By Tim Seymour
The price of gold and the share prices of gold miners have been under heavy pressure, with miners in a deep, deep funk. Let's discuss.
Gold prices have lost their uptrend due to two primary drivers:
- Inflation effects of QE began to be in question
- Sustainable growth globally meant equities were investable again, and risk-on means risk-off gold
The gold price is approaching three standard deviation moves of the 100-day moving average of approximately $1,577, which traditionally has served as a support. Price is setting up for a trading buy at a minimum. Gold equities have been caught in this price move, but are also suffering from a more fundamental dynamic that comes from a lower gold price. Many gold projects are unjustifiable at lower spot prices. Cheaper company multiples also mean that miners have less access to capital to fund their growth.
There are greater risks than ever before in the gold mining space due to political factors, such as greater resource nationalism in Africa, Asia, and Russia. Also, the grade requirements have gotten stricter. Thus, many gold miners are transitioning from pure growth production/earnings to lower multiple-yield plays.
What we have been seeing from players like Gold Fields (GFI) is that they are spinning off more speculative, higher-cost assets and maintaining cash flow generating, lower-risk assets in their primary portfolio. Last week, it announced a spin-off of Sibanye Gold, which is a higher growth portfolio but has higher risks/costs.
Other miners are following a similar strategy, and this is leading to investors making a very different call when buying many gold miners today than last year or in the last decade. How long will this transition take? It won't be a few months, but it will transform the industry.
Bottom Line: Country risks (political) and global macro dysfunction mean gold prices stay high. Investors need to begin to price in additional execution risks as well as asset risks. Investors should reward more conservative players with projects in friendly places like Australia, Canada, and the United States.
Investors also need to look at companies that have already undergone significant restructuring and are now focused on finally pouring gold, or generating free cash flow, or players who have sold or will sell off less stable assets. Conversely, stay away from companies with higher cash costs, riskier geographies, and impending feasibility tests that will make or break the valuation.