Chart: Gold
prices (USD) with 14-day relative strength index (RSI) and Chicago Board
Options Exchange Volatility Index (VIX) as proxy for market volatility
The Gold Report: The price of gold flirted with $1,300 per
ounce ($1,300/oz) in January. In July, it fell below $1,100/oz. What
happened?
Joe Mazumdar: Gold began 2015 at $1,184/oz. So, year to date it's
down about 8% in U.S. dollars. And one of the primary reasons for that is the
strength of the U.S. dollar, underpinned by an economic rebound and the
anticipation of an interest rate hike in the latter part of 2015. From
January to July 2015, the U.S. dollar as proxied by the trade-weighted index,
the U.S. Dollar Index (DXY), was up by the same amount as the U.S.
dollar-denominated gold price was down, 8%.
Figure 1: Gold
prices (USD) with 14-day relative strength index (RSI) and US Dollar Index
(DXY) as proxy for USD performance
Source: Bloomberg
Gold's sideways to downward trend is underpinned by weak demand
fundamentals. Overall Q1/15 demand—1,079.4 tonnes—as provided by the World
Gold Council, was in line with the last two-year quarterly average. However,
jewelry demand, which represents about 55% of overall demand, was down 6%
versus the two-year quarterly average, down 8% quarter-on-quarter and down 3%
year-on-year. Investment gold, such as bars and coins, which represents about
23% of overall demand, was down 20% in Q1/15 versus the two-year quarterly
average.
Figure 2: Gold
demand and supply from Q2/13 to Q1/15
Source: World Gold Council Demand Trends Q1/2015 and
Canaccord Genuity estimates
TGR: Are the central banks still buying?
JM: Purchases in the last documented quarter, Q1/15, were about 119
tonnes, so still positive. However, that is down 18% versus the two-year
quarterly average. Of note, there was a positive inflow of ~26 tonnes in
exchange-traded funds (ETFs) during Q1/15, the first net inflow in a
protracted period of time. The two-year quarterly average for ETF investments
was a net withdrawal of about 111 tonnes. So much of the negative demand
equation was offset by that net inflow. We don't believe that we will see the
same positive impact from ETF investments in Q2/15, however.
TGR: Is continued gold production threatened by a gold price under
$1,100/oz?
JM: We highlight that the Q1/15 mine supply net of hedging, 734.2
tonnes, according to the World Gold Council, was down 7% versus the two-year
quarterly average. The only reason overall demand remained flat—1,089.3
tonnes—versus the two-year quarterly average was a spike in the supply of
scrap gold (+17% versus two-year quarterly average, 355.1 tonnes).
The impact of a lower gold price on mine supply lays the foundation for a
healthier gold market in the medium to long term. We highlight that over the
next 5–10 years, production curtailments combined with the lack of capital
spent on development projects and significant cut backs in exploration
expenditures will challenge future mine supply. The paucity of projects may
drive future M&A bids for junior companies with quality assets in
manageable jurisdictions that are currently well funded to production due in
part to the quality of the management team. In our opinion, these are the
companies that investors should seek.
TGR: The gold price has collapsed during a period of burgeoning
economic and geopolitical volatility. So is gold no longer a safe haven?
JM: Gold has recently lost some of its attraction as a safe-haven
asset. Normally, a spike in market volatility as proxied by the Chicago Board
Options Exchange Volatility Index (VIX) results in an uptick in safe-haven
assets such as the U.S. dollar and the gold price. These assets are
historically negatively correlated except for periods of high market
volatility that generate a bid for safe-haven assets. We observed a spike in
the Chicago Board Options Exchange Volatility Index (+40%) from Dec. 28,
2014, to Jan. 16, 2015, with a subsequent lift in the U.S. dollar, the gold
price and the Market Vectors Junior Gold Miners ETF (GDXJ:NYSE.Arca), which
has a large beta to gold.
