Are gold stocks a trap?

With gold hitting a nine-month low this week of US$1,557 an ounce, gold mining stocks are being sold off as investors fear the long bull run in gold may be ending.

Post the GFC, the gold price has ironically been supported as equity markets have climbed their wall of worry, however it appears that gold bugs may finally be throwing in the towel as equity markets continue to grind higher.

The last six months alone have seen Newcrest Mining (ASX: NCM) down 35%, Regis Resources (ASX: RRL) down 32%, Kingsgate Consolidated (ASX: KCN) down 43% and Resolute Mining (ASX: RSG) down 44.5%. This in a period in which the S&P/ASX 200 Index (Index: ^AXJO) (ASX: XJO) is up 9%!

Leading the charge that the tide has not turned and gold is still the safest place to be is Canadian hedge fund manager Eric Sprott. His company, Sprott Asset Management, is heavily skewed towards investing in precious metals and is reported to hold around 80% of funds under management in both physical gold and silver and gold and silver equities. Sprott believes that the troubles in Europe and money printing in the USA make precious metals the only place to be safe from the eventual financial fall-out.

And here lies the trap!

Unless you are of a similar view to Sprott that global financial markets and bank deposits are just not safe, then the recent sell-off in gold stocks could look like a buying opportunity. Delving deeper though, there is every chance the gold price will continue to fall further, so contrarian investors should be careful before rushing back into the market.

Foolish takeaway

Valuing a company requires having confidence in what price a firm can sell its goods or services for. Having confidence in, for example, the price a can of coke will sell for over the next decade will in turn give an investor some confidence in determining a profit margin. Investing in gold stocks requires having confidence you can predict the gold price over the next decade, a task many a Fool may struggle with.

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More reading

The Motley Fool’s purpose is to help the world invest, better.  Click here now  for your free subscription to Take Stock, The Motley Fool’s free investing newsletter. Packed with stock ideas and investing advice, it is essential reading for anyone looking to build and grow their wealth in the years ahead.  This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson. Motley Fool contributor Tim McArthur does not own shares in any of the companies mentioned in this article.

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