Sprott Gold Miners ETF Portfolio Insights

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1 When the price of gold was higher, many gold companies pursued growth and acquisition strategies that are no longer realistic in the current gold price environment. In Sprott s experience, many investors invest in gold stocks for high beta to the price of gold. In Sprott s experience, revenue growth has been an excellent barometer of whether a mining company is growing its production. Sprott Asset Management LP ( Sprott ) believes that investors should look beyond passive market cap weighted indexing strategies when it comes to investing in the gold mining sector. This report will examine the potential merits of quality-based company factors and explain why the Sprott Gold Miners ETF (NYSE: SGDM) was created to track the Sprott Zacks. This innovative index provides investors with the first factors-based alternative to invest in gold stocks. Why did Sprott decide to co-develop an ETF to track a factors-based gold mining index? As long-time investors in precious metals and mining stocks, Sprott recognized that there was an unmet need in the marketplace for a more thoughtful passive approach to investing in gold mining stocks. While the NYSE Arca 1 provides investors with access to a broad universe of gold stocks, Sprott believes that a passive market cap weighted approach is sub-optimal. The gold mining sector is capital intensive, cyclical and is undergoing significant changes as it adjusts to the current gold price of ~$1,240 per ounce down from a peak of more than $1,900 per ounce in August When the price of gold was higher, many gold companies pursued growth and acquisition strategies that are no longer realistic in the current gold price environment. During this period of inflated expectations, many companies made ill-timed acquisitions, and expended significant capital to develop low-grade and high-cost deposits. The fallout from these decisions continues to impact many companies as they refocus on improving their profitability and reducing their debt levels. Despite these missteps and the challenges in the sector, some gold miners remain well positioned to capitalize on the opportunities before them. What makes the Sprott Zacks indexing methodology different? In designing the Index with Zacks Index Services, Sprott leveraged its knowledge and expertise developed over more than 20 years as active money managers in the precious metals sector. They began the process by asking what are the most important factors to determine the long-term success of gold companies that could be applied to a transparent, rules-based indexing strategy? While Sprott researched and tested a long list of factors, their experience and research led them to 2 quality-based company factors that historically have been strong indicators of long-term success. Firstly, the methodology begins by screening the universe of publicly-listed gold miners for 25 companies whose historical stock prices have been the most sensitive to the price of gold. In Sprott s experience, many investors invest in gold stocks for levered exposure to a higher gold price. Once the companies are selected, Sprott looks at two factors to determine their index weights. Quality Factor 1: Revenue Growth Gold companies need to continually grow their reserves through new exploration, development and/or acquisitions to ensure their long term viability. In Sprott s experience, revenue growth has been an excellent barometer of whether a mining company is achieving this objective. At the end of each quarter, Sprott wants to know which gold companies have the strongest growth on a relative basis. The Sprott Zacks methodology seeks to emphasize companies with the strongest relative quarterly revenue growth. Historically, gold and silver mining companies with higher revenue growth have produced better stock performance. In the chart below, we segment the universe of gold and silver companies into three equal sized groups based on their one-year revenue growth. Group 1 represents one-third of the companies with the highest revenue growth; 1 The NYSE Arca is a modified market capitalization-weighted index, and provides exposure to publicly traded companies worldwide involved primarily in gold mining, representing a diversified blend of small-, mid- and large- capitalization stocks. 1/5

2 The Sprott Zacks methodology seeks to emphasize companies with the strongest relative quarterly revenue growth. Group 2 represents the next third of companies; Group 3 represents the bottom third of the companies. As you can see from the historical results, the companies with the highest revenue generated the best stock performance (3-month average returns of 1.62% over the measurement period), while the group with the lowest revenue growth generated the lowest stock performance (3-month average returns of -1.95% over the measurement period). These results indicate a strong historical relationship between a company s revenue growth and its future stock market performance. The Sprott Zacks methodology seeks to provide investors with greater exposure to companies with the highest revenue growth, while reducing exposure to companies with the lowest. Stock Performance Based on Revenue Growth 3-Month Average Returns (%) Highest Revenue Growth Group 1: Top Third Group 2: Middle Third Groups Lowest Revenue Growth Group 3: Bottom Third Revenue growth factor has historically provided a high degree of persistence. Stock Performance Based on Revenue Growth (3-Month Average Returns in Calendar Years) TOP THIRD (%) MIDDLE THIRD (%) BOTTOM THIRD (%) DIFFERENCE BETWEEN TOP AND BOTTOM THIRDS (%) /5

