The mid-tier gold miners’ stocks have been rallying on balance in recent months, carving a solid young upleg.  They’ve mostly finished reporting their latest fourth-quarter results, revealing how they are faring fundamentally.  Their operating and financial performance is very important for investors, as the mid-tier realm is where most of the gold-stock sector’s gains accrue.  They fared really well in a challenging quarter.

Four times a year publicly-traded companies release treasure troves of valuable information in the form of quarterly reports.  Required by the U.S. Securities and Exchange Commission, these 10-Qs and 10-Ks contain the best fundamental data available to traders.  They dispel all the sentiment distortions inevitably surrounding prevailing stock-price levels, revealing corporations’ underlying hard fundamental realities.

While 10-Qs with filing deadlines of 40 days after quarter-ends are required for normal quarters, 10-K annual reports are instead mandated after quarters ending fiscal years.  Most gold miners logically run their accounting on calendar years, so they issue 10-Ks after Q4s.  Since these annual reports are larger and must be audited by independent CPAs, their filing deadlines are extended to 60 days after quarter-ends.

The global nature of the gold-mining industry complicates efforts to gather this all-important fundamental data.  Many mid-tier gold miners trade in Australia, South Africa, Canada, the United Kingdom, and other countries with quite-different reporting requirements.  These include half-year reporting rather than quarterly, long 90-day filing deadlines after year-ends, and dissimilar presentations of operating and financial results.

The definitive list of mid-tier gold miners to analyze comes from the GDXJ VanEck Vectors Junior Gold Miners ETF.  Despite its misleading name, GDXJ is largely dominated by mid-tier gold miners and not juniors.  GDXJ is the world’s second-largest gold-stock ETF, with $4.1b of net assets this week.  That is only behind its big-brother GDX VanEck Vectors Gold Miners ETF that includes the major gold miners.

Major gold miners are those that produce over 1m ounces of gold annually.  The mid-tier gold miners are smaller, producing between 300k to 1m ounces each year.  Below 300k is the junior realm.  Translated into quarterly terms, majors mine 250k+ ounces, mid-tiers 75k to 250k, and juniors less than 75k.  GDXJ was originally launched as a real junior-gold-stock ETF as its name implies, but it was forced to change its mission.

Gold stocks soared in price and popularity in the first half of 2016, ignited by a new bull market in gold.  The metal itself awoke from deep secular lows and surged 29.9% higher in just 6.7 months.  GDXJ and GDX skyrocketed 202.5% and 151.2% higher in roughly that same span, greatly leveraging gold’s gains.  As capital flooded into GDXJ to own junior gold stocks, this ETF risked running afoul of Canadian securities laws.

Canada is the center of the junior-gold universe, where most juniors trade.  Once any investor including an ETF buys up a 20%+ stake in a Canadian stock, it is legally deemed a takeover offer.  This may have been relevant to a single corporate buyer amassing 20%+, but GDXJ’s legions of investors certainly weren’t trying to take over small gold miners.  GDXJ diversified away from juniors to comply with that archaic rule.

Smaller juniors by market capitalization were abandoned entirely, cutting them off from the sizable flows of ETF capital.  Larger juniors were kept, but with their weightings within GDXJ greatly demoted.  Most of its ranks were filled with mid-tier gold miners, as well as a handful of smaller majors.  That was frustrating, but ultimately beneficial.  Mid-tier gold miners are in the sweet spot for stock-price-appreciation potential!

Major gold miners are increasingly struggling with declining production, they can’t find or buy enough new gold to offset their depletion.  And the stock-price inertia from their large market capitalizations is hard to overcome.  The mid-tiers can and are boosting their gold output, fueling big growth in operating cash flows and profitability.  With much-lower market caps, capital inflows drive their stock prices higher much faster.

Every quarter I dive into the latest results from the top 34 GDXJ components.  That’s simply an arbitrary number that fits neatly into the tables below, but a commanding sample.  These companies represented 82.1% of GDXJ’s total weighting this week, even though it contained a whopping 71 stocks!  6 of the top 34 were majors mining 250k+ ounces, 17 mid-tiers at 75k to 250k, 8 “juniors” under 75k, and 3 explorers with zero.

