Unlike many analysts, Joe Mazumdar of Canaccord Genuity does not expect a substantially higher gold price any time soon. So what are hard-pressed gold investors to do? In this interview with The Gold Report, Mazumdar argues that they should seek high-grade resources - usually underground - in stable jurisdictions that benefit from the strong American dollar.
The Gold Report: The price of gold flirted with $1,300 per ounce [$1,300/oz] in January. In July, it fell below $1,100/oz. What happened?
Joe Mazumdar: Gold began 2015 at $1,184/oz. So, year to date, it's down about 8% in U.S. dollars. And one of the primary reasons for that is the strength of the U.S. dollar, underpinned by an economic rebound and the anticipation of an interest rate hike in the latter part of 2015. From January to July 2015, the U.S. dollar as proxied by the trade-weighted index, the U.S. Dollar Index [DXY], was up by the same amount as the U.S. dollar-denominated gold price was down, 8%.
Gold's sideways-to-downward trend is underpinned by weak demand fundamentals. Overall, Q1 2015 demand - 1,079.4 tonnes - as provided by the World Gold Council, was in line with the last two-year quarterly average. However, jewelry demand, which represents about 55% of overall demand, was down 6% versus the two-year quarterly average, down 8% quarter-on-quarter and down 3% year-on-year. Investment gold, such as bars and coins, which represents about 23% of overall demand, was down 20% in Q1 2015 versus the two-year quarterly average.
TGR: Are the central banks still buying?
JM: Purchases in the last documented quarter, Q1 2015, were about 119 tonnes, so still positive. However, that is down 18% versus the two-year quarterly average. Of note, there was a positive inflow of ~26 tonnes in exchange-traded funds [ETFs] during Q1 2015, the first net inflow in a protracted period of time. The two-year quarterly average for ETF investments was a net withdrawal of about 111 tonnes. So, much of the negative demand equation was offset by that net inflow. We don't believe that we will see the same positive impact from ETF investments in Q2 2015, however.
TGR: Is continued gold production threatened by a gold price under $1,100/oz?
JM: We highlight that the Q1 2015 mine supply net of hedging, 734.2 tonnes, according to the World Gold Council, was down 7% versus the two-year quarterly average. The only reason overall demand remained flat - 1,089.3 tonnes - versus the two-year quarterly average was a spike in the supply of scrap gold [+17% versus two-year quarterly average, 355.1 tonnes].
The impact of a lower gold price on mine supply lays the foundation for a healthier gold market in the medium-to-long term. We highlight that over the next 5-10 years, production curtailments combined with the lack of capital spent on development projects and significant cutbacks in exploration expenditures will challenge future mine supply. The paucity of projects may drive future M&A bids for junior companies with quality assets in manageable jurisdictions that are currently well funded to production due in part to the quality of the management team. In our opinion, these are the companies that investors should seek.
TGR: The gold price has collapsed during a period of burgeoning economic and geopolitical volatility. So is gold no longer a safe haven?
JM: Gold has recently lost some of its attraction as a safe-haven asset. Normally, a spike in market volatility as proxied by the Chicago Board Options Exchange Volatility Index [VIX] results in an uptick in safe-haven assets such as the U.S. dollar and the gold price. These assets are historically negatively correlated except for periods of high market volatility that generate a bid for safe-haven assets. We observed a spike in the Chicago Board Options Exchange Volatility Index [+40%] from Dec. 28, 2014, to Jan. 16, 2015, with a subsequent lift in the U.S. dollar, the gold price and the Market Vectors Junior Gold Miners ETF (NYSEARCA:GDXJ), which has a large beta to gold.
From June 23 to about July 7, 2015, when the Greek crisis was at its peak, the Chicago Board Options Exchange Volatility Index spiked up 60%. But unlike the previous spike, gold was flat to down. Some cite the collapse of the Chinese stock market as a partial reason for the muted response from the gold price. When margins were called, investors had to sell liquid assets and this may have included gold holdings. This selling may have triggered further stop-loss selling in a low liquidity environment [summer market] placing further downside pressure on the gold price. The current sentiment remains pessimistic as investors increased their short positions in gold.
