Gold stocks offer rich vein of cash amid chaos

3rd April 2020
Resources Rising Stars

Gold stocks are in the spotlight as the precious metal rallies, the Australian dollar falls and low yields bolster bullion's attractiveness as an investment (reports The Australian Financial Review).

Three leading brokers have highlighted their favourite gold stock picks amid renewed strength in the precious metal and as the weak Australian dollar boosts cash flows, though travel restrictions in Western Australia could challenge production.

The growing economic uncertainty caused by the coronavirus, financial market volatility and a slump in bond yields has stoked a rush back into gold, with its safe haven status driving a rally from a low of $US1470 an ounce on February 19 to about $US1615 an ounce.

UBS responded to the resurgent gold price by lifting its 2020 target to $US1649 an ounce, noting that after a recent sell-off most stocks are pricing in a gold price of between $US1300 an ounce and $US1500 an ounce.

The broker's preferred stocks are Saracen Resources, Evolution Mining and Alacer Gold.

Saracen, which completed the $US750 million ($1.2 billion) acquisition of a 50 per cent stake in Kalgoorlie's Super Pit in late November, is viewed as offering about 5 per cent annual production growth out to the 2025 financial year.

Trading on a prospective 2021 enterprise value-to-earnings before interest, tax, depreciation and amortisation (EBITDA) multiple of about five times, it is trading at a discount to the six times to eight times that Evolution, Northern Star and Newcrest trade on.

JPMorgan also likes Saracen, rating it overweight with a $5 a share price target, noting the miner trades at a discount to enterprise value-to-reserve and enterprise value-to-resource multiples compared to Northern Star and Evolution.

UBS recently upgraded Evolution to buy and views it as a quality gold play given its "strong" cash margin of about 60 per cent and its its asset diversity spread over seven mines, which reduces the risk of the coronavirus shutting down its mines.

Alacer, which operates the Copler gold mine in Turkey, is forecast to trade on a free cash-flow yield of about 20 per cent and is using the cash to pay down debt.

While gold prices are rising, investors need to recognise that gold hedging – or the forward selling of production at set prices – may blunt the bottom line impact of higher prices.

All eyes on hedge books

The topic of hedge books has come into sharp focus after Northern Star last week said it was taking steps to "minimise the financial risk associated with its gold hedges" by requesting the deferral of its 2020 hedges until next year.

On JPMorgan's calculations, Northern Star has the biggest hedge book liability for the 2020 calendar year at $169 million. Newcrest Mining and Saracen Resources follow with liabilities of $162 million and $152 million respectively.

Among the offshore operators, Credit Suisse prefers Alacer over Perseus Mining – which has mines in Ghana and Cote d’Ivoire – and OceanaGold, which has mines in New Zealand.

It likes Alacer because it has no hedging, meaning it will fully benefit from strength in spot gold prices.

Credit Suisse noted Perseus has the least exposure to the gold price with about 40 per cent of its production hedged to the 2021 financial year, while Regis Resources' hedge book includes the delivery of ounces at $1600, or about $1000 an ounce below the spot price.

Among the big cap names, Credit Suisse prefers Evolution followed by Northern Star. Evolution is viewed as most leveraged to the gold price from an earnings perspective over three years given its lower relative cost position.

However, COVID-19 poses a risk to operations. While mining has been deemed an essential service which means the fly-in, fly-out workforce can keep operating, moves by Western Australia to shut the borders to interstate workers could threaten production targets.

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