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All eyes on Newcrest now

On Thursday the S&P/ASX 200 Index (Index: ^AXJO) (ASX: XJO) dropped 0.7% in response to weak domestic housing data and weak Chinese manufacturing data. All up not unreasonable or unjustified. On the same day the S&P/ASX All Ordinaries Gold Index fell 2.23%, which was more of a shock given the gold price was off less than $2.

Medusa Mining (ASX: MML) led the falls with a drop of 9.15%, St Barbara (ASX: SBM) was not far behind dropping 7.5%, and Evolution Mining (ASX: EVN) and Perseus Mining (ASX: PRU) both lost around 4.5%.

Newcrest Mining (ASX: NCM) meanwhile faired relatively well losing just 2.13%. Of note was an article in The Australian Financial Review which highlighted four brokers that have price targets for Newcrest well above its current trading price and with a consensus price of $22.25. This compares to Newcrest’s closing price on Thursday of $16.10

Newcrest is one of the lower cost producers, which mean it should still be highly profitable at the current gold price. It also gives the company a better chance of remaining profitable should the gold price fall further compared with its higher cost peers.

As the chart shows, it’s been a gold sector smack down since the start of January. Over the same time period the gold price has fallen a more subdued 14%.

chartNCM

Source: Google Finance

Foolish takeaway

With such a dramatic sell-off there is obviously the potential for some gold producers to be sold down below fair value. Fools need to understand that given the fixed cost leverage to higher gold prices and subsequent breakeven points, it is not a linear relationship between the gold price and a gold producer’s earnings power. Investors should tread carefully but be alert to potential opportunities.

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More reading

The Motley Fool’s purpose is to help the world invest, better. Click here now for your free subscription to Take Stock, The Motley Fool’s free investing newsletter. Packed with stock ideas and investing advice, it is essential reading for anyone looking to build and grow their wealth in the years ahead.  This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson. Motley Fool contributor Tim McArthur does not own shares in any of the companies mentioned in this article.

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