Gold-related investments are disappointing investors in 2018. A strong dollar coupled with three interest rate increases by the Federal Reserve are among the factors hampering the yellow metal.As of Oct. 10, 2018, the largest exchange traded fund (ETF) backed by physical holdings of gold is down 8.94% on a year-to-date basis. That spells bad news for shares of gold miners and related funds. Gold miners can overshoot the losses of spot gold and physical gold funds and that is happening this year. The NYSE ARCA Gold Miners Index is lower by 20.87% as of Oct. 10, 2018.Simply put, betting against bullion and gold miners in 2018 has been easy and rewarding. Thing is easy, crowded trades do not stay that way forever and data suggest the bearish gold trade is indeed crowded. Some fundamental factors, including inexpensive valuations and the potential for an uptick in industry consolidation, could form the foundation of a miners rebound.
Fundamental Factors
Some analysts cite an array of sound fundamentals as reasons to consider gold miners exposure over the near-term.“Although there is little evidence that inflation is accelerating (as of now) or that the end of this bull market is imminent, we argue that gold miners should be given a larger weight in investors’ portfolio for the following reasons: i) the economic cycle continues to mature; ii) asset valuation multiples are expanding and asset bubbles are emerging in certain areas; iii) budget deficits are increasing at alarming rates; and iv) quarterly earnings will face tougher comps in 2019, bringing into question how much longer this record-breaking bull market can continue,” said CFRA Research equity analyst Matthew Miller.
1Investors with a near-term view of miners may want to consider the heavy net short positioning in gold. For the week ending Sept. 25, 2018, professional traders' net short position in gold futures was a record 83,677 contracts.
Source: CFTC, Bloomberg, ANZ Research, as of Sept. 25, 2018History suggests extreme levels of bearish trades in gold can give way to substantial rallies in the yellow metal, potentially boosting miners along the way.“After short positions spiked again in July 2005 and January 2016 (two times when the net long position was close to negative, or a net short position), gold prices surged 12% and 14%, respectively during the subsequent three-month periods,” said Miller.Related:
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In an effort to tidy up balance sheets, gold miners mostly eschewed large scale mergers and acquisitions activity over the past several years, but that could be changing. In September, Barrick Gold Corp. (ABX) said it is acquiring rival Randgold Resources Ltd. (GOLD) for $6 billion.Randgold is widely considered one of the industry's most successful companies, delivering a shareholder return of 96% over the past decade, according to Mining.com.
2The deal is the fifth-largest ever in the gold mining space with the last of the top four occurring in 2010.“We are starting to see a surge in M&A activity, which we think is a positive forward indicator for future performance of gold miners, as this magnifies the discount valuation in the space,” said Miller.
Source: S&P Global Market Intelligence, as of Sept. 30, 2018
Valuations
With essentially all of the world's easy-to-access gold already mined and industry valuations inexpensive relative to long-term averages, consolidation could continue rising. The NYSE ARCA Gold Miners Index had a price-to-earnings ratio (P/E ratio) of 22.11x at the end of the third quarter compared to its three-year average of 31.93x.The Sprott Zacks Gold Miners Index (ZAXSGDM) sports an even deeper discount relative to its three-year average. As of Sept. 30, the Sprott Zacks Gold Miners Index's P/E ratio is 21.96x, well below the three-year average of 41.91x. Based on price-to-book, price-to-cash-flow and price-to-sales, the Sprott Zacks Gold Miners Index trades at notable discounts to its three-year averages.
Getting Involved
The Sprott Gold Miners ETF (
SGDM) tracks the Sprott Zacks Gold Miners Index, a benchmark that employs a rules-based methodology to identify 25 large-cap gold miners with the highest beta to action in spot gold prices.
1Source: CFRA Research https://newpublic.cfraresearch.com/
2Source: Mining.com Oct. 8, 2018 http://www.mining.com/barrick-randgold-deal-breathes-new-life-gold/
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