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The gold price faced pressure on several fronts in June. The dominant headwind was the U.S. dollar, as the US Dollar Index (DXY)1 reached new highs for the year. The synchronized global growth theme that markets were counting on early in the year faded as economic indicators from Europe and many emerging markets have failed to keep pace with those in the U.S. Additional demand for dollars is coming from U.S. government policies, where the Treasury is issuing increasing quantities of debt to fund tax cuts and spending, and the Fed is selling down its hoard of government securities.
Gold was also caught in the June metals selloff. Copper and zinc suffered sharp falls amid concerns that the Trump administration’s tariff policies will likely dampen demand. While trade policies have adversely affected a number of companies, there is not yet evidence that they are affecting the broader economy or creating additional inflationary pressure. We believe gold will not react positively unless markets see this broader systemic risk emerge. Harley-Davidson announced plans to move some production to its local markets to avoid tariffs. This might become the start of a trend that places the global economy at risk. The Wall Street Journal found that a car costs 50% more in Brazil than a comparable model does in Mexico due to Brazilian protectionist rules that require cars to be assembled in country. Also, the strong U.S. dollar and stimulative fiscal policies are creating import demand that might be temporarily masking the adverse effects of tariff policies.
Finally, the Fed raised rates for the second time this year on June 13 and upped its guidance to four rate increases in 2018. This lent additional strength to the U.S. dollar, putting pressure on gold. During June, gold fell $45.35 (3.5%), ending the month near its low for the year at $1,253.17 per ounce. Gold stocks outperformed gold in June, as the NYSE Arca Gold Miners Index (GDMNTR)2 and the MVIS Global Junior Gold Miners Index (MVGDXJTR)3 both fell 0.2%.
Gold and gold stocks have shown similar performance in the first half of 2018. Gold declined 3.8%, while the GDMNTR fell 4.0% and the MVGDXJTR declined 4.4%. The gold price was held in check by a lack of macroeconomic catalysts and the strength of the U.S. dollar. Gold stocks significantly underperformed gold early in the year, with the underperformance reaching 10% in February. However, since then, stocks have outperformed to pull even with gold at mid-year.
The gold price has shown weakness ahead of every Fed rate increase since the hiking cycle started in December 2015. Gold has also rallied immediately after every rate increase, except for two. In June 2017, gold continued to fall after the Fed rate decision, but then rallied following the July 4th holiday week. Again this year, gold continued to fall after the June rate hike and into the week of the holiday. Positioning in the futures market suggests gold is oversold, so we expect to see another delayed rally once the thin holiday trading has passed.
We frequently explain to investors how the gold mining industry has reinvented itself after years of mismanagement. The chart shows that the return on invested capital (ROIC) for senior gold companies fell below industry peers from 2012 to 2015. ROIC has since risen to historic norms and is again competitive. A number of factors have contributed to the gold industry’s turnaround.
With Improved ROIC, Gold’s Again Competitive with Other Industries
Source: CapIQ; CIBC World Markets Inc. Report as of May 30, 2018. Past performance is no guarantee of future results. Chart is for illustrative purposes only.
Balance sheets are healthy again. CIBC World Markets finds net debt levels have fallen from $31 billion in 2014 to $17 billion in 2017, and we expect them to continue to fall. Mining costs have declined roughly 25% since 2012. Adoption of new technologies should allow costs to remain low. Free cash flow yields are expected to rise from 1.8% in 2018 to 8.1% in 2020, assuming a $1,300 per ounce gold price. Companies have recalibrated their portfolio of mines to focus on properties where they can create the most value. They have also become much better at hitting their targets. RBC Capital Markets found that in 2012, 60% of companies achieved production guidance and less than 50% delivered on original cost guidance. In 2017, production and cost guidance were achieved by 76% and 79% of companies, respectively.
Gold equity valuations are attractive, yet few investors are interested in gold stocks in the current environment. In order to attract investors in the next cycle, we feel companies must show that all of these changes are fundamental and lasting, rather than window dressing to cope with low gold prices. We believe there have been several fundamental changes that insure that wasteful management practices are gone for good:
We will soon see if the gold price again shows positive moves following the July 4th holiday week. We continue to believe gold may take another run at the $1,365 per ounce level that has served as the price ceiling since 2014. A successful test of this level is probably needed to bring investor interest back to gold stocks.
IMPORTANT DEFINITIONS AND DISCLOSURES
*All company weightings, if mentioned, are as of June 30, 2018, unless otherwise noted.
