On Thursday, July 26, shares of Vancouver-based NovaGold (NYSEMKT:NG) declined by 25 percent, and have since declined an additional eight percent. Gold miners have had a difficult 2012 so far, and NG shares are now down over 56 percent since the start of the year. On Friday, August 3, even as the broader market climbed by about 1.7 percent, the Market Vectors Gold Miners ETF (NYSEARCA:GDX) climbed 1.95 percent and the Junior Gold Miners ETF (NYSEARCA:GDXJ) climbed 2.37 percent, NovaGold declined by 6.37 percent.
NovaGold is clearly out on its own. At this point, I believe NovaGold has become the most contrarian investment amongst gold miners, an industry that is generally considered contrarian. I decided to initiate a position. Here are the facts as I know them.
The Recent Event
This steep selloff came after Barrick Gold (NYSE:ABX), the world's largest gold miner, provided earnings that disappointed Wall Street and indicated that due to increased operating costs, it was looking to lessen its expenses regarding non-producing long term operation plans, including Donlin Gold. Barrick and NovaGold both own fifty percent of Donlin Gold, and while the Barrick did not disparage the asset, the miner made it clear that Donlin would not be producing for several years.
If fact, the project is currently so far away from the point of production that it will still take about four years for the necessary permits to be obtained. It is for this very reason that it is likely that the market is over-reacting to Barrick's statements. The comments made by Jamie Sokalsky, President and CEO of Barrick, during its conference call included:
"As part of our top-to-bottom review of all our assets, we've also evaluated our next tier of projects under our framework. As a result, we have determined that our large, longer-dated projects, Cerro Casale and Donlin Gold, do not currently meet our investment criteria, primarily due to their large initial capital investments; but also under our disciplined capital allocation framework of rate of return and free cash flow, we would not make a positive decision to construct them at this time. However, we will continue to maintain and enhance inherit option value of these large, long-life assets by continuing to advance permitting activities at a reasonable cost. In the case of Donlin Gold, this will take a number of years."
Later in the call, John D. Bridges of JPMorgan asked for clarification, noting, "particularly with Donlin Creek, you can't make a decision to go ahead with it now anyway, because you got a long permitting period in front of you," to which Mr. Sokalsky responded:
"Well, that's right. We have years of permitting there. We can spend $30 million to $40 million a year or so, moving the ball down the field and being in a position later and maximizing the value of this option that we have to make that construction decision later. But my message -- what I want to make clear in my messaging is that we aren't embarking on a process now to build those projects."
Whether Barrick pushes for this project sooner or later, it will most certainly eventually dig up that gold or sell its claim to someone else that will. Based upon Donlin's last geological survey, the Donlin site has approximately 39 million ounces of gold resources, not including an additional approximately six million ounces of inferred gold. Over time, the estimated size of the find has only increased. If developed, Donlin could be the largest gold mine in Alaska.
History Between Barrick And NovaGold
Barrick once tried to buy NovaGold. On July 24, 2006, Barrick made an unsolicited bid for NovaGold Resources worth $1.29 billion, which NG insisted was undervaluing the assets. Barrick simultaneously made a solicited bid for Pioneer Metals, a smaller miner with assets adjacent to several of NovaGold's, and for which NG had made an offer ($31 million) prior to ABX's offer ($53 million), which Pioneer's management endorsed.
NovaGold and Pioneer engaged in litigation regarding multiple assets, and NG sued ABX in both Canada and the United States in an attempt to prevent it from acquiring Pioneer. In many ways, NG was aggravating to ABX, which now has the ability to exercise muscle to either aggravate NG, or possibly help persuade the company to allow ABX to acquire it. Since Barrick attempted to acquire NG, the company's shares have declined by about 75 percent, while gold has appreciated by about 150 percent.
NovaGold filed Donlin's feasibility study in mid-January. The scope of the project is massive, carrying a $6.7 billion capital cost that will include an $834 million natural gas pipeline. Plans anticipate that Donlin will have a 27-year mine life and that it will produce 1.5 million ounces of gold per year for the first five years, at a cost of $409 per ounce.
Several hedge funds hold significant positions in NovaGold, including some of the better-known and successful contrarian investors. Presuming these hedge funds are not now bailing on NG, which appears unlikely, then I am in good company with my recent acquisition of NG shares and I got in at a considerably preferable price. One of the reasons why NG fell so much in response to the statements out of Barrick may be because several substantial positions are long term holdings, resulting in reduced liquidity and increased volatility.
For example, John Paulson's Paulson & Co. held just under 32 million shares of NovaGold, or about 11.4 percent of the company, at the end of Q1 of 2012. Paulson & Co. also increased its stake in NG during Q2 of 2012 to nearly 36 million shares, or about 12.9 percent of the company. Mr. Paulson is well known for betting against subprime mortgages before they collapsed, and buying banks after their collapse, and is largely viewed as a contrarian investor.
Over the last few years, John Paulson has developed multiple hedge funds that contemplate certain themes, including one fund dedicated to gold. Paulson also maintains gold investments within some of his other broader funds. Paulson & Co.'s positions in gold also include 915,000 shares of Barrick Gold and a 33.1 million share, 8.6% stake in AngloGold Ashanti (NYSE:AU), with Paulson & Co. last reporting owning about 33.1 million shares of the miner, or about 8.6 percent of the company. Paulson & Co.'s largest single holding as of its latest 13F-HR was in the SPDR Gold Shares ETF (NYSEARCA:GLD), in which the company held about $2.8 billion in shares.
Beyond John Paulson, NovaGold has a few other noteworthy investors, including Seth Klarman's Baupost Group. Seth Klarman is a highly regarded value investor, with a multi-decade track record of outperforming the broader market and most other funds. Mr. Klarman's investment style has been compared to that of Warren Buffett, especially to the extent that he has stated he believes the idea length of time to hold an investment is forever.
At the end of the Q1, Baupost owned 10 million shares of NG, or about 3.58 percent of the company. Baupost first started acquiring shares of NG in the second half of 2011, and reported accumulating more shares in the first quarter of 2012. Given that Baupost had acquired shares in NG during Q3 and Q4 of 2011 and Q1 of 2012, it is possible that Baupost continued to accumulate shares in Q2 of 2012, and possibly also into Q3.
Baupost and other hedge funds must report their U.S. equity holdings within 45 days following the end of each quarter, with the Q2 2012 reports due in about two weeks. As for trades made after and in response to this recent event, we will not receive substantive information until these funds file their Q3 2012 13F-HR forms in mid November. Based on the timing of the investments, Baupost likely paid an average price of 30-50 percent more per share than the price at which they now trade.
Other large holders of NovaGold include Tocqueville Asset Management, a contrarian investment advisory firm founded by François D. Sicart in 1985. Tocqueville holds several gold miner investments and last reported holding 5,197,140 shares in NG, or about 1.86 percent of the company. Additionally, Jamie Dinan's York Capital Management, an event-driven value-oriented hedge fund, owned 5.43 million shares, or 1.94 percent, of NG at the end of the first quarter of 2012. Other value-oriented institutional holders include Blue Ridge Capital and Chilton Investment Company, both of which held over one percent of NovaGold at the end of the first quarter.
Gold investing and particularly gold miner investing has been a contrarian value-oriented investment thesis for quite some time. While investments in gold have appreciated over the last several years, many of the gold miners have substantially lagged gold's performance. The first half of 2012 was generally awful for miners. As a result, it is entirely possible that NovaGold was already undervalued before last week's steep sell-off. Therefore, within the contrarian world of gold miner investing, NovaGold appears to be the most contrarian gold miner investment proposition.
Disclosure: I am long NG.