Moneyweek cover story: It’s time for investors to mine for profits in gold

Moneyweek cover story. Mining stocks have missed out on the long-term bull market in the yellow metal. A long-overdue upswing may now be starting. Here are his top picks in the sector.

I wrote this article for this week’s issue of Moneyweek. It will be old hat to many subscribers, but I thought it might be of some interest. You will get a Sunday morning thought piece as per usual.

---

Gold, as I’m sure you’ve heard, has broken out to new highs. There are two things that excite me about this move. Firstly it came despite outflows from exchange- traded funds (ETFs). Gold ETF holdings have declined by about 25% over the last 18 months – that is a big number – and those outflows have accelerated in recent months as investors have been selling gold ETFs to buy the bitcoin ones. Secondly, there has hardly been any fanfare. It has been a so-called “stealth breakout”, the best kind.

Could this mean the time has finally come for gold miners? They are supposed to give you leverage to the metal: gold goes up 20%, miners double. Except that has not been the case for 20 years. Many other ways to own gold or get exposure to the gold price, beyond buying bullion, have been invented over the last two decades. They range from the ETFs, options and spread-bets to the gold credit card Glint and digital gold-payments system Tally. As a result, gold miners have lost their monopoly on playing gold with leverage. Why take on the individual risk of a mining company, when they have been so likely to mess up?

Even with gold rising, miners’ profits might not rise nearly as much as one might hope, because the costs of mining – energy, equipment, personnel, meeting regulatory requirements, delays receiving permits – have all increased by more than gold has.

There is also the ongoing problem of incompetent operators and excessive dilution of shareholders, which has turned the sector into a perennial underachiever. The line on a chart of gold relative to the HUI, the index of unhedged gold miners, has been falling – reflecting miners underperforming spot gold – since 2004. We might have found the bottom, though.

Turning a corner?

The world’s largest gold mining company, Newmont, and the only one big enough to be in America’s blue-chip S&P 500 index, last week exceeded analysts’ earnings forecasts by more than 50%.

Agnico Eagle Mines, the world’s second-largest miner by market value (although the third-largest producer) then reported record free cash flow, record operating margins and earnings per share of $0.76, compared with forecasts of $0.60. The large caps could finally be getting their act together.

After a protracted bear market, the direction of travel seems to be upwards, albeit reluctantly. Most investors don’t seem to believe it yet. After so many false dawns, I’m not sure I do. The VanEck Vectors Junior Gold Miners ETF, as good as proxy as anything for mid-cap gold mining companies, appears to be starting to creep back up after almost a decade of moving sideways; it’s hardly the bonanza you would hope for with gold at record highs.

When mining stocks are rising, every boat floats. Perhaps the time has come to dip a tentative toe into the water, if you haven’t already. Maybe even consider increasing your positions if, like me, you have been one of those who should have taken an early loss, but chose to hold on instead.

I try to pick companies that have got something going for them beyond simply being a gold miner. Either they are likely to be taken over; own an extraordinary resource for which they are not getting proper credit, or boast competent management likely to engineer some growth and secure a rerating.

Here are three companies with the potential to shine brightly in a gold-mining bull market: a likely, imminent takeout candidate, a development play, and an emerging producer. Of all the picks, the first is the one that, for me, has the most immediate chance of fireworks: the takeout bet. Remember, take only small positions and manage risk. You can lose a lot of money if mining goes wrong.

A top takeover play

This is a company I alerted readers of Flying Frisby (my newsletter) to a few months ago, and it has since had a splendid run, gaining more than 50%. I think it’s about to be taken out. Let me explain. Listed on both Aim in the UK and the Toronto Stock Exchange in Canada, Condor Gold (Aim: CNR, Toronto: COG) with a market value of £65m, has identified 2.4 million ounces of gold from some 80,000 metres of drilling at various properties in and around its La India project in Nicaragua.

La India is the firm’s key asset – it will either sink or swim with the project – so this is a fairly straightforward situation to analyse. Divide those 2.4 million ounces by the firm’s market capitalisation, and you have an approximate valuation of $30 per ounce (oz): cheap, but there are cheaper situations out there.

Part of the cause of that low valuation will be Aim. It’s a poor exchange, whose only purpose, it so often seems, is to part investors from their money. Another reason for the low valuation is Nicaragua. The country may be attractive geologically – there is lots of gold and a solid history of mining, with gold being the biggest export – but politically, it is a dictatorship, so avoid it. Still, the biggest cause of the stock’s low valuation is the rubbish overall market for junior miners.