Figure 3: Gold
prices (USD) with 14-day relative strength index (RSI) and Chicago Board
Options Exchange Volatility Index (VIX) as proxy for market volatility
Source: Bloomberg
From June 23 to about July 7, 2015, when the Greek crisis was at its peak,
the Chicago Board Options Exchange Volatility Index spiked up 60%. But unlike
the previous spike, gold was flat to down. Some cite the collapse of the
Chinese stock market as a partial reason for the muted response from the gold
price. When margins were called, investors had to sell liquid assets and this
may have included gold holdings. This selling may have triggered further
stop-loss selling in a low liquidity environment (summer market) placing
further downside pressure on the gold price. The current sentiment remains
pessimistic as investors increased their short positions in gold.
TGR: The price of gold falls in U.S. dollars even as the U.S.
dollar rises against other currencies. So does this mean that Canada and
other non-American mining jurisdictions, such as Australia, are riding out
this storm?
JM: Yes. At the start of the year, one U.S. dollar was worth
CA$1.16. It's now worth CA$1.30. So the Canadian dollar is down 12–13% in
2015, which means that the gold price in Canadian dollars is actually up
3–4%. So we favor miners with high-grade Canadian assets.
TGR: Given that Canadian gold producers still make money, and their
market caps are discounted by 30%, can we expect a flurry of takeovers?
JM: Yes, but we suspect that this might be put off while investors
and potential merger and acquisition (M&A) suitors wait for the Canadian
dollar to fall even further. Note federal elections in Canada are planned for
Oct. 19, 2015. The current polls suggest that the right-leaning Conservative
party and the left-leaning New Democratic Party are neck and neck. The
potential for a minority or coalition government with an economy teetering on
recession due in part to a weak commodity complex could place further
pressure on the Canadian dollar.
TGR: Will much of this M&A activity come from China?
JM: Chinese state-funded organizations are definitely interested in
gold-copper assets. An executive director of Zijin Mining Group Co.
(601899:SHA), George Fang, has stated that "gold is our game."
Zijin Mining Group began 2015 by acquiring a 9.9% stake in Pretium
Resources Inc. (PVG:TSX; PVG:NYSE) for CA$80 million (CA$80M) in January.
In March 2015, the state-owned company purchased a 9.9% stake in Ivanhoe
Mines Ltd. (IVN:TSX│Not rated) for CA$105M (US$83M). Subsequently, in May
2015, Zijin Mining agreed to co-develop the Kamoa copper project by acquiring
a 49.5% stake in the project for US$412M.
Barrick Gold Corp. (ABX:TSX) signed a strategic relationship in May 2015
with Zijin Mining; the first step involved having the Chinese state-owned
mining company purchase 50% of the Porgera gold mine joint venture in Papua
New Guinea for US$298M. In June 2015, Zijin Mining also launched an AU$47M
bid to acquire Phoenix Gold Ltd. (PXG:ASX) for its Australia-based gold
assets.
So overall, we estimate that Zijin Mining has made a total of
approximately US$900M in investments in gold and copper assets in Canada,
Africa and Australia. Going forward, we anticipate further M&A and
investment activity by Chinese state-owned mining companies given the current
weak market conditions.
TGR: Are the Chinese investing in Canadian gold companies with a
view to growing China's gold reserve?
JM: China is the world's leading gold producer and its largest gold
mine, Zijinshan gold-copper mine in Fujian province, which produced 331,800
oz (331.8 Koz) in 2014 (Source: SNL), is operated by Zijin Mining. To augment
domestic production, Chinese firms are acquiring assets in other countries
such as Canada, Africa and Australia, among other jurisdictions. Given
current valuations, it may be cheaper for them to purchase assets or fund
management teams with an underlying offtake agreement rather than buy gold.
TGR: Let's talk about specific companies. Canaccord Genuity
recently raised its 52-week target price on which near-term gold producer?
JM: Torex
Gold Resources Inc. (TXG:TSX). We rate it a Speculative Buy and on July
22 raised its target price from CA$1.40 to CA$1.60. This followed the July 21
release of the company's preliminary economic assessment (PEA) on its Media
Luna gold-copper project in Mexico. The Media Luna project falls within the
29,000-hectare (29,000 ha) Morelos gold property, which also includes the El
Limón-Guajes (ELG) project that is currently under construction. The majority
(~95%) of our Torex valuation is based on its high-grade open-pit ELG gold
project, which is now 80% built, with first gold pour scheduled for Q4/15 and
commercial production by Q3/16, according to our estimates. Half of our
target increase was related to the improved grade and throughput profile
outlined in the updated ELG mine plan. The other portion of the target price
increase was related to the impact of the Media Luna PEA.
