- Precious metals prices have room to run, says WGC chair
- Miners still chasing share price increases through mergers and acquisitions
Macroeconomic rules say gold should be drawing in huge investment in this inflationary environment. But these rules also say a strong US dollar and equities are bad for the precious metal. The latter themes have won out in recent months, although gold has still held above $1,750 (£1,302) an ounce. It bears remembering the metal was trading at $1,500 an ounce two years ago and under $1,300 three years ago, and gold miners are seeing very high cash flow levels.
Momentum has shifted in the past week, however, with gold hitting a five-month high of over $1,870 an ounce following the US Federal Reserve reporting a 30-year high for inflation for October, followed by a decade high inflation reading in the UK this week.
This is a turnaround. World Gold Council (WGC) data showed a net outflow from physical-backed exchange traded funds (ETFs) in the month of October, albeit this was only 0.7 per cent to the negative. The year-to-date outflow is 4.4 per cent – or $10bn worth of gold.
Saxo Bank head of commodity strategy Ole Hansen said the five-month price high was “potentially a sign the market is finally waking up to the fact inflation is a longer-term problem and that gold has some catching up to do relative to current real yield levels”. While gold surged on the October US inflation numbers, US 10-year real yields – treasury yields minus inflation – hit new record lows of minus 1.25 per cent. Hansen said yields at these levels meant gold should be above $1,900 an ounce.
Money supply and the consequences of almost two years of stimulus point to prices moving higher again, WGC chair and chief executive of Wheaton Precious Metals (WPM) Randy Smallwood told Investors’ Chronicle.
“We have seen some – pretty serious in my eyes – abuse of a lot of the fiat currencies around the world by governments,” he said. This was because economic stimulation was needed, but Smallwood said high money supply would hit the value of major currencies. “That's why you need hard assets, hard stores of value that are liquid, like gold.”
Smallwood said inflation would very likely continue ticking up, using the copper price as an example. It is sitting above $4 a pound, or almost $9,000 a tonne, compared with $2.50 a pound two years ago. Other commodities needed for industrial output are also trading strongly, although iron ore has dropped back from its $200-plus level to below $100 per tonne.
Peel Hunt analysts tested three inflation scenarios for what they might do to the gold price and came to the unexpected conclusion that inflation staying high – hitting 3.8 per cent in mid-2022 before drifting back down toward 2.5 per cent over the next four years – would actually see gold in a weaker long-term position, given interest rates would also rise. According to Peter Mallin-Jones and Tim Huff, the best long-term case for gold is that inflation is transient and interest rates stay low.
“We think those worried about sustained elevated inflation levels should add to positions now and exit in 12-24 months’ time,” Mallin-Jones and Huff said. “Those thinking inflation will be very transient should limit gold exposure with a view to buying gold equities in [around] 18 months’ time.”
After two years of high prices, the miners are awash in cash. In North America, this has led to massive deals: most recently, Kirkland Lake (Can:KL) and Agnico Eagle (Can:AEM) announced a $24bn merger. Kirkland was a small miner just a decade ago, but its work expanding an underground mine in the gold rush-era town of Bendigo in Australia was a launch pad for greater things. The all-share deal to create the enlarged entity was done at just a 1 per cent premium, as both companies chased a combined uplift in valuation.
Even Barrick Gold (Can:ABX) and Newmont (Can:NEM), the top two gold miners in the world – with Agnico set to take third place post-merger – have seen their premium to net asset value fall from around 2.3 times in mid-2020 to 1.98 times for Newmont and 1.55 for Barrick, according to FactSet.
This is one area where London’s bigger gold miners are doing better than the world-topping Canadians. Polymetal’s (POLY) forward price/book ratio is 3.3, although this is also well below its peak last year of over 4.5 times, while silver miner Fresnillo is at 2.4 times, down from 3.6 times. Hochschild Mining (HOC) is at a similar level to Barrick on this metric. Single-asset operators such as Centamin (CEY) and Hummingbird Resources (HUM) could be among those targeted in the next stage of consolidation – both trade cheaply, at 1.2 times and 0.5 times book value, respectively, but each one experienced production difficulties right as gold was soaring last year.
This is a tricky time to pick the direction of the market: the consensus forecast for 2022 sees gold at an average of $1,701 an ounce, according to Liberum, indicating widespread belief in a weaker year ahead. Given this is still well above the average of the past 20 years and investors will likely look to gold as inflation ticks up, the sector looks to have a solid footing.