In September 2011 the gold price hit a record high of around $1,920 per ounce, and despite a recent pull back, it is still trading in the $1,640 range. Overall, it has in fact gained 20% YTD. The majority of other precious metals have followed gold’s rise, though not as strongly, thus creating a buying opportunity as they are expected to catch up with gold on a proportional basis. However, curiously the prices for precious metals and in particular gold miners have lagged behind this rapid price rise. Investors are not appreciating the rise in book value that gold miners are experiencing due to the rising price of gold.
Many industry insiders and professional investors are taking a very bullish view on gold, with HSBC forecasting that gold will reach $2,025 per ounce in 2012 and David Einhorn of Greenlight Capital saying, "A substantial disconnect has developed between the price of gold and the mining companies. With gold at today's price, the mining companies have the potential to generate double-digit free cash flow returns and offer attractive risk-adjusted returns even if gold does not advance further. Since we believe gold will continue to rise, we expect gold stocks to do even better." Furthermore, India Bullion’s managing director Rajan Venkatesh, said, “Gold prices are expected to touch $2,000 an ounce by March.”
While the peak in gold is unknown, it should continue to climb in value due to the high demand, which seems likely to be above $2,500 an ounce, which is today's equivalent of the 1980 peak, when adjusted for inflation. I use a 2.5% assumption for inflation for this calculation. Given that many gold miners have ditched their hedges they should be able to substantially capitalize on any increase in the gold price. So the question is which precious metal miners should you be investing in to maximize investment returns and obtain exposure to this unique opportunity? Using my analysis of company earnings, gold inventory, revenue growth rate, and profit margin, I have identified the six precious metals miners that are positioned to grow in price as they catch up with the price of gold.
Freeport-McMoran Copper & Gold Inc. (FCX, Financial)
Freeport-McMoran has a market cap of $38 billion and is currently trading at around $40, with a price to earnings ratio of 7. Its 52 week trading range is $28.85 to $61.35. Third quarter 2011 earnings of $5.2 billion were reported, a decrease from second quarter earnings of $5.8 billion. Third quarter net income was $1 billion, a decrease from second quarter net income of $1.4 billion. It has quarterly revenue growth of 0.8%, a return on equity of 43% and pays a dividend with a yield of around 2%.
One of Freeport-McMoran’s competitors is Newmont Mining Corp (NEM, Financial), which will be analyzed in greater detail below. It has a market cap of $33 billion and is trading at around $67, with a price to earnings ratio of 15. It has quarterly revenue growth of 5.7%, a return on equity of 20% and pays a dividend with a yield of 2.1%. Based on this data Newmont Mining Corp is outperforming Freeport-McMoran.
Freeport-McMoran’s cash position has improved with the balance sheet showing $5 billion in cash for the third quarter, an increase from $4.4 billion in the second quarter. Net tangible assets have increased to $15 billion in the third quarter 2011, from $14 billion in the second quarter. Freeport-McMoran’s quarterly revenue growth of 0.8%, versus an industry average of 192.5%, and a return on equity of 43%, versus an industry average of 28%, indicates that it is underperforming many of its competitors in earnings growth but delivering a solid return on equity, which bodes well for continued net income growth.
Freeport-McMoran’s stronger balance sheet and profit margin of 20% leads me to believe that it is well placed to capitalize on the expected increase in the gold price. Its earnings yield of 14% makes me believe that it is substantially undervalued, as it is well in excess of the current ten year bond yield. Evidently other investors are seeing an opportunity with this stock as its price has recovered by 38%, since a low of $28.85 in October 2011. In addition, the outlook for copper, which is the other commodity mined by the company is quite positive with strong demand being driven by the Chinese economic boom.
Freeport-McMoran also postponed a number of projects due to the gloomy economic climate and when these are brought online it bodes well for further earnings growth for the company due to expanded production. All of this bodes well for Freeport-Moran and leads to me consider the company as a buy.
Goldcorp Incorporated (GG, Financial)
Goldcorp has a market cap of $41 billion and is trading at around $50, with a price to earnings ratio of 26. For a 52 week period its trading range has been $39.04 to $56.31. The company reported second quarter earnings 2011 of $1.3 billion, an increase from first quarter earnings of $1.2 billion. Second quarter net income was $473.5 million, a substantial decrease from first quarter net income of $641.7 million. It has quarterly revenue growth of 48%, a return on equity of 9.4% and pays a dividend with a yield of around 1%.
