Commodities Week in a Minute: Better diamond outlook, looking at the silver gold cross rate


Diamonds and precious stones

An interesting week in the gemstone space with one of the more pertinent updates from the mighty DB, of course. Whilst the headlines were about the growth in production (as expected) and guidance maintained at 31-33Mcts, I was somewhat dismayed to see a little too much emphasis was put on the 22% decline in average prices to $156/ct from $201/ct at the end of the year when smaller, lower value goods were being held back by almost all producers in light of the Indian demonetisation impact.

What I believe is important for DB, and in fact the market in general, is the gentle uptick in the average price index (+4%, year on year) and the fact that sales are not significantly being skewed (to the same extent as during the Indian situation) we can infer a reasonably healthy demand picture for rough diamonds.

That being said, polished prices remain subdued so a careful eye should remain trained on inventory levels and manufacturing margins, especially during the summer months but some gentle price appreciation throughout the remainder of the year I believe, can be expected.

Precious metals

Looking back at some of our previous ideas, I believe the opportunity to benefit from a relatively weaker silver price vs. gold may offer an interesting trading opportunity.

I believe that the Au/Ag ratio may be able to offer an investment opportunity especially as the ratio almost touched 77 in my absence.

I am going to use a time frame of the last 20 years, whilst I could use a longer time frame, industrial demand trends for silver have changed considerably vs. those back in the 70’s and 80’s (although the theory still holds).

Graphically the distribution looks like:

From this we can infer from historical analysis:

• Ratios of less than 20 and between 20 and 30 are uber rare. Whilst they did occur briefly in 1980, the silver markets were being manipulated by the Hunt Brothers.

• Monthly ratios between 30 and 40 have only been seen 3 times (1.24%), whilst monthly averages of between 40 and 50 occurred 10.4% of the time. These ranges should be seen as a realistic limitation to any trading opportunity.

• Interestingly, the monthly average between 50-60 (35%) was actually higher than that of 60-70 (31%) but clearly implying a mean average range for the period studied.

• A ratio between 70 and 80 starts to clearly highlight an opportunity at (21%) but broken down, 65% of the time the ratio was below 75 clearly indicating an upper range, or entry opportunity.

• Finally. For those concerned of the risk of going too early, monthly averages of >80 occurred twice, or <1% of the period under consideration.

Simply put, unless you are concerned about a major collapse in silver demand, a ratio between 75 and 80 can be considered a good buying opportunity for a longer term trading opportunity and even a reversion back to the longer term average of 65 and a flat gold price, would imply a return of 14%, back towards 60 and you are looking at a 25% return. That alone is worth some consideration.

Company announcements/news/meetings:

Daily company commentary is now covered in our Boom Ore Bust publication, but I have pulled out some of the more investible ideas below.

()– Interim results; weaker production, dividend cut, forecasts reduced and still no sign of a resolution (LON:ACA, Mkt cap: $1.49bn) – Negative

Ahead of the company’s noon presentation for analysts and investors, our initial reading of the Interim results is as negative as we had expected.

Operational Highlights

·       H1 Total Recordable Injury Frequency Rate (TRIFR) of 0.40, 49% lower than H1 2016

·       H1 gold production of 428,203 ounces, 4% higher than H1 2016, with gold sales of 312,438 ounces

·       H1 AISC1 of US$893 per ounce sold, 5% below H1 2016 and H1 cash costs1 of US$577/oz sold,10% lower than H1 2016

o   H1 AISC, assuming sales matched production, would have been US$800/oz, which includes a US$18/oz share based payment revaluation credit resulting from the fall in the share price year to date

·       Q2 gold production of 208,533 ounces, 6% lower than Q2 2016

·       Q2 gold sales of 127,694 ounces, which includes a reversal of advanced sales of 18,204 ounces of concentrate from Q1 2017

·       Q2 AISC1 of US$835/oz sold, 10% below Q2 2016 and Q2 cash costs1 of US$577/oz sold, 3% lower than Q2 2016

Full year production forecasts cut to lower end of 850-900,000oz range, driven by lower production rates at Bulyanhulu (guidance cut by 10%).

Financial Highlights

·       Financial performance was significantly impacted by the on-going ban on exporting concentrate which resulted in approximately US$175m of lost revenue in the period

·       H1 Revenue of US$391.7 million, 22% lower than H1 2016

·       H1 EBITDA1 of US$161.4 million, 13% down from H1 2016

·       H1 Net earnings of US$62.5 million, equating to US15.3 cents per share

·       Cash on hand of US$175.9 million as at 30 June 2017, with net cash of US$90.7 million

·       As a result of the negative cash flow, no interim dividend has been declared, in-line with the cash flow based dividend policy

Cash balances down $104m in the three months to 30 June, leaving net cash balance of $90m down from $285m at the turn of the year

In summary, and before we update our financials later today, the reduction to production guidance is something we had been expecting, despite management’s numerous statements to the contrary. The dividend, based on positive free cash flow is not a surprise either as is the cash burn. What remains of serious concern for us is that the long term future for Acacia is in the whole being discussed, but those discussions, in our view at this time, are not really progressing. We now believe Bulyanhulu and Buzwagi remain at risk of being placed on care and maintenance within the next three months. In conclusion, we believe there is no reason to try to be clever here and would prefer to remain on the sidelines until the uncertainty lifts..

Griffin Mining ()– Strong H1 driving massive upgrades (LON:GFM, Mkt cap: $141m) – Positive 

H1 FY17 Trading update – Griffin Mining published a trading update on 20 July 2017, ahead of its interim results in early August, confirming that the company’s results are to be ahead of current market expectations. The upgrade has been driven by stronger average commodity prices across the board, but more importantly, a 90% increase in the average price for its zinc concentrate as both the underlying spot price improved and treatment charges declined.  

Higher metal prices and lower treatment charges driving profit upgrades – We have not made any significant changes to our production forecasts at this time, however our applied discount to LME prices in 2017 has been reduced to 20% from 34% as industry treatment charges continue to decline in China driven by a shortage of high quality concentrate supplies. Our FY17 forecasts are summarised below, please note all prices are before discounts for treatment are applied.

–              Zinc: 38kt at an average price of $2,700/t

–              Lead: 1,900t at an average price of $2,238/t 

–              Silver: 702koz at an average price of $17/oz

–              Gold: 15.3koz at an average price of $1,270/oz

As a result of the company’s announcement, we have increased our FY2017 revenue forecasts 15% to $106m, PBT by 116% to $30.7m and EPS by 169% to 12.4c. Our FY2018 and FY2019 forecasts are also increased with PBT +43% and 7% respectively and EPS +44% and 17% respectively.

Given the outlook for zinc remains very positive, evinced by the CEO of Hindustan zinc claiming prices could top $3,000/t by the end of the year, we think that Griffin could be a very interesting opportunity for investors seeking to gain near pure exposure to this asset class.

That’s enough from me today

Stay strong


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