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A return to the gold rush for miners
After a year and a half of disappointing performance, gold miners may be about to turn the corner.
Gold mining shares, which are traditionally held as a geared play on the precious metal, have been serial underperformers over the past 18 months, but there are tentative signs that the tide is starting to turn, writes James Phillips.
While physical gold has delivered positive returns, albeit with considerable volatility over the past 12 months, up 6.6%, gold miners have lagged markedly. The FTSE Gold Mines index is down around 20% over the same period, although it put in a bit of recovery at the end of May and start of June.
‘There is no denying the performance of gold equities has been disappointing, to say the least, relative to physical gold prices over the past few years,’ says Neil Gregson, lead manager of the JPM Global Natural Resources fund.
‘The performance divergence has been particularly prominent since the beginning of 2011 and this trend seems to be continuing in 2012.’
Gold and miners: an evolving relationship
Looking back at the historical relationship between gold equities and the gold spot price, he says the latter started to trade on a premium in the 1980s due to improvements in gold processing technology.
This resulted in substantial growth in Australian and North American gold production, which resulted in considerable investor interest and the opening of dedicated gold funds. This theme continued throughout the 1990s, with gold shares trading at two to three times the value metrics of other mining companies.
At the same time, though, many gold companies started to hedge proportions of their gold production, which resulted in heavy losses from 2001 onwards as gold set off on its decade-long bull run, which turned off investors.
The role of gold ETFs
‘Along with stalling production growth and sharply increasing production costs, it was no surprise that gold exchange-traded funds (ETFs), often backed by gold bullion, seemed like a smarter alternative than gold equities to many investors,’ he said.
‘Today, total gold ETF assets have reached nearly $4,140 billion. Bullion support has also been very strong from central banks in recent years.
‘Against this backdrop, markets have seen the inflated gold mining shares multiples start to derate, and, in our opinion, excessively so since the financial crisis.
‘While we accept that gold shares are unlikely to regain the valuation premiums enjoyed in the past, simply because the industry is currently in a very different cycle, we do believe the devaluation relative to gold spot prices has largely run its course.’
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