Australian gold producers are shining in a gloomy market for corporate earnings. Our lower currency is supporting the Australian dollar gold price and further gains this financial year are likely. Expect the market to upgrade earnings forecasts for mid-tier, Australia-based producers.  

This column became moderately bullish on gold last year, nominating Newcrest Mining, Northern Star Resources, Silver Lake Resources and the ANZ ETFS exchange-traded fund over gold. My latest column on gold, in June, singled out Gold Road Resources and Evolution Mining, and had a more favourable outlook on the gold sector.

The Australian dollar’s outlook largely underpins this view. I expect further falls as Chinese economic growth slows, commodity prices decline, and the Reserve Bank is forced to cut interest rates in November. My base case is now for two further rate cuts in the next six months, not one, given the Australian economy’s outlook.

Also, the US Federal Reserve is getting closer to the first rate rise in this cycle, if not in December then in the first quarter of 2016. That will inevitably attract more capital to the US and further pressure commodity-based currencies such as ours.

Predicting currency targets is, of course, a mug’s game. But the Australian dollar’s headwinds are strengthening and its downtrend has further to run this year and next. AMP Capital chief economist Dr Shane Oliver expects our dollar to fall to US60 cents in the next year or so, “with the risk that it will go even lower”. A trading range of US60-65 cents by this time next year would not surprise. The risks are to the downside.

A lower Australian dollar would boost local gold producers and those with offshore operations because their earnings are worth more when translated into our currency. Investments banks have been upgrading gold earnings forecasts on the back of lowered currency forecasts.

I wouldn’t be as bullish on gold if not for our currency’s decline. Higher US interest rates, the absence of global inflation, and potentially weaker gold demand for emerging markets, work against the US dollar gold price. But it’s a different story in Australian dollar terms.

The Australian dollar gold price has rallied from $1,470 in August to $1, 645, and is retesting its January highs. Gold traded at $1,800 an ounce in mid-2011.

As revenue rises, lower energy, capital and operating expenses are helping to boost profit margins for gold producers. The end of the mining investment boom has crunched demand for mining services and is making it cheaper for Australian gold companies to expand production.

This improving outlook is reflected in the S&P/ASX All Ordinaries Gold Index’s 20 per cent rally over one year. It compares with a negative 2 per cent total return in the ASX 200. After several years of horrible underperformance, the sector’s recovery is long overdue.

Newcrest Mining, the market’s largest gold stock, is undervalued. Its long-suffering shareholders watched it slump from $42 in April 2012 to $7.69 after operational and governance issues disappointed the market, production costs rose, and the gold price fell. Newcrest has since rallied to $12.53 and the market is becoming more bullish.

Newcrest Mining

Source: The Bull

Of 16 broking firms that cover Newcrest, seven have a strong buy or buy recommendation, five have a hold, and four have an underperform, consensus estimates show. Two months ago, there were eight underperform recommendations and five buys.

Share-price targets range from $9 to $15 and the mean target is $12.89. That implies Newcrest is almost fully valued at the current price, but the market might be lagging with its currency forecasts and underestimating the potential of a lower Australian dollar on Newcrest’s earnings.

Some researchers are bullish. Morningstar has a buy recommendation and values Newcrest shares at $22. Macquarie Equities this week upgraded its recommendation to outperform and has a $15 price target.

Macquarie upgraded its Newcrest earnings forecasts over the next three years by about 25 per cent. It wrote: “Newcrest is a major beneficiary of the long-term cut to our A$/US$ forecasts due to the long mine lives of Cadia Valley and, to a lesser, extent Lihir Island.”

The gold and copper producer delivered 19 per cent growth in underlying profit to $515 million for 2014-15, ahead of some analyst forecasts. Stronger-than-expected growth in cash flow suggests Newcrest can pay down debt faster than the market expects. Production guidance for 2015-16 was a little softer than anticipated, but it was a solid result overall.

The lower Australian dollar, efficiency gains, and production growth suggest the worst is behind Newcrest. For all its recent problems, it remains a large, long-life gold miner and its cost position should improve as the Cadia Valley and Lihir operations are expanded.

Much work is still to be done, particularly with Lihir. Those hoping for quick gains from here will be disappointed, but there’s enough in Newcrest’s unfolding recovery to suggest it warrants consideration among those seeking exposure to a higher Australian dollar gold price as our currency weakens.

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Tony Featherstone is a former managing editor of BRW and Shares magazines. The column does not imply any stock recommendations. 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 September 30, 2015.