Gold Miners' Q4'20 Preview
Adam Hamilton
Archives
Jan 29, 2021
The major gold miners' upcoming earnings season should prove amazing. They enjoyed some of the highest prevailing gold prices ever witnessed last quarter, which sure ought to fuel massive earnings growth. Especially if their output levels and production costs stayed fairly stable, which is likely based on precedent. Incredibly-strong fundamentals should attract more investment capital, driving stock prices higher.
Four times a year, American and Canadian publicly-traded companies are required to publish financial reports for their shareholders. These quarterly results are highly anticipated by investors, providing the best-available fundamentaldata and analyses revealing how companies are faring. The better their core revenues, earnings, and operating-cash-flow generation, the greater their underlying stocks' upside potential.
Normally gold miners' earnings seasons where they report their latest financial and operational results run from about 3 to 6 weeks after quarter-ends. US securities laws require companies to disclose their latest quarters within 40 calendar days after they finish. And way more gold stocks trade in Canada, which has a more-relaxed deadline of 45 days. But both countries allow more time for annual reports following year-ends.
These full-year results including Q4s are much more comprehensive than interim quarterly results. They not only include much more data and analyses, but have to first be audited by CPA firms before being released. So regulators grant more time for annual reports to be filed, 60 days after year-ends in the US and a whopping 90 days in Canada! Thus Q4 earnings seasons start later and run longer than normal quarters'.
So how major gold miners as a sector performed last quarter won't be fully apparent until around mid-March. That's nearing the end of Q1, which is a long time for investors to wait for Q4 results. But a handful of key variables considered together have proven excellent predictors of gold miners' quarterly results. They are prevailing gold prices, overall world gold-mining production, and average all-in sustaining costs.
Average prevailing gold prices require no estimates, they are set in stone right after quarter-ends. Gold's overall performance across Q4'20 was lackluster, it only edged up 0.6%. That was because this metal spent 2/3rds of last quarter grinding lower on balance in a healthy bull-market correction. But despite falling 5.9% quarter-to-date by the end of November, gold still averaged a lofty $1,876 on close during Q4'20.
That was actually the second-highest quarterly average on record, only trailing the preceding Q3'20's $1,912! With Q4's prevailing gold levels only running 1.9% under that, the major gold miners could hardly ask for a better gold-price environment. Their earnings are overwhelmingly dependent on where gold is trading. Generally the higher the average gold prices, the greater the profits earned producing this metal.
Gold miners' quarterly earnings and operating cash flows are naturally highly correlated with the amounts of gold they mined during that quarter. Output changes vary considerably among companies, and are often difficult to predict because so much is constantly changing. Mines chew through different grades of ore, maintenance slows operations, old mines deplete, and new expansions and mines are brought online.
For years now, I've analyzed many dozens of gold miners' latest quarterly results right after their earnings seasons wrap up. The best constantly-updated ranked list of major gold miners comes from the GDX VanEck Vectors Gold Miners ETF. GDX utterly dominates the gold-stock-ETF market, with its net assets of $15.7b this week commanding fully 64% of all the capital deployed in all the US-traded gold-stock ETFs!
Following every quarter, I wade through and analyze the latest financial and operational results reported by the 25 largest GDX component companies. These include the world's biggest gold miners, together accounting for about 6/7ths of this ETF's total weighting. While individual gold miners' output changes vary widely quarter-to-quarter, the GDX top 25's total generally tends to track overall world gold production.
That is published about a month after quarter-ends by the venerable World Gold Council. Its outstanding quarterly Gold Demand Trends reports offer the best fundamental data available on global gold supply and demand. The Q3'20 one was still the latest released when I penned this essay. It included the total world gold mined each quarter extending back to 2010, which reveals major gold miners' Q4 output trends.
Over the past ten Q4s before 2020's newest one, overall global gold output averaged edging up 0.2% sequentially from preceding Q3s. While tiny quarter-on-quarter gains, those show the major gold miners tend to keep their production stablein Q4s. That precedent makes flat output levels the base case for the major gold miners last quarter. But Q4'20 has much-higher odds than usual of seeing substantial growth.
The gold-mining industry faced unprecedented disruptions from governments' COVID-19 lockdowns last year. For much of Q2'20, some major gold-producing countries forced their mines to shutter operations. So that quarter's global gold output plummeted 10.2% year-over-year, almost certainly the worst ever suffered! While production started rebounding in Q3'20 as gold mines spun back up, it was still down 3.4% YoY.