These majors accounted for 19.8% of GDXJ’s total weighting, and really have no place in a “Junior Gold Miners ETF” when they could instead be exclusively in GDX.  These mid-tiers weighed in at 44.3% of GDXJ.  The “juniors” among the top 34 represented just 14.8% of GDXJ’s total.  But only 4 of them at a mere 6.1% of GDXJ are true junior golds, meaning they derive over half their revenues from actually mining gold.

The rest are primary silver miners, gold-royalty companies, and gold streamers.  GDXJ is overwhelmingly a mid-tier gold miners ETF, with sizable small-major exposure.  Investors and speculators need to realize it is not a junior-gold investment vehicle as advertised.  GDXJ also has major overlap with GDX.  Fully 28 of these top 34 GDXJ gold miners are included in GDX too, with 23 of them also among GDX’s top 34 stocks.

The GDXJ top 34 accounting for 82.1% of its total weighting also represent 36.6% of GDX’s own total weighting!  The GDXJ top 34 clustered between the 11th- to 40th-highest weightings in GDX.  Thus over 4/5ths of GDXJ is made up by almost 3/8ths of GDX.  But GDXJ is far superior, excluding the large gold majors struggling with production growth.  GDXJ gives much-higher weightings to better mid-tier miners.

The average Q4’18 gold production among GDXJ’s top 34 was 164k ounces, just over half as big as the GDX top 34’s 302k average.  Despite these two ETFs’ extensive common holdings, GDXJ is increasingly outperforming GDX.  GDXJ holds many of the world’s best mid-tier gold miners with big upside potential as gold’s own bull gradually powers higher.  Thus it is important to analyze GDXJ miners’ latest results.

So after every quarterly earnings season I wade through all available operational and financial results and dump key data into a big spreadsheet for analysis.  Some highlights make it into these tables.  Any blank fields mean a company hadn’t reported that data as of this Wednesday.  The first couple columns show each GDXJ component’s symbol and weighting within this ETF as of this week.  Not all are US symbols.

19 of the GDXJ top 34 primarily trade in the US, 5 in Australia, 8 in Canada, and 2 in the U.K.  So some symbols are listings from companies’ main foreign stock exchanges.  That’s followed by each gold miner’s Q4’18 production in ounces, which is mostly in pure-gold terms excluding byproducts often found in gold ore like silver and base metals.  Then production’s absolute year-over-year change from Q4’17 is shown.

Next comes gold miners’ most-important fundamental data for investors, cash costs and all-in sustaining costs per ounce mined.  The latter directly drives profitability which ultimately determines stock prices.  These key costs are also followed by YoY changes.  Last but not least the annual changes are shown in operating cash flows generated, hard GAAP earnings, revenues, and cash on hand with a couple exceptions.

Percentage changes aren’t relevant or meaningful if data shifted from positive to negative or vice versa, or if derived from two negative numbers.  So in those cases I included raw underlying data rather than weird or misleading percentage changes.  In cases where foreign GDXJ components only released half-year data, I used that and split it in half where appropriate.  That offers a decent approximation of Q4’18 results.

Symbols highlighted in light blue newly climbed into the ranks of GDXJ’s top 34 over this past year.  And symbols highlighted in yellow show the rare GDXJ-top-34 components that aren’t also in GDX.  If both conditions are true blue-yellow checkerboarding is used.  Finally production bold-faced in blue shows the handful of junior gold miners in GDXJ’s higher ranks, under 75k ounces quarterly with over half of sales from gold.

This whole dataset together compared with past quarters offers a fantastic high-level read on how mid-tier gold miners as an industry are faring fundamentally.  While Q4’18 proved challenging with lower average gold prices, the GDXJ miners generally weathered it well.  These elite mid-tier miners did much better last quarter than the major-dominated GDX elites.  Their profits and stock prices are ready to soar with higher gold.

GDXJ’s managers have continued to fine-tune its ranks over this past year, making some good changes.  For some inexplicable reason, one of the world’s largest gold miners AngloGold Ashanti was one of this ETF’s top holdings as discussed last quarter.  AU was finally kicked out and replaced with a smaller major gold miner Kinross Gold and a mid-tier Buenaventura.  Together they now account for 11.7% of GDXJ’s weighting.

Reshuffling at the top makes year-over-year changes less comparable, particularly given KGC’s larger size relative to most of the rest of the GDXJ top 34.  Neither it nor BVN were included in GDXJ a year ago, and are new additions since Q3’18 results.  Both are sizable GDX components, probably added to GDXJ to keep the weightings down in its smaller Canadian components.  4 other stocks climbed into the top 34.