Here is a fine example of the wealth destruction in mining today. Condor has spent more than $90m over the last 12 years developing La India, although plenty will also have gone on general and administrative (G&A) expenses, public relations, legal costs, and all the rest of it. For the $90m it has spent, it has become a struggling undervalued £60m ($75m) market-cap development play. Condor is not unique in this regard. It is common across the board in this depressed sector. What a terrible return for investors. And that’s with the stock having doubled these last six months.

Average grade (the amount of metal in the ore) at La India, like the property itself, is decent: between 2.5 and three grams per tonne (g/t). The gold is extractable, as the historic mining on the property demonstrates. These will be a fairly straightforward open-pit mine.

But, while everything is solid, none of this is stand- out, amazing, irresistibly good. There are any number of similarly sized and undervalued development plays out there, not least STLLR Gold, which we will come to in a moment.

The reason I am covering Condor today is that I’ve got a feeling its time may have come. I know both the CEO, Mark Child, and the chairman, Jim Mellon (who has featured regularly in MoneyWeek over the years) personally. Child is a good man: ex-army, affable, diplomatic, competent, reliable, word-is-my-bond type. I first met him many years ago at various mining lunches and then three years ago ran into him in, of
all places, Sark in the Channel Islands, where he had just moved.

He lives in a converted lighthouse on the cliffs where my children and I were walking, and happily gave us a tour. But a little light bulb went off. There is no income or capital gains tax in Sark and I presumes that, among the reasons he had moved there, some were related to tax planning. Was he anticipating some kind of taxable event?

Something is brewing

Child owns about 2.5% of the company, with the largest shareholder being chairman Jim Mellon, who owns 25%. Jim has been chairman for a little over a year and a director for eight years. He is an extremely successful and capable businessman, a billionaire and more, who has made much of his fortune in junior resource stocks. He needs no introduction from me.

It is also of note that among Condor’s long-standing shareholders is US investor James Randall Martin, who owns just shy of 4% of the company and has a record of investing in, and successfully selling on, gold-mining projects in Nicaragua. I gather he has made $100m or thereabouts this way.

The managers have made it abundantly clear that they do not have the experience or the inclination to build a mine at La India and that the project is for sale. This is explicit in the company’s literature, its social media, and its presentations and has been for several years.

With feasibility studies, preliminary economic assessments and all the rest of it, the company is de-risked: “We have”, it says, “a gold mine that is fully owned/permitted, construction-ready, in a major gold district, with a new [mill to grind rock], and the potential to produce 150,000 oz of gold per year”.

On the group’s X feed, it says it has had substantial interest from two gold producers with whom it is in advanced discussions.

The acquisition of Condor has been on the cards for a long time, but Child is always quick to respond to texts and emails, as all good promoters should be, if he senses potential coverage from hacks like me. But I messaged him a couple of months ago to see how things were progressing and instead of the usual response, got, several days later, a very curt “I can’t comment on anything at the moment”. I emailed Jim asking if he had ten minutes to chat about Condor and got a similar two-word reply, “Can’t Dominic”.

For me the most obvious buyer would be Calibre Mining (Toronto: CXB), which runs two of the largest mines in Nicaragua, acquired in 2019 from B2Gold, one of them right next door. But its mill is only operating at 15% capacity, even with it trucking in ore from all over Nicaragua. Ore from Condor’s La India could easily feed that processing plant, and it could start trucking tomorrow.

Just as Condor has stated all over its literature that it is for sale, Calibre has said it is expanding. Numerous acquisitions over the last few years have more than demonstrated that. It just completed one such merger, then closed a C$120m (£69.75m) financing. What’s that money for?

When I saw news of the financing, I tried to call Mark Child to make some enquiries. He didn’t pick up, and then messaged me to say he was on site in Nicaragua. A good sign. I messaged Jim Mellon, as before. He said he couldn’t speak to me. Also a good sign. I might be putting two and two together to make five. I don’t know. I can’t help thinking a deal is close. My target for the stock, currently 30p, is 45p.

No vowels, but ample potential

STLLR Gold (Toronto: STLR), pronounced Stellar, has a terrible name. Apparently, some brand consultant somewhere advised management that vowels are
passé. Sigh. But what’s in a name? This is the largest undeveloped gold play in North America, the result of a merger between Moneta Gold and Nighthawk Gold late last year.

