Gold: A Rising Tide Lifts All Boats
Gold is a casualty of the tug-a-war between the Fed and the markets, states John R. Ing, President & CEO, Maison Placements Canada Inc. The sharp spike in rates have firmed the greenback, causing a correction in gold, which has fallen from the record high at $2,000. Also, the rallying markets and the vaccine rollout has deflated some of gold’s “safe-haven” characteristics. However, seasonal demand from large consuming countries like China and India will put a floor under the price as China continues to buy more gold than it produces, says Ing.
Also supporting higher prices are real yields, which remain negative despite the uptick in rates. Ing believes gold’s bull market remains intact on expectations that the US dollar is a suspect currency because of the size of US deficits and escalating debt load. He continues to expect $2,200 an ounce as gold’s next target. Gold remains a barometer of investor anxiety of which there is much ahead.
Inflation Is Dead,
The Obituaries Are Premature
Since the nineties, inflation has been non-existent but three decades later, rising inflation warnings are being ignored as in the fable of the “Boy Who Cried Wolf”, who repeatedly cried wolf because he was bored, but when a wolf actually showed up, the villagers ignored him and the sheep were lost. Today the warnings of inflation, because of massive deficits and levels of debt are being ignored, just as markets believed in the 60s that a surge in inflation was impossible. The conditions are ripe for a comeback. They were wrong then, and today. History teaches us otherwise. In the late sixties, the Fed accommodated deficit spending to fight the Vietnam War and finance President Lyndon Johnson’s “Great Society”. Within two years, the direct consequence of the ‘guns and butter” decision led to higher government spending, deficits and inflation. Gold went from $32 to a peak of $875 an ounce in 1980 or a 2,634 percent gain.
Inflation is already here and the warning signs are everywhere, in booming markets, art prices collectibles and currencies. In stealth-like fashion, inflation has moved closer to the targeted 2 percent, fuelled largely by the massive stimulus packages which represented a whopping 15 percent of America’s GDP. Markets too are dynamic, recording successive highs. Add in a new round of $1,400 stimulus checks and rising import costs due to a weaker dollar, you have the toxic combination of the cost-push inflation of the late 60s and early 70s, when double digit inflation required double digit interest rates and a recession to stop near hyperinflation.
Yet, despite the threat of higher rates, the Fed is reluctant to end the cheap money stance because of the 2013 market collapse when a hawkish Ben Bernanke tightened in a” taper tantrum”, that erased 30% of the gains in a month. Not wanting to repeat Bernanke’s taper tantrum, the Fed has downplayed the concerns and will tolerate an overshoot of the targeted 2%, notwithstanding that the combination of ultra-low rates and overheated markets elevates systemic risk and quashes the price discovery of other assets. The problem is that we declared the patient dead from the symptoms, not the causes. Inflation is very much alive.
If the supply of Kobe beef were as plentiful as bushels of wheat, the price of Kobe beef would be lower given the relationship to supply and demand. Likewise, if the supply of money increases too fast, goods will cost more as money buys less. For much of the 20th century and part of this century, the quantity of money was fixed to gold. That changed in two stages with the latest in 1971 when President Nixon severed the link to gold, flooding the world with dollars. The money gates were opened. Since then, not surprisingly the purchasing power of the dollar has declined 90 percent while gold peaked at $2,000 an ounce. The money explosion isn’t over.
Commodities are a lead indicator of inflation. In addition, hopes for a vaccine-driven global economic recovery juiced by the record amounts of fiscal stimulus have, in our opinion, laid the foundations for the first leg of a supercycle similar to 2000s or seventies. Hopes for a structural bull market in commodities were boosted by China’s early recovery from the pandemic and unprecedented spending by global governments. Looking beyond the memes and mania, the other signs of a Fed-enabled frothy market is the herds’ switch from GamesStop to bigger game, commodities. Silver was the first choice when over one billion ounces of silver traded in one day. However, commodities were already in an upswing fueled by pent-up consumer, supply bottlenecks and industrial demand for raw materials and China’s voracious appetite.
Steel prices are at the highest level in more than a decade on the back of a rebound in Chinese demand. Copper has risen 40 percent as the shift to the green economy accelerates. Trump’s trade war with China forced commodities like soybeans higher, doubling in price in the last year. Crude oil has jumped 75 percent since November due to OPEC production cuts. Food prices have increased every month since May. It would appear that trees can grow to the sky. We believe there is a secular change happening. The longer the Fed resists putting its foot on the monetary brakes, the closer we get to an out-of-control inflation or even hyperinflation.
