Taking a portfolio approach to four gold stocks to watch
Including gold stocks in a balanced portfolio is still paying off. Under the Radar Report's homegrown gold stocks have returned an average 90% since the early 2018, most recently aided by a gold price that has climbed 21% in six months in US$ and 18% in A$ terms.
Under the Radar Report has had long-term success from the likes of Northern Star Resources (NST) and Evolution Mining (EVN). In fact, NST is one of Under the Radar’s best performing gold stocks, having increased more than 14 fold since we first tipped it.
Australia’s extraction expertise should never be underestimated. What you pay for this skill, experience and potential is the key to making money. Of course, you should overlay this with a view on the gold price, which is what we are discussing.
Bears will argue that gold stocks are an entirely speculative asset, which relies on a greater fool to buy. To an extent that is true. The proof of the pudding from our perspective is the long history of gold as a store of wealth. Gold is also portable, fungible, anonymous and easily tradable.
How do you value gold stocks to watch?
The importance of owning gold stocks in your portfolio has only increased over the past few months. The unlimited money printing triggered as a response to the coronavirus, on top of existing record levels of government debt, has a number of implications to gold stocks. In the medium term these would appear to be very supportive of the price of gold in US$. It is possible that A$ strength will offset that somewhat, if US$ weakness continues to be part of the gold story.
In our view the reluctance of central banks worldwide to increase interest rates from current levels of zero, which means that real interest rates will be negative, significantly increases the risk of inflation in the medium term. Ultra-low interest rates also mean that the cost of owning gold stocks for a professional investor is negligible.
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Should you buy gold stocks?
The conditions certainly favour buying gold stocks: low interest rates, US dollar weakness and almost unparalleled economic uncertainty due to COVID-19, which is all combined with an unprecedented binge of central banks around the world printing money in the form of Quantitative Easing.
The biggest factor in buying gold stocks is that gold is not an obligation of the US government. You need to protect yourself with a financial asset that is not compromised by political exigencies. Gold stocks and other hard assets have the historical record of maintaining long-term purchasing power despite violent currency fluctuations. We have always reminded subscribers that gold stocks remain a portable and tradable financial asset that is not an obligation of the US Government, or anyone else. That is still the appeal when is comes to buying gold stocks.
But after golds strong run since the worst of the coronavirus liquidity crunch, there is bound to be some consolidation, and we advise investors to use those opportunities to add some exposure if they do not already have enough.
Existing holdings regarding gold stocks should be anywhere between 5% to 10% of any portfolio, and a mix of low cost strong gold producers and a Gold ETF (GOLD) or bullion itself is recommended.
We continues to favour holding Australian diversified gold producers but at current levels they are very expensive. Even if the gold stocks aren’t the best value today, the key is to get to know them. When the price dips and your portfolio is ready for gold exposure, you can transact with more confidence.
Pantoro Limited, Australian based single asset gold producer
Radar Rating: Hold
ASX code: PNR
Share price: $0.255
Market cap: $300m
Net cash: $70m*
Dividend yield: 0%
Tip date: 4 July 2019
Tip price: $0.20
Out of all four gold stocks, this is by far the riskiest gold stock and as you would appreciate, it’s also the one with the most potential. The gold stock is in a trading halt as we write, as it’s raising $45m at 24 cents a share, which is above 18 cent level it traded this time last year. It’s been a wild ride for investors, having traded as low as 6.5 cents in March. You heard right. This gold stock highlights single mine risks and exploration potential.
Last year management was continuing to talk up the ramp up of its Nicolson’s gold mine in WA’s Kimberley region to 80k ounces a year. This has been a major disappointment; in the past 12 months it produced under 40k ounces of gold and it probably only has a 2-3 year mine life.
What has surprised was its Norseman Gold Project (50%) located south of Kalgoorlie, which has always had a large resource of 4.4m ounces but has always proven to be difficult to mine. The high grades that are coming out have got investors excited and the company intends to spend about $60m on the mining project – hence the capital raising.
Radar Rating: The gold stock looks fairly valued/expensive, although it does have big exploration potential. There is high risk, you are paying up for the gold price to keep going and there is exploration risk. We think investors should hold on for the ride. HOLD.
Evolution Mining, Australian gold producer
ASX code: EVN
Share price: $6.12
Market cap: $10.4bn
Net debt: $196m
Dividend yield: 2.4%*
Tip date: 18 March 2015
Tip price: $0.72
* 12 month forecast
Evolution remains our favourite gold stock and recent reports suggest that the company is delivering operationally as well as benefitting from the sharply rising US$ gold price. While it has successfully managed issues within its control, the second half illustrates both the good and the bad luck that is inherent in gold stocks, even a mature producer like EVN.
FY20 production ex Red Lake was 715k oz at an all-in sustaining cost (AISC) of US$700/oz (A$1008/oz). Mine operating cash flow was up 45% at $1,121m, 4Q20 net mine cashflow was $225m, full year net mine cashflow was $736m, and free cash flow, from which dividends are paid, was $542m.
The Cowal underground maiden ore reserve of 804k oz and increased indicated resource of 2.9m oz will bring forward first production of higher-grade ore from the underground extension and provide a step change in production. Management believe that Cowal continues to have the potential to be a world class mineral system.