It has a young and charismatic CEO in Iranian-born Canadian Keyvan Salehi, a mining engineer who has been involved in the construction of four mines, two
in Timmins (where STLLR’s flagship asset, the Tower Gold project, is located).

He knows the district and the project well; he has tried to buy it twice in the past. He is also married to a mine builder. She is the chief operating officer of Agnico Eagle, one of the companies I hope might eventually buy STLLR.

With a market cap of some C$145m (£84m), the company’s 18 million ounces are valued at about $6/oz. This is extraordinarily cheap. The average among the firm’s peers is in the $30-$50 range. North of $100 is not unheard of, if those ounces are deemed mineable.

STLLR’s problem is that the market does not currently believe that they are – hence the low valuation. Salehi’s job is to prove they are. Let’s just say Salehi can persuade the market that ten million of his ounces are mineable, and he gets a $35/oz valuation for them. Well, then the stock triples.

There are upgraded mineral resource estimates and an upgraded preliminary economic assessment coming this spring, so hopefully that will go a long way towards improving perceptions. Let’s see how well they go down and then we’ll know how long this is going to take. Thankfully STLLR has enough cash to get it through the next 18 months, so we shouldn’t need worry too much about dilution.

A re-rate coming?

Minera Alamos (Vancouver: MAI) is another long-time favourite of Flying Frisby readers. The story, briefly, with this C$130m market-cap company is this: it has three low-cost mines in development in Mexico. The aim is to bring them all into production. My view is that the management has the competence and record to execute this, and once executed you will no longer own a development play, but a mid-tier 100,000-oz producer. This will result in a rerating of the stock. But it’s all taking longer than I hoped. Welcome to mining.

The first and smallest of the mines, Santana, was built for $10m and is now producing. It should now easily return its capital expenditure (capex) in free cash flow every year. It began producing last year, but suffered some delays owing to water shortages. This problem is now behind it. The gold that was not produced at Santana last year will now be produced this year with gold at higher prices. That is good.

So we come to mine number two, Cerro De Oro, in my view the company maker. Production should start some six months after the permits come through, but guess what? There are permitting delays. I spoke to CEO Doug Ramshaw, who is baffled. They should have come months ago. But he seems confident he will have the permits he needs, either shortly before or after the elections in Mexico in June. Permitting delays are common in mining, and that is what is holding the company back.

This will be a 60,000-oz per year mine with a capex of $28m at a cost below $800/oz. These costs should prove reasonably inflation-proof, Ramshaw says. He also says the funding package is largely agreed. Meanwhile, efforts are now mainly going into ramping up Santana, increasing production, and exploring nearby, while the wait for permits at Cerro De Oro goes on.

The final mine, La Fortuna, is already permitted, I’m pleased to report. It will hopefully see production about a year to 18 months after Cerro De Oro, and it will be built from the cash flow of the other two mines. Why not start this one up first as it has the permits? Ramshaw insists it has to be in the existing order.

I remain confident this one is going to work. The team is too good for it not to. But it is going to require patience. Like many of the senior Canadian brokerages, I have a target of a dollar on the stock and, in a benevolent mining market, I think it can go to two. That’s a lot higher than the C$0.30 where the stock sits today.

The best bet

In the near-term, my view is that Condor has the most potential. Let’s just hope my inferences are correct and they result in a deal. We’ll have clues as to how STLLR is going to work out as its two big bits of news come out. Hopefully we won’t have too long to wait for those. Minera Alamos I really like the look of for the next two to four years, especially if you can pick it up below C$0.30 cents, but permitting has proved problematic.

At the end of the day, these are gold miners. Miners have underperformed the metal since 2004. Why should now be any different? Higher gold prices, I suppose, is the answer. But if they can find a way of disappointing, junior gold-mining companies will. Bet small. On the other hand, we are overdue a bull market, and, hopefully, these ones have the potential to rise even in flat markets because of their circumstances.

Disclaimer: This letter is not regulated by the FCA or any other body as a financial advisor, so anything you read above does not constitute regulated financial advice. It is an expression of opinion only. Please do your own due diligence and if in any doubt consult with a financial advisor. Markets go down as well as up, especially junior resource stocks. We do not know your personal financial circumstances, only you do. Never speculate with money you can’t afford to lose.