Golden Gains: Add Some Yellow Glitter To Your Portfolio

Some consider the Fed’s long-term committed to low rates along with unprecedented fiscal and monetary stimulus to be creating a “perfect storm” for higher gold prices. Several investment experts, including participants in MoneyShow’s Mining & Money virtual conference on Sept. 1-3, highlight strategies to add some gold stocks and funds to your portfolio.

The dollar is now embarking on a big renewed decline that’ll likely take it down to new record lows. This probably won’t affect most people, at least initially. But over time your dollars will become worth less.

That’s why it’s important to protect yourself in the best way you can from this ongoing and steady erosion in the dollars value. And the best way to do that is by buying gold and silver.

They will gain a lot more than the dollar will fall and, therefore, this will provide the best way to not only maintain your purchasing power, but to profit as well, and make the best of the current situation.

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This is basically why the world’s central banks have been easing out of dollars and increasing their gold reserves. They’ve been doing this for years and they obviously see the writing on the wall.

Gold’s risen 63% since May 2019 in an incredible rise. Weakness in gold would not be unusual at this time and it would be a normal downward correction. We’ll ride through weakness and we want you to be onboard for the major rise. Keep an eye on $1,900 as gold is strong above that level.

For now, we advise buying some new positions and much more on further weakness, eventually raising your metals related investments to a high 70%. This should be divided between gold and silver funds and mining shares. In our model portfolio, such as iShares Silver Trust (SLV), SPDR Gold Trust (GLD) and individual mining shares including Agnico Eagle Mines (AEM), Newmont (NEM) and Royal Gold (RGLD.)

CFRA Research thinks the price of gold is poised to trade well above its historic high later in 2020 and throughout 2021. Gold’s role as a hedge against inflation is also a major focus now, as major governments continue to stimulate economies with quantitative easing.

Central banks continue to cut interest rates and inject more money into economies that have an insatiable demand for easy money, which should eventually lead to higher inflation. CFRA Research views the current environment as a positive backdrop for gold fundamentals.

Various exchange-traded funds (ETFs) hold a significant number of gold mining stocks; depending on desired exposure to gold miners, investors could choose from VanEck Vectors Gold Miners (GDX), 100% of assets in gold & silver mining stocks; VanEck Vectors Junior Gold Miners (GDXJ), 100% in gold miners; SPDR S&P Metals & Mining (XME), 16% in gold miners; Materials Select Sector SPDR (XLB), 13% in metals & mining stocks; and Vanguard Materials (VAW), 7% in gold miners.

Other ETFs track the price of gold itself, rather than the miners. Such ETFs include SPDR Gold (GLD), Aberdeen Standard Physical Swiss Gold (SGOL), and VanEck Merk Gold (OUNZ).

CFRA has a positive view on gold miners based on the following reasons: the economic cycle continues to mature, asset valuation multiples are expanding, asset bubbles are emerging in certain areas, and budget deficits are increasing at alarming rates, creating the specter of future inflation.

We also forecast some of the largest miners might shift their attention to opportunistic acquisitions (targeting firms trading at discounts to P/NAV that can be accretive to both the size and quality of reserves).

Regarding individual gold sector stocks, Barrick Gold (GOLD), Kinross Gold (KGC), Franco-Nevada (FNV), Newmont (NEM) and Royal Gold (RGLD) earn CFRA’s 4-STAR buy rating. In additon, Agnico Eagle Mines (AEM) and Wheaton Precious Metals (WPM) earn our 5-STAR — or strong buy — rating.

In our new screening process to find recommendations, the vast majority of gold stocks don’t qualify because they aren’t making money or are too expensive. AngloGold Ashanti (AU) is such an exception. Based in Johannesburg, South Africa, the world’s #3 gold miner has more than one dozen properties in Africa, North and South America, and Australia.

It sold its last gold mine in South Africa to Harmony Gold earlier this year, and now has no operations in South Africa. Sadly, South Africa has been politically unstable.

In 1970, South Africa was the top gold producer in the world by a wide margin; now it is #8, behind Peru. AngloGold combined with Goldfields in 2004 and now is an international gold producer outside of South Africa.

With higher gold and silver, and improved ways to reduce costs, profit margins now exceed 10%. Revenues rose sharply in the past year, up 26% to $3.9 billion, and earnings skyrocketed 287% to $619 million. The company has $1.3 billion in cash, with only $2.9 billion in long-term debt.

