Sometimes there is such a disconnect between fair value and future growth rates that an investor may actually miss out on a prime opportunity. Fading the crowd and buying extreme values when they are made available by the inefficiencies of the market can produce superior out-sized gains. We think McEwen Mining (MUX) is setting up for outsized returns relative to the market going forward. With a PE of 7 x 2014 earnings estimates and a 2014 growth rate projected at 56%, along with a new high grade gold discovery announced this morning, MUX is cheap.
McEwen Mining (Market Cap 850 million) is headed up and 25% owned by the esteemed Rob McEwen [Founder and former CEO of Goldcorp (GG)] and seems poised to be a leader in any rally with the gold stock sector in the weeks and months ahead. No less a goal than to be in the S$P 500 index by 2015 as it is, we think the recent pullback from the recent short term rally highs is a normal correction and the stock is now ready for another large leg to the upside both for fundamental and technical reasons. First let's review the background on where we are at in the gold bull cycle, then we can discuss MUX in some detail.
"Gold and Gold Stocks, Undervalued and Poised to Run", was our March 11th Seeking Alpha article. In this article, we discussed the relative low valuations of gold stocks and also the impetus for the precious metal itself to begin moving higher. Since that time, several stocks had a nice rally, but many have pulled back over the last several days allowing another entry opportunity as we roll into the second quarter.
MUX rallied as much as 17% from the date of our March 11th article, and as we stated above, has recently pulled back and consolidated. A spate of buying hit the stock as gold began to rally off the $1550s lows and into resistance at $1617. The company also reported very good news at its 49% owned San Jose Mine on March 18th. From the Press Release itself: The San Jose mine is one of the highest-grade precious metal mines in the Americas. In 2012, more than 84,000 ounces of gold and 5.85 million ounces of silver were extracted, which was a new record for the mine.
The goal of McEwen Mining is to qualify for inclusion in the S&P 500 by 2015 by creating a high growth gold producer focused in the Americas. McEwen Mining's principal assets consist of the San Jose mine in Santa Cruz, Argentina (49% interest); the El Gallo complex in Sinaloa, Mexico; the Gold Bar project in Nevada, U.S.; the Los Azules project in San Juan, Argentina and a large portfolio of exploration properties in Argentina, Mexico and Nevada.
Of historical interest is the fact that back in late 2004, Goldcorp, then headed by Rob McEwen of MUX, announced the acquisition of Wheaton River Minerals for $2 Billion. Interesting because WRM also had a stake in a producing gold and copper mine in Argentina called Alumbrera. I remember back then thinking how cheap Wheaton River was in 2003 and the stock ran up 300% before Goldcorp took it out. Now we fast forward some 9 1/2 years later and Rob McEwen via MUX now has a 49% stake in a high grade gold and silver mine also in Argentina. In our opinion, with the stock trading at 7x 2014 earnings estimates, it reminds me of the 2003 Wheaton River valuation. As Mark Twain once said, "history doesn't always repeat but it often rhymes."
MUX currently has 79 million in cash-equivalents and 0 debt, putting it in a position of strength compared to other mid-tier producers and exploration firms. McEwen has a great eye for value and has been able to roll up acquisitions to be accretive to earnings. To wit, this year analysts are forecasting earnings per share at 25 cents, with a high of 31 cents, and 56% growth in 2014 vs. an industry average of 8% to 39 cents in 2014 with a high of 43 cents. These estimates are based on $1500 gold prices in the models, and we expect the precious metal to be trading in the 2000s in the next 12 months, lending higher potential earnings to the modeling. We would not be surprised to see upside to north of 55 cents per share in 2014, which implies a current valuation of only 5 x 2014 earnings and 10% below book value. This does not take into account exploration results, additional acquisitions, or potentially faster production growth either.
MUX also recently released results of an important metallurgical report on its developing Los Azules Copper Project in Argentina that was favorable, with a PEA (Economic Assessment) report due out in the 3rd quarter that could also catalyze the shares higher.
The key in the next move up in gold stocks is going to be stock selection more so than ever before in this 12 plus year gold cycle. You won't be able to throw a dart at a gold stock this time in our opinion. We think investors need to look for a combination of production growth, high grade gold potential, potential for expansion of existing deposits, geological locations, and relative valuation to peer groups at a discount. McEwen Mining fits the bill having traded at $4.50 per share or 59% higher than current levels just five months ago when gold was in the 1750s. A rally back into the $1800 range this year is our target and that should put MUX right back in the mid to upper 4's from current $2.82 levels in our opinion. Certainly buying MUX at 5-7x 2014 estimates using $1500 gold pricing and trading below book value seems to remove much of your downside risk, while retaining high upside.
On the technical side of things, we like the recent action in the stock. Having bottomed on March 4th as gold finally washed out, the stock then rallied from 2.25 to 3.04 over a few weeks, a very strong gain. However, we think the recent pullback from $3.04 to $2.75 fills a gap in the chart at $2.75 and allows for a normal 38% Fibonacci pullback. On the weekly chart below, we are looking at a signal that we often use for outsized gains in our forecasting. The last two times MUX was set up like this, we saw 81% and 66% gains inside of 6-8 weeks. This signal looks poised to cross again near term and could lead to a strong rally.
In summary, we expect gold to move higher in the coming weeks and months and to lure investors back into the space. One of our favorite stocks set up to participate the most on the upside is McEwen Mining.