One of Goldcorp’s competitors is Kinross Gold Corporation (KGC, Financial), which has a market cap of $15 billion and is trading at around $13, with a price to earnings ratio of 23. It has quarterly revenue growth of 45.4%, a return on equity of 5.2% and pays a dividend with a yield of around 1%. These performance indicators show that both companies are performing equally well.
Goldcorp’s cash position has improved in the second-quarter 2011, the balance sheet showed $1.3 billion in cash, an increase from first quarter cash of $1.25 billion. It has quarterly revenue growth of 48%, versus the industry average of 55% and a return on equity of 9.4%, versus the industry average 10.3%. This indicates it is marginally underperforming some of its competitors.
An important consideration is the company has the highest leverage to spot gold prices relative to other companies due to its completely un-hedgedposition. This means that 100% of its gold exposure is unhedged. Other companies tend to hedge at least part of their production. In addition, over the next five years, Goldcorp expects to lift production by 57%. When this is coupled with Goldcorp’s stronger cash position and solid profit margin of 26%, it makes me believe that it is well positioned to derive substantial earnings growth from the expected rise in the gold price. Its earnings yield of 4% also indicates that it marginally undervalued when compared to the ten year bond yield. When all of this is considered it is clear that Goldcorp represents a solid investment opportunity.
Yamana Gold Inc (AUY, Financial)
Yamana has a market cap of $12 billion and is currently trading at around $16, with a price to earnings ratio of 21. Its 52 week trading range is $10.88 to $17.47. Third quarter 2011 earnings of $544 million were reported, a decrease from second quarter earnings of $555 million. Third quarter net income was $114 million, a decrease from second quarter net income of $189 million. It has quarterly revenue growth of 22%, a return on equity of 8% and pays a dividend with a yield of around 1%.
One of Yamana’s competitors is AngloGold Ashanti Ltd (AU, Financial), which has a market cap of $88 billion and is trading at around $46, with a price to earnings ratio of 90. It has quarterly revenue growth of 24%, a return on equity of 27% and pays a dividend with a yield of around 1%. Based on this data AngloGold Ashanti is outperforming Yamana.
Yamana’s cash position has improved with the balance sheet showing $594 million in cash for the third quarter, an increase from $503 million in the second quarter. Yamana’s quarterly revenue growth of 22%, versus an industry average of 55% and a return on equity of 8%, versus an industry average of 10%, indicates that it is underperforming many of its competitors.
Yamana’s stronger balance sheet and profit margin of 21% indicates that it is well positioned to take advantage of the expected increase in the gold price. It has an earnings yield of 5%, which I believe indicates that it is relatively cheap when compared to bond yields. This is a solid gold play for aggressive investors.
Newmont Mining Corporation (NEM)
Newmont has a market cap of $33 billion and is trading at around $67, with a price to earnings ratio of 15. Its 52 week trading range has been $50.05 to $72.42. It reported third quarter 2011 earnings of $2.7 billion, an increase from second quarter earnings of $2.4 billion. Third quarter net income was $493 million, a decrease from second quarter net income of $523 million. Newmont has quarterly revenue growth of 5.7%, a return on equity of 20%, and pays a dividend with a yield of around 2%.
One of Newmont’s closest competitors is Gold Fields Ltd (GFI, Financial), which has a market cap of $12 billion and is currently trading at around $16, with a price to earnings ratio of 42. It has a return on equity of 24% and pays a dividend with a yield of around 2%. Based on these performance indicators it is delivering greater revenue growth than Newmont but lagging in its return on equity.
Newmont’s cash position has strengthened as the third quarter balance sheet showed $2.3 billion in cash, compared to $2.3 billion for the second quarter. Newmont’s quarterly revenue growth rate of 5.7% is less than the industry average of 55.2%, and its return on equity of 20%, is greater than the industry average of 10.3%. This indicates that Newmont is not delivering the same earnings growth as its competitors, but has a substantially better return on equity. This shows that Newmont is in a position to deliver greater margin benefits than many of its competitors.
