Earlier this year, gold investors were on Cloud Nine. Despite having rallied to nearly $1,400 an ounce in 2016, the shiny yellow metal did something even more special – it kept above the $1,300 an ounce mark for its longest time period in five years. With Wall Street failing to increase margin expectations, it was my belief that most gold-mining stocks would handily surpass profit projections in the quarters that lie ahead.
But the tables have since turned. Since mid-April, gold has lost roughly $145 per ounce, or more than 10% of its value, placing it officially in correction territory for the first time in nearly two years.
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Explaining the recent correction in gold
Why the sudden swoon in gold prices? Chances are it's a mixture of worries.
For example, U.S. GDP for the second quarter recently came in at a robust 4.1%, which is the fastest quarterly growth rate since 2014. Generally speaking, gold benefits when there's economic uncertainty and fear. Strong growth tends to have a positive impact on the U.S. dollar, which, in turn, puts pressure on gold. The dollar and gold usually move opposite of each other. Plus, strong GDP growth is likely to coerce investors to buy riskier assets, such as stocks, rather than commodities.
Building on this point, a faster economic growth rate is likely to get the Federal Reserve thinking about its monetary-tightening cycle. This "tightening" involves raising interest rates in an effort to curb rising inflation. When interest rates rise, typically so do yields on interest-bearing assets. If these yields continue to rise, investors could choose to trade out of gold, which has no yield, in favor of these safer, interest-bearing assets.
Concerns about a trade war between the U.S. and China have also worried gold investors. Again, while fear and uncertain are typically good for gold, it's not such great news when a trade war could limit the import or export of products where gold is used, such as in certain types of electronics.
Add these factors together, and we get a pretty good glimpse of why gold prices have lost their luster since mid-April.
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There are plenty of factors are still working in gold's favor
Of course, there are also plenty of reasons for gold investors not to worry about the precious metal's recent drop.
Though this is a bit of a knee-jerk effect, we've seen inflation picking up in recent months. According to data from the Bureau of Labor Statistics through June 2018, the Consumer Price Index for All Urban Consumers has risen almost a full percent since the year began to 2.9% on an unadjusted 12-month basis. Higher inflation can curb gold's appeal in the face of Fed rate increases, but it also has the opposite effect by being a positive for gold.
There's also gold's supply and-demand outlook. According to newly released data from the World Gold Council, demand for the yellow metal fell 4% in the second quarter. While that's not optimal, most of that decline was based on exchange-traded-fund demand. Meanwhile, jewelry, technology, bar and coin, and central bank demand remained fairly consistent. That bodes well for the long term, especially with the market not facing any oversupply issues.
Gold should also benefit from unknowns and uncertainties that seemingly arise all the time in the stock market. Remember, since 1950, the broad-based S&P 500 has undergone 36 corrections whereby the index has lost at least 10% of its value. That's about one correction every two years, and plenty of opportunity for investors to seek the safety and store of value that gold is perceived to provide.
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Gold stock investors have little to worry about
More importantly, investors in gold-mining stocks have little to worry about thanks to cost-cutting efforts implemented over the past half-decade. Since the gold rush of the early 2010s, and a subsequent decline in spot prices through 2015, gold stocks have focused on expansion at only their most profitable mines, and they've reined in exploration budgets. The result has been a significant decline in all-in sustaining costs (AISC).
In descending order, based on the midpoint of the range offered by management, here are the forecasted AISCs for seven top gold producers:
- Kirkland Lake Gold (KL): $750 to $800.
- Barrick Gold: $765 to $815.
- Goldcorp (GG): $760 to $840.
- Yamana Gold (AUY): $850 to $870 (co-product AISC).
- Agnico Eagle Mines: $890 to $940.
- Kinross Gold: $926 to $1,024.
- Newmont Mining: $965 to $1,025.
With spot gold closing at roughly $1,208 an ounce on Aug. 2, a more than one-year low, each and every one of these major producers has a buffer of at least $210 an ounce, if not higher, relative to their AISC.
Some gold stocks, such as Goldcorp, have been actively working to reduce their operating expenses in the wake of a volatile spot price. Goldcorp initially set out to review its operations and slash $250 million in annual expenditures. However, the company has been so successful in its endeavors to increase operating efficiency that it's raised the bar by $100 million to $350 million in expense reductions by the end of 2019. Goldcorp's management believes the company is perfectly on track to grow production by 20%, and reduce AISC by 20%, by 2021.
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Others, like Kirkland Lake Gold, which has the lowest AISC of the group based on midpoint, have turned their attention to expanding at only their highest ore-grade mines. Kirkland Lake's recently released second-quarter operating results highlight a substantial improvement in ore grade at its flagship Fosterville mine, as well as record quarterly production at Macassa. A long-term underground project at Fosterville should help push gold production from a range from 275,000 to 300,000 ounces this year, to more than 400,000 of gold by 2020.
And then there are miners like Yamana Gold, which have relied on byproducts, such as silver and copper, to reduce their overall production costs. Yamana is in the process of bringing a number of new assets online, including Cerro Moro, which recently began commercial production. It's not out of the question that Yamana could grow production by an aggregate of 30% between 2017 and 2020, all while seeing its AISC decline.
In short, spot gold would have to significantly decline from its current level before gold stock investors have anything to worry about.
