VANCOUVER: After a nine-year lull, investors are fast-taking notice of the once-neglected precious-metals sector. Gold was among 2019’s best-performing asset classes and it was only days into the arrival of the Covid-19 pandemic before the metal regained its USD 1,700/oz footing from a low of $1,471.
On 21 April, Bank of America predicted a gold price of $3,000 per ounce within 18 months suggesting that AU could continue to outperform even if the Covid bear-market continues. In line with predictions from gold enthusiasts, silver is following in-step, pressing past $17 from its low of about $14 in March. With gold and silver accelerating their positive 2019 trajectories, precious metals are demonstrating their credentials as inflation hedges during the monetary expansion governments have launched to fight the pandemic economic crisis.
Rising precious metal prices change the entire economics of mining because they reduce cut-off grades and make previously-unviable orebodies economic. Drill results that may have been mediocre at $1,400 gain attraction as prices rise, allowing junior exploration companies to tap new investment. Many of the world’s producing mines’ financial projections are based on gold prices of less than $1,500, implying greater up-side on share prices and more cash to expand.
As a by-product, silver’s economics are more complex, but could potentially outperform gold’s performance in our view; and we believe that silver miners can look forward to a new and improved normal.
As the precious metals sector continues to develop, miners will gravitate towards neglected regions or countries that were off-limits because of poor infrastructure or high political risk fore. History shows that these booms can be a poisoned chalice that carry new challenges that directly impact miners. As companies increasingly branch outside traditional core areas, they assume greater risk from government policy, regulation and potentially hostile local vested interests in unfamiliar jurisdictions. And as gold and silver prices rise, cash-strapped governments may look to existing mining companies as ‘low-hanging fruit’ to squeeze for more taxes or to expropriate.
The ‘un-virtual’ economy
In our increasingly “virtual age” of mobile services and work-at home labor, mining will continue to be one of the world’s few immovable sectors. Mines often require significant capital to develop and are physically bound to a specific location. Mining companies are tied to that environment and the challenges it presents. This makes mining one of the industries that are most susceptible to political instability, populist policies and local business disputes. Governments and hostile private players are aware of the significant value of a mine and once operational the temptation to seek a higher “rent” or even enact expropriation is an ever-present risk. That means that miners need to be the most attuned companies in terms of local knowledge, expert due diligence and connections to protect their assets.
Although political risk is normally-associated with less-developed countries, history shows that even developed markets are susceptible during natural-resource booms. Higher metal prices catch the public’s attention and often lead populist politicians and activists to demand greater compensation from mining companies.
The pre-2008 mining boom is a case in point when it wasn’t uncommon for resource companies to face “windfall taxes” imposed irrespective of the significant investments already made by miners. And while governments are most often cited for uncompetitive practices, local private companies and tycoons can be waiting behind the scenes to benefit from punitive policies. Rio Tinto’s experience in Indonesia with affiliates of Bumi Resources is a case in point.
Aside from the obvious health issues, Covid-19 increases the long-term risk to mining companies because many governments are running record deficits and are limited in their ability to impose taxes on stretched, debt-ridden citizens. Low resource prices had the paradoxical effect of giving mining companies increased bargaining power because deposits were less valuable and profit margins were lower. With gold and silver prices increasing, governments may jump on of the opportunity to squeeze more money out of the sector.
Low interest rates have encouraged sky-high government borrowing throughout the last decade; contributing to the 2019 gold bull market (indeed, the US deficit was at record levels before the coronavirus crisis broke out). Covid accelerated this trend by forcing governments to boost spending while tax revenues have dive-bombed. For miners, this means that they face government that are under renewed pressure to “balance the books.” They may begin to see precious metals as “national property” immune from inflation, with implications for the risk profile of the miners.
The increasingly-populist bent of international politics also leaves mining companies less protected than in decades past. Multilateralism took a hit by the US’ attacks on institutions like the World Trade Organisation (WTO) and NAFTA, which gave a degree of protection to investors. The fragmented international system leaves mining companies to their own devices to protect themselves against hostile actors.
Access Asia Group expects that higher profits and greater risk-taking from resource players will be met with greater pushback from governments around the world. To meet the challenge, mining companies will need to up their game with better local information, contacts and political intelligence.
Access Asia Group has established a new specialized practice within our organization, Access Mining. Headed by our Vancouver-based director, Access Mining offers a full suite of services to mining companies.