3 Successful gold companies need strong balance sheets in order to have the financial flexibility to optimize their financing options and weather the inevitable downturns that come in a cyclical business like mining. The Sprott Zacks methodology seeks to emphasize companies with the lowest long-term debt to equity ratios. Quality Factor 2: Balance Sheet Strength Mining is an incredibly capital intensive industry. The cost to explore, discover and ultimately develop a new mine can amount to billions of dollars and take more than 10 years before any pay back begins. To finance this cost, companies have a number of options. They can: 1) use their cash flow from operations; 2) issue new equity; 3) borrow the capital and/or; 4) enter into royalty and streaming financing arrangements 2 (see footnote 2 for the definition of royalty and streaming financing). Successful gold companies need strong balance sheets in order to have the financial flexibility to optimize their financing options and weather the inevitable downturns that come in a cyclical business like mining. A high level of debt also decreases flexibility, increases insolvency risk and reduces profitability. The Sprott Zacks methodology seeks to emphasize companies with the lowest long-term debt to equity ratios. Historically, gold and silver mining companies with lower long-term debt to equity ratios have produced better stock performance. In the chart below, Sprott segments the universe of gold and silver companies into three equal sized groups based on their long-term debt-to-equity ratios. Group 1 represents the companies with the lowest debt ratios; Group 2 represents the next third of companies and; Group 3 represents the bottom third of the companies. As you can see from the historical results, the companies with the lowest long-term debt-to-equity ratios produced the highest stock performance (3-month average returns of 0.84% over the measurement period), while the companies with the highest ratios generated the lowest stock performance (3-month average returns of -1.12% over the measurement period). These results indicate a strong historical relationship between a company s debt ratio and its future stock performance. The Sprott Zacks methodology seeks to provide investors with greater exposure to companies with the lowest long-term debt to equity ratios, while reducing exposure to companies with the highest. Stock Performance Based on Long-Term Debt to Equity Ratios 3-Month Average Returns (%) Lowest Long-Term Debt to Equity Group 1: Top Third Group 2: Middle Third Groups Highest Long-Term Debt to Equity Group 3: Bottom Third 2 Royalties are ongoing economic interests in the production or future production from a property. Streams are metal purchase agreements that provide, in exchange for an upfront deposit, the right to purchase all or a portion of one or more metals produced from a mine at a preset price. Source: Franco- Nevada Corp. 3/5

4 Long-Term Debt to Equity factor has historically provided a high degree of persistence. Every quarter, the Sprott Zacks incorporates the latest company results into its screening process. Stock Performance Based on Long-Term Debt to Equity Ratios (3-Month Average Returns in Calendar Years) TOP THIRD (%) MIDDLE THIRD (%) BOTTOM THIRD (%) DIFFERENCE BETWEEN TOP AND BOTTOM THIRDS (%) Quarterly Index Reconstitution Every quarter, the Sprott Zacks analyzes the latest company results to determine which companies will be included in the Index and what their weightings will be. If a company s revenue growth deteriorates and/or its long-term debt-to-equity ratio increases on a relative basis, the index methodology may penalize it by reducing its weight in the index. Companies are also added or deleted from the Index if the historical sensitivity of their stock price to gold does not remain among the top 25 companies. Summary Sprott Asset Management believes that investors should consider the merits of a factors-based approach when investing in gold stocks. The historical evidence indicates that revenue growth and long-term debt to equity are effective company factors to identify gold stocks with the potential to outperform. To learn more, please contact us at sprott@alpsinc.com or /5

5 IMPORTANT DISCLOSURES & DEFINITIONS An investor should consider the investment objectives, risks, charges and expenses carefully before investing. To obtain a prospectus, which contain this and other information please contact your financial professional or call Read the prospectus carefully before investing. Sprott Gold Miners ETF shares are not individually redeemable. Investors buy and sell shares of the Sprott Gold Miners ETF on a secondary market. Only market makers or authorized participants may trade directly with the Fund, typically in blocks of 50,000 shares. The Fund is not suitable for all investors. There are risks involved with investing in ETFs including the loss of money. The Fund is considered non-diversified and can invest a greater portion of assets in securities of individual issuers than a diversified fund. As a result, changes in the market value of a single investment could cause greater fluctuations in share price than would occur in a diversified fund. The Fund will be concentrated in the gold and silver mining industry. As a result, the Fund will be sensitive to changes in, and its performance will depend to a greater extent on, the overall condition of the gold and silver mining industry. Also, gold and silver mining companies are highly dependent on the price of gold and silver bullion. These prices may fluctuate substantially over short periods of time so the Fund s Share price may be more volatile than other types of investments. Funds that emphasize investments in small/mid cap companies will generally experience greater price volatility. Funds investing in foreign and emerging markets will also generally experience greater price volatility. There are risks involved with investing in ETFs including the loss of money. Diversification does not eliminate the risk of experiencing investment losses. ETFs are considered to have continuous liquidity because they allow for an individual to trade throughout the day. The Sprott Gold Miners ETF is a new product with a limited operating history. ALPS Portfolio Solutions Distributor, Inc. is the Distributor for the Sprott Gold Miners ETF. The views and information discussed in this article are as of the date of publication, are subject to change, and may not reflect the authors current views. Such information does not constitute a recommendation to buy or sell specific securities or investment vehicles. It should not be assumed that any investment will be profitable. Revenue Growth Measured as the percentage charge in quarterly revenue compared to the same quarter in the prior year. Long-Term Debt to Equity Measures a company s total debt outstanding maturing beyond 1-year in term divided by the value of its equity. Beta Measure of sensitivity, calculated using regression analysis. The historical research study was conducted by Zacks Index Services and was designed to measure the efficacy of 2 company factors revenue growth and long-term debt to equity to measure the future performance results of gold and silver mining stocks. Companies included in the study included all U.S. listed companies that derived from than 50% of their annual revenue from either gold or silver and had a market capitalization of $400 million or more, and a stock price of $2 or more. The study time period was December 31, 2005 to December 31, Gold and silver companies were treated equally with no minimum or maximum for each company type. Each month, the qualifying companies were ranked from highest to lowest on each factor separately and then divided into 3 equally weighted groups the top third, middle third and bottom third. The analysis then measured the subsequent 3-month stock performance on an unweighted basis for each of the three groups to determine if there was a strong correlation between factor scoring results and subsequent stock performance for each group. The ranking process was completed every month over the time period to measure the level of persistence of each factor and subsequent stock performance for each group. The study was prepared by Zacks Index Services and the sources and data are believed to be accurate and reliable. This analysis is provided for illustrative purposes only and does not reflect the track record of the fund or the index 5/5 SPT