There has been plenty written in recent months about the so-called “disconnect” between gold bullion and gold equities. There is no question that as gold prices have gone up, earnings multiples have contracted and the stocks have underperformed.
All sorts of reasons have been tossed out about why this is happening, including the rise of exchange-traded funds and a belief that these high gold prices are not sustainable.
That all said, Analysts at TD Newcrest offered a new explanation: that multiple contraction in gold reflects multiple contraction in the broader equity markets.
They took a detailed look at earnings multiples of the six largest companies in each of several broad sectors: technology, consumer stocks, diversified miners, energy, industrials and financials. They then compared those multiples to the six largest gold companies.
The results showed that earnings multiples have contracted in every single sector, from anywhere from 10% (consumer stocks) to 45% (gold stocks) over the last four years. So while gold companies have experienced more multiple contraction than the other sectors, the issue is clearly not limited to gold. In fact, the technology stocks had nearly as much multiple contraction as the gold stocks.
The TD analysts’ view is that contracting multiples are a leftover byproduct of the credit crisis, which created a “flight to safety” to government bonds and gold bullion.
“While the equity markets have had a significant bounce since the low of March 2009, they remain below their pre-crisis highs amid an overall climate of economic uncertainty and fears of a double-dip [recession] as unprecedented monetary and fiscal stimulus are ultimately withdrawn,” they wrote in a note.
They remain bullish on gold stocks, and believe the equities are poised to outperform bullion as multiples stabilize. Their top picks are Goldcorp Inc., Eldorado Gold Corp. and Iamgold Corp. among gold producers, and Canaco Resources Inc. and Rubicon Minerals Corp. among the junior developers.
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