Gold mid-tiers’ Q3 2020 fundamentals

Ironically the leading mid-tier gold-stock benchmark and trading vehicle is the misleadingly-named GDXJ VanEck Vectors Junior Gold Miners ETF.  It has evolved to be dominated by mid-tiers, miners yielding quarterly gold output of 75k to 250k ounces.  GDXJ actually holds few true juniors, which only account for a small fraction of its total weighting.  The mid-tier gold miners have enjoyed outstanding performance this year.

In just 4.8 months between mid-March’s stock-panic nadir to early August, GDXJ skyrocketed 188.9% higher!  This ETF way outperformed its major-dominated big-brother ETF, GDX.  That powered 134.1% higher over that same span, which GDXJ further amplified by 1.4x.  But ever since peaking in early August at extremely-overbought levels, this mid-tier-gold-stock ETF has been languishing in a healthy correction.

This week that just slumped to a fresh low, extending GDXJ’s total selloff to 19.8% over 3.5 months.  This ongoing gold-stock correction is mirroring and exaggerating gold’s own like usual.  Gold is selling off because American stock traders are dumping gold-ETF shares and gold-futures speculators’ positioning remains excessively-bullish.  Those guys closely watch the US dollar, which is oversold and due to mean revert higher.

But even if these parallel gold and gold-stock corrections haven’t matured and climaxed yet, speculators and investors need to stay abreast on the mid-tier gold miners’ fundamentals.  The stronger they are, the greater these stocks’ upside potential in gold’s next bull-market upleg.  And the just-reported Q3’20 results from the world’s best mid-tiers proved super-impressive.  They are thriving operationally and financially.

For 18 quarters in a row now, I’ve painstakingly analyzed the mid-tier gold miners’ latest quarterly results right after they are reported.  While GDXJ contained an absurd 84 component stocks this week, I’m limiting my analysis to its top 25 holdings.  These include some of the greatest mid-tiers, which command a major 69.0% of GDXJ’s total weighting.  They are among the best-performing gold miners on the planet.

These gold miners trade in the US, Australia, South Africa, China, Canada, and Mexico making amassing this data somewhat challenging.  There are different financial-reporting requirements around the globe, and even within the same country miners report different data in different ways.  Half-year reporting is common outside the US, and Q3s are off-cycle quarters.  But most miners still give shorter quarterly updates.

This table summarizes operational and financial highlights from the GDXJ top 25 in Q3’20.  These gold miners’ symbols are listed, some of which are from their primary foreign stock exchanges.  That is preceded by their ranking changes in terms of GDXJ weightings from Q3’19.  Their current weightings as of this week follow those stock symbols.  This ETF essentially weights gold stocks by their market capitalizations.

So relative ranking changes help illuminate outperformers and underperformers over this past year.  That data is followed by each miner’s Q3’20 gold production in ounces, and its year-over-year change from Q3’19’s results.  Then comes cash costs per ounce and all-in sustaining costs per ounce along with their YoY changes, revealing how much it costs these elite miners to wrest their gold from the bowels of the earth.

Next quarterly revenues, GAAP earnings, operating cash flows generated, and cash on hand are listed along with their YoY changes.  Blank data fields mean companies hadn’t reported that particular data as of the middle of this week.  Blank percentage fields indicate those changes would be either misleading or not meaningful, like comparing two negative numbers or data shifting from positive to negative and vice versa.

Sporting the highest average gold prices ever seen, last quarter promised to be a banner one for mid-tier gold miners.  And they didn’t disappoint, with stable output and higher gold prices fueling monster revenues, earnings, operating-cash-flow, and treasury growth in Q3!  The mid-tier gold miners also largely held the line on costs, further ramping exploding profits.  These stocks’ fundamentals have never looked stronger.

GDXJ’s mid-tier holdings certainly aren’t unique.  Of these top 25, fully 22 are also components in that bigger GDX major-gold-miners ETF!  GDXJ’s top 25 stocks mostly clustered between ranking 9th to 31st in GDX.  So GDXJ effectively slices away GDX’s top 8 gold majors, which averaged massive Q3’20 gold production of 634k ounces.  That enables GDXJ to more-heavily weight these ETFs’ many mutual holdings.

These top 25 GDXJ stocks that account for 69.0% of its total weighting represent just 33.8% of GDX’s.  So this mid-tier gold miners’ ETF essentially takes a third of the positions from GDX and doubles their importance.  This largely cuts out the serious deadweight of the major gold miners which have long struggled to grow their outputs.  And production is the lifeblood of this industry, a critical driver of overall profits.

