8 tips for spotting the best Canadian gold stocks

In 2011, gold shot up to a high of $1,950 U.S. an ounce. Gold prices then fell steadily, hitting a low of $1,050 in December 2015 for the first time since early 2010. Gold has moved up since, but its near-term outlook is uncertain.

Longer term, gold and silver could well regain their 2011 highs. This would simply reflect the vast inflationary expansion in the U.S. money supply since the 2008 financial crisis.

The shares of most Canadian gold stocks will continue to be heavily influenced by the direction of gold prices. Meanwhile, though, the best gold stocks will generate positive cash flow even with low gold prices—and the best Canadian gold stocks also offer rising production outlooks.

We recommend investing in Canadian gold stocks, rather than in gold bullion or other forms of physical gold.

Unlike stocks, commodity investments like physical gold generate no income. We continue to recommend that you invest in gold through gold-mining stocks, and avoid buying gold bullion, gold coins (unless you collect them as a hobby) or certificates representing an interest in bullion.

Gold bullion and coins require insurance and storage, which will be a continual drain on your cash. Canadian gold stocks, on the other hand, let you profit from increases in the price of gold without these onerous costs. Plus, dividend-paying gold stocks have the potential to generate steady income.

We feel that the best way to profit from gold is by sticking with high-qualityCanadian gold stocks. Even so, you should limit them to a modest portion of your portfolio, specifically the part you devote to more aggressive investments.

Here are 8 guidelines we use to pick Canadian gold stocks to recommend in our investment services and newsletters, including Stock Pickers Digest, our newsletter for aggressive investing:

1. Pick Canadian gold stocks with strong balance sheets. High-quality Canadian gold stocks should have strong balance sheets with low debt. Junior mines should have a major partner who can finance a mine to production.
2. Pick Canadian gold stocks with solid management. Another key ingredient is an experienced management team with a proven ability to develop and finance a mine.
3. Pick Canadian gold stocks at reasonable prices. We also recommend avoiding Canadian gold stocks that are trading at unsustainably high prices as a result of broker hype or investor mania.
4. Pick Canadian gold stocks with realistic growth. You should compare the market caps of the stocks with the estimated value of their assets or future earnings streams. Some need to quickly find a big gold deposit and begin production to justify the current share price and avoid collapse. Sometimes, a company’s marketing efforts are so successful that they drive the stock up too high in relation to the size of its ore body. We like a mining stock’s market cap to be no more than half the value of the gold or other minerals in the ground. We assume that the company will be able to expand its ore reserves after the mine opens, but if the mineral reserves are double the mining stock’s market cap, it provides a margin of safety.
5. Pick Canadian gold stocks that don’t need big promotions. You should automatically rule out investing in companies that promote themselves too aggressively, or do so misleadingly. Success is more likely if the managers focus on finding or developing a mine, rather than touting their stock.
6. Pick Canadian gold stocks that are in safe jurisdictions. We generally stay away from mining stocks operating in insecure and politically unstable regions like the Congo and Venezuela, or in countries with little respect for property rights and the rule of law, like Russia or Mongolia. Mining is inherently a politically vulnerable business; you can’t move the mine to another country, and local citizens sometimes believe that a foreign mining company is robbing them of their birthright, even though they need the foreign company’s capital and expertise to get any value out of the ground.
7. Pick Canadian gold stocks that are active traders. High average daily trading volume is one positive factor to look for when picking Canadian gold mining stocks. The more actively traded junior mines are, the more liquid they are, which makes them easier to dispose of when it’s time to take profits.
8. Pick Canadian gold stocks that are producing. Some of the most highly promoted gold mining stocks are penny stocks which have yet to produce an ounce of gold. Many must still add to their reserves, invest in mine-feasibility studies, and raise a lot of money before they go into production. The prospects for most of these penny-mine properties, even though they may be in areas with production from existing mines nearby, are far from certain.

The best Canadian gold stocks have strong reserves, low production costs and are already producing gold. They also have a range of development projects, but their strong base of production cuts the risk of relying on new developments alone.

Are you invested in Canadian gold stocks? Have they been profitable for you? Share your experience with us in the comments.