The best gold stocks will generate positive cash flow even with low gold prices—and also offer rising production outlooks.

Most gold firms’ shares 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 also offer rising production outlooks.

1. Stable political regimes: We generally stay away from gold mining companies 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.

2. Reserves: When you invest in any resource stock, gold included, you need to look at how long the company’s reserves are likely to last. Those with low reserves need to have consistent success in their exploration programs to maximize the production of the mine and the surrounding area. That success is far from guaranteed.

Even if the company has strong reserves, the best gold stocks with the least risk also have a diversified reserve base. That way they are not dependent on a single mine’s production or political stability in any one country. Gold companies can also increase their reserves by making acquisitions—with gold prices down from their record high you may see an increase in gold mining company acquisitions at distressed prices.

3. Development: 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.

However, the best 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.

4. Proximity:  When we recommend gold mining stocks, we prefer those that operate in an area with geology that is similar to that of nearby producing mines.

5. Financing: We look for well-financed gold stocks with no immediate need to sell shares at low prices, since that would dilute existing investors’ interests. The best junior golds have a major partner who has agreed to pay for the drilling or other exploration or development, in exchange for an interest in the property.

6. Strong Balance Sheets: The best gold stocks all have strong balance sheets and low debt..

7. Location: We want to see favourable factors, like strong gold showings from extensive drill programs, before we recommend any mining stocks that operate in hostile environments, like the high Arctic.

8. Hype: We avoid mining stocks that trade at unsustainably high prices due to broker hype or investor mania about the underlying commodity (such as gold). Instead, we focus on reasonably priced mining stocks with favourable geology.

9. Market Cap: We always look at the market cap of gold mining stocks versus the estimated value of the mineral resource they have in the ground. 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 gold mining stock’s market cap to be no more than half the value of the gold. 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 gold mining stock’s market cap, it provides a margin of safety.

How do you find the best gold stocks? Share your experience with us in the comments sections below.

Note: This article was originally published in June 2009 and has been updated.