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Lower Australian dollar will boost local gold producers and those with offshore operations

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.