TGR: Are investors confused by Morelos and its different elements?
JM: Media Luna presents further upside potential and reflects
management's attempt to quantify its 29,000 ha land package while attempting
to leverage the infrastructure currently being put in place. This includes
adding a flotation circuit at the ELG plant facility and using mined-out open
pits to dispose of tailings. Logistically, Media Luna's integration into El
Limón-Guajes presents a number of engineering challenges as Media Luna is on
the other side (south) of the Rio Balsas. The upfront capital expenditure
estimate of US$480M in the July 2015 PEA incorporates both aerial and underground
rope conveyors to transport the ore to the ELG plant and underground tunnel
access to the deposit.
Figure 4: Guerrero
Gold Belt property map
Source: Torex Gold
Torex Gold's share price has been negatively impacted by the lower gold
price and the security risks in the Mexican state of Guerrero, where Morelos
is located. However, Torex Gold has still outperformed the Market Vectors
Junior Gold Miners ETF benchmark in 2015 year-to-date (down 9.3% versus down
20.1%). The good news for Torex Gold is that there have been no significant
security incidents over the past few months.
TGR: Which gold companies operating in Canada have you rated
Speculative Buys?
JM: Pretium, Claude Resources Inc. (CRJ:TSX) and Rubicon Minerals
Corp. (RBY:NYSE.MKT; RMX:TSX).
TGR: What do you like about Claude?
JM: Over the past 12 months, Claude Resources has easily
outperformed the Market Vectors Junior Gold Miners ETF benchmark (up 134%
versus down 55%). The keys to its success are underpinned by positive cash
flow from operations from a high-grade resource, Santoy Gap, within a stable
geopolitical jurisdiction, Saskatchewan, operated by a management team with
the technical expertise to take advantage of the options that underground
mining presents. Consistently high metallurgical recoveries of 95–96% are
also a positive. Its cost exposure to the Canadian dollar is about 95%, so
any further weakness is considered favorable.
Figure 5: Life of
mine (LOM) mineable resource estimate for Claude Resources Seabee gold
operation
Source: Claude Resources and Canaccord Genuity estimates
Claude's ability to convert its non-reserve (NRM) resource base,
specifically at Santoy Gap, is a critical risk component of its future
success, as currently its 2P reserve base accounts for approximately four
years of production. We have modeled a Life-of-Mine plan based on a mineable
resource of 824 Koz grading ~6.8 grams/tonne gold (~6.8 g/t Au) (70% of
global resource of 1,167 Koz grading ~7.6 g/t Au) after adjusting for
conversion risk, mining dilution and recovery of its NRM resource base.
Claude Resources is planning on a significant drill program—60,000 to 65,000
meters (65,000m)—at Seabee and Santoy Gap to upgrade the resource base. The
Seabee property in north-central Saskatchewan comprises a significant land
holding of 19,950 ha as of late June 2015. In our opinion, given its balance
sheet strength, Claude can fund a sustainable growth profile organically.
TGR: What do you like about Rubicon Minerals?
JM: We lowered our target price—down CA$0.30 to CA$1.50—in early
July 2015 due to a negative revision in our commodity price forecasts and the
impacts of a slower ramp up to commercial production (Q1/16E) with lower head
grades. However, as our target price still represents a +35% implied return
to current levels, we maintained our Speculative Buy rating.
Rubicon Minerals represents a dual-listed, well-funded, high-grade
underground gold development play with a significant land package—100 square
miles—in the highly sought Red Lake District of northwest Ontario in Canada.
Adding near-surface ounces proximal to the plant infrastructure, currently in
construction, would be a positive, in our opinion, that could defer some of
the major capital expenditures required for vertical development at the F2
Zone. Rubicon's management has prior relevant underground mining expertise in
the Red Lake area with Goldcorp Inc. (G:TSX; GG:NYSE). The company announced its
first pour of 741 oz in late June 2015.
