Gold has regained its luster, as exemplified by a 21% rise since the beginning of the year with prices flirting close to the $1,300 mark. Needless to say, the yellow metal has been the best performing asset in the first quarter, trouncing major equity indices, investment grade and high yield bonds and commodity indices.
What Set Gold Rolling?
A weakening greenback, slowdown in China, volatile equity markets and introduction of negative interest rates by several of the world’s central banks (including Japan) have spurred safe-haven demand for gold.
The spike in gold prices has led to a surge in the share prices of many gold miners. Among others, Golden Star Resources, Ltd. (GSS - Snapshot Report) , Harmony Gold Mining Co.Ltd (HMY - Analyst Report) , Vista Gold Corp. (VGZ - Snapshot Report) , Kinross Gold Corp. (KGC - Analyst Report) , Asanko Gold Inc. (AKG - Snapshot Report) , Richmont Mines Inc. (RIC - Snapshot Report) , Barrick Gold Corp. (ABX - Analyst Report) , IAMGOLD Corp. (IAG - Snapshot Report) and Yamana Gold, Inc. (AUY - Snapshot Report) have appreciated more than 150% year to date.
Gold vs. the Fed
Part of gold’s recent allure is due to the Fed’s ‘lower for longer’ view of monetary policy. A combination of uneven economic readings and global uncertainty has forced the Fed to take a pass on following up on its December 2015 rate hike, with many in the market sceptical of any rate hike at the July meeting either.
Brexit: Will it or Won’t it Happen?
Another macroeconomic factor that the market is scared of is the possibility of United Kingdom exiting the European Union. The referendum scheduled for Jun 23 is closely watched and, in case UK voters decide to leave the union, there is sure to be more turbulence in the market ahead. This uncertainly is also fuelling gold prices.
Record Global Gold Demand in Q1
As per the World Gold Council, the first quarter of 2016 was the best on record with total gold demand rising 21% year over year to 1289.8 tons. Following outflows over the last three years, ETF inflows surged to a seven-year high of 363.7 tons.
Negative Interest Rate Policies (NIRP) implemented by central banks in Japan and Europe, China’s devaluation of the yuan stoking fears over the country’s economic health and the potential impact on global growth and the slowdown in the pace of U.S. interest rate triggered a flight to safety. This led to a 122% jump in total investment demand. Total bar and coin demand edged up 1% year over year to 253.9 tons.
On the other hand, jewelry demand dropped 19% to 481.9 tons in the quarter. Grabbing headline was the 41% plunge in jewelry demand in India to 88.4 tons, the worst quarter in the past 7 years. This was mainly due to the Finance Ministry’s plans to impose a 1% excise duty on jewelry manufacturing, which led to a nationwide strike in March.
Demand in China also fell 17% in the quarter to 179.4 tons affected by higher gold price against a backdrop of continued economic slowdown. In the technology sector, gold demand was down 3% to 80.9 tons.
The central banks were the primary acquirers of gold, purchasing 109 tons net over the quarter, the 21st consecutive quarter of net purchases. The accumulation of gold reserves is an act of diversification, especially away from the U.S. dollar.
Supply, Production Up: Will it Stay?
Total supply in the first quarter increased 5% year on year, driven by an 8% increase in total mine supply (the sum of mine production and net hedging), offset by a 1% dip in gold recycling.
Mine production in the quarter grew 5% to 734 tons led by increases at Barrick Corporation’s Goldstrike and Cortez projects in the U.S., Fresnillo PLC’s Herradura and Noche Buena in Mexico and Newmont Mining Corporation (NEM) Batu Hijau mine in Indonesia. Russian production was aided by a 9% increase in output by Polyus Gold. Apart from established mines, new mines like Torex Gold Resources Inc.’s TORXF El Limon-Guajes mine in Mexico, Goldcorp Inc. (GG - Analyst Report) Éléonore and Cochenour mines in Canada, Guyana Goldfields Inc.’s GUYFF Aurora project and Troy Resources Limited TRYRF Karouni project in Guyana also added to the numbers.
However, the increase in production is a temporary phase as project pipeline is seen to be diminishing. In recent years, additional production from new mines brought on stream has waned. Producers have cut down on expenditure and are focused on maximizing production from their existing portfolio of assets
Sector Level Earnings Trend
As per the Zacks classification, the gold-mining industry comes under the broader Basic Materials sector which suffered a 15.9% drop in earnings in the first quarter. Even though earnings are expected to decline 15% in the second quarter, a dramatic recovery is projected for the latter half of the year with 5.6% growth in the third and 18.6% in the fourth. (For a detailed look at the earnings outlook for this sector and others, please read our Earnings Trends report.)
Industry Ranking & Outlook – Positive
Â¿Â¿Â¿We rank all of the more than 257 industries in the 16 Zacks sectors based on the earnings outlook for the constituent companies in each industry. This ranking is available on the Zacks Industry Rank page.
The way to align the ranking and outlook from the complete list of Zacks Industry Rank for the 257+ companies is that the outlook for the top one-third of the list (Zacks Industry Rank of #86 and lower) is positive, the middle one-third (between #87 and #172) is neutral while the outlook for the bottom one-third (Rank #173 and higher) is negative.
Currently, the gold mining industry is in the top tier with a Zacks Industry Rank of #68, indicating a positive outlook.
A delay in raising interest rates elevates demand for gold, which produces no income but relies on price appreciation to attract investors. Gold prices are generally supported by retail demand for gold in the latter part of the year, as it is a seasonally strong period in countries like India and China. Moreover, pent-up demand due to the shutdown of jewelry stores in India will likely be a catalyst this year. Moreover, demand from the central bank will support prices as this sector has remained remarkably consistent.
Another factor that will eventually be a tailwindis that the supply of this precious metal has already attained peak levels as per reports. Lower gold prices in the past few years and cost pressure had restricted the ability of gold producers to invest in new projects.
Production of gold is likely to decline by 3% in 2016, thus ending a seven-year stint of rising output. Lower mined gold supply could help prices navigate north. A positive outlook for the industry reinforced by expectations of earnings growth eventually in 2016 makes a good investment case for the gold mining industry.
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