Last quarter these elite mid-tier gold miners in the GDXJ top 25 actually saw their collective gold output drop a sharp 10.3% year-over-year.  That poor performance was much worse than the GDX top 25 fared, with their total quarterly production climbing a slight 0.6% YoY.  The largest GDXJ components’ output lagged way behind the entire world, which showed a 3.4% YoY production drop per World Gold Council data.

That very-weak GDXJ-top-25 output last quarter was surprising, as mid-tiers’ production growth usually well outpaces the majors’.  And coming out of governments’ widespread national lockdowns in Q2 to slow COVID-19’s spread, Q3’s production rebound should’ve been strong as many shuttered mines were allowed to spin back up.  Fortunately this mid-tier output decline is misleading, heavily skewed by ranking shufflings.

As they’re based on market capitalizations, GDXJ’s weightings of positions are forever changing.  Over the past year the biggest gainer in this ETF’s rankings is the Chinese gold producer Zhaojin Mining, which soared 31 GDXJ ranks!  It is listed above by its numeric Hong Kong symbol, 1818.  Finding quarterly data on Chinese companies in English is all but impossible, since that country’s reporting requirements are so opaque.

Every quarter I check the Chinese gold miners’ websites, looking for their latest results.  And for the years I’ve been advancing this fundamental-research thread, these companies have never reported any kind of operating results including production.  So that is left blank above, zero for calculation purposes.  Zhaojin rocketing up through GDXJ’s higher ranks knocked out another mid-tier gold miner reporting production in Q3’19.

And in that comparable year-ago quarter, GDXJ’s 4th-largest component was South Africa’s Sibanye-Stillwater.  While it mined a major-level 287k ounces of gold in Q3’19, GDXJ’s managers rightfully kicked it out of this ETF over the past year since this company is a primary platinum miner.  So subtracting its big gold output from the Q3’19 total makes that much more comparable with GDXJ’s top 25 stocks in Q3’20.

And GDXJ’s 10th-largest component in Q3’19 was Detour Gold, which produced 138k ounces of gold then.  That company was bought out by the best major gold miner Kirkland Lake Gold earlier this year.  So Detour Gold production is rolled into that larger company now, which is too big to be included in GDXJ.  So some key GDXJ-top-25 year-over-year comparisons are more meaningful excluding this pair of stocks.

Backing out Sibanye’s and Detour’s production from a year ago, the GDXJ top 25 merely saw their gold output contract 1.2% YoY.  And without some other ranking shufflings, the mid-tier gold miners would have enjoyed production growth.  Another example is IAMGOLD ranking 17th in this ETF in Q3’19, when it produced 187k ounces of gold.  In Q3’20 this stock fell to 27th place, forcing exclusion of 159k ounces mined.

A year ago the tiny gold streamer Sandstorm Gold ranked as 28th, but it climbed to 25th last quarter due to relative market-cap changes.  It only “produced” a trivial 12k ounces of gold in Q3’20.  So the mid-tier gold miners’ overall output growth was much stronger than that raw GDXJ-top-25 comparison indicates.  And there are other ranking changes across that 25th-place cutoff threshold also skewing production lower.

But with that headline output read down 10.3% YoY to 4,136k ounces in Q3’20, unit production costs should’ve surged.  In gold mining, output and costs are inversely proportional.  The more gold mined, the more ounces to spread this industry’s big fixed costs across.  Those generally don’t change much from quarter to quarter, regardless of prevailing gold prices.  That gives gold mining big profits leverage to gold.

Individual mines require the same levels of infrastructure, equipment, and employees to feed their fixed-capacity mills quarter after quarter.  So lower outputs usually directly translate into higher unit costs.  But the mid-tier gold miners’ average costs proved incredibly constrained last quarter, barely rising absolutely and relative to their larger major-gold-miner peers!  Again shuffling GDXJ rankings proved a big factor in this.

Cash costs are the classic measure of gold-mining costs, including all cash expenses necessary to mine each ounce of gold.  But they are misleading as a true cost measure, excluding the big capital needed to explore for gold deposits and build mines.  So cash costs are best viewed as survivability acid-test levels for mid-tier gold miners.  They illuminate the minimum gold prices necessary to keep the mines running.

