Gold 2011 Update – The Who, What, Why & Where

by Carlos Andres on October 13, 2011

Gold NuggetLast year, the price of gold reached a new all-time high 22 times.  The rise in price has been driven, in part, by ongoing global financial worries and historic buying in Asia.  But where is the gold coming from?  Which countries have the richest reserves and, more importantly, which companies are poised to benefit?

It is estimated that, since the beginning of civilization over 166,600 tonnes of gold have been mined. That’s enough gold to fit into a cube that’s 20 meters (66 feet) on each side (needs a well-known visual benchmark to compare to).  By another measure it is roughly 3 quarters of an ounce of gold for every one of the 7 billion people on earth

As with all natural resources, supply is finite.  However, faltering global economic conditions mean that the metal is more prized than ever and because gold mining is a complex affair as well as capital and time intensive, supply has no quick way of catching up with rapidly rising demand.  One can’t simply flip a switch.  It literally takes years and lots of money and expertise to find a deposit and develop a gold mine.

Why the interest in Gold?

The continuing global financial crisis has seen both governments and individuals turn to gold as a safe haven.  As mushrooming budget deficits, record debt levels and unprecedented money creation in the U.S. and Europe undermine currencies, gold has come to the fore. Amidst the ongoing European debt crisis, the Centre for European Policy Studies, recently noted that even in the most optimistic scenario for the beleaguered Eurozone, it expected an upward moving gold price being driven by safe haven demand.

The credit crunch, quantative easing and subsequent low interest rates in many developed nations has spurred a flight to gold.  Across Asia, increased demand from rising incomes and a growing middle classes are additional key drivers for the metal’s continued success.

Jewelry buying in India, the largest purchaser of gold by far, accounted for most of the 11% increase in gold jewellery buying seen last year.  And in China, the 2nd largest buyer, gold imports jumped nearly 5 fold in 2010, from 45 tonnes in 2009 to 209 tonnes in 2010.  This amounts to 25% of global imports.   Note that the general public has only been allowed to buy gold since deregulation in 2008.

Gold producers are struggling to keep pace, with production moving to an all- time high of 2689 tonnes last year, according to researchers at GFMS. Production from both new operations and redevelopment of suspended operations is being witnessed globally, with particularly significant gains in Australia, China, Argentina and the US.

Which countries and companies produce the most?

Last year the top five gold producing countries were: China, the U.S., Australia, South Africa and Russia.  Further down the list come countries like Peru, Indonesia, Ghana and Canada.

Top 5 Gold Producers 2010China far outstrips any of its competitors in terms of production, with 320 tonnes produced last year, 100 tonnes more than second place US.

Gold majors such as Barrick, Goldcorp, Newmont, AngloGold Ashanti, Newcrest and Kinross dominate production in the top gold-producing countries. These companies more often than not have an enormous footprint in several of the largest producing regions as they have geographically diversified their mining operations over the years.

China – The New World Leader

 For decades South Africa was the largest producer of gold, but it was surpassed by China in 2007.  Beijing-based China National Gold Group Corporation, known as China Gold, controls 30% of the country’s total reserves and is owned by the Chinese government.  It has $1.6bn in assets.  Zijin, with over $4bn in assets, is also a major player.

However despite massive state involvement, investing in Chinese gold isn’t as difficult as you might first imagine, as the country is open to foreign companies.  China’s 11th five year plan (2006 to 2010) opened up the country to foreign direct investment and the mining industry is relatively unrestricted to foreigners, and foreign-owned mining operations abound.  For example, Canada’s Eldorado Gold (TSX:ELD), a major producer, has five projects in China.  Other prominent Toronto-listed explorers with interests in China include Majestic Gold (TSX:MJS) and Inter Citic Minerals (TSX:ICI).

Until 2008 Jinshan was a Toronto-listed producer. China Gold (TSX:CGG) took a majority stake in it however, and the state company’s muscle now helps power Jinshan’s development, much to the benefit of holders of the original Toronto shares.

Jinshan’s story is demonstrative of the opportunities for investors in smaller producers and explorers worldwide. The majors are perpetually seeking to replenish their reserves  to keep up with  the pace of production and consequently  target and rely on a steady pipeline of promising explorers for acquisition.

The U.S.

In the U.S., mines in Alaska and the Western States make it the world’s 3rd largest gold producer.  According to the US Geological Survey, the value of mine production last year was $8.9bn and production was up 3% over the previous year.  This increase in production was the first since 2000.  The U.S. is tied with Indonesia for 4th place in gold reserves at an estimated 3000 tonnes.