Among major gold miners, it is selling much more cheaply than its rivals Barrick Gold (GOLD) and Newmont (NEM) due to its headquarters in South Africa. It is now selling for an estimated 12 times earnings for 2020 and has a price/earnings-to-growth (PEG) ratio of 0.54 (anything less than 1 is considered excellent).

AngloGold mines have weathered the Covid-19 crisis and are increasing profits and cash flow. On Sept. 1, CFO Christine Ramon will take over as the new CEO, replacing Kelvin Dushnisky. Let’s buy AngloGold Ashanti at market and set a protective stop of $23 a share.

Warren Buffett’s flip-flop on gold recently sent shockwaves throughout financial markets. Berkshire Hathaway (BRK.B) unexpectedly announced that, as of the end of the second quarter, it held a $565 million position in Barrick Gold (GOLD), the world’s second largest producer of the metal.

So why did Buffett change his mind? I believe he finally came to the realization that he could no longer afford to ignore gold and gold producers. Governments around the world, including the U.S. government, have responded to the pandemic-caused economic slowdown by implementing unprecedented levels of monetary and fiscal stimulus.

With so much money being printed out of thin air, many investors have rightfully been concerned about currency debasement, which is the lowering of a currency’s purchasing power. The direct result of this is inflation since the U.S. dollar may not buy as much as it did yesterday.

What about investors like Buffett who want exposure to gold but also seek income? Many gold stocks do pay dividends, including Barrick. The Toronto-based producer, in fact, has been growing its dividend pretty regularly over the past 10 years.

Barrick’s one-year dividend growth rate as of this month was an attractive 35.3 percent, according to Bloomberg data. Just last week, the company hiked its dividend by 14 percent to $0.08 per share as hundreds of other companies have had to suspend their payouts due to the pandemic.

It’s easy to see why Buffett chose Barrick as his entry point in metals and mining. It’s been a top performer. Barrick reported net income of $417 million on revenue of $3 billion in the second quarter, the most since 2013. For the year as of August 18, the stock has returned more than 62 percent

Buffett isn’t the only big-name investor who’s recently changed his mind about gold. In January 2019, billionaire investor Sam Zell, founder of Equity Group Investments, disclosed that he had bought gold for the first time in his life because he believes it’s a “good hedge.”

Later that year, hedge fund manager Paul Tudor Jones told Bloomberg that gold was his favorite trade for the next 12 to 24 months. Will other anti-gold investors change their minds? There’s no telling, of course, but what I can say is that I believe it’s getting harder and harder for investors to leave gold and gold mining stocks out of their portfolios.

Part of our hesitance to rate more gold stocks as “buys” is our concern about a potential pullback after such a strong upmove. For example, Fortuna Silver (FSM) had a difficult quarter, as expected, due to Covid restrictions affecting its mines in Peru and Mexico and development of its new mine in Argentina.

San Jose in Mexico was shut down for much of the quarter, while operations at Callyoma in Peru were curtailed. And Lindero in Argentina was pushed back by about three months, and will start on a smaller scale.

Still, the company reported neutral cash flow, partly because of higher metals prices, partly because of higher gold and silver and reduced costs in Peru, though a loss overall. It is reasonable to expect a much better 3rd quarter, with limited covid related reductions.

Lindero is now 97% complete, with an abbreviated circuit, and ore is being placed on the leach pad; the tertiary crusher (an HPGR system) is by-passed in the revised circuit because of travel restrictions preventing skilled technicians being on site, and this will cause lower recoveries.

The company expects to have the HPGR operational within three months, with commercial production in the first quarter of 2021, a quarter’s delay over earlier projections.

The balance sheet is strong, with $77 million in cash (and $132 million total liquidity), for about $50 million net debt. With increased production and metals prices, it should be et cash positive by the end of the quarter. We are holding, and would be renewed buyers on any price decline.

Wheaton Precious Metals (WPM) reported that all mines on which it receives streams have now restarted. With strong cash flow due to higher prices, Wheaton cut its debt by $80 million; it now has a little over $130 million cash, with $641 million outstanding on its revolver.

In the current environment, Wheaton has deliberately utilized debt as the most attractive form of financing. The company has now issued revised guidance for 2020, expecting 655,000 to 685,000 ounces equivalent, just over half of it from gold, with an average of 750,000 ounces over the next four years.

Wheaton stock has performed very well since the settlement with the Canadian tax authorities at the end of 2019 (when it was trading around $15) and then again from the sell-off in March (when it fell to under $25).

At the current price, if not out-of-line with other major royalty companies, it is hardly undervalued. We are holding, and will wait for a better opportunity to buy.

