Larkin: Gold's Stealth Bull Market

With gold riding ever-higher peaks lately, it's hard to imagine that any investor could still remain in the dark about the potential of the yellow metal. But despite the record-breaking prices, says S&P Equity Analyst Leo Larkin, the greater investing public just hasn't jumped on board the gold train. That could mean even higher prices ahead, he says, both for bullion and miners.

An expert in metals and mining, Mr. Larkin recently sat down with HAI Associate Editor Lara Crigger to share his thoughts on gold, including whether the rally is overheated, how miners both large and small will fare in the coming months, and whether investors have missed their chance to get in.

Crigger: Gold's been on a tear lately. Is there a risk this rally will become overheated?

Larkin: It certainly looks overbought. It's looked overbought for some time now. Maybe what will happen is that it will consolidate sideways before going higher, but it just doesn't seem to be giving up an awful lot of ground.

Frankly, it's stronger than I thought it would be. My year-end target price for gold was $1,050/oz., and we're there already.

Crigger: Your colleague Mark Arbeter said that $1,200/oz., even $1,500/oz., wasn't that far off.

Larkin: Well, Mark was using technical charting patterns to derive that target, and that's fine. My own target is still $1,050/oz., and although it may look like it's out of line for what we're seeing now, I haven't changed it, or my target of $1,200/oz. for 2010, although some might say now that that's too conservative.

Crigger: Do you expect that we'll see a bit of a pullback?

Larkin: I think there's going to be a little bit more ebb and flow to the market, although so far, that doesn't seem to be the case. It's not pulling back very much. And it's not giving people who haven't yet invested a chance to get in at a lower price. That tends to happen in a bull market; people wait around for a correction, but it never goes down far enough to give people an opportunity to get in at a more favorable price.

Crigger: So have investors missed their opportunity to jump into gold, then?

Larkin: Not necessarily. I think the trend is still higher. Like I said, I'm looking for $1,200/oz. at the end of next year. Again, that may be too conservative, but even that is a big increase from where we are now. It's roughly a 14% gain.

I've seen numbers near $2,000/oz. in that same time frame. I suppose that's possible, but it's an awfully large gain. If you adjust gold for inflation to where it was in 1980—it peaked in 1980 at about $850/oz.—people are coming up with a number of $2,000/oz. So I don't think a number like that would be too out of line. But it's not the type of number I'd expect to see in the next several years. Then again, it did surprise me on the upside.

Crigger: So ultimately, can the good times continue?

Larkin: There's quite a bullish consensus for gold right now, and sometimes, that can be a bad thing for prices. But even with gold where it is, it still strikes me as something of a "stealth" bull market.

Crigger: A stealth bull market? Really?

Larkin: Yes, because when you think of how much gold has risen since 2001—it's nearly quadrupled—it still doesn't seem to have excited an awful lot of people. There doesn't seem to be much public participation yet. There's no sense of a mania at this juncture. One day, there probably will be, and then it will be really big. So some people who suggest that this is a bubble already, I think are probably mistaken.

But professional investors are taking a different attitude. For a long time, I think they dismissed it. Now, gold has done so well, it's starting to attract attention from institutions that heretofore would not have bothered with it. I see it even gets more coverage on CNBC, which has been pretty hostile toward it over the years.

Crigger: Which fundamental factors do you think are most going to influence gold prices over the next six to 12 months?

Larkin: I think that we'll start to see fears that inflation is going to pick up, and that the dollar will continue to weaken. The dollar has already dropped quite a bit. It's a kind of a stair-step decline that would obviously help gold. Plus, if the dollar keeps falling, people are going to look to commodities as the ingredients for economic recovery.

But if you look at what's happening in base metals and petroleum, they're both making recovery highs. They're on the track up from 2008. As it appears the world economy is beginning to grow again, people will start to worry about inflation, and that will help push up gold.

Crigger: What are your thoughts on gold miners?

Larkin: I'm actually not recommending any at the moment. I'm neutral on them. They're holds, based on valuation.

Crigger: Okay, I won't ask for stock picks. But what factors are underlying the outlook for this group?

Larkin: The price of gold itself, for starters. Also, the moderation of input costs will probably start to change as you get further into the fourth quarter and the first half of 2010. For a lot of 2009, the comparisons were pretty easy: input prices for the mining companies - like diesel and so forth - were a good deal lower in 2009, compared to 2008. Now we're starting to turn the corner, so those rising raw material costs—costs for things like petroleum and steel and other mining inputs—are going to start to put a little pressure on the margins.

Crigger: Who will fare best in the coming months: big gold miners, juniors, the mid-tier producers?

Larkin: Probably the midsized producers will benefit most, but they'll probably all go up. I don't follow any of the juniors, so I can't talk specifically about that, but I would guess that as the price goes up, the smaller, more speculative mining companies will probably outperform the big blue chips like Newmont Mining (NEM), Barrick Gold (ABX) and some of the other companies that people are familiar with.

The mid-tier producers might attract more money. When you're as big a company as Newmont or Barrick, it's very hard to replace reserves. The law of large numbers starts to work against you, as opposed to Yamana Gold (AUY) or Agnico-Eagle (AEM), where your base is much smaller. There's more blue sky in the smaller or midsized producers.

