CA - Lundin Gold Could Suffer Badly From An Expected Gold Decline

2023-04-05 16:06:29 ET

Summary

• Lundin Gold surprisingly outperformed gold, but investors should consider selling shares.
• Negative catalysts lie in the company's production and costs for 2023 and a potential downside in gold prices.
• There are relevant macro factors for gold to turn bearish.
• Lundin Gold features a high beta versus gold, which could cause the share price to fall sharply as precious metals trade lower. And note that shares are approaching overbought levels.

Lundin Gold Inc. has Significantly Outperformed Gold, but Investors Should Now Consider Selling the Shares

Check out the chart below to see what has happened to Lundin Gold Inc. (LUGDF) stock over the past year and specifically how this Canadian gold producer has benefited from all the positive moves in gold prices.

The share price has made a big jump compared to the Gold Futures - June 23 (GCM3), which is used in this analysis as a benchmark to measure gold's performance over time.

Over the past year, Lundin Gold Inc.'s stock price is up more than 45% while Gold Futures - June 23 (GCM3) is up just 1.23%, and this significant difference between the two rallies is because shares of the gold miner are much more volatile than gold as the precious metal moves from one tier to the next.

Now you may be wondering if the stock price of Lundin Gold Inc. will continue its upward trend because if so, the position will continue to work for you based on the current degree of gold exposure.

Or if it weren't the case, since shares may have run out of power after hitting record highs, sell them instead and free up some cash to use elsewhere.

Investors should consider selling shares of Lundin Gold Inc. which would be a cautious and proactive stance based on the analysis below.

Lundin Gold Inc. Shares are at Record Highs, Almost Overbought and have a High Beta to Gold

The analysis of the 14-day Relative Strength Indicator [RSI], comparisons between the current stock price and past stock price trends, and the analysis of the high beta to gold for Lundin Gold all support the Sell rating stance for this stock in my view.

As the chart below highlights, the 14-day RSI of 71.05 right now suggests that Lundin Gold Inc. shares are very close to overbought levels, so additional room for higher share prices could be very limited.

So, the next move from overbought levels could be a fall in the stock price.

Also, the stock price of $12.19 at the time of writing, which has reached very high levels thanks to worries about the health of the banking system, is well above the 200-day simple moving average of $8.65, the 100-day simple moving average line of $10.24 and the 50-day simple moving average line of $10.67.

Selling shares at current levels should allow for a significant profit.

Gold Beta measures how changes in the price of gold affect Lundin Gold Inc.'s stock return, meaning that a high reading for this metric implies a significant decline for Lundin when gold is trending lower.

The metal is expected to trade at lower levels in the coming months based on the likely direction of certain economic indicators. At the time of this writing, Gold Futures - June 23 (GCM3) was assigned a market price of $2,035.95 per ounce, but analysts expect the price to fall 12.3% to $1,779.15 in 2023.

The following linear analysis indicates that Lundin Gold Inc. has a high gold beta. There is an approximately 1.8-fold relationship between the daily changes in the price per ounce of Gold Futures - June 23 (GCM3) as an independent variable (the input) and the daily returns on Lundin Gold Inc. stock (the output).

This means that if the price of an ounce falls by 1%, Lundin Gold Inc.'s share price will fall by almost 2% during the forthcoming expected decline in the precious metal.

About Lundin Gold Inc. and the Economics of its Activities

Lundin Gold Inc. based in Vancouver, British Columbia [Canada] owns the Fruta del Norte gold mine in southeastern Ecuador, hence the Canadian miner is extracting the precious metal from this mine, which is characterized by good gold concentrations in the ore.

Fruta del Norte is located on the northern edge of an area where Lundin Gold is conducting exploration activities to extend the life of the mining activities and increase the profitability of its business, without forgetting, of course, that its fate is also linked to the development of the price of gold.

The metallic deposit produced 476,329 ounces of gold in 2022 (up 11.2% year-over-year), above the higher limit of the production forecast of 430,000 to 460,000 for the year.

Mining activity resulted in All-in Sustaining Costs [AISC] of $805 per ounce of metal sold, below the lower bound of AISC's forecast of $820-$870 per ounce for the year.

It was the second year in a row that the company exceeded production and cost forecasts.

However, costs were generally higher than in 2021 according to the following trends: AISC increased 5.6% while cash operating costs increased 6.2% year over year to $671 per ounce sold in 2022. These were probably influenced by more expensive procurement of energy and other means of production.

Inflationary effects are also likely to keep costs high in 2023, including for fuels, as it will take time for the entire supply chain of the fossil fuel industry to adjust to the lower prices per barrel, which they are now after hitting record highs in the summer of 2022 due to the energy crisis.

Furthermore, the unexpected move by OPEC+, which includes Russia in the cartel of the world's top crude oil exporters, to cut production by more than 1 million barrels a day is bound to put upward pressure on fuel prices in the future and increase the cost of mining for Fruta del North.

