Executive Summary
Gold is not expensive. In 2009, despite reaching all-time highs, most other
commodities have well outperformed it. Even when looking at long-term
averages, bullion is trading at premiums that are, on average, little different
from other benchmarks such as copper and oil. We think that there will continue
to be strength in gold and silver pricing over the next two years and,
accordingly, we have increased our price forecasts.
We have increased our gold price forecast for 2010 to $1,100/oz. (from
$1,050/oz.) and our long-term gold price rises to $1,000/oz. from $900/oz. We
are also introducing a gold price forecast of $1,200/oz. for 2011 and this has
become the basis upon which we are deriving price targets for stocks in
conjunction with their production levels two years out. We have also increased
our silver price forecasts – to $14/oz., $16/oz. and $18/oz. for 2009, 2010 and
2011, respectively, with long-term silver pricing rising to $13/oz. from $12/oz.
Several industry themes are likely to resonate in the new +$1,000/oz.
paradigm, including:
1. The thirst for reserve additions is going to intensify as for the first time we
did not see a replacement of material extracted in 2008 at mines.
2. Margin expansion has so far eluded producers, but we have found there is
becoming better discipline in applying lower cut-off grades that should help
stem the cost creep that has come from mining marginal ounces.
3. In the need for more reserves, we anticipate that producers will increase
their exploration budgets and apply some of these funds to ever-increasing
risky jurisdictions.
4. Gold ETFs will remain an important investment alternative, supporting
bullion prices, but we think that gold shares may be in a better position to
respond than in the past.
5. Delivery of production promises will be a key to performance and so far
noble expectations have not been met.
6. Failure to control costs due to FX and worsening reserve grades could result
in a renewed concern by investors and a flight to royalty companies due to
their fixed cost structure.
7. Copper-gold development companies have been outperforming pure gold
plays for much of this year whereas copper-gold producers have
underperformed; thus, there may be some short-term catch up that is due.
8. Intermediate and small-cap names are likely to remain the sweet spot for
share price outperformance due to their ability to post superior growth to
large producers that are forced to operate in a scarce regime of few big
deposits.
Our outlook to 2011 and the use of higher precious metals prices have invoked a
few ratings changes. As of October 19, Alamos Gold (AGI–SO), Coeur d’Alene
Mines (CDE–SO), Northgate Minerals (NXG–SO) and Eldorado Gold (EGO–SO)
rise to Sector Outperformer from Sector Performer, in part on a theme that
smaller producers should outperform bigger companies as the bull market
continues.