Baron Rothschild, who made a fortune after Napoleon was defeated at Waterloo, is credited with the saying: “The time to buy is when there is blood in the streets.” In more recent times, Warren Buffett expressed a similar sentiment when he opined: “Be greedy when others are fearful.” These snippets of market wisdom have never been truer than now when you consider the total collapse of gold mining stocks. In my opinion, we currently have a once-in-a-lifetime buying opportunity to purchase Barrick Gold Corporation (USA) (NYSE:ABX) at an incredible discount.
The cost of an ounce of gold
Over time, the cost of mining gold has risen because of increased costs of labor, materials, and energy. In addition, most high grade ore has already been mined so miners must now extract gold from lower grades, which is more expensive. There are two ways to measure the cost of recovering one ounce of gold. The first is the cash cost which is just the operational costs of mining. A better measure is called the “all in cost,” which takes into account the mining costs plus refining, administration, taxes, royalties, etc. The all-in costs are generally about 50% higher than the cash costs.
The all-in costs for the three largest gold mines are projected from their annual reports as:
Gold is searching for a bottom
These all-in costs are important because this week gold dipped below the $1200 per ounce level for the first time since 2009, which is getting very close to the all-in costs. If the price of bullion does not recover, then some of the higher priced mines will become unprofitable and will be taken offline. This will sharply reduce supply and should cause the price of bullion to rebound. So my Foolish belief is that the price of gold bullion is finally bottoming and, if true, this is excellent news for the mining stocks.
Since last October, the price of gold bullion has cratered over 25%. In the same timeframe, both GG and NEM have declined 36% but ABX has crashed by almost 60%! Why did one of the world’s largest gold miners, with the cheapest all-in costs, collapse so much more than the other, more expensive mining companies? The answer is two words: Pascua-Lama.
The reason behind Barrick’s fall
Pascua-Lama is a gold mine in the Andes Mountains on the border of Chile and Argentina. It sits at over 14,000 feet above sea level on top an estimated 17 million ounces of gold and 635 million ounces of silver, with about 75% of the deposits on the Chilean side. When completed this will be one of the world’s cheapest sources of gold but the construction is about 2 years behind schedule (now projecting a 2016 completion) and is substantially over cost (now projected to be $8.5 billion rather than the original estimate of $3 billion).
However, the most pressing issue is that construction has been stopped by the Chilean government due to some environmental issues (the site is near 3 glaciers). It is not clear when these issues will be resolved but this is an important project for Chile as well as Barrick Gold Corporation (USA) (NYSE:ABX) so I expect that an accommodation will be reached later this year. When this stoppage was announced in April, Barrick fell hard from around $30 per share to under $20 in a few days and has yet to recovery (current price is less than $16 per share).