EVN bought the US Red Lake goldmine from Newmont for US$375m, completing in March. The group must make substantial investments after acquisition to improve output and efficiency. It is likely to take at least 3 years to reach management’s annual targets of 200k oz at an AISC below US$1000. 4Q20 was expected to deliver 25k oz @ A$2100-A$2300/oz AISC, but in fact A$1943 was achieved. Operational improvements have shown early gains and focus on production challenges are starting to bear fruit. Management also say the scale of opportunity at Red Lake is far greater than expected.
The sale of the Cracow short life mine raised $60m in July, with further minor payments and royalties to come in the medium term. The bad news was that a $75m-$100m non-cash write-down was triggered by a review of the resources at the Mt Carlton mine. There was a 10k oz FY20 impact from the Mt Carlton shortfall, with a likely ongoing annual impact of 10k-15k oz. But the downgrade represents only 1% of the company’s total resource and the company’s mines have an average reserve life of 10 years.
We are forecasting an annual dividend of 15 cents based on the interim, and we recommend Evolution as one of the better ways to expose a portfolio to long term gold price upside especially if the gold stock comes back again on any temporary gold price weakness.
Radar Rating: EVN is delivering some significant operational wins and if it can realise its growth potential, there should be earnings upside even without further gold price appreciation. But the valuation reflects much of the good news in the short term, and we will look again if there is any price weakness. HOLD.
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Northern Star Resources, Australian gold producer
ASX code: NST
Share price: $16.43
Market cap: $12.2bn
Net cash: $70m
Dividend yield: 1.2%*
Tip date: 14 June 2012
Tip price: $0.83
* 12 month Forecast
We said in our last couple of reports after the acquisition of 50% of the Kalgoorlie Super Pit late last year that this gold stock would be in a position to grow into its valuation. Fourth-quarter record production and strong margins illustrate what a value adding acquisition this has been. While the acquisition was reasonable value when the acquisition was made when the gold price was US$1523/oz, having increased to over US$2,000, the acquisition has been exquisitely timed, proving the adage, you have to be in it to win it with gold stocks.
The June quarter all-in sustaining cost (AISC) of US$969/oz was made up of Australian operations at less than US$900/oz and Pogo operations in Alaska at US$1276/oz. FY20 production was 928k oz including 201k from Pogo. 4Q20 underlying free cash flow was A$200m, with an average selling price of almost A$2500/oz, against A$2,208/oz for the full year. This included sales of 271k oz into hedged positions, reducing the hedge book to 536k oz, equal to about 15% of the next three years’ production
Having issued equity to raise cash for the Kalgoorlie acquisition, NST has net cash of $70m. The company expects to publish FY21 production and cost guidance in the coming weeks. The cost of additional COVID-19 measures was $10m. Pogo had 36 confirmed COVID-19 cases; while the pandemic continues there has been around a 25% negative effect on production output there.
This gold stock has made operational progress at its Super Pit acquisition, while other operations are performing as forecast for relatively mature operations. Pogo remains a work in progress.
The 7.5 cent interim dividend that had previously been delayed to October was brought forward and paid in mid-July, and the company expects to pay 6% of revenue as normal. This suggests that the final dividend for this gold stock will be higher than was expected, despite the shares issued for the Kalgoorlie super pit acquisition.
We said previously that NST would be geared towards any gold price move, with a conservative balance sheet, Tier 1 assets and very limited sovereign risk protecting the downside. With medium term growth plans intact, the recent record gold price run has allowed this gold stock to grow into its valuation very quickly, and we will keep a close eye on progress.
Radar Rating: Another strong operational performance together with partially hedged exposure to a rising gold price makes NST one of the most attractive counters in the sector. We cannot upgrade at the current valuation but will return for another look on any weakness. HOLD
OceanaGold, Gold producer
Radar Rating: Hold
ASX code: OGC
Current price: $4.01
Market cap: $622.3xm
Net debt: US$121m
Tip date: 16 Nov 2016
Tip price: $3.70
The first quarter (1Q20) results to March were in fact better than we expected for this gold stock. Revenue was US$188m and EBITDA $42m, for a net loss of $10m. Operating cash flow was US$121m. FY19 EBITDA had been $214m for a historical enterprise value/EBITDA multiple of 11 times. Net debt of US$121m reflects steps taken to increase cash conversion. Production of 80,700 ounces was at an all-in sustaining cost (AISC) of $1218/oz, which is on the high side but still produces strong cash flow at the current gold price.
The company is increasing production at Haile in USA, where two thirds of its output is expected in 2H20 with the fourth quarter the strongest. New Zealand operations are back to capacity after COVID-19 disruption and production is rebounding. Despite the difficulties, management maintained its FY20 forecast production guidance of 360k-380k oz at an AISC of US$1050-US$1130.
In the Philippines, the renewal of the key license remains with the office of the President, which leaves the company with a difficult decision. If the mine is put into care and maintenance to save ongoing operating costs, the time to resume full production goes from a few weeks up to a year. If there were a simple solution to the local government standoff, it might have been found already.
Radar Rating: This gols stock has been a big beneficiary of the gold price rise and its South Carolina mine Haile is starting to perform. The uncertainty triggered by the Philippines mine shut down has continued for too long and is a shadow over the gold stock. We suggested keeping positions on this gold stock very small to reflect the Philippines risk. HOLD.