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When gold bounces Centamin will shine

By Gary Newman | Thursday 7 December 2017

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from ShareProphets). I have no business relationship with any company whose stock is mentioned in this article.

Gold has been very difficult to read lately, with a lot of the swings making very little sense in the context of the events that have been driving them.

For instance there was $4 billion worth of gold derivatives dumped in the space of a few minutes a couple of weeks back and that only caused a drop of around 1% before the price soon bounced back.

In contrast we have had the fake news about General Michael Flynn testifying that Trump had ordered him to contact the Russians, and that caused prices to surge temporarily.

Whilst both are of importance, you would have expected that much in gold contracts being dumped to have caused far more of a drop than it did, and we are also now at a stage where the gold price is largely detached from what is happening in the physical market, as it is driven so much by derivatives these days. To illustrate that point – during 2016 $42 billion of actual gold was traded worldwide, compared to $9.8 trillion in paper gold, an astonishing ratio of 1:233!

It is also interesting to see that in the physical market there are predictions of supply shortages to come in the future, and certainly some of the countries which have traditionally been large producers, especially South Africa, have seen a downturn in output.

Another problem has been the way that some companies have managed reserves whilst gold prices have been lower in recent years and have focussed their attention on lower cash cost deposits, meaning that for some a good proportion of their reserves now need higher gold prices in order to be economically viable to extract.

When taken alongside the general situation around the world when it comes to political situations and plenty of unrest, as well as the potential for economic problems due to very high levels of debt, then it would seem likely that gold will see higher levels than the $1260s where it is currently trading. Especially when we do finally see a major pullback on the stock market indices – the strength in those has been another factor which I believe has held back the gold price as investors have flocked into equities.

There is one more potential blip on the horizon later this month when the Fed meets to decide, amongst other things, whether to increase interest rates in the US. A rise of 0.25% is largely expected by the market, but despite that, in the past we have often seen dips accompanying this sort of news and it is never completely priced in already, so it will be interesting to see if support around the $1,260 area holds.

Looking forwards though I expect gold to do well during 2018, and the current dip is potentially providing some cheap entries into some of the gold mining stocks.

One that has caught my eye again recently is Centamin Egypt (CEY) as it is trading back down in the low 130s again – currently 133p to buy – and this is the sort of level where I would expect a bounce to come.

The chart doesn’t look pretty, with a fairly steady decline since April when it was trading at over 180p, but any sort of rally in gold prices will also have a knock-on effect and drive this higher.

The latest set of financial results for the company, for Q3 2017, looked strong and showed production at record levels of over 156,000, which was 26% higher than the previous quarter, and up 5% on the corresponding period in 2016. That kept the company well on track to hit guidance of 540,000 for the full year.

The company has also been keeping costs under control, with all-in sustaining cash costs running at $732 per ounce.

That meant that the increased production, not to mention a higher average realised gold price for the period, translated into a large improvement in EBITDA – up by 57% on Q2 to over $103 million, and that helped to generate free cash flow of $45 million, with over $39 million net profit attributable to Centamin after EMRA (Egyptian Mineral Resource Authority) had been paid its share.

The company is also in a strong position still in terms of available cash, with nearly $346 million in the bank and in liquid assets ($313 million in cash), and that is after paying out the interim dividend of $29 million.

Talking of the dividend, the company announced an interim of 2.5c at the end of Q2 (it actually went ex-dividend at the end of August), which was up 25% on 2016, and although I wouldn’t be rushing to buy this as an income stock, it does at least generate a small amount each year.

Production comes from the Sukari mine, and at the last reserves report back in June 2015 it had 8.8 million ounces – probably closer to 7.5Moz now, allowing for what has been produced. It also had measured and indicated resources of 13Moz, and has been successfully continuing to explore underground. It has also had some encouraging drilling results from the Cote d’Ivoire so far, and it is good to see the company diversifying at least to some extent. 

The main risks here are the potential for a deterioration of the political situation in Egypt which could affect the operations of the company, as well as any further drops in commodity prices.

At the current share price of around 133p I can see value and decent risk versus reward pay-off, so I would be happy buying the shares here as a longer term investment.


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