One of the risks is that the company has yet to provide guidance to
commercial production. We note that some companies developing underground
projects have declared too soon and then run into issues, so we believe the
company is being cautious to ensure an achievable target.
TGR: How close to being permitted is Pretium's Brucejack project?
JM: Pretium got its British Columbia provincial permit in late
March 2015, which at the time was ahead of our forecast. The company recently
acquired the Federal approval from Minister of the Environment after a review
by the Canadian Environmental Assessment Agency (CEA). With receipt of the
federal permit, the company will issue a notice of construction and we expect
the beginning of earthworks by the latter part of August 2015. Pretium ended
Q1/15 with a working capital position of CA$103M. After the release of the
financials, we believe the company will present a project update with
guidance on financing by late August to September 2015.
In the interim the company has not been sitting on its hands.
The majority of the gold development companies we cover are working to
quantify the upside of their land packages in parallel with advancing their
primary asset. This is important if M&A activity picks up, and Pretium is
no different. The prospectivity of its approximately 104,111 ha land package
for porphyry related to epithermal precious and base metals is well
established. We continue to be impressed by the methodical detail and thought
reflected by the company's exploration efforts on its extensive land package.
The company is planning up to 15,000m of drilling at the Flow Dome and
Kitchenview zones, high priority targets delineated by their regional
exploration program.
Figure 6: 2015
exploration targets including Flow Dome, Kitchenview and Nip zones
Source: Pretium Resources
TGR: Pretium's recent infill drill results are about the same
quality it was getting a couple of years ago, right?
JM: Yes. The primary goal of Pretium's 2015 underground infill
drill program (40,000m, 3 underground drill bays, 32 drill fans, 10m centers)
is grade control within stopes defined by the 2014 feasibility study for the
first few years of planned production at the Valley of Kings (VOK) deposit.
Recent results of 9,003m drilling included 164.54 g/t over 13.75m, 259.48
g/t over 10m and 83.89 g/t over 15m, which serve to confirm the high-grade
mineralization outlined in the 2014 feasibility study. The Valley of Kings is
a high-grade deposit with a volatile grade profile, which makes it
controversial. We have discounted the head grade (12.5 g/t Au vs. 14.1 g/t
Au) and throughput (2000 tonnes per day [2.0 Kt/day] vs. 2.7 Kt/day) to
account for grade volatility.
We recently reduced our Pretium target price from $8.50 to $8.00, due to a
downward revision in our long-term commodity price outlook, but that still
represents a significant premium (25%) over the current price. Pretium is on
the Canaccord Genuity Focus List as it represents a high-grade gold
development play in a stable jurisdiction with the downside risk mitigated
somewhat by its strategic investor (Jan. 16, 2015, CA$6.30, CA$80M), the
Chinese state-owned mining company Zijin Mining, which has been highly active
in mining acquisitions/investments in 2015.
TGR: Let's talk about companies you like in West Africa.
JM: I'll mention two. The first is Asanko Gold Inc.
(AKG:NYSE.MKT; AKG:TSX), which is advancing the first phase (P1 Obotan)
of the Asanko gold mine in Ghana through commissioning (Q1/16E) to commercial
production (Q2/16E). We recently upgraded Asanko from Hold to Speculative Buy
as our target price (CA$2.60) implies a +30% return to current levels. Year
to date in 2015, Asanko has outperformed the Market Vectors Junior Gold
Miners ETF benchmark (up 11.6% vs down 19.1%).
TGR: How do you rate the Asanko phase 1 ramp up?
JM: I think excellent as P1 Obotan construction is 60% complete
with 2,400 personnel on site and on schedule for first pour by Q1/16 leading
to cash flow positive commercial production (Q2/16), in line with our
forecasts. All critical path items are in hand and on schedule, according to
the company. Mining is advancing faster than planned (100 Kt/day, +10%) as
the contractor has mined over 7.9 million tonnes (7.9 Mt) of the required
21.7 Mt of pre-stripping for Nkran. Importantly, dewatering has pumped out
56% or 3.36 million cubic meters (3.36 Mm3) of the 6 Mm3 required at the
Nkran pit, which hosts the largest mineable resource base (>85%) at P1
Obotan. The water level has fallen 24m since dewatering began in December
2014. Another critical item is the partial relocation of the Nkran village
(88 buildings), which is on track for the end of Q3/15.