Last quarter the major gold miners pushed their operations hard to make up some of the lost output from Q2 and early Q3. So there's a solid chance their production will recover back up near Q4'19 levels. That would represent a 4.4% QoQ gainfrom Q3'20's output! While the major gold miners' production last quarter ought to sizably improve, the conservative assumption for estimating earnings is it will just stay flat.
With steady gold output and average gold prices blasting up 26.5% YoY to $1,876 in Q4'20, the last piece of the profits-preview puzzle is costs. Gold-mining earnings are the difference between prevailing gold prices and all-in sustaining costs. Those are what the gold companies are spending to maintain and replenish their mining operations at current output tempos. AISCs are the biggest wildcard for industry profitability.
Thankfully they usually don't change much, which is what gives gold miners big profits leverage to gold prices. Individual mines require the same levels of infrastructure, equipment, and employees to feed their fixed-capacity mills quarter after quarter. Those costs are largely determined during mine-planning stages, when engineers and geologists decide which ores to mine, how to dig to them, and how to recover their gold.
But the ore grades processed, how much recoverable gold the crushed rock contains, can really vary depending on where it was mined. The more gold produced in a quarter, the lower per-ounce AISCs since costs are spread across more ounces. Fluctuating ore grades as gold deposits are mined drive the most ongoing variability in major gold miners' AISCs. But their general range has still proven relatively tight.
Over the last four reported quarters ending in Q3'20, the GDX-top-25 gold miners have seen average all-in sustaining costs of $931, $933, $984, and $1,028 per ounce. Those in turn averaged $969, which is a conservative estimate for Q4'20 AISCs. Those Q2 and Q3 reads were anomalously high because of all the COVID-19-lockdown disruptions. In 2018 and 2019, GDX-top-25 AISCs averaged just $844 and $893.
Costs are higher now because of all the economic and supply-chain disruptions caused by governments' overreactions to COVID-19. But it wouldn't surprise me to see AISCs reverse back down near or even under $925 in Q4'20. Gold outputs and unit costs are inversely proportional, so more production last quarter will lower AISCs regardless of other factors. Yet we can still use that $969 past-year average here.
If the GDX miners' Q4 gold output merely stays flat, and their AISCs remain stubbornly high around $969, that still yields enormous $907-per-ounce earnings last quarter at its lofty $1,876 average prevailing gold prices! Those are the biggest major-gold-miner profits ever seen, even exceeding the $884 per ounce in Q3'20. That would make for GDX-top-25 unit earnings skyrocketing a gargantuan 64.5% higher YoY in Q4.
That wouldn't be an isolated anomaly either, but the continuation of a fast-improving-fundamentals trend the gold stocks have achieved. From Q4'19 to Q3'20, the GDX top 25's earnings growth by this metric soared 56.0%, 55.5%, 66.2%, and 49.7% YoY! For over a year now the gold miners have been making money hand over fist with gold prices so strong. That powerfully-bullish situation persisted through Q4'20.
So when the major gold miners start reporting their latest quarterly results in the coming weeks, they are likely to look utterly amazing. That massive earnings growthshould awe investors who haven't been paying much attention to this small contrarian sector. Far-higher overall profits will also force down gold-stock valuations, slashing trailing-twelve-month price-to-earnings ratios. Gold stocks' attractiveness will soar!
The GDX-top-25 gold miners' likely-phenomenal Q4'20 results that will soon be reported should ignite big new investment capital inflows into the gold stocks. That would really accelerate their young upleg, which started marching higher in late November after a correction paralleling gold's. This gold-stock bull's latest upleg is readily apparent in this chart, mostly a series of higher lows and higher highs forming an uptrend.
At best so far, gold stocks' latest upleg has only rallied 15.2%. That is nothing compared to this bull's own precedent, with its four prior uplegs averaging enormous 99.2% GDX gains! The last one that peaked in early August before the recent correction rocketed 134.1% higher in just 4.8 months. There's no doubt major gold stocks have the potential to double again in this new upleg given their epic fundamentals.
Where else in all the stock markets has a mature sector achieved 50%-to-66% year-over-year earnings growth for six quarters in a row? Stock prices ultimately gravitate to some reasonable multiple of their underlying profits. And the GDX-top-25 gold miners' earnings are going to remain huge as long as gold's own bull consolidates high or stampedes even higher. Gold's bullish fundamentals certainty support that.