Torex, Alacer, Hochschild, and Seabridge were already in GDXJ a year ago but weighted below the top 34.  GDXJ is largely-but-not-entirely market-cap weighted, so it’s normal for components to rise into or fall out of the top 34 as their stock prices move higher or lower.  All the following comparisons between Q4’18 and Q4’17 are across the two slightly-different GDXJ-top-34 sets, not the exact companies shown above.

Production has always been the lifeblood of the gold-mining industry.  Gold miners have no control over prevailing gold prices, their product sells for whatever the markets offer.  Thus growing production is the only manageable way to boost revenues, leading to amplified gains in operating cash flows and profits.  Higher production generates more capital to invest in expanding existing mines and building or buying new ones.

Gold-stock investors have long prized production growth above everything else, as it is inexorably linked to company growth and thus stock-price-appreciation potential.  The top 34 GDXJ gold miners excelled in that department, growing their aggregate output by a big 12.8% YoY to 5.1m ounces!  That’s really impressive, trouncing both the major gold miners dominating GDX as well as the entire world’s gold-mining industry.

Last week I analyzed the GDX majors’ Q4’18 results, which revealed they are still struggling with serious challenges.  The GDX top 34’s total production fell 3.9% YoY when adjusted for a mega-merger.  That was worse than total global output slumping 0.9% YoY according to the World Gold Council.  So GDXJ’s mostly-mid-tier gold miners really stand out.  They are bucking the industry trend with strong production growth.

Again GDXJ’s top 34 components start at the 11th-highest weighting within GDX.  Most of the production problems occurred above that threshold, in GDX’s top 10 components which include the world’s largest major gold miners.  Their immense average production of 630k ounces in Q4’18 was nearly 4x the 164k average among GDXJ’s top 34!  Those GDX top 10 also accounted for a dominant 59.1% of its total weighting.

GDXJ excluding these depleting giants and reallocating their heavy weightings across smaller majors and mid-tier gold miners makes all the difference.  The big majors’ waning production and large market caps act as an anchor retarding GDX’s upside.  GDXJ doesn’t share that burden, which helped its top 34 show such strong production growth.  There’s no reason to own the large majors with their serious challenges.

Also interesting on the GDXJ production front last quarter was silver.  This “Junior Gold Miners ETF” also includes major silver miners, both primary and byproduct ones.  The GDXJ top 34’s silver mined rocketed 53.8% higher YoY to 31.2m ounces!  For comparison the GDX top 34’s total reported output of 28.8m ounces actually slumped 1.5% YoY.  The smaller GDXJ mid-tiers are way better than majors at growing their outputs.

The mid-tier gold miners continue to prove all-important production growth is doable off smaller bases.  With a handful of mines or less to operate, mid-tiers can focus on expanding them or building a new mine to boost their output beyond depletion.  But the majors are increasingly failing to do this with the super-high production bases they operate at.  As long as the majors are struggling, it’s prudent to avoid them.

GDXJ investors would be better served if this ETF contained no major gold miners producing over 250k ounces a quarter on average.  They still command nearly 1/5th of its weighting, which could be far better reallocated in mid-tiers and juniors.  If VanEck kept the major gold miners in GDX where they should be, it could give GDXJ much-better upside potential.  That would make this ETF more popular and successful.

In gold mining, production and costs are generally inversely related.  Gold-mining costs are largely fixed quarter after quarter, with actual mining requiring about the same levels of infrastructure, equipment, and employees.  So the higher production, the more ounces to spread mining’s big fixed costs across.  Thus with sharply-higher YoY production in Q4’18, the GDXJ top 34 should’ve seen proportionally-lower costs.

There are two major ways to measure gold-mining costs, classic cash costs per ounce and the superior all-in sustaining costs per ounce.  Both are useful metrics.  Cash costs are the acid test of gold-miner survivability in lower-gold-price environments, revealing the worst-case gold levels necessary to keep the mines running.  All-in sustaining costs show where gold needs to trade to maintain current mining tempos indefinitely.