Figure 7: Phase 1
Obotan project (Ghana) progress to first pour in Q1/16E
Source: Asanko Gold
As power availability and reliability is a critical issue in Ghana,
Asanko's management has signed a deal with an independent power producer,
Genser Energy Ghana Ltd., to secure power to the site. We estimate that ~45%
of Asanko's processing costs are related to power. The company is also
progressing on its 30 kilometer (30km) 161 kV power line (Q3/15E completion)
to connect to the power grid. Under the power purchase agreement (PPA),
Genser Energy as operators will have the right to utilize the power line to
sell excess power onto the grid or to supply through the grid. The PPA also
provides Asanko some security and flexibility with respect to power needs
during ramp-up of the 3 Mt/year processing facility at Nkran.
TGR: And the other West African company you like is?
JM: Roxgold
Inc. (ROG:TSX.V), which is also rated a Speculative Buy, is advancing its
high-grade, underground Yaramoko gold project. Its shares had previously
suffered due to the political uncertainty in Burkina Faso and more recently
because of the gold price drop. But despite these headwinds, Roxgold has
outperformed the Market Vectors Junior Gold Miners ETF in 2015 year-to-date
(up 12.7% versus down 19.1%).
Its outperformance can be linked to the high internal rate of return
generated by the project due to the high-grade nature (>11 g/t Au, our
estimate) of the deposit combined with the low upfront capital forecast
(US$120M, our estimate).
Figure 8: Key
milestones for advancing the Yaramoko gold project in Burkina Faso
Source: Roxgold Inc.
Also, the positive performance is attributable to management's delivery of
a number of positive milestones including the signing of its mining agreement
with the interim government of Burkina Faso based on the 2003 mining
convention, which should keep the corporate tax rate at 17.5% versus the new
rate of 27.5%. However the Yaramoko gold project will probably still be
subject to a new 1% net smelter royalty.
Management also successfully closed its US$75M debt facility while
receiving a positive endorsement from the International Finance Corp. via a
private placement of $18.4M in late June 2015.
The company has begun construction activities at Yaramoko's 55 Zone with
bulk earthworks well advanced. The company excavated the boxcut for the
underground portal. With the plant site earthworks complete, the engineering,
procurement and construction contractors (DRA/Group 5 JV) and mining
contractors (AUMS) have mobilized to site. We forecast commissioning in
Q2/16, in line with company guidance, leading to commercial production by
early H2/16E for the 55 Zone of the Yaramoko gold project.
Another reason we like Roxgold is its extensive and prospective land
package. We have modeled a higher mineable resource estimate (+20%, 920 Koz)
than the April 2014 feasibility study (759 Koz) to quantify the potential
upside. The company has designed a scalable plant that could be upsized by
50% at a reasonable cost, US$5M, if more feed is found.
TGR: Do you like any Canadian gold companies operating in Europe?
JM: Dalradian
Resources Inc. (DNA:TSX) is advancing the Curraghinalt project in
Northern Ireland. Like Pretium, Dalradian is on our Canaccord Genuity Focus
List. We rate Dalradian as a Speculative Buy with a $1.30 target price. Few
companies were able to finance in 2014, and many fewer managed to finance
twice like Dalradian. Both of the company's equity financing transactions
were oversubscribed and the second one was upsized to accommodate demand.
Demand was supported by a strategic investor, Ross Beaty, who provided a positive
endorsement for both the management team and the asset. Its board has been
strengthened with some natives of Northern Ireland.
