I have never been a big fan of gold investing personally. The yellow metal is, of course, the premier non-performing asset in the world. Gold accomplishes nothing when held as an investment. It creates no jobs, no products and no ideas. It simply remains in a vault. However, its scarcity makes it an excellent hedge against inflation, something which the Fed's current monetary policy has only bolstered. However, nothing lasts forever, and the sun will set on the Fed's policy of cheap money. Is it then worth the risk to invest in these gold stocks before the big price plunge?
First up is Kinross Gold (KGC), a miner and processor of gold, silver, and copper ores. The Toronto-based company produces gold from mines on four continents and has proven reserves of 63 million ounces of gold, 85 million ounces of silver, and 1.4 billion pounds of copper. The stock trades for $9 per share and pays a dividend which yields 1.80%. It also posted a net loss in 2011 of $2 billion before adjustments, therefore it does not have a valid price-to-earnings ratio. For curiosity's sake, Kinross's P/E is -4.87. Its statement of cash flows, which includes adjustments to income and net borrowing shows the company holds $300 million more cash than it did at the end of 2010. From a business standpoint, the company looks like it is making the right choices long-term. The company has doubled its net tangible assets to over $8 billion in just two years in an effort to capitalize on the rising price of gold during the recent financial crisis. Solid long-term business decisions, however, can burn investors in the short run.
Barrick Gold (ABX) has a portfolio of 26 mines operating across five continents. Its stock, priced at $40 per share, pays a dividend which yields 1.50%. The stock has been in a tailspin since the beginning of 2012 and, as a result, has an inexpensive P/E of 8.86. It posted net income of $3.3 billion in 2011 after a net loss of $4.3 billion in 2010. It brought in $1.4 billion of cash last year and has reserves of $4 billion total. In fact, 2011 was Barrick's most profitable year on record. Its balance sheet is growing as well. Tangible assets grew from just under $10 billion in 2010 to $13.7 billion at the end of 2011. Last year, Barrick produced 7.7 million ounces of at a cost of about $340 per ounce. It is the global leader in gold production.
Barrick's portfolio contains several outstanding mines, its Goldstrike mine in Nevada is on one of the lowest cost mines in the world, an ounce of gold costs just $245 to mine there, and the mine produced 1.1 million ounces last year. Its Lagunas Norte mine in Peru, which was only expected to produce 9.1 million ounces of gold when it opened, has reserves of 6.2 million remaining even after 6.9 million ounces have been mined. Its copper mines, such as Zalvídar in Chile and Lumwana in Zambia, are cash cows and fund further investments in its gold business.
Goldcorp (GG), from Vancouver, has mines from Canada down to Argentina. Its stock trades for $40 and its dividend yields 1.30%. Its P/E is a pricey 18.33. Goldcorp had net income $1.6 billion and negative cash flow of $300 million. Its net tangible assets have grown from -$2.4 billion in 2009 to nearly $20 billion last year. The miner produced 2.51 million ounces of gold last year and expects to produce more than 2.60 million ounces this year at a target of $1,600 per ounce. Cost will range from $250 to $600 per ounce. Goldcorp is targeting 70% growth by 2016.
AngloGold Ashanti (AU), a South African company, is trading for $33 and pays a dividend which yields 3.20%. The stock has an astonishing P/E of 1,015. Its net income totaled $112 million last year, but negative cash flows of $620 million. It holds net tangible assets of $4.3 billion and its balance sheet has not grown nearly as quickly as the other companies on this list. AngloGold has two new mines coming online in Congo and Colombia.
Finally shifting stateside, we have Freeport-McMoRan (FCX), a Phoenix-based company with mines throughout North America, South America, and in the Democratic Republic of Congo. The stock changes hands for $37 and pays a solid 3.30% dividend. It owns 120 billion pounds of proven copper reserves, 330 million ounces of silvers, and 34 million ounces of gold. Its mining portfolio also includes some trace elements, such as molybdenum and cobalt.
I do not see a lot of value in an investment in any of these firms, save Barrick. To say that I like Barrick is a bit of a stretch, but I can see it recapturing a P/E of 12 off a bounce, which would bring 35% gains to the buyer. Its consensus price target is $61.50, at which point its P/E would become an average 13.70 and a buyer today would gain 55% of his or her investment, however I'm not convinced it will climb that far.
Why am I bearish on all of these gold stocks? From a behavioral viewpoint, they are not the hot stocks right now; tech stocks are. The buying pressure just is not there. The contrarian investor might view this as an excellent reason to hit the buy button, but it would be wise to consider the impact that the macro pressures gold is facing. Whether we investors like it or not, the Fed will be forced raise rates to real levels and the synthetic market we see today will disappear. Continued private sector de-leveraging and the smaller governmental debts will bring deflationary pressure as fiat currency disappears and real value is added back to the dollar. We, thanks to the pitiful progress of our elected representatives, have only begun the process of rebalancing our economy.
Gold prices will fall along with prices across the greater economy; when this occurs and the producers will suffer. The highly inflated price of gold will fall faster than the cost to produce it, and margins will be squeezed. Evidence of a possible reversal in the long-running inflationary trend can be seen in the US manufacturing sector. It's creating jobs, lots of them in fact, and will continue to do so because our currency is so devalued. Exporting goods from the US is extremely profitable in today's market. The low value of the dollar means they get more bang for their buck when they sell their products on the international market.
While the rebirth of the American manufacturing sector is a wonderful sign for employment, it is somewhat similar to the 2000s tech bubble. Entrenched exporters are making money hand over fist, and now everyone wants in on the action. In investing, when everyone wants in, it's time to head for the exit. Furthermore, political pressure to cut the national debt is mounting, and will only aggravate the deflationary pressure at work. Finally, a significant reduction in inflation will quell the calls for the return to the gold standard. The combination of a growing potential for deflation and falling demand certainly does not bode well for the gold miners, and they will be forced to cut production. The industry's revenues and profits will fall in lock-step.
Kinross and AngloGold are the least attractive companies on this list. They are not profitable, and that is bad for investors. If the new mines they opening do not pan out, either one of them could be forced in fire sales of their mines. That being said, the threat of actual bankruptcy for either of these firms is low; they have valuable assets they can sell to cover losses. Nothing excites me about Freeport, and I do not see Goldcorp's goal of 70% growth as feasible given easing gold prices. Worse, much of that growth is already priced into the stock. All things equal, 70% growth in its profits would only bring Goldcorp's P/E down to 12, a 33% reduction. In other words, the stock price is effectively capped because the company's future growth is already priced-in.
Finally, Barrick is essentially a short-term arbitrage play. The stock is fundamentally underpriced and will recover. The company behind the stock is solid, but a good company is not a guarantee of a good stock. Barrick is a busted stock, with a low dividend, no less, in an industry that will be busted by a rebalancing economy. Avoid these stocks; they are not investment grade.