With the FTSE 100 down by 10% since the start of the year, it’s probably fair to say that equity markets have been an unforgiving place for some investors so far in 2016.
Moreover, with many commodity prices having continued their 2015 descent from the outset, the last thing the average observer would probably expect to be confronted with at the beginning of February is a bunch of mining stocks that have already notched up double-digit gains.
However, this is exactly what has happened. Randgold Resources (LSE: RRS) shares are up by 42%, Fresnillo (LSE: FRES) by 20% and shares of still-beleaguered Petropavlovsk are no longer falling as if a bankruptcy filing were imminent.
Why has this happened?
It’s no coincidence that these gains were preceded by a strong start to the year for gold prices.
While price rises to-date have been largely the result of concerns over the global economy, notably China, there’s still a good case to suggest gold could remain elevated in the months ahead.
High levels of uncertainty have already driven a deterioration in the outlook for further rate hikes from the Fed in 2016.
Now, the market for Federal Funds futures suggests the next single hike could be as far away as 2017, while the probability of rates turning negative before end-2017 has risen to 13%, according to Bloomberg data.
This has prompted the steepest depreciation of the US dollar for seven years, making gold cheaper for those buying in foreign currencies, while also prompting a rebound in prices for a number of other commodities.
Could gold miners still go higher?
Higher commodity prices haven’t always led to a better financial performance from miners.
However, it’s worth considering that gold miners were among the first to be hit hard by the ‘new normal’, this new era of aspirations toward normalising monetary policy in the west against a slowdown in the modern world’s emerging market growth engines.
This early baptism of fire, which saw expectations for the sector rebased a long time ago, has placed the industry ahead of the curve on restructuring to meet the challenges of a low-price environment.
As a result, some investors appear to be betting the financial performance of gold miners could now be more sensitive toward improvements in the gold price.
Randgold just may have vindicated such a strategy last week after detailing how lower costs and improved cash flows, induced by its own rationalisation efforts, allowed it to deliver a better Q4 performance and grow its dividend by 10%.
The takeaway
It’s possible gold prices could remain elevated for a while and that shareholders may benefit from this more than in the past.
While risk-averse investors might prefer the relative safety of a large pureplay like Randgold for exposure to this trend, these shares have already reached a three-year high, which leaves me looking toward Fresnillo and Petropavlovsk for opportunity.
I believe Petropavlovsk could have more to offer than Fresnillo. Mostly on account of its lower cash cost per ounce, a record low value of the Russian rouble and its resultant implications for operating costs, as well as POG’s progress on debt reduction (-33% in 2015).
It also helps that management and a number of institutional investors have upped their stakes in recent months, while the shares are yet to really budge in response to the nascent sector recovery.