The GDXJ top 25 reported average cash costs of $725 in Q3’20, which surprisingly slipped a slight 0.7% YoY!  And even that was skewed high by a couple struggling miners.  South Africa’s Harmony Gold has long been a high-cost producer, forced to deal with expensive ever-deeper mining operations and that country’s hostile regulations.  It reported really-high cash costs of $1156 last quarter, way above industry norms.

And American gold-and-silver miner Hecla reported astronomical cash costs of $1398, truly an extreme outlying anomaly.  This company didn’t even bother explaining why its gold output plummeted and costs soared in its quarterly report, apparently hoping investors wouldn’t notice.  Excluding those two high cash costs, the rest of the GDXJ top 25 averaged a very-impressive $663!  Kicking out Sibanye-Stillwater also helped.

All-in sustaining costs are far superior than cash costs, and were introduced by the World Gold Council in June 2013.  They add on to cash costs everything else that is necessary to maintain and replenish gold-mining operations at current output tempos.  AISCs give a much-better understanding of what it really costs to maintain gold mines as ongoing concerns, and reveal mid-tier gold miners’ true operating profitability.

The elite mid-tier gold miners in the GDXJ top 25 reported average AISCs of $985 per ounce in Q3’20, which amazingly only rose 3.4% YoY!  That’s still on the high side for these companies, which saw their average AISCs run in a range from $860 to $1016 since Q2’16.  But the mid-tiers’ average AISCs last quarter really bested the major-gold-miner-dominated GDX top 25, which averaged $1028 soaring 16.4% YoY!

And this latest GDXJ read was again skewed high by the out-of-control costs at Hecla and Harmony.  If those are excluded, the rest of the GDXJ top 25 averaged just $912!  Those kinds of unit costs are very impressive and wildly profitable given the high gold prices.  Q3’20’s lofty $1912 average gold price proved the highest on record, soaring an enormous 29.8% YoY.  That radically improved mid-tiers’ fundamentals.

Subtracting the mid-tiers’ average AISCs from average gold prices yields a great quarterly proxy for these miners’ collective profitability.  Q3’20’s record $1912 average gold prices less the GDXJ top 25’s unadjusted $985 AISCs shows stellar unit profitability running $928 per ounce!  That’s the highest these mid-tier gold miners have ever earned by far, making for epic 77.9% YoY growth in this key earnings metric.

And these soaring profits certainly aren’t isolated.  Over the previous four reported quarters leading into Q3’20, the GDXJ top 25’s earnings per ounce by this measure soared 65.1%, 72.2%, 66.1%, and 108.2% YoY!  That made for stupendous 77.9% average profits growth, which Q3’20 was right in line with again.  It is no wonder the mid-tiers’ stocks nearly tripled in their latest upleg, their fundamentals are incredibly strong.

The major gold miners greatly benefitted from these record gold prices too, as I explained in my essay on the GDX top 25’s Q3’20 results last week.  But the mid-tier gold miners have two huge advantages over the majors, greatly boosting their gains during gold uplegs.  The mid-tiers have both much-smaller market capitalizations for their stocks and much-lower production bases than majors, making for bigger growth potential.

The major gold miners are simply too big to grow fast, both in gold-output and market-capitalization terms.  The top 8 GDX components that GDXJ doesn’t include averaged 634k ounces of gold production in Q3.  And their average market capitalization in the middle of last week ran $24.8b.  That compares to just 180k and $4.4b for the GDXJ top 25!  Coming from much-smaller bases, growth comes much easier for mid-tiers.

These sweet-spot gold miners usually have a few mines, so adding another one really boosts their gold output.  Yet the majors are so big that mine expansions, builds, and acquisitions can’t even keep up with depletion.  They rarely show the output growth traders prize above everything else.  And the stock prices of smaller companies in market-cap terms are much more responsive to capital inflows than larger ones.

When mid-tiers’ smaller market caps and outputs are combined with explosive profits growth from much-higher gold prices, their upside potential during major gold uplegs trounces that of the majors.  So the mid-tiers are the best gold stocks to own as this secular gold bull continues marching higher in coming years.  Their future gold-production growth will far exceed the majors’, and their earnings aren’t done soaring.

Despite gold itself being in a necessary and healthy correction which has dragged down all gold stocks in recent months, prevailing gold prices remain stellar.  In this current Q4’20 as of the middle of this week, gold is still averaging $1898.  With this quarter more than half over, it is hard to imagine gold’s correction forcing Q4’s average price under $1850.  That would still yield big profits growth even with conservative AISCs.

