A Golden Opportunity?


Our friends at MitonOptimal are multi-managers and, as such, they do not pick individual equities, but rather focus on sector selection and let the asset managers make their top stock picks for them. Furthermore, given the mercurial nature of markets at the moment it is hard to pin one’s hopes on any one stock, as it is their view that we are currently in a trading market and, therefore, a buy and hold strategy is not the correct approach right now.

A sector that they believe has the potential to produce good returns in this current environment is the gold sector, where there is currently a major disconnect between the individual share prices and the gold price.

Source: Bloomberg, January 2012. Source: Bloomberg, January 2012.

In discussions with asset managers such as Daniel Sacks of Investec Global Gold and Ian Woodley of Old Mutual Gold Funds, it is clear that the managers are pretty bullish on the sectors, particularly given that ratings are incredibly low and gold companies are cash flush. Both managers have the ability to buy the gold commodity ETF in their funds, but have chosen lately to reduce their physical ETF and instead buy the gold miners, as they believe the better opportunity now lies with the shares. To labour this point, it is estimated that the sector as a whole is pricing in a gold price value of $1500, a significant discount to the current gold price of $1740 – this article was written in early February.

Ian Woodley’s view is that, despite the more recent change to a ‘better’ environment for risk assets, there has been no concomitant retreat in gold share prices. The anticipation of more quantitative easing, higher developed market inflation and lower interest rates for longer may be a reason why gold stocks can continue to be attractive even when risk appetites are increasing. Ian reports that gold demand from China and central banks remains strong and can underpin a gold price in a range between $1650 and $1800 per ounce.

Analysts are predicting that earnings of gold miners will be ridiculously good in the near term. JP Morgan Analysts, Steve Shepherd and Allan Cooke, said the average gold price received in the September quarter was a record SAR391,250/kg, thanks to the gold price rising by 13% and the Rand depreciating by 5.5%. On the negative side, however, labour disputes and wage increases of over 9% will not have helped. Thanks to slightly improved production levels and substantially higher gold prices, the likes of AngloGold’s earnings should increase by 50% and Harmony’s are expected to double.

The other important catalyst we believe that will propel the shares higher is the anticipation that the South African gold miners are now going to pay out some of these high cash earnings in the form of special dividends, or share buy backs. In 2011 Newmont (the world’s second largest gold producer) announced a dividend policy that is linked to the gold price. This firmly nails their colours to the mast and will force the company to pay increased dividends in the future. Post this strategy, the share has massively outperformed the S&P 500 and Gold Mining company management in South Africa are said to be eyeing this dividend policy quite carefully. In a world of low yield, higher dividends might just be the recipe to drive the sector higher.

Local and global investors are facing two issues at the moment:

* In a world where cash returns remain unattractive, investors are forced to assume additional risk to generate inflation plus returns. Historically SA investors had comfort, as cash yields generated real returns on average of 3% p.a. – at least since 1993. However, these days real interest rates are now in negative territory.

* In the developed world, dividend yields from the global top 100 stocks currently exceed those of bond yields. Recent information from the Old Mutual Investment Group shows the historical differences between the dividend yields of these companies and a flat average of the US, UK, Japan and Australian sovereign bond yields. It demonstrates that current dividend yields of these large companies are more attractive relative to bond yields.

Given both scenarios make it clear that domestic and global investors need to assume additional risk to gain real returns on their savings, a golden opportunity may be gold equity.

The above data and research was compiled from sources believed to be reliable. However, neither MBMG International Ltd nor its officers can accept any liability for any errors or omissions in the above article nor bear any responsibility for any losses achieved as a result of any actions taken or not taken as a consequence of reading the above article. For more information please contact Graham Macdonald on [email protected]