After the Gold Rush

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Daniel Greenspan

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Daniel Greenspan, senior analyst and resource team director, CIBC Asset Management.

Gold has generally been drifting lower to the $1,850-an-ounce range since hitting an all-time high of $2,060 an ounce in early August. Sentiment has been somewhat working against gold in recent months as investors gained increased confidence in vaccine rollouts and a path towards normalcy, hopefully in the second half of 2021.

With that outlook in mind, some of the speculative risk positioning in gold has come off, which has weighed on the price. At the same time, U.S. interest rates have strengthened since the end of August with the US 10-year treasury rate strengthening from a low of 0.5% in early August to plus 1% now, which has coincided with weakness on the gold side. That said, we still believe the fundamental outlook for gold remains constructive into 2021.

Should vaccines roll out faster or in line with expectations, then we believe there will be pent up consumer demand that will drive increased spending in the second half of the year that could drive higher-than-expected inflation. At the same time, we believe that interest rates will remain low as the Fed has signalled a willingness to tolerate higher inflation than usual. Under that scenario, higher inflation and lower rates would drive negative real rates that should be supportive for the gold price.

On the other hand, should vaccines roll out slower than expected or should the pandemic persist, we believe central banks and governments will remain accommodative via monetary and fiscal policy. Interest rates should remain low, government stimulus and spending should remain high, both of which should also be supportive for gold. While we do remain constructive on the outlook for gold, we do recognize that this is not a straightforward path, and there are a lot of moving parts that could impact the gold price this year.

Where we see risks to the gold price outlook are on faster-than-expected hiking of interest rates leading to a stronger U.S. dollar; a continued risk-on sentiment in the markets that drives outflows from gold and precious metals into the other more risky investments like base metals, energy; and a lack of inflation could be a headwind for gold, even if spending ramps up.

In terms of the equity outlook, we believe gold equity valuations remain reasonable, and we believe companies have heard shareholder concerns and are acting more responsibly. In the past, gold miners have been viewed as poor allocators of capital, but so far through this bullish commodity price cycle we’ve seen measured and well-considered M&A, we’ve seen dividends grow and we’ve seen buy-backs active.

In the large-cap space, our topic is Newmont. We view the company as a relatively high quality gold producer with consistent operations and a credible pipeline of growth projects that can sustain production over the medium term. We like the company’s strong balance sheet and solid management team and we’re comfortable with the geographic exposure. Newmont has been a leader in capital returns in the gold sector, and recently announced another billion-dollar buyback to be executed over the next 18 months. The buyback compliments the healthy dividend of $1.60 a share, which at the current stock price implies a yield of 2.6%.

In the mid-cap space, our top picks are Endeavor Mining and SSR Mining. Both are companies that are digesting acquisitions, which has probably held the share price back a bit in 2020 and we see room for them to catch up. On Endeavor, the company completed the acquisition of SEMAFO in 2020 and is in the process of acquiring Teranga Gold, both of which are West African gold producers with assets that compelment the Endeavor portfolio and where we see operational upside and synergy potential in Endeavor’s hands.

Endeavor trades at a discount to mid-cap peers and we expect the valuation gap to close as the acquisitions are integrated into the portfolio and the free cash-flow generation potential of the asset base becomes better appreciated. We also see exploration upside of the assets and see a pipeline of growth projects that can add to the production base over time. We view the management team as strong and the balance sheet is in good shape. Geopolitical risk is high in this stock with four mines in Burkina Faso.

On SSR Mining, we view this as a high quality mid-cap gold producer. The company has a strong balance sheet in a net cash-positive position, a strong management team with a track record of executing both on M&A and at its operation. We see significant free cash-flow generation potential from the asset base, which could drive capital returns to shareholders and a growth strategy at the company over time, which we believe will help the stock to outperform.

And finally, in small cap, we like Pure Gold Mining who’s developing and operating the high-grade Madsen mine in Red Lake, Ontario. The company recently poured their first gold this year, and we expect them to enter commercial production early in 2021, which we think drives a re-rating in the stock as it de-risks and moves into steady state production. We also see exploration upside activity at the mine over time. We think there’s potential to optimize the mine plan and add higher-grade ounces earlier in the mine life as well. The stock is under-followed and under-covered, which could change as it moves into commercial production.