While the Nasdaq 100 (QQQ) has continued its outperformance on the back of a strong start to the Q1 Earnings Season for Big Tech, the real outperformer has been the Gold Miners Index (GDX).
Not only is the index outperforming the major market averages with a 17% return but it’s also outperforming the price of gold, a healthy sign that suggests a potential change in character after years of underperformance.
The recent strength can be attributed to the sharp rise in the gold price towards the psychological $2,000/oz level, resulting in significant margin recovery for gold producers after a tough year plagued with supply chain headwinds and inflationary pressures.
The good news regarding the recent rally in the Gold Miners Index is that momentum is to the upside and sharp pullbacks are likely to find buying support.
The bad news? With the index up over 50% from its Q3 2022 lows, some of the easy money has been made and a few miners are actually looking fully valued.
Fortunately, there are exceptions, and in this update we’ll look at two names that look reasonably valued and are likely to outperform given their relative value compared to peers.
Marathon Gold (MGDPF)
Marathon Gold (MGDPF) is a development-stage gold company based out of Newfoundland, Canada, with the company currently busy constructing its Valentine Gold Project.
The project is home to nearly 3.0 million ounces of gold reserves and the company plans to operate an open-pit mine consisting of three pits (Berry, Valentine, Leprechaun) with average annual production of 195,000 ounces of gold (first 12 years) at industry-leading all-in sustaining costs of $1,007/oz.
Based on the current schedule, Marathon is aiming to start producing gold by year-end 2024, and the project should boast ~48% margins and generate $120 million per annum in free cash flow at a $1,950/oz gold price.
Heading into 2022, Marathon Gold was near fully valued, trading at a market cap north of $600 million and being one of the few junior gold names bucking the sector-wide downtrend.
However, the stock has since slid by over 60% after reporting material cost increases to build its project, with updated costs coming in at $350 million.
This resulted in a funding shortfall and a significant equity raise and in order to address the funding gap, Marathon completed a significant financing which led to unplanned shareholder dilution.
Although this was certainly painful for existing investors and the underperformance has been frustrating, the stock has found itself trading at a market cap of barely $300 million with the project nearly fully financed and nearing 25% completion by summer.
This valuation of barely $100/oz gold reserves is a massive discount to the price paid in takeovers over the past two years despite a higher gold price and it’s made Marathon extremely undervalued on a price to net asset value basis and also a potential takeover target.
In summary, I see the stock as a steal below US$0.63, and I am continuing to build a position on weakness.
Royal Gold (RGLD)
Royal Gold (RGLD) is a precious metals royalty and streaming company with a $8.7 billion market cap and is the #3 name by size among its peer group.
For those unfamiliar with the precious metals sector, royalty/streaming companies offer low-risk exposure to gold and silver given that they allow an investor to get exposure to metals prices with diversification and with insulation from inflationary pressures on operating costs and capital costs.
This is made possible because royalty/streaming companies pay upfront to receive a portion of production over the life of a mine rather than operators which must continuously pay to operate mines and sustain these mines through equipment purchases, tailings expansion, community programs, and mine development/stripping.
Heading into Q2, Royal Gold was one of the better performers among its peers.
However, the company’s recently released 2023 guidance of 320,000 to 345,000 gold equivalent ounces [GEOs] was lighter than investors hoped, with Royal Gold finding itself over 9% from its recent highs despite a mild pullback in metals prices.
While the weaker guidance than expected is a little disappointing, it’s worth noting that Royal Gold has one of the best growth profiles in the sector among its peer group with several assets set to come online over the next few years and its silver stream at the Khoemacau Copper Mine is set to deliver significantly more ounces this year.
Plus, Royal Gold’s size compared to its two largest peers means that even mid-sized deals move the needle for the company so it isn’t having trouble growing and maintaining diversification like the two largest royalty/streaming companies.
Based on a current share price of $133.00, Royal Gold is not cheap enough yet, with it trading at ~21x FY2023 cash flow estimates and I believe the best time to buy the stock is when it’s trading below 18.0x cash flow earnings.
That said, it is one of the most attractively valued name among the top-3 royalty/streaming companies making it a name worth keeping a close eye on if we do see a deeper pullback in metals prices.
Hence, for investors looking for low-risk exposure to precious metals prices that don’t want to step into the riskier development space, I see RGLD as a solid buy-the-dip candidate at $116.00 or lower.
Disclosure: I am long MGDPF
Taylor Dart
INO.com Contributor
Disclaimer: This article is the opinion of the contributor themselves. Taylor Dart is not a Registered Investment Advisor or Financial Planner. This writing is for informational purposes only. It does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Taylor Dart expressly disclaims all liability in respect to actions taken based on any or all of the information in this writing. Given the volatility in the precious metals sector, position sizing is critical, so when buying small-cap precious metals stocks, position sizes should be limited to 5% or less of one's portfolio.