Commodities are lead indicators of inflation. Most are priced in dollars and the recent slide in the dollar has made them cheaper in other currencies, further boosting demand. Meantime, years of lower prices have forced the shutdown of capacity and curbs in spending, holding back supplies. The oil industry is a good example where low shale oil prices curbed production and capex spending.
In essence the avalanche of central bank and fiscal stimuli have created a series of bubbles, overflowing into other markets like commodities where agricultural, industrial, and energy bubbles have reached their highest levels since 2013.
Although the boom-like conditions raises hopes of the biggest economic boom in a generation, America’s economy is on a slippery slope and self-destructive path. The stimulus package and war on Covid was not paid by higher taxes or bond sales to the public but by debt that has tripled in 12 years and, there is more to come. Money supply has skyrocketed and the profligate spending only widened the wealth gap, undermining the US dollar role as the world’s reserve currency.
Gold is a casualty of the tug-a-war between the Fed and the markets. The sharp spike in rates have firmed the greenback, causing a correction in gold, which has fallen almost 18 percent from the record high at $2,000. Also, the rallying markets and the vaccine rollout has deflated some of gold’s “safe-haven” characteristics. However, seasonal demand from large consuming countries like China and India will put a floor under the price as China continues to buy more gold than it produces. Also supporting higher prices are real yields, which remain negative despite the uptick in rates. We believe gold’s bull market remains intact on expectations that the US dollar is a suspect currency because of the size of US deficits and escalating debt load. We continue to expect $2,200 an ounce as gold’s next target. Gold remains a barometer of investor anxiety of which there is much ahead.
The next generation of gold mines will have to cope with lower grades, more hostile jurisdictions and tougher environmental restrictions such that the long lead times between “pick to pour” will mean supplies won’t be available until the end of the decade. The industry did not replace reserves last year.
Meantime, the industry is awash in cash so M&A activity is one of the cheaper ways to boost depleting reserves since it is cheaper to buy ounces on Bay Street than to go out exploring. We believe M&A activity will gather momentum with miners needing to replace declining reserves, particularly since the average market cap per ounce at in-situ reserves is less than $500 an ounce. IAMGold’s acquisition of Monarch, Agnico’s buyout of Hope Bay, Evolution’s bid for Battle North, Red Lake Mining, Kinross’ purchase of Peak Gold and Newmont’s $400 million bid for GT Gold, suggest that the game of musical chairs has only just begun as the industry gobbles up cheap reserves on Bay Street. Gold companies will attract even the value players because of their low P/E multiples and above average dividend payments.
We thus continue to favour the senior producers like Barrick and Agnico Eagle. We also like growth oriented B2Gold and Lundin Gold. We believe Eldorado and Kirkland Lake, Centerra and Centamin will be among the likely participants in M&A game of musical chairs. Developers like McEwen Gold and Osisko are cashed up, poised to bring on new production. New players like Victoria Gold and Equinox Gold should be looked at now that the teething problems are behind them.
• Agnico Eagle Mines Ltd. (AEM) – Agnico's latest results were ahead of expectations, producing 500,000 ounces in the quarter generating $1.2 billion of cash flow for the year. Agnico will produce 2 million ounces this year, an 18 percent improvement over last year. However, the next few years out, Canadian Malartic’s Odyssey, and Amaruq in Nunavut will boost output by 300,000 ounces which some found lower than projected. Agnico’s reserves were boosted by 12 percent to 24 million ounces due to 3.3 million ounces from Hammond Reef. As for Hope Bay, they are starting anew because Hope Bay was a sinkhole for money due to a poorly developed processing plant and plans. A new mine plan is required. Reserves are there but Hope Bay has become another one of Agnico’s development projects.
Meantime, Agnico will spend $160 million on exploration and $800 million on capex. At Kittila in Finland, the expansion will boost average tonnage to 2 million tonnes per year despite a delay with shaft sinking. At the Canadian Malartic joint venture, about $30 million will be spent on drilling, largely at East Gouldie as that mine switches from an open pit to the largest underground operation in Canada. Agnico has abundant free cash flow, great execution capabilities and an array of development projects. The pullback in the shares presents an attractive buy opportunity.
