After recently dropping below $1,200 per ounce, down from $1,700 per ounce, gold prices are once again moving higher, breaking the $1,300 level.

Is this the beginning of a new rally in gold prices?

The demand fundamentals are certainly in place, as I pointed out last week. But this market is fickle, and the volatility over the past few months suggests that there’s no real direction for prices just yet.

[ad#Google Adsense 336×280-IA]If we are, in fact, at the nascent stages of a rally, then gold shares are where you want to be.

Of course, if the physical market plunges, it’ll take the miners down with it.

But there is one way to participate in a rally that offers significant downside protection, as well as greater upside potential.

That is, there’s a group of companies within the mining sector that has consistently produced far greater returns at lower risk than actual mining companies.

I’m talking about the royalty sector.

Fewer Risks – Greater Rewards

You see, conventional investors buy gold and silver in one of two ways. The first way is to own the physical metal, and the second is to own mining stocks. Both belong in your portfolio up to limits that you’re comfortable with, usually in the 5% to 10% range for resources in general.

But royalty companies are the little-known third way.

These are companies that lend miners money for exploration and extraction, and then get paid from the mines’ production. Afterwards, they distribute the proceeds back to shareholders through dividends and share price appreciation.

This method of “mining” has worked extremely well for a couple of notable large-cap companies, including Franco Nevada (FNV) and Royal Gold (RGLD) in the gold sector, and Silver Wheaton (SLW) in the silver sector.

Royalty companies like these invest in dozens of projects around the world. Then they sit back and collect a stream of payments based on a percentage of production from those mines. It doesn’t happen right away, of course. It takes years for mines to come on stream and actually begin to pull the metal out of the ground. Fortunately, none of these companies are startup operations, and the royalties are already flowing.

The beauty of royalty companies is that they aren’t shouldering the huge risk and expense of building and operating a mine. The royalty company is only exposed to the extent of their investment. If a deal sours, all they stand to lose is the money they paid upfront. And since they’re diversified across hundreds of projects, no single project can torpedo the company.

Furthermore, while share prices and dividend payments can be affected if the underlying metals lose value, the upside is that these cash-rich companies can then make more investments at a cheaper cost, securing even bigger profits going forward.

And thanks to the wholesale correction in gold stocks, they can be had at bargain levels, compared to just a few months ago. Indeed, since the correction in gold and silver began, all companies associated with mining have been tarred with the same brush. While this is understandable, and even expected, we have to keep in mind that not all gold/silver stocks are created equal.

So take advantage of the current weakness in prices, and diversify your portfolio with some royalty action.

And “the chase” continues,

Karim Rahemtulla


Source: Oil & Energy Daily