Newmont is the world’s second largest gold miner, which has acquired a number new mines that should allow it to maintain production levels at least through 2012. When this is considered in conjunction with its un-hedged position, stronger balance sheet and a solid return on equity of 20% combined with a profit margin of 18% indicates that it is well positioned to increase earnings with the expected rise in the gold price. I also believe that the stock is relatively cheap when compared to bond yields due its earnings yield of 6.5%. Therefore, Newmont represents a solid investment opportunity.
Silver Wheaton Corp (SLW, Financial)
Silver Wheaton has a market cap of $11.8 billion and it is trading at around $33, with a price to earnings ratio of 20. Its 52 week trading range is $25.84 to $47.60. It reported third quarter 2011 earnings of $182 million, a decrease from second quarter earnings of $189 million. Third quarter net income was $132 million, a decrease from second quarter net income of $143 million. It has quarterly revenue growth of 99.5% and a return on equity of 27% and pays a dividend with a yield of around 1%.
One of Silver Wheaton’s competitors is Coeur d’Alene Mines Corporation (CDE, Financial), which has a market cap of $2.6 billion and is trading at around $29, with a price to earnings ratio of 34. It has quarterly revenue growth of 190% and a return on equity of 3.7%. Based on these indicators, it is delivering greater revenue growth than Silver Wheaton but is lagging behind on return on equity.
Silver Wheaton’s cash position has improved in the last quarter. The balance sheet showed $746 million in cash for the third quarter 2011, an increase from $677 million reported in the second quarter. Silver Wheaton’s quarterly revenue growth of 99.5%, versus an industry average of 26%, and a return on equity of 3.7%, versus an industry average of 13%, indicates that it is delivering stronger earnings growth than many of its competitors but lagging in its return on equity.
The outlook silver miners is extremely optimistic, primarily as the silver has yet to hit the dizzying prices of gold and thus far has failed to proportionally keep up. Silver is currently trading at around $30 per ounce, which is far of its 2011 peak of almost $50 per ounce. A recent Thomson Reuters report, The Silver Investment Market-An Update, November 2011 stated; “the outlook for silver prices remains bullish, "with the potential of prices nearing, if not exceeding, the $40/oz." In fact many analysts are anticipating that silver will peak at $150 an ounce within the next 18 months. Gold has hit record highs in 2011 and silver traditionally trades in a ratio to gold, so on the current gold silver ratio it is not hard to see silver peaking between $100 and $200 per ounce.
Silver Wheaton as a stock pick gets even better, with the expected rise of the silver price, as the company has invested in mines that aren't yet in production and when these mines start producing the company expects to increased production to 43 million ounces of silver by 2015.When this is considered in conjunction with the company’s stronger balance sheet, solid return on equity of 27%, and huge profit margin of 73%, earnings and profitability are set to substantially grow, which should see the stock rise in value over the next two years.
Barrick Gold Corporation (ABX, Financial)
Barrick Gold has a market cap of $50 billion, and is currently trading at around $50, with a price to earnings ratio of 12. Its 52 week trading range is $42.50 to $55.95. It reported third quarter 2011 earnings of $3.9 billion, an increase from second quarter earnings of $3.3 billion. Third quarter net income was $1.3 billion, an increase from second quarter net income of $1.1 billion. It has quarterly revenue growth of 44%, a return on equity of 19% and pays a dividend with a yield of around 1%.
One of Barrick Gold’s main competitors is US Gold Corporation (UXG, Financial), which has a market cap of $51 billion and is trading at around $4. It has a return on equity of -26%. Based on these indicators it is substantially underperforming Barrick Gold.
Barrick Gold’s cash position has improved. The balance sheet showed $3 billion in cash for the third quarter 2011, an increase from $2.8 billion in the second quarter. Barrick Gold’s quarterly revenue growth of 44%, versus an industry average of 55%, and a return on equity of 19%, versus an industry average of 10%, indicates it is not growing earnings at the same rate as many of its competitors but is delivering a superior return on equity, which bodes well for its profitability.
Barrick Gold is holding huge reserves of gold and this should bode well for the company as the gold price increases as expected, allowing the company to further grow earnings. It also has a solid return on equity of 20% and when combined with a solid profit margin of 34.5% and its stronger cash position, it bodes well for continued net income growth. In addition, I believe that the stock is currently undervalued with its earnings yield of 9%.