• B2Gold Corp. (BTO) – B2gold reported net income of $672 million for the year, benefitting from a trio of low-cost operations. B2Gold had a record year producing one million ounces from Fekola (623,000 ounces), Masbate (205,000 ounces) and Otjikoto (168,000 ounces) in Namibia at an AISC of $926 an ounce. B2Gold’s next producer will be the Columbian Gramalote joint venture, which could produce 400,000 ounces with half attributable to B2Gold. Construction could begin this year and a feasibility study is expected in April. After expanding Fekola to 7.5 Mtpa from 6 Mtpa and adding to the fleet, the company is looking to mine nearby satellite deposits, Cardinal and Anaconda which is only 20 kilometres away. B2Gold has almost half a billion of cash and is net debt free. AISC is an industry low of $900 at ounce and the company plans to spend $66 million on exploration. We like the shares here.
• Barrick Gold Corp. (ABX) – The world’s second largest producer has become a cash machine and upped its shareholder payouts by declaring a return of capital of $750 million, from the sale of $1.5 billion of noncore assets. Barrick reaffirmed guidance at 4.7 million ounces at an AISC of $1,000 per ounce. Barrick also sold Lagunas Norte in Peru for $81 million, removing closure liabilities as part of its sale of non- core assets. Left out of this guidance is PNG’s Porgera mine, which is locked in a dispute with the government over the renewal of its mining lease. History shows that the government’s desire to kill the golden goose always ends in a give and take, but mines do not stay idle for too long. With $3.4 billion of free cash flow, Barrick’s cash hoard is about $5.2 billion and net debt position is zero, a far cry from the $13 billon of debt in 2013. This year, Barrick should generate another $4 billion of cash with a healthy contribution from Bully in Tanzania. We like the shares down here.
• Centerra Gold Inc. (CG) – Centerra will produce between 700,000 – 800,000 ounces this year but lower grades from flagship Kumtor in the Kyrgyz Republic will boost AISC to $1,000 an ounce (due to sequencing). Newly commissioned Oksut in Turkey will produce 100,000 ounces. Mount Milligan in BC should produce between 180,000 – 200,000 ounces and 70 million pounds of copper, with the water problems behind them. Cash flow is expected between $750 and $800 million with Oksut generating $100 million of free cash flow. Centerra’s new life of mine (LOM) plan for Kumtor increases reserves from 3 million ounces to 6 million ounces, extending that mine’s life from 5 years to 11 years. Centerra has a debt-free balance sheet with $545 million of cash so share buybacks or dividend hikes are possible. Hold.
• Eldorado Gold Corp. (ELD) – Mid-tier Eldorado maintained its guidance this year between 430,000 – 460,000 ounces at AISC of $1,000 an ounce. Eldorado boosted reserves at Lamaque in Quebec adding 800,000 ounces of gold at 9.5 g/t from Ormaque, which could be mined in the latter part of this year. Eldorado acquired QMX in Quebec, a tuck-in acquisition. After protracted negotiations, Eldorado entered into an agreement with the Greek government for development of Skouries, Olympias and Stratoni, which could finally surface hidden value after two decades of talks. The deal needs to be ratified by the Greek Parliament but allows resumption of Skouries development. We like the shares for the hidden Greek value.
• IAMGold Corp. (IMG) – IAMGold had a disappointing quarter producing 653,000 ounces last year but AISC jumped to $1,300 an ounce. This year, IAMGold’s production will be flat with reserves slipping to 14 million ounces since the miner did not replace reserves last year. Essakane was a bright light producing 364,000 ounces. However, the company must spend a good part of $1 billion to fund the joint venture Côté Gold over the next two years with $355 million to be spent this year. Also, IAMGold’s total sustaining capital will top $120 million while non-sustaining capital totals $590 million. We thus believe IAMGold’s shares are dead money, particularly given the potential downside risk if Côté is not be the project as advertised. Sell.
• Kinross Gold Corporation (K) – Kinross had a flat year producing 2.4 million gold equivalent ounces from flagship Paracatu in Brazil, Kupol in Russia and Tasiast in Mauritania. Cash flow was almost one billion and Kinross ended the year with over $1.2 billion in cash and equivalents versus total debt of $1.9 billon. Kinross should produce 2.4 million ounces this year but Tasiast will produce fewer ounces pushing AISC to $1,025 an ounce. Kinross is expected to spend $900 million this year and $120 million on exploration. Reserves were boosted at Lobo Marte where a feasibility study is set to be released before yearend. Unfortunately, Kinross’ big capex plans will drain cash over the next few years so the shares are dead money for a while. We prefer B2Gold here.
