Gold mining fundamentals have never been stronger – CFRA report

Written by: Sundeep Goyal
May 15, 2020
  • Gold prices are likely to be bullish due to macroeconomic factors
  • These factors include massive, worldwide quantitative easing
  • Gold miners benefit from rising gold prices due to operating leverage

The world’s most precious metal, gold, is an excellent way to hedge the tail risk from COVID-19, according to a research report by Matthew Miller, CFRA. Further, gold’s fundamentals have strengthened following the massive amount of quantitative easing unleashed across the globe to combat the economic damage from the pandemic. An investment in gold mining companies is a great way to ride an appreciating gold price because gold miners are leveraged to gold price movements.

Deteriorating economic scenario

CFRA point to risks from a subsequent outbreak of COVID-19 after countries start to wind down lockdown restrictions.

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Other risks include burgeoning fiscal deficits, negative-yielding bonds, fiat currency debasement, and potential inflation. The report points to these sombre economic details:

  • 33 million new jobless claims in just seven weeks
  • The number of companies pulling 2020 guidance
  • Rising solvency risks in American business

Commodities, meanwhile, are suffering from a historic collapse. Commodities benchmark the S&P GSCI Index slumped 38% year to date as on May 6. Among the 24 commodities covered by the index, gold is the only commodity that is up nearly 11% as on that date.

Lastly, the Fed balance sheet is in runaway mode, touching a record $6.72 trillion as of May 6.

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Additional stimulus

“The Fed will likely need to do more to stimulate the economy and bond yields will likely continue to head lower, possibly even go negative,” says Miller. “We think gold is poised to appreciate further, especially given the Fed is borrowing around three trillion dollars this quarter to fund U.S. fiscal measures.”

That is prescient. Fed Chair Jerome Powell said as much Wednesday coming out with a highly pessimistic outlook on the pandemic-struck U.S. economy. An additional stimulus would be perhaps needed because of “significant downside risks,” he observed.

“Additional fiscal support could be costly, but worth it if it helps avoid long-term economic damage and leaves us with a stronger recovery,” Powell said.

All these factors are solid tailwinds for the price of gold.

How a rising gold price helps gold miners (disproportionately)

“When the gold bullion price moves, gold miners generally move in the same direction to the tune of 2x to 3x the price of underlying gold bullion,” says the CFRA report. “The major reason for this leverage to gold prices is the operating leverage that is achieved as a result of relatively stable cost structures.”

According to CFRA estimates, a rising gold price with a fairly stable All-In Sustain Cost (AISC) could produce pre-tax earnings at a gold miner of approximately $225 to $310 per ounce for full-year 2020.

Gold miners are in an enviable position

According to the report, even during the virus crisis, gold miners are in a sweet spot.

They enjoy an appreciating gold price; mostly stable production targets; lower diesel, chemical, and other costs; and very strong balance sheets.

Consensus EBITDA at top gold miners show “significant margin expansion” for 2020.

Top gold miner picks

The report covers the following companies: