.

One question which stands out currently is this:  “What if these demands to raise extra amounts of capital are taking place at precisely the time when sources of capital may be drying up?”  Unfortunately, that may be the case in today’s world.

During the earlier decline noted above in 2007 through early 2009, the great fear was that the entire banking world might tie up completely and leave the mining world with fewer fund-raising resources.  We also noted that several money-market funds failed, swallowing up capital which miners had raised, forcing them to go to market with unplanned equity offerings at precisely the moment when share prices were already declining – leading to further accelerating reductions in share quotes.

Our concern for the moment is that the entire European financial situation could be collapsing into some sort of financial ‘black hole’ as nation after nation begins to appear likely to default on indebtedness and as the world’s leaders appear to be running around in an unproductive frenzy, solving very little and only raising the general level of concern by their unsuccessful efforts.

The list of countries which are already in a period of serious difficulties or appear headed in that direction continues to grow and now includes Greece, Portugal, Italy, Spain, Ireland, Iceland, France, Great Britain, the Netherlands, Austria, Poland, Hungary and Finland and we do not doubt that others will join that list.  The length and importance of the list has created a situation where banks are facing huge losses on the debt instruments they hold which have been issued by various of these countries and, as the level of risk in those investments rises, their willingness to underwrite new risks diminishes.

Individuals who might have been quite willing to invest in a speculative form of investing when prosperity was high and appeared certain to continue are proving less willing during times of apparently rising crises such as they hear about each day in the financial and political media.

Also, as economies descend into ultra-high levels of unemployment, many individuals not only become unwilling but also simply unable to partake in new share offerings or to buy outstanding shares.

We find yet another factor which may ultimately become the most discouraging.  As fears for the prosperity of the world begin to increase, speculation may very well rise that the fundamental demand for raw materials such as base metals will diminish, putting downward prices on prices for aluminum, copper, nickel, zinc and lead .  This, in turn, would then require lowering of revenue prospects and perhaps even transforming many properties which presently appear capable of eventually generating substantial operating profits into uneconomic ore bodies.

One might also add into the mix the supposition that the present political leadership in the world’s most important economy, America, appears more dedicated toward placating and pleasing one of their supporting political elements, namely the environmental community, than rationally moving toward insuring deliverable supplies of vitally needed raw materials.  As long as that problem is presumed to exist and as long as many nations follow the American lead along many political paths, it is unlikely the regulatory intrusiveness of government into mining enterprises will diminish – meaning a continuation of greater non-productive mining revenue requirements.

Please note the appearance of the XAU mining index chart which shows how vulnerable the group has become to sudden selling waves and please remember that indexes such as XAU usually relate to major mines.  Many charts relating to individual junior mines have a much more pessimistic appearance.

With all these negative factors, one must wonder whether this is a proper time to be accepting mining risks and we would offer this reply.  While there are truly circumstances extant which might mitigate against mining share success for the moment, it might also be recalled that this is not the first time mining shares have faced difficult moments – and those moments have often turned into some of the greatest buying opportunities on record.

In 1976, gold had fallen by fifty percent from $200 per ounce to barely $100 per ounce and many mining shares collapsed when the public failed to load up on gold once its ownership became legal again in America.  Within 42 months, by January 1980, gold had soared to $800 per ounce and many juniors advanced by multiples of five, ten and even twenty times their previous values.

As noted, gold and the shares went into dismal declines, particularly during the year 2008 when the meat of the financial collapse hit hardest.   However, both financial markets and the price of many mining shares advanced sharply in 2009 and 2010, providing ample rewards for many willing risk takers. 

And, we might add, one of the oldest trading ‘saws’ is that you buy when there is ‘Blood In The Streets’, which could be added to another simple advice, namely to “buy low.”

The great question is one of timing.  If the present series of financial crises continues to deepen and sources of credit dry up further, then this may not be a prudent time to invest.  However, if those adverse credit conditions should abate, then conditions for the mining shares could improve sharply.

We will do our best at The Melman Reports to offer factual information in order to assist in your deliberations. 

We would also remind you of our long-standing caution that one should never invest without prior consultation with a registered investment professional.

We will be on the road prior to all market openings tomorrow, but overnight trading suggests steady metals prices combined with slightly weaker financial markets.

All quotes US$ unless otherwise indicated.

Next “Melman Minute” scheduled for Monday, November 28, 2011