Cash costs naturally encompass all cash expenses necessary to produce each ounce of gold, including all direct production costs, mine-level administration, smelting, refining, transport, regulatory, royalty, and tax expenses.  In Q4’18 these top-34-GDXJ-component gold miners that reported cash costs averaged $698 per ounce.  That was up a sharp 10.8% YoY, and considerably worse than the GDX top 34’s $655 average.

Those were the highest GDXJ cash costs seen since at least Q2’16, when I started this research thread.  But even $698 is far lower than prevailing gold prices, showing the mid-tier gold miners face no existential threat.  And GDXJ’s high cash costs last quarter aren’t righteous anyway, as they were skewed higher by an extreme outlier.  One of the new GDXJ companies Buenaventura reported crazy cash costs of $1627 per ounce!

Excluding that wild anomaly, the rest of the GDXJ top 34 averaged cash costs of $662 which was right in line with Q3’18’s $663.  They’d be even lower without Sibanye-Stillwater, a troubled South-African major gold miner that saw cash costs soar 30.1% YoY to an ugly $1167.  If that too is excluded the overall average falls to $642.  So for the most part the mid-tier gold miners’ cash costs remain really low relative to gold.

Way more important than cash costs are the far-superior all-in sustaining costs.  They were introduced by the World Gold Council in June 2013 to give investors a much-better understanding of what it really costs to maintain gold mines as ongoing concerns.  AISCs include all direct cash costs, but then add on everything else that is necessary to maintain and replenish operations at current gold-production levels.

These additional expenses include exploration for new gold to mine to replace depleting deposits, mine-development and construction expenses, remediation, and mine reclamation.  They also include the corporate-level administration expenses necessary to oversee gold mines.  All-in sustaining costs are the most-important gold-mining cost metric by far for investors, revealing gold miners’ true operating profitability.

The GDXJ top 34 reporting AISCs averaged $932 per ounce in Q4’18, which was also up a sizable 7.1% YoY.  That was also barely the highest seen since at least Q2’16, contradicting the big production growth these miners achieved.  But once again this was heavily skewed by extreme outliers, including both BVN and SBGL.  Hecla also reported a stunning 52.3% YoY surge in its gold AISCs to a nosebleed $1582 per ounce!

Both BVN and SBGL reported sharply-lower YoY production, helping explain their huge cost surges.  HL’s is more temporary, as it expects 2019 gold AISCs to average a still-high-but-much-lower $1250.  Without these abnormal situations, the rest of the GDXJ top 34 averaged excellent AISCs of just $863 per ounce.  That would be down 0.8% YoY, and is close to the GDX majors’ $837 average also excluding BVN and HL.

Yet even at that skewed artificially-high $932 per ounce, the elite GDXJ gold miners have great potential to enjoy surging profits and hence stock prices.  Gold was relatively weak last quarter, averaging $1228 which was 3.8% lower YoY.  That implied the mid-tier gold miners as an industry were earning $296 per ounce.  That’s still a 24% profit margin, proving Q4’18’s major GDXJ lows weren’t fundamentally righteous.

Gold is faring much better in this almost-over Q1’19, averaging $1303 which is up a big 6.1% quarter-on-quarter.  Assuming GDXJ-top-34 AISCs are flat, these elite mid-tier gold miners are earning around $371 per ounce this quarter.  That implies enormous 25.3% QoQ profits growth!  We won’t know for sure until after Q1’s earnings season, near mid-May.  But the mid-tiers’ fundamentals should’ve greatly improved.

Bigger profits driven by higher gold prices are sure to attract investors back to the still-beaten-down gold-stock sector in a big way.  The gold miners will stand out even more with earnings growth expected to be scarce in the general stock markets this year.  If gold continues marching higher on balance as it ought to, and GDXJ average AISCs retreat as BVN and HL get anomalous costs under control, GDXJ profits will soar.

The GDXJ top 34’s hard accounting results in Q4’18 were mixed, but way better than GDX on all fronts.  These elite mid-tier gold miners reported total sales of $7.4b last quarter, up a strong 12.1% YoY.  That is right in line with their 12.8% YoY total gold production growth.  That huge 53.8% YoY surge in their silver output helped offset the 3.8% YoY decline in average gold prices.  The mid-tier gold miners’ revenues are strong.

Compare that to the GDX top 34, which saw sales plunge 10.3% YoY in Q4 due to 3.9%-lower merger-adjusted gold output.  Those strong GDXJ-top-34 revenues kept operating-cash-flow generation solid, totaling $2.2b which was down 9.2% YoY.  That again crushed the majors in the GDX top 34, which saw OCFs plummet 30.4% YoY.  The divergence between how mid-tiers and majors are faring these days is gaping.