Nothing in this content should be considered a solicitation to buy or an offer to sell shares of any investment in any jurisdiction where the offer or solicitation would be unlawful under the securities laws of such jurisdiction, nor is it intended as investment, tax, financial, or legal advice. Investors should seek such professional advice for their particular situation and jurisdiction.
1U.S. Dollar Index (DXY) indicates the general international value of the U.S. dollar. The DXY does this by averaging the exchange rates between the U.S. dollar and six major world currencies: Euro, Japanese yen, Pound sterling, Canadian dollar, Swedish kroner, and Swiss franc.
2NYSE Arca Gold Miners Index (GDMNTR) is a modified market capitalization-weighted index comprised of publicly traded companies involved primarily in the mining for gold.
3MVIS® Global Junior Gold Miners Index (MVGDXJTR) is a rules-based, modified market capitalization-weighted, float-adjusted index comprised of a global universe of publicly traded small- and medium-capitalization companies that generate at least 50% of their revenues from gold and/or silver mining, hold real property that has the potential to produce at least 50% of the company’s revenue from gold or silver mining when developed, or primarily invest in gold or silver.
Any indices listed are unmanaged indices and include the reinvestment of all dividends, but do not reflect the payment of transaction costs, advisory fees or expenses that are associated with an investment in a Fund. Certain indices may take into account withholding taxes. An index’s performance is not illustrative of a Fund’s performance. Indices are not securities in which investments can be made. NYSE Arca Gold Miners Index is a service mark of ICE Data Indices, LLC or its affiliates (“ICE Data”) and has been licensed for use by VanEck Vectors ETF Trust (the “Trust”) in connection with VanEck Vectors Gold Miners ETF (the “Fund”). Neither the Trust nor the Fund is sponsored, endorsed, sold or promoted by ICE Data. ICE Data makes no representations or warranties regarding the Trust or the Fund or the ability of the NYSE Arca Gold Miners Index to track general stock market performance.
ICE DATA MAKES NO EXPRESS OR IMPLIED WARRANTIES, AND HEREBY EXPRESSLY DISCLAIMS ALL WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE WITH RESPECT TO THE NYSE ARCA GOLD MINERS INDEX OR ANY DATA INCLUDED THEREIN. IN NO EVENT SHALL ICE DATA HAVE ANY LIABILITY FOR ANY SPECIAL, PUNITIVE, INDIRECT, OR CONSEQUENTIAL DAMAGES (INCLUDING LOST PROFITS), EVEN IF NOTIFIED OF THE POSSIBILITY OF SUCH DAMAGES.
MVIS Global Junior Gold Miners Index is the exclusive property of MV Index Solutions GmbH (a wholly owned subsidiary of Van Eck Associates Corporation), which has contracted with Solactive AG to maintain and calculate the Index. Solactive AG uses its best efforts to ensure that the Index is calculated correctly. Irrespective of its obligations towards MV Index Solutions GmbH, Solactive AG has no obligation to point out errors in the Index to third parties. The VanEck Vectors Junior Gold Miners ETF (the “Fund”) is not sponsored, endorsed, sold or promoted by MV Index Solutions GmbH and MV Index Solutions GmbH makes no representation regarding the advisability of investing in the Fund.
Please note that the information herein represents the opinion of the author, but not necessarily those of VanEck, and this opinion may change at any time and from time to time. Non-VanEck proprietary information contained herein has been obtained from sources believed to be reliable, but not guaranteed. Not intended to be a forecast of future events, a guarantee of future results or investment advice. Historical performance is not indicative of future results. Current data may differ from data quoted. Any graphs shown herein are for illustrative purposes only. No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission of VanEck.
About VanEck International Investors Gold Fund: You can lose money by investing in the Fund. Any investment in the Fund should be part of an overall investment program, not a complete program. The Fund is subject to the risks associated with concentrating its assets in the gold industry, which can be significantly affected by international economic, monetary and political developments. The Fund’s overall portfolio may decline in value due to developments specific to the gold industry. The Fund’s investments in foreign securities involve risks related to adverse political and economic developments unique to a country or a region, currency fluctuations or controls, and the possibility of arbitrary action by foreign governments, or political, economic or social instability. The Fund is subject to risks associated with investments in Canadian issuers, commodities and commodity-linked derivatives, commodities and commodity-linked derivatives tax, gold-mining industry, derivatives, emerging market securities, foreign currency transactions, foreign securities, other investment companies, management, market, non-diversification, operational, regulatory, small- and medium-capitalization companies and subsidiary risks.
Diversification does not assure a profit or protect against loss.
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