Over the latest four reported quarters, the GDXJ-top-25 gold miners had tight average AISCs of $992 per ounce.  That implies the mid-tiers’ Q4’20 unit profitability could easily run $858 per ounce in this current quarter, still soaring 67.0% YoY from Q4’19!  So the mid-tier gold miners’ powerful bull run on fantastic fundamentals remains far from over.  Once this correction ends, these gold stocks are off to the races again.

On the hard-financial-results front under Generally Accepted Accounting Principles reported to securities regulators, or their foreign equivalents, the mid-tier gold miners achieved an amazing quarter financially.  The GDXJ top 25’s total revenues surged 25.3% YoY to $7.7b, which tracks with 10.3%-lower gold output and 29.8%-higher average gold prices.  And again that shuffling among GDXJ’s top ranks skews those results.

Without Sibanye and Detour which make Q3’19 more comparable to Q3’20, sales growth hit 29.6% YoY.  And the real-accounting-profits growth the mid-tiers are achieving is breathtaking.  The $1201m in total earnings the GDXJ top 25 reported last quarter was their highest ever by far, skyrocketing 343.2% YoY!  These spectacular bottom-line results from the high-potential mid-tiers confirm that gold-minus-AISCs proxy.

Last quarter’s fat profits were overwhelmingly ordinary and normal operating ones too, I only saw one big nonrecurring non-cash gain.  B2Gold reported a $122m reversal of an impairment charge on a gold mine due to much-higher prevailing gold prices.  Without that, the GDXJ top 25’s accounting profits still soared 280.4% YoY.  And that’s understated too, as the comparable Q3’19 quarter saw bigger one-off non-cash gains.

Soaring operating-cash-flow generation confirmed the wildly-bullish fundamental impact these higher gold prices are having on the mid-tier miners.  Their total OCFs soared 85.1% YoY to $3580m, also by far the highest they’ve ever achieved.  That boosted their collective cash hoards 57.2% YoY to $7.9b, a large sum that will be used to fund plenty of gold-mine expansions along with some mine builds and mergers.

While the mid-tiers will certainly be looking to invest this windfall into production growth, they themselves will be targeted for buyouts by the much-larger majors.  The big gold miners enjoyed huge profits growth leading to bursting treasuries last quarter too.  And they need to spend those fortunes to buy new mines and gold deposits to offset their inexorable depletion.  That should fuel a feeding frenzy of gold-stock buying.

The fundamentally-superior mid-tier and junior gold miners with consistently-growing production will be the stocks the majors fight over.  They will have to offer big premiums to entice shareholders to sell.  And the gold-mining realm is fairly small, so bidding wars are likely as majors rush to spend their cash before their peers.  They are desperately competing for a very-limited-and-shrinking supply of gold mines globally!

With mid-tiers sporting such awesomely-bullish fundamentals in Q3 and almost certainly again in Q4, their next bull-market upleg has strong potential to balloon to more outsized gains.  But first this sector has to weather this necessary and healthy in-progress correction, which is controlled by gold’s own.  This is the time to do your gold-stock homework, crafting a buy list for the bargains to come as this selloff climaxes.

At Zeal we started aggressively buying and recommending fundamentally-superior gold and silver miners in our weekly and monthly subscription newsletters back in mid-March right after the stock-panic lows.  We layered into dozens of new positions before gold stocks grew too overbought, which were stopped out later at huge realized gains running as high as +199%!  Our subscribers multiplied their wealth within months.

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The bottom line is the mid-tier gold miners reported outstanding Q3 results.  When adjusted for shufflings in GDXJ’s upper rankings, the mid-tiers’ gold output was stable despite ongoing challenges from COVID-19 mitigation.  They also held the line on production costs, doing far better than the majors.  That combined with record-high average gold prices to make last quarter mid-tiers’ most profitable ever witnessed by far.

These sweet-spot gold miners have never been stronger fundamentally, with sales, profits, and operating-cash-flow generation soaring.  And these super-bullish trends are continuing, as gold is staying high even in this necessary rebalancing correction.  So the mid-tier gold miners’ stocks are again setting up to achieve more massive gains during gold’s next bull upleg.  Far-higher stock prices are fully fundamentally justified.

(By Adam Hamilton)