With gold prices – which closed at a nearly two-week high Tuesday to $1,591.70 – rising year after year for much of the past decade, you might think all gold stocks have increased, too.
But they have not – not by a long shot.
In fact, gold mining companies’ stocks specifically have lagged the performance of the precious metal for six years.
This sad tale can be seen by looking at the gold miners ETFs. The biggest fund in the sector is the Market Vectors Gold Miners ETF (NYSEARCA:GDX). It holds 31 of the world’s top gold mining companies including the likes of Barrick Gold Corp. (NYSE:ABX), Newmont Mining Corp. (NYSE:NEM) and Goldcorp Inc. (NYSE:GG).
It is down more than 20% in the last three months alone. That puts it at its lowest valuation versus bullion prices in over three years. Over the past year, GDX has fallen nearly 32%, which is roughly triple the decline of the largest gold bullion ETF, the SPDR Gold Trust (NYSEARCA:GLD).
It’s even worse for the junior miners. The Market Vectors Junior Miners ETF (NYSEARCA:GDXJ) is down roughly 42% of the past 12 months. This ETF focuses on smaller mining companies such as Argonaut Gold and B2Gold and contains 79 stocks.
So what’s behind these declines? And when can investors bet on a reversal?
Why these Gold Stocks Have Failed to Deliver
The reason behind this lagging performance is simple: Poor management at many of the miners.
Management did not spend much time looking at projects to see if they made sense economically. That is, if the costs to produce the gold were lower than the market price of gold. Management simply focused on adding ounces of production.
The CEO of Gold Fields Ltd. (NYSE:GIF), Nick Holland, told the Financial Times ”The philosophy was ‘let’s increase the ounces, let’s go for the marginal ounce’. . .I think we got that wrong because. . .that marginal ounce cost you a lot more than you thought it was going to cost.”
Holland is right as rising production costs and lower grades of ore hurt profitability. Bloomberg News reports that the average cash cost of 10 of the largest gold miners was $649 an ounce in third quarter of 2012. That is 49% higher than the costs just two years ago.
The good news here is that change is in the wind…
Six CEOs of major North American gold producers have been fired or ‘retired’ in the past year.
This may be the first sign that gold stocks have marked a bottom in their relative performance to the metal itself.
What this Annual Gold Stocks Report Says About 2013
That is a view expressed by Pricewaterhouse Coopers in its 2013 Global Price Report.
In this report PwC spoke to a cross-section of executives from senior, mid-tier and junior gold-mining companies. These firms will produce about 35 million ounces of gold this year.
PwC declared that shares of gold miners hit their “breaking point” last year and are poised to rebound in 2013 (if the gold price co-operates) thanks to a change in the management culture at mining companies.
The change seems to be underway. PwC found that 60% of the firms it spoke to are implementing a cost management program.
Most miners are now switching the focus of their efforts from increasing gold production to building their cash piles.
“If we look back two, three, four years ago, many investors’ focus was on increasing gold production,” Jamie Sokalsky, CEO of Barrick Gold, told PwC. “They rewarded miners who touted significant production growth. And for the most part, shareholders ended-up getting a lot of what they asked for – miners making investments to grow production for the sake of production growth.”
“Now, miners are more focused on the bottom-line. The industry overall is becoming a lot more disciplined in terms of the capital we are spending,” said Sokalsky.
In other words, the focus is now on free cash flow generation per ounce of production.
One positive already in place is the large amount of cash already on the books of many miners. PwC found 26 of the 46 largest gold firms listed on the Toronto Stock Exchange have cash reserves in excess of $500 million.
Of the senior mining companies PwC spoke to, 100% said they will use the cash on hand to pay dividends and 80% of the firms plan to actually increase dividend payments to shareholders.
Gold mining executives now seem, as PwC states, “serious about proving to the market they are once again a good investment – not just for the short-term, but for the long-term.”
The CEO of Goldcorp, Chuck Jeannes, agreed with this assessment. He told Bloomberg, “What we are trying to do is bring back some predictability and rigor.”
Returning money to long-suffering stock holders in the form of dividends sounds pretty shareholder friendly. Perhaps there really is an ongoing culture change happening at gold mining companies.
This may lead to what PricewaterhouseCoopers calls a “promising 2013″ for the gold miners.
March 14th, 2013