Investors remain radically underinvested in gold at a dangerous time in the stock markets while central banks are printing money like there's no tomorrow. As 2020 wound to a close, the 500 elite companies in the benchmark S&P 500 stock index had a total market capitalization of $33,685b. Comparing that to the best gold investment proxy reveals the trivial portfolio allocations American stock investors have in gold.
The leading and dominant gold investment vehicles are the GLD SPDR Gold Shares and IAU iShares Gold Trust gold ETFs. Their hoards of physical gold bullion held in trust for their shareholders at the end of last month were worth $71b and $32b. That implies American stock investors had just 0.3%of their capital allocated to gold, which is close to zero! Vast gold buying is necessary to diversify their portfolios.
Such vanishingly-small gold holdings are almost criminally negligent given today's backdrop. Those 500 SPX companies sported extreme 35.3x average TTM P/E ratios exiting last year, well into dangerous bubble territory starting at 28x. That makes for exceedingly-risky stock markets, greatly increasing the odds of a new secular bear which tend to cut stock prices in half. Gold investment demand would soar in that scenario.
Meanwhile central banks around the world are inflating their money supplies at astounding rates. Over just a few months after last March's stock panic for example, the Fed's balance sheet skyrocketed up a mind-blowing 66.3% or $2,857b! The new Biden Administration is pushing for trillions of dollars of more pandemic-stimulus spending on top of the US government's huge normal budget. Money growth is exploding.
Gold has always been one of the main beneficiaries of excessive monetary expansion, since its supply growth is very slow. Relatively-more dollars being printed to chase relatively-less aboveground gold bids this leading alternative asset much higher. And gold stocks leverage and amplify those gains, because their costs are largely fixed regardless of prevailing gold prices. This gold-stock bull has vast room to run yet.
And another GDX doubling from its latest correction low of $33.42 in late November isn't even a stretch technically. That would propel this dominant gold-stock ETF up around $66.84 per share. That is right at GDX's all-time high of $66.63 seen in early September 2011. That came a few weeks after gold's last secular bull peaked at $1,894. That was an extreme spike high then, gold averaged just $1,706 that quarter.
Gold's current bull has already forged as high as $2,062, with much-higher levels almost certain in the coming years. In August 2011, the Fed's balance sheet was only running $2,859b. But since then it has mushroomed 2.6x higher to $7,415b! That's radically more money to chase gold higher. And that's just one central bank, the equivalent of tens of trillions of dollars have been created globally in the past decade!
A big untapped source of gold investment demand is millennials, who largely haven't yet learned about gold's essential portfolio roles. They've been seduced by speculative manias like bitcoin, which they view as digital gold. But as the epic bubble in that dominant cryptocurrency bursts, young traders fleeing that brutal carnage will start discovering gold. The big-and-fast gains in gold stocks will certainly appeal to them.
Back to the thesis, the major gold miners are on the verge of reporting record blowout earningsand operating-cash-flow generation in Q4'20. Their unprecedented profits are going to slash valuations and fund big expansions and mine builds, which will further boost their future earnings power. Those fantastic Q4 results should really light a fire under gold stocks' current upleg, accelerating its gains as investors buy in.
This industry earning around $907 per ounce is staggering. Just a couple years ago in Q4'18, quarterly average gold prices less GDX-top-25 average all-in sustaining costs yielded sector profits of just $353 per ounce. The earnings growth since is unparalleled in the stock markets, and the gold miners' huge profits will grow even fatter as gold continues marching higher on balance. Gold stocks' upside potential is massive.
So we've been aggressively adding new trades in fundamentally-superior gold and silver miners in our newsletters since late November. The current count is now up to 15 in our weekly and 6 in our monthly, with full trading books targeted at 20 and 10. So our young-gold-stock-upleg redeployment is continuing. We recently updated our newsletter formats as well, increasing their focus on individual-stock analysis.
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The bottom line is the major gold miners' upcoming Q4'20 financial and operational results ought to prove spectacular. Average prevailing gold prices last quarter stayed at their second-highest levels ever despite gold's healthy correction. Meanwhile gold production likely continued rebounding after 2020's lockdown disruptions, which should proportionally lower all-in sustaining costs. That will make for enormous profits.
Even if we assume flat gold output last quarter and stubbornly-high AISCs, the major gold miners should still report their highest unit earnings ever witnessed. These incredibly-strong fundamentals will slash the gold stocks' valuations, and likely attract in much new investment capital. That will bid gold-stock prices much higher, which is fully justified fundamentally given their unprecedented super-bullish backdrop.
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Jan 29, 2021
Adam Hamilton, CPA
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