Gold News

Cash First, Then a Catalyst

Better yields from better mining will lead investment cash back into gold stocks...
JEFF KILLEEN has been with the CIBC Mining Research team since early 2011, covering and providing technical assessment of junior and intermediate exploration and mining companies worldwide.
Prior to joining CIBC, Killeen worked as an exploration and mine geologist in several major mining camps, including the Sudbury basin and the Kirkland Lake region. Now he has spent much of 2014 on the road vetting junior mining projects, and says – speaking here to The Gold Report – that the cash-and-catalyst mindset should remain prevalent for investors looking at explorer and developer equities...
The Gold Report: Two years ago CIBC World Markets recommended taking a short position on a selection of gold stocks. What's CIBC's view on gold stocks today?
Jeff Killeen: We had put out a basket of names recommending some short positions, but at that time gold was trading at about $1600/ounce ($1600 per ounce) and there was little support for the price at that level. That dynamic doesn't seem to be at play in today's environment. We are maintaining our current recommendation: Investors should be at market weight with respect to their gold equity allocations.
Many mining stocks have performed well in 2014 and the move has largely been motivated by several factors. First, gold bullion itself has found a footing. The gold price has traded in a range of $1250-1,350 per ounce, which is fairly narrow compared to how gold prices have moved in the past three to five years. Investors are becoming comfortable with the idea that gold will remain range bound for the coming 12 months or more, and concerns that gold could drop significantly over a short period seems to be waning with gold seeing support around $1250 per ounce.
While some profit taking on strong first half share performance is certainly justifiable, I continue to recommend buying gold stocks with a focus on companies that are currently generating healthy margins and could enjoy higher trading multiples as they gravitate up toward longer-term averages. I also like gold stocks that have underperformed relative to their peers in 2014 that are projecting improving operations or have meaningful catalysts in the near term.
TGR: What do you expect the trading range for gold to be through the end of 2015?
Jeff Killeen: Our gold price estimate for 2015 is $1300 per ounce. Next year is likely to look a lot like 2014 with typical seasonal moves and maintaining that price range of roughly $1250-1,350 per ounce for the year.
TGR: Do you think the Market Vectors Junior Gold Miners ETF (GDXJ:NYSEArca) will be up another 30% through the first eight months of 2015?
Jeff Killeen: That would be difficult. There could be stocks that realize some strong performance in the back half of this year and into next year, but I don't think it will be as broad based as we saw early in 2014.
TGR: In the near term do you expect gold buying to gain steam or have seasonal gold buying trends become something of the past?
Jeff Killeen: We've spent a lot of time tracking gold's seasonal price patterns over 5-, 10- and 15-year trends. Plotting the relative performance of gold prices over those periods shows a fairly consistent seasonal pattern. A move in the gold price in early June on the back of geopolitical tensions was unexpected and may have taken some of the steam out of a fall rally, but we need to realize that the typical fall rally is largely spurred by physical demand from the East. I don't see a reason why typical physical demand wouldn't materialize in 2014 and we expect the gold price to do well over the next few months.
TGR: One division of CIBC World Markets uses quantitative models to identify predictive relationships and broad market trends. What are these models telling investors about small-cap gold stocks and the gold space?
Jeff Killeen: Our quantitative analyst, Jeff Evans, has been promoting the idea that gold stocks, especially the more volatile small- to mid-cap gold stocks, have high beta outperformance relative to the S&P 500 and the Toronto Stock Exchange given the current environment for stable or marginally upward moving interest rates over the long term. That's from a technical standpoint.
With that in mind, we have to be cognizant of the fact that we've seen better downside support and some strong moves in the gold price in 2014 that weren't necessarily expected and I'm sure that has helped move some gold stocks upward. But interest rates are having an effect on how people look at gold and gold equities, and using that as a trigger to buy or sell gold stocks makes sense to me.
TGR: In June 2013 positive news had largely stopped moving equity prices. You told us then that it would be temporary. What news is moving producer and developer equities in this market?
Jeff Killeen: On the producer side, improving operations has been the biggest motivator for share prices. Although I expect a lot of the cost improvements in the gold mining space have already been incorporated into operations, the market is thinking about how sustainable those cost improvements might be. Companies that maintain lower costs through 2014, relative to where they may have been in previous years, are likely to get attention as investors think about 2015 performance and if they should consider increasing their estimates for company earnings and cash flow. Such a scenario could generate further share support for good operators. Of course, companies that realize further cost improvements in the second half of 2014 are also likely to get investors' attention.
TGR: What about developers?
Jeff Killeen: On the developer side, we're starting to see share prices get rewarded for good drill results, resource growth and even new discoveries. When we spoke back in mid-2013 I recommended that investors stick to the cash-and-catalyst mentality, because an exploration stock needs to have a strong balance sheet and material near-term catalysts [ie, news likely to send the stock higher]. That approach was the right one and I'd stick with that concept today.
TGR: Would you make any modifications to the cash-and-catalyst thesis given what has transpired between then and now?
Jeff Killeen: Cash and catalysts are not the only components that a company must have. The main project has to have gold grades that are amenable to the type of process it is proposing, and the economics have to work at current gold prices to have a realistic chance of seeing a takeover offer. A company definitely has to have a solid management team to navigate today's tricky financing waters or wisely allocate capital.
TGR: Which types of companies are seeing interest from institutional investors?
Jeff Killeen: My producer coverage is in the small to intermediate market cap in the gold space. The intermediate producers tend to have a higher beta to the bullion price so that segment of my coverage seems to have sustained greater institutional interest in 2014. Despite some merger and acquisition (M&A) activity in 2014, the general feeling among investors is that although M&A is likely to continue, it's expected to come in the form of smaller consolidations or the sale of noncore assets by majors. In that context, exploration companies are struggling to attract attention from the institutional market.
TGR: One recent drill result at TV Tower was 130.9 meters grading 1.5 g/t Au and 0.48% Cu starting at surface. You model results like these all the time. What does that look like to you?
Jeff Killeen: No project is a single drill hole, but to have a single hole with those kinds of numbers is an excellent start. If you put several intercepts like that together you can quickly build pounds and ounces. Being able to validate a surface geological interpretation is big and a great starting point for any drill program.
TGR: What's your sense of where we are in the recovery of precious metals equities?
Jeff Killeen: I get the feeling that we have hit the bottom and taken the first leg up – but the next leg up could take some time to materialize. There are individual stocks that should have good performance through the back half of 2014 and over the next 12 to 18 months.
From a broader perspective, a lot of the cost improvements have already materialized and I think there is little producers can do to significantly improve margins or cash flow. To accomplish those things we need to see a few things happen: more fundamental support from the gold price and an increase in physical demand in India and the rest of Asia. Better yields will catalyze the generalist investor back to investing in gold stocks.
TGR: Thank you, Jeff, for your insight.

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