GLD - Agnico Eagle Mines: Volatility Is To Be Expected But Fundamentals Remain Strong

2023-06-21 09:58:23 ET

Summary

• Agnico Eagle Mines has outperformed the S&P 500 and gold on an absolute basis.
• Business fundamentals remain strong, in spite of market-wide headwinds and more aggressive business expansion.
• Short-term volatility due to outside factors is to be expected, but Agnico's business fundamentals remain strong.

Over the past year or so, since I first covered the company , Agnico Eagle Mines (AEM) has delivered a total return of 18%. As a gold miner, this performance has come at a cost of very high standard deviation of daily returns, but at the same time the stock has outperformed both the S&P 500 and SPDR® Gold Shares ETF ( GLD ) on an absolute basis.

AEM's beta coefficient has also been significantly lower for the past 2-year period, when compared to the last 5-years with the former standing at 0.55 and the latter at 0.81. This makes the stock an excellent addition to a well-diversified equity portfolio and also results in AEM outperforming the S&P 500 once we take into account market risk.

After announcing a number of strategic deals, the company has secured a number of high quality assets and is now the largest Canadian gold mining company and the third largest publicly traded stock in the sector (excluding royalty and streaming companies).

Even more importantly, however, Agnico Eagle's management has not sacrificed the company's best-in-class profitability for the sake of consolidation and future growth.

The reason why being a low cost producer is so important is that just as gold did well over the past year, there are periods when the opposite occurs and the most profitable miners that also operate in high quality jurisdictions offer the most downside protection in such cases.

At present, the unpredictability of commodity prices, the risk of a recession and intensifying geopolitical risks are all favouring a lower risk exposure and in that regard AEM is among the highest quality gold miners.

Although I am optimistic on gold , the price of the precious metal is getting harder to predict in the short-term as real interest rates have broken-up from their negative levels in 2020-21 period and a more than a decade long environment of ultra-low rates.

The relationship between the price of gold and real interest rates has also recently broken-up, which makes it harder for market participants to anticipate future changes to the price of the precious metal.

Focusing On Fundamentals

Even though AEM has appreciated a lot in value over the past year, the company still offers an attractive dividend yield of 3.1%. On a historical basis, this is one of the highest levels for the past 10-year period.

Of course, in terms of safety, one can't expect Agnico's dividend to be as safe as those of low risk consumer staple businesses for example, but at present the dividend coverage ratio stands at roughly 70% .

In the meantime, AEM is experiencing a period of strong cash flow generation with free cash flow margin gravitating around its all-time highs.

This is very impressive, given the recent rise in input costs, which have caused all-in sustaining costs to gradually increase in recent quarters. Nevertheless, AEM's management has kept AISC relatively low when compared to peers and during the first quarter of this year they even noted a marginal decline.

We've talked about inflation, we've talked about cost pressures, but as we've said before, what really drives costs our efficient operations and the team delivered that.

Source: Agnico Eagle Q1 2023 Earnings Transcript

As a result, Agnico Eagle Mines' gross margin has remained resilient to the macroeconomic headwinds and is now at one of its highest levels for the past decade.

That is why, in addition to the large deals mentioned above and the recent expansion projects , AEM's management is also spending a record amount on repurchasing its own shares. As we could see in the graph below, share buybacks now stand at record-high levels and significantly above the share issuance.

The last time we had a similar dynamic was in 2013, which marked a multi-year low for the company's share price.

Conclusion

Since I initially covered Agnico Eagle Mines, the company has outperformed both the broader equity market and gold as a commodity. The company remains as one of the highest quality choices within the sector even after the management has taken a more aggressive approach towards expansion. As a leveraged bet on the precious metal, AEM could also benefit significantly from a sustained bull market in gold prices, following the upcoming paradigm shift in monetary policy. Over the short-run, however, the risk related to equity risk premiums remains and it could present long-term holders with an attractive opportunity to increase positions in the not so distant future.

For further details see: