In my previous article, we had a closer look into Australia's largest export, iron ore. We will now look at a precious metal many of you will have somewhere in your household – gold.
Gold
For centuries, gold has fulfilled multiple roles including as an item of ornamentation, a currency and a store of wealth. It is mined in every Australian State and the Northern Territory and, therefore, all Australians benefit from this industry.
Gold is often considered an inflation hedge. Demand for gold generally increases during times of global financial and political crises as investors seek "safe assets". The global financial crisis in 2007/08 created a major shift in the global gold market. Demand for the precious metal boomed as the meltdown occurred in the US economy and spread globally. Investors and speculators pushed the price to a peak of US$1921 per ounce ($/oz) in 2011, with many gold bulls predicting it may hit US$5,000/oz.
As you can see above, it didn't get anywhere near the US$5,000/oz mark, but the price has remained relatively strong around the US$1,100-1,200/oz. This price support could be linked to concerns about inflation from the huge quantitative easing programs of the US Federal Reserve and the Bank of Japan. The European Central Bank was the last to jump on board the money printing bandwagon and started their program recently in March 2015.
It isn't just the investors and speculators fueling demand for gold. Central banks around the world became net buyers in 2010 which has continued through to 2015. In fact, the International Monetary Fund's 2014 annual report stated that gold comprised around 9% of global foreign exchange reserves, a cool US$1.1 trillion.
A potential US economic recovery and stronger US dollar were both seen as headwinds for the gold price in 2014, however, where the global economy heads in the future and what effect it has on the gold price is impossible to predict. The consequences of the massive quantitative easing programs of the US, Japan, and Europe are unknown and add to the uncertainty of the gold price and needs to be considered a risk for gold investors.
So what is gold?
Gold is a precious metal which can be found, in varying quantities, in almost every country around the world. According to the World Gold Council, in 2014 approximately 60% of the gold was used in jewellery, 20% for investments, 10% was purchased by central banks and 10% was consumed by industrial uses.
Most gold mined in Australia today is not visible to the naked eye. It is fine grained and is usually in average concentrations of less than 5 grams per tonne of rock – talk about finding a needle in a haystack!
To overcome this issue, the gold-bearing rock often requires a large amount of processing and needs to be crushed and milled to a fine size to release the gold. After this is completed and depending on the properties of the rock and gold, there are several processes that can be used to extract the gold. The most typical recovery methods are gravity separation, flotation circuits and leaching with cyanide.
Open-pit and underground mining methods are typical for gold mines depending mainly on the geometry and depth of the mineral resource. AngloGold Ashanti Limited's (ASX: AGG) Mponeng underground gold mine in South Africa reaches depths of almost 4km, making it the deepest mine in the world. With extreme depth comes extreme risk and the South African underground gold mines are notorious for injuries and deaths.
Costs within the gold industry have increased significantly over the past 10 years and there are a few important reasons why.
Firstly, the surging gold price made many projects feasible that would never have been considered a few years earlier. Mining projects have a nasty habit of costing more to run and producing less gold than originally designed. The recent decline in the gold price means these high-cost assets are struggling to make a profit.
Secondly, the average quality of the gold resources being discovered is decreasing, resulting in higher costs for gold extraction. A quick second glance at the gold price chart above makes this obvious – in 2005 the gold price was just US$400/oz and many companies were profitable. Now, just 10 years later, the gold price is above US$1,100/oz but many companies and gold mines are struggling.
The depreciation of the Aussie dollar has been a saving grace for many Australian gold miners who pay their operating costs in local currency but receive US dollars for their gold. This has effectively lowered their costs by around 15% over the past two years. Exchange rate risk works both ways and poses a risk, but it is expected the longer term trend of the Aussie dollar is down which will further benefit those companies with Australian assets.
How is it formed?
The geological formation of gold deposits is extremely varied and an advanced topic. For those interested, Geoscience Australia has some great references. A large proportion of Australian gold deposits can be found along old fault and shear zones within the earth's rock which allowed the transport and entrapment of mineral-rich fluids millions of years ago. This is described as lode gold and is typical of the WA goldfields including the Kalgoorlie super pit which has produced 16 million ounces of gold over the past 25 years. A diagram is shown below.
The big players
There are around 200 gold companies listed on the ASX with a market capitalisation of almost $20 billion, but the top 10 companies account for 80%.
Newcrest Mining Limited (ASX: NCM) is Australia's largest gold miner producing over 2 million ounces in FY2014, making it the sixth largest gold miner in the world and well ahead of its other Australian peers Northern Star Resources Ltd (ASX: NST) and Evolution FPO (ASX: EVN) who have annual production levels of approximately 550,000 oz and 430,000 oz, respectively.
Global gold majors operating in Australia include AngloGold Ashanti, Newmont and Gold Fields. Barrick, the world's largest gold miner, recently divested all of its Australian assets to focus on its key operations. The ten largest global gold producers are listed below.
Costs
The typical cost reported by gold mining companies is the all-in sustaining cost (AISC). Basically, it includes all costs relating to sustaining the company's current production level and can make it easier for investors to compare the efficiency and profitability of different mines.
AISC's and the average gold price received in 2014 for Newcrest, Northern Star, Evolution and higher cost gold-miner Silver Lake Resources Limited (ASX: SLR) are shown below. It is clear that Silver Lake is currently running a marginal operation with the average gold price received barely covering the AISC's.
Summary
Despite the uncertainty around the future gold price, jewellery, technology and investment demand for the precious metal is expected to remain strong. Low-cost gold producers, as with all commodities, will be those most likely to reward shareholders in the future. In our next article, we'll look at the product sometimes know as 'black gold', coal.
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