Crigger: How do you think geopolitical risk will play into the outlook for gold miners moving forward? I'm thinking specifically about Mongolia's Oyu Tolgoi mine, and how it's just taken forever to get the ball rolling, due to internal government squabbling.

Larkin: Well, that risk is there not just for gold miners, but also for copper miners, and others, too. Anyone involved in the mining business has to try to cope with that risk. There's nothing unique to the gold mining companies about operating in politically difficult environments.

But I suppose to the extent that it constrains supply, it's good for gold. It may not be so good for the individual company that's trying to expand its production. But in a macro sense, it probably helps the price of gold.

Comments

[Marco G.:]

The number one take away from this is that large cap companies are fully valued and too large to expand quickly "the law of large numbers work against". So the biggest bang for the buck could come from mid sized miners expanding quickly.
Marco G.

Oct 23 08:06 PM

[DormRoom:]

wasn't Gold's 80s peak due to the Hunt brother's almost cornering the silver market? You can't take that $850/oz data seriously. It's an outlier.

Oct 23 10:40 PM

[Tom Szabo:]

He mentions Yamana and Agnico-Eagle, soon-to-be-million-ounce gold producers with 1/3rd the market cap of already-over-5-million... gold producers like Barrick and Newmont. Where is the leverage in that? What you have to find in this market are comparatively undervalued producers like New Gold and Great Basin Gold as indicated by our valuation model. If you don't mind a current copper producer that is a gold developer as well then you might look at Taseko. There are also a number of TSX-traded up and comers that have some good leverage.

As for Mr. Larkin's statements about gold market fundamentals, they are very safe and pedestrian. He makes it sound like the gold price is going to slowly drift from $1050 to $1200. Moreover, he repeats the canard that gold will really soar when the public starts to participate in earnest. Whereabouts has Mr. Larkin been sticking his head in the sand? Did he not notice Jim Cramer, hedge fund advisor to the unwashed masses, already extoll the virtues of gold? And does he not realize there is already widespread participation by the public in the gold market --- as demonstrated by all those Cash4Gold commercials. Granted, the participation isn't a widespread buying frenzy but does he really believe this bull market will look EXACTLY like the one that ended in 1980?

Oct 24 05:41 AM

[venividivici:]

Tom while I largely agree with your last paragraph, I have just looked at New Gold and I don't think it stacks up against the stock I am heavily invested in, Kingsgate Consolidated, KCN on the ASX. The stock had a bad day on Friday but its total costs of production in the last quarter stood at $288 an ounce, it just had a very nice fully franked 15 c dividend and it discovered almost twice as much gold as it mined.

Oct 24 06:02 AM

[Tom Szabo:]

Kingsgate is pretty solid as are some other ASX listed mid-tier golds. If you are looking for maximum leverage and high risk/high reward, I'd pick Oceana -- our model gives it significantly more upside potential.

Oct 24 03:06 PM

[goodasgold:]

Yes, more people are selling their gold and silver
jewelry and sometimes coins to raise money, but the general public is not yet investing. Despite a 400 percent increase over the last eight years, most people are simply not aware of it. Look at the popular financial magazines and you seldom see gold mentioned and even less recommended. The financial "professionals" are
prime examples of missing the boat ... talk about institutional bias!

Oct 24 10:04 PM

[The Recusant:]

One would think that "hope springs eternal" as the general public continues to believe in the optimistic reports of recovery coming from the government and many analysts. They are remaining on the sidelines if they have any money left or still investing in bonds for protection. But is it too late for them to get into gold? The analysts were saying to get into gold on a pullback at $940, then at $960, and now they're telling people to buy in below $1050 and there's still no big pull-back in sight. They'd best get in soon before it hits $1,200.

As for miners, the braver risk-takers can bet that the juniors will begin to shine next year when the price of gold will enable them to find plenty of financing for drilling. Personally, I like the Red Lake miners in Ontario because the finds so far are very rich and also because it is in Canada, a secure country both politically and economically.

Oct 24 10:06 PM

[anarchist:]

That was months after Gold had fallen from $850 to $300 or less.


On Oct 23 10:40 PM DormRoom wrote:

> wasn't Gold's 80s peak due to the Hunt brother's almost cornering
> the silver market? You can't take that $850/oz data seriously.
> It's an outlier.

Oct 24 10:52 PM

[anarchist:]

This always happens just before the big gold crash. As soon as you see adds in the paper "bring your old silver and gold to the fair grounds Sunday and we will pay you cash"-baby, it's time to get out of gold stocks.


On Oct 24 10:04 PM goodasgold wrote:

> Yes, more people are selling their gold and silver
> jewelry and sometimes coins to raise money, but the general public
> is not yet investing. Despite a 400 percent increase over the last
> eight years, most people are simply not aware of it. Look at the
> popular financial magazines and you seldom see gold mentioned and
> even less recommended. The financial "professionals" are
> prime examples of missing the boat ... talk about institutional bias!

Oct 24 10:56 PM

[Mongoose:]

I'm going to look at (KNC), thanks for the heads up. My stable of gold miners are as follows: GG, KGC, AUY. JAG, EGO, GSS, AZK, NGD, NXG, UGX, RBY, NSU.
OTHER METALS: CDE, SLW, PAL,HL. GOOD LUCK and don't weaken now. JR

Oct 25 12:29 PM