Why we’ve been diversifying our portfolios with gold - September 2021
Investors in our domestic multi-asset funds may have noticed a few interesting changes with respect to the composition of their portfolios compared to a year ago. Within equities, one of the new positions that we’ve implemented on behalf of our investors this year was a fairly meaningful position in gold shares. This is the first time in nearly two decades that we’ve owned domestic gold miners across our equity and, particularly, multi-asset funds. Here’s why:
A fundamentally better investment proposition compared to history
For two decades, SA gold producers lost their shine for investors. But with these miners now offering more geographical diversification, better cost controls, healthier production profiles and restored balance sheets, they have become fundamentally better investment propositions than before.
Until the middle of last year, we owned no gold equities because they traded at extended valuations and offered poor returns to shareholders. However, for the two former “SA” gold producers, AngloGold and Gold Fields, we now believe the risks have meaningfully changed.
Our investment case is also underpinned by our belief that gold shares are cheap. Added to that, the gold price is likely to remain strong in an environment of heightened global inflation risks. At a time when protection has become more valuable, its cost has reduced significantly, and we took advantage of this on behalf of our investors.
Better businesses at still big discounts
Given their poor performance track record, SA-listed gold stocks have long traded at increasingly large discounts relative to their global peers. These have mainly been deserved until now. However, in recent years, the gold industry has displayed far better control over unit costs and capital expenditure, closing the cost gap between them and their international peers. It has also enabled these companies and their shareholders to capture more of the rising gold price.
Through a combination of asset sales, spinoffs and mine asset closures, both companies have also reduced their share of production from SA materially. This has been the right strategy, albeit a painfully long one, given the original dominance of SA in their portfolios, and shareholders now stand to reap the rewards.
Both AngloGold and Gold Fields now have well-funded, high-quality growth projects that are due to come online over the next five years, which means that the surplus free cash flows stemming from these can be invested in smaller value-accretive growth projects and paid back to shareholders as dividends. Several top global gold miners have already increased their pay-outs to shareholders, but we strongly believe there is further room for improvement.
Thus, while we believe a share price discount is warranted due to the shorter mine lives and higher costs of SA gold miners, we don’t think it should be anywhere near the approximately 50% discount they currently trade at.
The production and cost outlook for AngloGold and Gold Fields has not been this good for two decades, and they stand to dramatically improve their position versus their peers. We believe these positive factors are not yet being reflected in valuations.
Capturing upside potential, while offering downside risk protection
Within an environment where global economic and financial risks have increased due to unprecedented level of fiscal stimulus and monetary accommodation, gold is also an attractive hedge. With the likelihood of higher potential inflation in the coming years and greater central bank tolerance of this, we believe the environment for the gold price is supportive.
Exposure to gold equities thus provides us with historically cheap exposure to any upside in the gold price and inexpensive insurance against any downside macroeconomic risks.
The bottom line
In an environment of heightened risks, including a global equity bull market now 13 years in the making, stretched sovereign balance sheets, and inflation threatening to return, we believe the local gold counters offer a well-priced, diversified investment opportunity, as well as offering inexpensive insurance against the risks we foresee lying ahead.
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