Few sectors can match gold for it chronic ability to destroy long-term shareholder wealth. ASX-listed gold stocks collectively underperformed the sharemarket market, despite the bull run in gold in the previous decade. But the gold sector looks more interesting after heavy falls.
The All Ordinaries Gold index’s average annualised loss of 13.4 per cent over five years to January 2014 compares with the 13.1 per cent annual gain in the S&P ASX 200 index. Over one year, the All Ords Gold index, heavily influenced by Newcrest, Mining, has slumped 55 per cent.
It gets worse. Fund outflows from gold exchange-traded products (ETP) hit a record US$18.5 billion in the second quarter of 2013, according to ETF Securities, the leading commodity ETP provider. Assets under management in gold ETPs fell to April 2010 levels as investors deserted the metal.
In its latest quarterly ETP report, ETF Securities wrote: “The gold price and investor positioning today reflect near unambiguous negative sentiment on gold’s prospects, based on expected higher global interest rates and a stronger US dollar as the US economy recovers.”
On paper, it is hard to make a case to buy gold. The US economic recovery is strengthening, the US dollar seems likely to rise this year, especially if emerging-market currencies wobble and funds flow to the Greenback. Also, deflation seems a bigger risk than inflation in several advanced economies.
But this unrelenting negative sentiment should interest contrarian investors. I believe gold can make a base in the first half of the year, albeit with high volatility, and gradually lift in the second half. Combined with low equity valuations, some gold stocks appeal.
A few caveats, first. Long-term investors, such as Self-Managed Superannuation Funds, are generally better off gaining exposure to gold through an ETP rather than gold equities. A small weighting to gold in portfolios, 5 per cent or less, makes sense for diversification.
Active investors comfortable with higher risk should focus on gold ETPs and gold equities. Although I normally prefer gold ETPs to gold equities – due to the elimination of sharemarket and company risk – gold stocks such as Newcrest Mining look oversold.
So much depends on the US economic recovery. If it grows faster than the market expects in 2014, gold and silver will have another bad year, after falling more than 30 per cent in 2013. But if the US recovery starts to falter, gold could surprise on the upside.
The former chairman of Morgan Stanley Asia, Stephen Roach, this week wrote that the “champagne should be kept on ice” for the US economic recovery. He warned the healing process for the US economic recovery had years to run as high debt and a weak labour market weighed on consumers.
Emerging markets are a bigger wild card. Gold rallied for a fifth straight week as global investors sought portfolio hedges against emerging-market volatility. The gold price rose 1.4 per cent last week and is already up 5.3 per cent so far this year, off a sharply lower base. Calendar-to-date, the All Ords Gold index is up 14 per cent, compared to a 2 per cent decline for the ASX 200 index.
ETF Securities wrote this week: “Investors in gold appear to be getting more bullish (and less bearish) recently, with gold open interest on COMEX increasing at the same time as net long positioning has rebounded. The breakdown of non-commercial positioning in gold futures shows that short positions in gold futures, after climbing back to nearly a record high a few weeks ago, have started to moderate. Last week’s gold-price rally on the back of rising stress in emerging markets likely prompted further short covering. Long positions have also stabilised after a period of steady decline. While too soon to call a change in overall market sentiment, the trend merits watching.”
I agree. It’s far too soon to get excited about gold, but there are enough signs to suggest the negative sentiment is moderating, and that the recent rally in gold can extend in 2014. If gold can hold above US$1200 an ounce, and head towards US$1350, it would a much better year for gold bugs.
Newcrest Mining looks the standout gold stock at current prices. It had an awful 2013, slumping from a 52-week high $24.77 to as low as $6.96, before recovering to $9.56. I like management’s efforts to turnaround Newcrest, its latest production report impressed, and its board has been strengthened.
For all of its recent problems, Newcrest has one of the higher-quality, long-life resource bases, and plenty of scope to lift productivity through cost cutting and reduced capital expenditure, and maximise free cash flow. Consensus analyst estimates of $11 for Newcrest in 12 months look about right. The possibility of significant writedowns next could present a buying opportunity in Newcrest.
Silver Lake Resources is also worth watching. It was smashed from a 52-week high of $2.87 to as low as 35 cents, before improving to 59 cents. The emerging gold producer and explorer has the flagship Mount Monger, Murchison and Great Southern projects in West Australia.
Canaccord Genuity this week noted in its latest technical analysis of mining share-price charts that Silver Lake was “breaking out” to the upside.
Of the other precious metals, silver should improve if gold heads higher, and will benefit additionally from higher industrial demand. But I prefer platinum and palladium, principally because of possible supply problems amid strike action at South African mines. A pick-up in European auto demand and strong demand from Chinese jewellery buyers in 2014 are other positives.
ETF Securities has platinum and palladium as two of its top-three commodity picks for 2014, the other being copper. An ETP over platinum looks the best bet for exposure to this commodity.
Tony Featherstone is a former managing editor of BRW and Shares magazines. He is not a licensed financial adviser and this column does not offer financial advice. Readers should do further research of their own or talk to their adviser before acting on themes in this article. All prices and analysis at January 30, 2014.
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