• Kirkland Lake Gold Ltd. (KL) – Kirkland reported a solid quarter producing 370,000 ounces in the quarter for record full year production of 1.4 million ounces at AISC of $800 an ounce. Free cash flow was $733 million with Detour contributing 40 percent. Kirkland’s balance sheet is strong with cash piling up to $850 million and no debt. As a result, the miner bought back almost 19 million shares and paid $115 million in dividends. Guidance for this year was unchanged. Fosterville in Australia reserve grade slipped largely due to depletion and the high-grade mine has a short life. Overall, Kinross’ resources are pegged at 20 million ounces reflecting the rationale for acquiring Detour Lake mine which has a long reserve life. Sustaining capex at Detour was $270 million. At Macassa, shaft sinking is at 4,240 feet with a targeted depth at 6,400 feet to be reached late 2022, a year ahead of schedule. Kirkland shares have done well and we expect them to be on the acquisition trail again, using their richly valued paper.
• Lundin Gold Inc. (LUG) – High grade miner, Lundin had a good quarter producing 97,000 ounces and 242,000 ounces in its first year of production at Fruta del Norte (FDN) in Ecuador. Generating positive cash flow, FDN is expected to produce about 400,000 ounces at a low AISC of $800 an ounce, generating free cash flow of $300 million. We expect Lundin to aggressively pay down debt incurred to build FDN and the Company has begun an aggressive exploration programme on its extensive Ecuadorian land position. We like the shares here for potential exploration surprises. Buy.
• New Gold Inc. (NGD) – New Gold produced almost 67,000 ounces in the latest quarter due to higher grades at Rainy River and New Afton. However, AISC increased to $1,491 per equivalent ounce. Cash on hand improved to $185 million allowing them to redeem $200 million of notes. Renaud Adams has turned around operations and Rainy River’s mill ran at 150,000 tpd which should result in a pick-up in production and lower costs.
However, a new mine plan at New Afton following the mud-slide has become now a four-year project. On a brighter note, the Company surfaced hidden value by selling Blackwater for $190 million of cash and an 8 percent gold stream. Although Blackwater has reserves of 8 million ounces of gold and 61 million ounces of silver, the capital cost was too high for New Gold. While New Gold may be a turnaround situation, over the near term, there are better buys like B2Gold or Eldorado.
• Newmont Mining Corp (NGT) Newmont reserves were flat last year joining other miners who encountered difficulties replacing reserves with the drill bit. Newmont’s reserves fell to 94 million ounces of which 35 percent are in North America. Newmont plans to spend $215 million on exploration and purchased GT gold for $400 million whose Tatogga copper-gold Saddle North project is in the Golden Triangle. While Newmont produced 1.6 million ounces in the fourth quarter, meeting guidance of 5.9 million ounces, production slipped 11 percent from a year earlier as they pruned the Goldcorp portfolio.
Newmont generated a whopping $3.6 billion of free cash flow and holds $5.5 billion in cash allowing them to buy back shares (last year share buyback $1 billion) as well maintain a liberal dividend policy tied to the gold price. At Tanami, Newmont produced 600,000 ounces at AISC of $745 an ounce. Tanami’s expansion will involve a 1.6-kilometre deep production shaft to boost output by 150,000 or 200,000 ounces per year. Nonetheless, we prefer Barrick shares for its upside superior potential.
• Yamana Gold Inc. (YRI) – Yamana provided 901,000 ounces of (geQ), meeting guidance. Jacobina produced 44,000 ounces in the quarter and almost 180,000 ounces for the year. El Penon in Chile, continues producing 43,000 ounces and 930,000 ounces of silver but the mine is mature. Yamana’s profile for the next few years is flat with AISC around $1,000 an ounce. Resources are almost 14 million ounces of gold with newly acquired Wasamac in Quebec adding 1.8 million ounces and an updated feasibility study is planned for this year. Nonetheless, Yamana has too much debt for our liking. Sell.
Editor’s Note: This is an edited version of Maison Placements Canada Inc. Gold Report, prepared by John Ing, President and CEO of Maison Placements Canada Inc. Founded in 1955, Maison Placements provides a comprehensive array of financial services to institutional investors and small to midsize corporate clients. For more information on Maison Placements Canada Inc., visit www.maisonplacements.com.
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