Earlier this year, we advised stepping up the position in the VanEck Vector Gold Miners ETF (GDX), and it has been a valuable hedge during turbulent times. With the worst of the COVID-19 induced shutdowns possibly behind us, the reason to maintain our 8% position in gold mining stocks is the unbounded fiscal and monetary stimulus implemented in response to the virus.

This puts unrelenting pressure on the U.S. dollar gold has an inverse relationship to the dollar. There have been at least three sustained declines in the currency since 1974. Each was accompanied by a run-up in gold prices.

The latest rally in gold started in 2015 with the reignition of inflation fears and the initial hike in short-term interest rates. The rally picked up the pace when the Fed started buying treasuries to settle volatile overnight bank lending rates last year.

And now, the Federal Reserve’s COVID-19 response has flooded the U.S. markets with liquidity, leading to a renewed decline in the dollar.

While the latest move in gold prices has been impressive, it is small compared to the gains in the late 1970s and at the turn of the century. As long as monetary mayhem reigns supreme, there will be further upside potential in gold and a reason to hold GDX.

Kirkland Lake Gold (KL) has seen its profit estimates march higher over the past few months, with the consensus now targeting growth of 12% for the September quarter and 15% for the December quarter. Growth is getting a lift from record high gold prices and Kirkland’s $3.16 billion acquisition of Detour Gold, completed in January.

Rising analyst estimates call for 23% profit growth on 12% higher revenue in 2021. Regarding the coronavirus, Kirkland still has no plans to resume production at the Holt facility in Ontario, its smallest mine (2% of projected 2020 production), which was shuttered in April.

In late July, Kirkland said pandemic conditions are worsening in Australia, forcing more lockdowns near the location of its Fosterville mine (42% to 45%), though management has yet to take any steps to curtail operations.

Encouragingly, Kirkland’s Detour Lake (37% to 40%) and Macassa (15% to 16%) mines have ramped operations to prepandemic levels and appear poised for a strong second half of 2020. Kirkland is a “Long-Term Buy”.

At the start of the Covid outbreak, I recommended that all portfolios hold 5%-10% of their assets in gold. I continue to maintain that advice. Now, the only question is how high is up? The Bank of America, for example, is targeting $3,000 an ounce within the next 18 months.

The price is being driven by historically low interest rates, massive fiscal and monetary stimulus programs, and purchases by central banks. “It’s just astonishing and breathtaking and you have to sort of pinch yourself sometimes to sort of realize that it’s actually happening,” Michael Hartnett, BofA’s chief investment strategist, said.

The bank includes three of our own recommendations among its top picks in the gold mining sector: Barrick Gold (GOLD), Agnico Eagle Mines (AEM), and Franco-Nevada (FNV).

We could easily see a short-term pullback at this point as profit-taking sets in. But the long-term fundamentals suggest gold is going to trend higher over the next few years.

Here’s why:

Low interest rates. One of the negatives about owning gold is that it pays no interest. These days, that doesn’t matter. An estimated US$15 trillion worth of sovereign bonds are trading at negative rates right now. If you factor in inflation to arrive at real rates of return, that figure rises dramatically. In a negative rate environment, gold becomes even more attractive.

Massive government stimulus. Governments around the world have been running up huge deficits in an effort to keep the economy running with a wide range of stimulus programs, ranging from guaranteed income to rent relief.

These deficits are increasing national debt at a rate not seen since the Second World War. That gives politicians a powerful incentive to put pressure on central banks to keep interest rates low for years to come. Higher rates would raise the cost of servicing the debt to unacceptable levels.

Inflation risk. The stimulus programs and the quantitative easing being employed by many central banks (which really amounts to printing money) raises the spectre of inflation down the road.

It won’t happen in the short term — there’s too much slack in the economy. But once the pandemic is behind us, the massive increase in the money supply we are witnessing poses a serious risk of price inflation, which would benefit gold.

Weak U.S. dollar. Gold is priced in U.S. dollars. This means when the dollar weakens, as it has been doing for the last few weeks, it automatically pushes gold higher. Given the uncertainty surrounding the coming election and the mismanagement of the COVID crisis, the downward pressure on the dollar is likely to continue.

Geopolitical concerns. As if the pandemic and the resulting recession weren’t enough, the uncertainty created by the growing U.S.-China trade disputes, the trend to deglobalization, and on-going tensions in the Middle East would be enough to drive many investors to gold. None of these problems are going away any time soon.

Put it all together and logic suggests gold is going to move higher over the next few years. If you don’t have some gold stocks or funds in your portfolio, it’s time to act.

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