TGR: The price of gold falls in U.S. dollars even as the U.S. dollar rises against other currencies. So does this mean that Canada and other non-American mining jurisdictions, such as Australia, are riding out this storm?
JM: Yes. At the start of the year, one U.S. dollar was worth CA$1.16. It's now worth CA$1.30. So the Canadian dollar is down 12-13% in 2015, which means that the gold price in Canadian dollars is actually up 3-4%. So we favor miners with high-grade Canadian assets.
TGR: Given that Canadian gold producers still make money, and their market caps are discounted by 30%, can we expect a flurry of takeovers?
JM: Yes, but we suspect that this might be put off while investors and potential merger and acquisition [M&A] suitors wait for the Canadian dollar to fall even further. Note federal elections in Canada are planned for Oct. 19, 2015. The current polls suggest that the right-leaning Conservative party and the left-leaning New Democratic Party are neck and neck. The potential for a minority or coalition government with an economy teetering on recession due in part to a weak commodity complex could place further pressure on the Canadian dollar.
TGR: Are the Chinese investing in Canadian gold companies with a view to growing China's gold reserve?
JM: China is the world's leading gold producer and its largest gold mine, Zijinshan gold-copper mine in Fujian province, which produced 331,800 oz [331.8 Koz] in 2014 [Source: SNL], is operated by Zijin Mining. To augment domestic production, Chinese firms are acquiring assets in other countries such as Canada, Africa and Australia, among other jurisdictions. Given current valuations, it may be cheaper for them to purchase assets or fund management teams with an underlying offtake agreement rather than buy gold.
TGR: We've had innumerable false dawns since the bear market started in April 2011. You told us you don't believe the gold price is going significantly higher in the near future. So what sort of projects should investors in gold equities be in?
JM: With respect to gold investors, it depends on whether you're a generalist or a goldbug. The latter doesn't need to be persuaded that gold is going much higher, and will tend to bet on highly levered plays. We do not recommend purchasing illiquid companies that are seeking to fund the advancement of a marginal deposit. The fact that our gold price forecast is basically the actual gold price futures curve at the time reflects our acknowledgement of the difficulty in forecasting the gold price with any accuracy. We prefer to recommend companies with quality projects that generate a double-digit internal rate of return at current price levels and reside in stable or manageable geopolitical risk jurisdictions within significant and prospective land packages operated by management teams with relevant experience - technical, execution and financial.
Finally, as a hedge to a downward trajectory in the U.S. dollar-denominated gold price, we would also focus on assets in jurisdictions with resource-based economies such as Canada, Australia and Brazil. All these currencies have fallen against the U.S. dollar; hence, the local gold price is higher than the U.S. dollar quote. Personally, I prefer Canada.
In the current gold market environment, high-grade underground in Canada represents the best of all possible worlds for me. Investing in a small but profitable producer operating a high-grade underground gold mine on a large land package in Saskatchewan.
TGR: Joe, thank you for your time and your insights.
This interview was conducted by Kevin Michael Grace of The Gold Report and can be read in its entirety here.
Joe Mazumdar is a senior mining analyst focused on the junior gold market at Canaccord Genuity. Prior to that he was at Haywood Securities, where he also was a senior mining analyst. His experience includes director of strategic planning, corporate development at Newmont and senior market analyst/trader at Phelps Dodge. Mazumdar also worked in technical roles for IAMGOLD in Ecuador, North Minerals in Argentina/Chile and Peru, RTZ Mining and Exploration in Argentina and MIM Exploration and Mining in Queensland, Australia, among others. Mazumdar has a Bachelor of Science in geology from the University of Alberta, a Master of Science in geology and mining from James Cook University and a Master of Science in mineral economics from the Colorado School of Mines.
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