Gold major Newmont Mining Corp. has a market cap of roughly $30bn and $25.7bn in total assets with much of its focus on the US.  Barrick Gold Corp, the company that has the largest reserves in the industry by far (140 million ounces of proven and probable gold reserves), has 40% of its operations in North America.

Australia, South Africa & Russia

Along with agriculture mining is South Africa’s primary industry.  It made up 7% of GDP in 2009.  AngloGold Ashanti, Gold Fields Ltd and Harmony are the primary majors operating there.

The country’s position as the world’s leading producer  has been undermined in recent years in part by the depletion of shallow low-cost gold reserves, political instability, infrastructure deterioration, heightened and costly safety regulations, and chronic labor problems. Nevertheless, the country still has the 2nd largest gold reserves at  6000 tonnes.

The Russian gold production market is proving one to watch this year. Mikhail Prokhorov’s Polyus Gold, the largest Russian gold miner, became the largest producer in Eastern Europe when it merged with Kazakhgold.  In fact Polyus was a major stakeholder in Kazakhgold’s before a $9bn reverse takeover was agreed in 2010.  The combination made Polyus one of the top 10 companies in the world by market cap.

Russia’s 4thlargest producer Polymetal has just announced its floatation on the London Stock Exchange, while Nord Gold postponed its London IPO in February.

In Australia, where gold represents 10% of mineral and petroleum exports, the largest producer is Newcrest (not to be confused with the US’ Newmont).  Barrick, Gold Fields, Newmont, AngloGold Ashanti, and Harmony also loom large.

The Best of the Rest

The largest single gold deposit in the world is located at the Grasberg mine in Indonesia. It is operated by Freeport Indonesia, a subsidiary of Freeport McMoRan Copper and Gold, an Arizona-based company.

Another of the largest gold mines in the world is Yanacocha in Peru. It is owned by a joint venture between Newmont and Buenaventura. Buenaventura is the 7th largest gold producer in the world by market cap.  It is a Peruvian company with a New York listing and owns another seven projects in the country.

Argentina, which deregulated it’s mining industry in 1993, has been seeing phenomenal growth in exploration, with AngloGold Ashanti, Barrick and Xstrata present in the country.  A year ago Canada’s GoldCorp increased its Argentinean operations with the $3.4bn purchase of Andean Resources, an Australian company with   a growing high quality deposit in Patagonia.

Canada is the 9th largest producer of gold in the world and is also home to several of the majors. As well as Canadian mining companies, the Toronto Stock Exchange is home to many international exploring and producing companies, in part due to the country’s rich heritage in mining in general.

Where will the Gold come from?

According to the USGS Australia has the largest gold reserves in the world, at 7300 tonnes (the same weight as the amount of pig iron in the Eiffel Tower, coincidentally).  South Africa and Russia also score high in the gold-in-the-ground stakes with 6000 and 5000 tonnes respectively.

The term ‘reserves’ commonly refers to  proven ounces in the ground as per a  technically defined process, but the gold in the ground isn’t much use unless it is being mined. However a high gold price creates a virtuous circle for the companies already in the game: the higher the price, the more they earn, and thus the more firepower they have to expand their mining activities. The same argument applies to any commodity: with oil for example, a higher price has allowed explorers to access oil in sand, which previously was too expensive to be extracted in a cost-effective way.

In its World Exploration Trends 2011 report, Mineral Economics Group found that gold explorers as a whole increased their budget by $1.9bn last year in response to the high gold price.  Astonishingly, gold exploration accounted for 51% of total exploration spend in 2010.  It was the first year since 1999 that it had accounted for more than half of the world’s exploration budget.  This says a lot about the risk reward profile of gold mining perceived by miners, relative to other mined commodities.

The countries in which the most exploration money was spent were Canada, the US, Australia, Mexico, China, Peru, Columbia, Brazil and Chile. Together they accounted for two-thirds of the budget.

Erste Research Group suggests that a high of $2300 for gold is within sight. Indeed the group has been forecasting this price since 2008 when the average price of gold was $871.96. At the time of writing gold is trading at $1649.

The metal’s price has increased more than 450% since the turn of the century, while 2000 production levels were only just exceeded last year.  This highlights the growing gap between rapidly increasing demand and the inherent slow growth of supply.

In light of the above, the arguments for gold are compelling. Over the years since the onset of the global financial crisis, the share prices of gold producers have been underperforming the price of the metal itself.  This is an anomaly and combined with current global market weakness creates an historic buying opportunity.

Those who believe that the gold price is going higher and therefore that gold companies are a good investment now must do their homework to choose the most profitable place to invest.  There are many important factors to consider: valuation, size of reserves, size of production, cash flow, money in the bank, management, geographic diversification, political stability, infrastructure, etc.  The question is: where do you want to get your gold?

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