Fruta del Norte is performing well and has increased its design capacity in terms of average annual throughput by more than 750 tonnes per day [tpd] from a few years ago to the current 4,272 tpd, while the recovery is now around 90%.

However, this mine could actually fare better if it weren't for the factor of higher energy costs and other inputs, as the following comparison shows an 11.2% increase in sales revenue to $815.7 million in 2022 while earnings from the mining operation increased by only 4%.

Although average realized gold prices rose $17 an ounce to $1,789, operating cash flow in 2022 was no better than a year ago at $1.15 per share. This aspect should be taken into account when assessing the stock, regardless of the one-time financing costs incurred by the early redemption of the gold prepayment facility in the last quarter of 2022, but somehow offset by gains from trading in derivatives.

The commissioning of the South Ventilation Raise allows the gold deposit to be exploited at all levels and this undoubtedly means that Fruta del Norte will be able to generate additional operating cash flow from now on. This is an important source of shareholder value growth, but the combination of the following 3 factors could mean that shareholders will have to wait beyond 2023 for mining infrastructure improvements to deliver the desired results.

2023 Lower Production, Higher Costs, and Negative Gold Price Outlook

The company expects lower production and higher costs, while the macroeconomics support analysts' expectations of lower gold prices going forward.

Lundin Gold Inc. expects to produce not more than 475,000 ounces of gold in 2023 (vs. 476,329 ounces in 2022) despite the expected higher average throughput rate of 4,400 tpd (versus 4,272 tpd in 2022).

Cash operating costs should be between $700 per ounce and $760 per ounce of gold to sell in 2023 (up from $671 per ounce of gold sold in 2022), while AISC is expected to be between $870 and $940 per ounce of gold to sell in 2023 (up from $805 per ounce of gold sold in 2022).

Lower gold prices in 2023, as predicted by analysts, are expected as the US Federal Reserve and European Central Bank hike interest rates to further combat the annual rate of inflation. Prices of goods and services are moving up at a 6% growth rate in the US and 6.9% in the Eurozone, according to the latest figures.

Central banks' mandate is to bring these interest rates below 2%, so there is still a long way to go.

Last week on Friday, European Central Bank (ECB) President Christine Lagarde told students in Florence, Italy, that underlying inflation is still too high compared to the medium-term target of 2%, leaving monetary policy with a lot of work to do.

As higher interest rates increase the opportunity cost of holding gold over fixed-income securities such as bonds, investors will flock to the second asset class, while zero-yield gold gradually loses its appeal in such circumstances.

In addition, the following two factors could potentially lead to the extension of the monetary policy of interest rate hikes:

• Huge investments by defense multinationals, with global defense spending in 2023 projected to exceed the all-time high of $2.113 trillion posted in 2021 (or 2.2% of global GDP), according to a report published by Mediobanca Banca di Credito Finanziario S.p.A. ( MDIBF ) (MDIBY).
• The one million barrels cut in daily crude oil supplies could send energy prices soaring as demand for the raw material picks up thanks to China recovering its economy after three years of restrictions imposed by zero-tolerance policy versus the Covid-19 virus.

The record increase in investments of defense multinationals (three times the turnover, according to Mediobanca) means not only more weapons in the future, in addition to conventional weapons and precision weapons on the way to Ukraine, but also an increase in rewards and salaries of defense managers and employees, which will inevitably lead to additional inflationary pressures.

In terms of effort, the huge investments of the defense multinationals are almost comparable to any development and resilience plan established during the Covid-19 virus pandemic (which led to price spikes), and only a subset of companies involved in arms production was examined.

A higher oil price per barrel as a result of the OPEC+ decision could also lead to additional inflationary pressures, as manufacturing and service companies will increase the prices of the products they offer to compensate for higher energy costs.

Assuming inflation proves firmer than initially expected, interest rates could rise longer than many now believe and the higher cost of money does not reward gold at all. The precious metal generally favors a low-interest rate environment where it can more easily hold its own against competition from the US dollar and fixed-income assets.

There is a risk of gold trading higher, not lower, causing shares of Lundin Gold Inc. potentially reach higher price levels, meaning investors could miss an opportunity if they decide to sell their shares.

This risk is present but does not appear to be elevated.

First, the shares of Lundin Gold Inc. are almost overbought, meaning limited room to rise significantly from current levels.

Second, "several Fed policymakers last week warned that more monetary tightening would be needed to tame inflation, even after the recent turmoil in the banking sector," reports Trading Economics.

Speaking to students in Florence, Italy, last week Friday, European Central Bank (ECB) President Christine Lagarde reiterated that recent tensions in financial markets will not hamper the fight against inflation.

Conclusion

Lundin Gold Inc. has significantly outperformed gold over the past year, but there is a chance this trend will not continue due to unfavorable catalysts for the precious metal prices and other factors.

Investors would be proactive in selling shares of Lundin Gold as bearish gold sentiment could potentially push Lundin Gold into a sharp downtrend given the strong positive correlation between the two assets.

The stock represents a Canadian gold producer in Ecuador whose operations are targeting lower production and higher costs in 2023.

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