Figure 9:
Curraghinalt deposit with regional prospects 
Source: Dalradian Resources
Curraghinalt represents another high-grade, underground gold project, with
a potential head grade of 8.3 g/t, according to our estimates. It is in a
stable jurisdiction, Northern Ireland, which is not as well known a mining
jurisdiction as the Republic of Ireland, but has a good workforce and is
mining friendly. Results gathered during a March/April 2015 survey of the
local community indicated that the majority—70%—have a positive inclination
to the development of the Curraghinalt project.
In June 2015, Galantas Gold Corp. (GAL:TSX.V) received planning consent
for its Omagh underground gold project, 20–25km southwest of Curraghinalt. We
consider this a very encouraging precedent.
We note that the Omagh project produced a gold and silver-rich sulphide
concentrate that was shipped and sold to a smelter from the open-pit and the
processing method will not change (i.e., no cyanide) going forward with a
potential operation underground mine. We continue to model a concentrate-only
circuit for Curraghinalt to avoid the use of cyanide at site and lessen its
permitting risk. Dalradian is currently studying processing alternatives
including a flotation circuit, and we suspect that priority will be given to
those that are acceptable to the local community with lower technical risk at
a reasonable cost.
TGR: How is Curraghinalt being derisked?
JM: Dalradian is currently executing its underground exploration
program at the Curraghinalt project, which comprises 20,000m of drilling from
surface (5,000m completed) and underground (15,000m) with an additional
1,000m of geotechnical drilling. The drill program covers 45% of the 1.7km
strike length of the last reported Curraghinalt resource to a depth of ~400m
from surface. The focus is to upgrade resource ounces from Inferred to
Indicated leading to a resource update (Q3–Q4/15E) to support a
prefeasibility study (PFS) by late 2015 to early 2016. The company's COO,
Eric Tremblay, will lead the PFS and underground program as he provides
extensive (25 years) and relevant (mostly underground) development and
operations experience, most recently as general manager of the Canadian
Malartic gold mine.
The company reported results from 5,766m (25 holes) of predominantly
surface drilling (23) and two holes from underground predominantly targeting
3 veins (T-17, No. 1, V-75, Bend and Crow veins). Highlights included 4.4m
grading 54.84 g/t Au, 5.79m grading 7.12 g/t Au and 4.74m grading 15.26 g/t
Au.
The CA$13M underground program will also include 1,100m of total
development, including 440m of access drifting to crosscut four southern
veins (Crow, Bend, V75 and 106-16) and an additional 430m related to on-vein
development (T17 and No. 1). Hydrogeology and geotechnical studies combined
with metallurgical test work will be ongoing.
TGR: We've had innumerable false dawns since the bear market
started in April 2011. You told us you don't believe the gold price is going
significantly higher in the near future. So what sort of projects should
investors in gold equities be in?
JM: With respect to gold investors, it depends on whether you're a
generalist or a goldbug. The latter doesn't need to be persuaded that gold is
going much higher, and will tend to bet on highly levered plays. We do not
recommend purchasing illiquid companies that are seeking to fund the
advancement of a marginal deposit. The fact that our gold price forecast is
basically the actual gold price futures curve at the time reflects our
acknowledgement of the difficulty in forecasting the gold price with any
accuracy. We prefer to recommend companies with quality projects that
generate a double-digit internal rate of return at current price levels and
reside in stable or manageable geopolitical risk jurisdictions within
significant and prospective land packages operated by management teams with
relevant experience—technical, execution and financial.
Hence, my Focus List picks—Dalradian and Pretium—represent high-grade gold
projects in Canada and Northern Ireland—stable jurisdictions with significant
land packages and management teams that continue to advance their respective
projects while attracting strategic investors.
Finally, as a hedge to a downward trajectory in the U.S.
dollar-denominated gold price, we would also focus on assets in jurisdictions
with resource-based economies such as Canada, Australia and Brazil. All these
currencies have fallen against the U.S. dollar; hence the local gold price is
higher than the U.S. dollar quote. Personally, I prefer Canada.
In the current gold market environment, high-grade underground in Canada
represents the best of all possible worlds for me. Investing in a small but
profitable producer operating a high-grade underground gold mine on a large
land package in Saskatchewan such as Claude Resources would also be a decent
bet in the current market environment.
TGR: Joe, thank you for your time and your insights.
