Gold stocks: danger as they heave

As investors look again at the sector and speculators continue to look for the next Red Back, there are fundamental changes afoot in the global listed gold sector.

Freeport-McMoRan, one of the world’s top ten miners, by value, is currently trading around record levels of USD 120.00 a share. With a current market value of USD 56.3bn, Freeport-McMoRan is worth a few billion dollars more than Barrick, the world’s biggest and most valuable gold digger. Barrick could also be had for around USD 20.00 a share as 2008 skidded to a humiliating end; since then, the stock price has doubled, but is yet to triple.

Freeport-McMoRan, up six fold, is known primarily as the world’s biggest publicly traded copper miner (and No 2 in the world, after Chile’s state-owned Codelco), and No 1 in molybdenum (a crucial ingredient in steelmaking), but also ranks as a global Tier I gold miner. Grasberg, in Indonesia, ranks as the world’s biggest gold mine, but that role is seemingly played down by the massive tonnage of copper that the mine produces.

Freeport-McMoRan has been around for a long time. It is a company that has shown scant tendency to yield to fads and fashion. The nationalisation of the group’s assets in Cuba back in 1960 may be compared with the way it handled several years of threats under the “revisitation” of its Tenke Fungurume contract in the Democratic Republic of the Congo. That issue was resolved a few months ago: while the publicity material was careful to heap praise over the role of the DRC, it was win-win for Freeport-McMoRan.

Tenke Fungurume, in which Freeport-McMoRan has invested USD 2bn in Phase I, was possibly “too big to fail”, but it escaped the terrible sagas experienced by Toronto- and London-listed First Quantum‘s Kolwezi tailings project, and its mines at Frontier and Lonshi. First Quantum may yet rise to a victory over its travails in the DRC; in the meantime, it is rapidly expanding its global footprint.

Size and maturity count in mining. Freeport-McMoRan’s effortless refusal to yield to “gold fever” that has developed over the past decade, as gold bullion has moved from one high to the next, may be close to really paying off.

Freeport-McMoRan’s considerable asset portfolio is well built. This can be compared to the vast majority of gold companies, which over the past decade have increasingly taken on projects and builds that may well have been considered too risky or too marginal beyond the grandstanding demanded by so many investors/speculators, willing to scream like banshees on the tiniest provocation.

In the same overheated boiler room, a good number of gold companies have indulged in spectacularly well-priced takeovers. Transnational gold miner Kinross recently acquired Red Back for USD 7.1bn, for its gold mining interests in Ghana and Mauritania. The shareholder resolution for the deal was approved by 70% of Kinross’s shareholders. Roughly 99% of Red Back’s shareholders approved the deal, providing a handy summary of the egos involved in structuring the transaction.

Goldcorp, another Tier I gold stock that was a small name just a decade ago, has an interesting time ahead, proving up strings of acquisitions made, especially, after 2005. The most recent deal on this front was the friendly CAD 3.6bn takeover of Andean, for its relatively modest developing deposit in Argentina.

The decade-long bull market in gold has been coincident with similar bull markets in most commodities, and a protracted bear market in the dollar. While dollar commodity prices have boosted revenues, more (naturally) expensive raw materials and an increasingly premium market for skills means that new mines of all kinds are ever-dearer.

Capital expenditure, both new and for maintenance, has especially challenged gold miners, which are increasingly being shoved into building polymetallic mines. Goldcorp’s Peñasquito mine, advertised as the biggest open pit in Mexico, is one prime example.

One empirical way to compare the dynamics is by measuring cash flows. In 2007, Freeport-McMoRan produced USD 4.5bn in free cash flow (operating cash flow, less capital expenditure), compared to the negative USD 2bn aggregate produced by nine of the world’s biggest gold miners. During the first nine months of 2010, the comparable numbers were USD 3.4bn and USD 4bn, respectively.

Despite demonstrable qualities that set it apart from miners who emphasise gold above all else, Freeport-McMoRan’s market value, currently around an all time record at USD 56.3bn, compares very modestly indeed to the aggregate USD 195.3bn market value for the nine gold miners cited, AngloGold Ashanti, Barrick, Goldcorp, Newmont, Harmony, Agnico-Eagle, Kinross, Gold Fields, and Yamana.

A cynic may say that this is even more remarkable, given that dollar copper prices are currently running around all time records. Then again, big gold miners are increasingly building and commissioning mines that produce more than gold; the “other” list is headed by copper. This tends to be played down even more than Freeport-McMoRan plays down its significant gold production.

For gold miners, the clichéd “never let the facts get in the way of a good story” may yet be overwhelmed by the Buffett notion that price always eventually catches up with value. But in the field, anything can happen.

If Barrick was to bid for Freeport-McMoRan, the Jurassic period would return to the planet. If Freeport-McMoRan bid for Barrick, Freeport-McMoRan’s entire board of directors and management would be declared insane and sent on permanent holiday to Cuba. 

For now, Freeport-McMoRan has pushed Barrick and the rest into the shadows. Recent stock pricing patterns suggest that investors/speculators are cooling on big gold stocks (Kinross remains in the dog box, for now, and Agnico-Eagle is relatively out of favour, possibly over the quality of its cash flows, and record debt levels). Looking beyond the Tier I group, there is evidence of yet-heavier selling of gold stocks.

More broadly, seen over the past year, the listed global gold sector (now encompassing close to 1,000 names) has been outperformed by a number of other listed mining subsectors, including silver, tin, copper, uranium, potash, molybdenum, non-Asian coal, and zinc.

At this point, fewer than normal of the world’s biggest gold stocks appear in the Top 100 gold stocks, measured by stock pricing levels. Much of the interest, such as it is, continues to chase the evergreen pasture of outguessing “the market” on the next Red Back or Andean. Over the past 12 months, stocks which have risen by 1,000% or more include Canaco Resources, Burey Gold, and Papillion, each of which is active in Africa. There are others, active all over. For speculators and insomniacs, there is still action to be had.