The elite GDXJ mid-tier gold miners also invested in growing their production, so their collective total cash on hand slid 14.3% YoY to $5.9b.  The GDX majors saw a similar 14.6% YoY decline in their cash, yet they certainly didn’t spend enough to offset their depleting mines.  The only real blemish on the GDXJ top 34’s Q4 results came in hard GAAP profits.  Their aggregate bottom line collapsed to a $732m loss last quarter!

That was far worse than Q4’17’s $26m loss.  Much of this was due to big non-cash impairment charges, writedowns of the carrying value of gold mines and deposits due to lower gold prices and forecasts.  If gold miners expect lower gold prices going forward, they have to flush the resulting expected economic losses through current-quarter results when those impairments are perceived.  That hammered overall results.

Honestly the Q4’18 impairments seemed pretty unnecessary, with average gold prices merely down 3.8% YoY.  2018’s full-year average gold price actually rose 0.8% YoY.  Major impairments usually happen in years gold plunges sharply, like 2013’s brutal 27.9% plummeting.  Something like that really changes the economic assumptions underlying gold mines.  But gold only slumped 1.6% last year, which is utterly trivial.

Some of the bigger impairment charges came from First Majestic Silver and Osisko Gold, which wrote off $168m and $166m.  This primary silver miner and gold-royalty company aren’t even mid-tier gold miners.  And the perpetually-troubled South African majors Gold Fields and Sibanye-Stillwater which have long tainted GDXJ reported big half-year losses implying $169m and $98m in Q4.  These alone total $601m of losses.

That accounted for nearly 5/6ths of the GDXJ top 34’s total GAAP losses last quarter.  While many of the elite mid-tier gold miners reported small losses, the great majority of the surge in losses came from a handful of stocks.  Overall the GDXJ GAAP profits looked relatively decent compared to the majors.  GDX’s top 34 reported a staggering $6.0b in accounting losses in Q4’18!  The mid-tiers are thrashing the majors.

GDXJ’s mostly-mid-tier component list of great gold miners is really faring well, especially compared to the struggling large gold miners.  Investors looking to ride this gold-stock bull should avoid the world’s biggest gold producers and instead deploy their capital in the mid-tier realm.  The best gains will be won in individual smaller gold miners with superior fundamentals, plenty of which are included within GDXJ.

Despite being the world’s leading gold-stock ETF, GDX needs to be avoided.  The major gold miners that dominate its weightings are struggling too much fundamentally, unable to grow their production.  Capital will instead flow into the mid-tiers, juniors, and maybe a few smaller majors still able to boost their output and thus earnings going forward.  None of this is new, but the major and mid-tier disconnect continues to worsen.

Again back in essentially the first half of 2016, GDXJ skyrocketed 202.5% higher on a 29.9% gold upleg in roughly the same span!  While GDX somewhat kept pace then at +151.2%, it is lagging GDXJ more and more as its weightings are more concentrated in stagnant gold mega-miners.  The recent big mergers are going to worsen that investor-hostile trend.  Investors should buy better individual gold stocks, or GDXJ.

One of my core missions at Zeal is relentlessly studying the gold-stock world to uncover the stocks with superior fundamentals and upside potential.  The trading books in both our popular weekly and monthly newsletters are currently full of these better gold and silver miners.  Mostly added in recent months as gold stocks recovered from deep lows, our unrealized gains are already running as high as 74% this week!

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The bottom line is the mid-tier gold miners are thriving fundamentally.  They are still rapidly growing their production while majors suffer sharp output declines.  The mid-tiers are holding the line on costs, which portends strong leveraged profits growth as gold continues grinding higher on balance.  The performance gap between the smaller mid-tier and junior gold miners and larger major ones is big and still mounting.

Investors and speculators really need to pay attention to this intra-sector disconnect.  Gold and its miners’ stocks should power far higher in coming years as the lofty general stock markets roll over.  But the vast majority of the gains will be concentrated in growing gold miners, not shrinking ones.  This means the mid-tier and junior gold miners will far outperform the majors.  The smaller miners have superior fundamentals.

Adam Hamilton, CPA

March 25, 2019

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