Glide Engage

Glide Engage

Golden meltdown: gloom settles over bullion market


Gold bullion prices hit a 12-year low in Jul 1997. Prospectors will find it more difficult to raise capital for exploration and development while gold producers may not be able to keep open their existing mines.

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It has not been a happy year for the world’s gold bugs. Soaring stock markets, low inflation, rapacious short sellers, the taint left by the Bre-X scandal, and forward selling by producers have all contributed to the eroding price of bullion. This month, there was another decisive vote of nonconfidence: con- firmation by the Reserve Bank of Australia that it had sold 167 tonnes of gold–fully two-thirds of its entire holdings–over the past six months.

Other central banks have previously engaged in gold asset sales–notably the Dutch earlier this year–and rumors of Swiss and Belgian divestitures have been circulating for months. But the Aussie move appeared to take traders com- pletely by surprise. As a result, reaction last week was swift and brutal. In major markets, gold plunged to a 12-year low, hitting $314 (U.S.) an ounce before staging a modest recovery and closing the week at $321.35. The decline wreaked havoc on the Toronto Stock Exchange’s gold and precious metals index, down five per cent since the beginning of July, and on the share prices of dozens of domestic mining companies. Sighed Robert Buchan, chief executive of Toronto-based Kinross Gold Corp.: “Mining is a stupid way to make a living at the best of times.”


The pall of gloom fell equally upon prospectors and producers. For the former, still adrift in the wake of the Bre-X Minerals Ltd. debacle in Indonesia, depressed gold prices will make it harder to raise exploration and development capital. “There’s certainly not much appetite among investors at the moment for funding exploration costs,” conceded Paul LaFontaine, manager of investor relations for Vancouver-based Golden Knight Resources Inc. Last year, aspiring miners managed to raise a tidy $4.4 billion to finance prospective gold projects. So far this year, said Buchan, it’s a mere fraction of that.

For gold producers, the downward spiral means tough decisions about whether to keep existing mines open. At $300 an ounce, said Maison Placements Inc. analyst John Ing, “more than 60 per cent of the world’s gold mines are simply not economic.” In other words, the costs of production would exceed the revenues generated by sales.

For several mining concerns, those decisions are pressing. Some South African mines–which, because of their depth, are among the world’s highest-cost producers–have already shut down. One Canadian company, Royal Oak Mines Ltd. of Vancouver, announced last week that it will close operations at its Colomac project in the Northwest Territories by year’s end. Its 1996 production costs averaged a steep $370 an ounce. Buchan’s Kinross, whose stock has dropped from a high of $11.35 per share to last week’s $5.70, said it would auction off its high-cost Golden Kopje mine in Zimbabwe and pursue austerity measures at seven other operations. But the company is also sitting atop a timely cash nest egg of $275 million, courtesy of a 1996 debenture issue. In this market, Buchan said, “our goal is to monitor other companies and projects and ultimately to deploy that capital.”

Kinross isn’t the only company prospecting for acquisitions. Peter Munk, chairman and CEO of Toronto-based Barrick Gold Corp., said last week that the next 12 months would yield “tremendous opportunities for companies to streng- then themselves.” One outfit frequently mentioned as a possible takeover target: Toronto-based Greenstone Resources Ltd. The firm, 80-per-cent owned by institutional shareholders such as pension and mutual funds, has three Central American mines in operation, and a fourth under construction. It forecasts low-cost production of 463,000 ounces a year by 1999.

At a minimum, many gold analysts believe, the recent collapse of gold prices is likely to lead to an extended round of industry consolidation, mergers and acquisitions. “There’s a lot of pebbles on the ground now,” said Robert McEwen, CEO and chairman of Toronto-based Goldcorp. “I think out of that the new leaders will emerge, perhaps in a combination of existing companies.”

Some major producers have been partially insulated from bullion’s price woes by forward selling. Barrick, for example, has pre-sold its entire gold produc- tion to the year 2000 at a price of $420 an ounce. Its average cost: $200. Similarly, Vancouver-based Placer Dome Inc. has contracted to sell some 30 per cent of its gold–to the year 2001–at $465 an ounce. But as analyst Ing notes: “The hedging policies that allow Peter Munk to talk eloquently about the merits of Barrick are the same hedging policies that help contribute to weakness in gold prices.” The reason is that, by entering into those arrange- ments, gold producers are betting that the mineral’s spot price will rise no higher over the life of the contract than the agreed-upon figure.


Inevitably, the question that now preoccupies the gold community is whether bullion has bottomed out. “I’m not sure where the bottom is,” said Goldcorp’s McEwen. “We might have already reached it. But I do think that this is a time to be buying.” Other observers note that the gold market has always been driven more by psychology than by fundamentals. Bullish investors argue that global demand for the commodity will continue to expand–principally because of the growing popularity of gold jewelry–and that shuttered mines and curtailed production can only increase gold’s relative scarcity.

Another question concerns the central banks. Are they prepared to liquidate bullion at current prices, or more likely to wait for a rebound in the market? In such a manner, said Vancouver money manager Wayne Deans, “these things often tend to be self-regulating.”

On the other hand, the number of gold short sellers on Comex, the commodities exchange division of the New York Mercantile Exchange, continued to rise last week, with little indication that they were ready to cover exposed positions by buying back into the market. At week’s end, there were 210,000 open-interest contracts registered on the Comex board alone. “I’m still sleep- ing at night,” said McEwen, “but it’s a shorter sleep.”

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