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Morningstar | Agnico Eagle’s Investment Cycle Progresses as Expected in 2Q; Shares Look Fairly Valued

Current production of 404,961 ounces at all-in sustaining costs, or AISC, of $921 per ounce is underwhelming compared with Agnico-Eagle’s long history of strong operational performance. However, this is largely because the company is in the middle of an investment cycle as some of its mines reach the end of their lives. For the current year, the company raised production guidance slightly to 1.58 million ounces and maintained its AISC guidance of $890 to $940 per ounce. Based on year-to-date performance, we think guidance is well within reach.

Agnico Eagle continued to make progress during its current investment cycle as it works to complete expansion projects. With Meliadine development progressing on time and on budget and the Amaruq project receiving permit approval, we think the company is on track to see its production grow 25% to 2 million ounces annually by 2020. These new mines should also help bring the company’s AISC back down to the low to middle $800 range.

With our outlook largely maintained, we’ve made minimal adjustments to our forecast. As a result, our U.S.-dollar-denominated fair value estimate is unchanged at $45 per share. Our Canadian-dollar-denominated fair value estimate increases to CAD 59 per share from CAD 58 due to changes in currency rates. Agnico Eagle’s no-moat rating remains unchanged. With shares currently trading near our fair value estimates, we see limited risk-adjusted upside at this time.

In June 2018, the U.S. Federal Reserve once again raised the federal-funds rate by 25 basis points to a range of 1.75% to 2%. This was the second rate hike of the year. Most officials at the central bank expect two additional rate hikes in 2018. The market appears to be largely in line with this view, as current interest rate options prices imply a more than 66% chance that there will be at least two hikes for the full year.

All else equal, the prospect of higher inflation adds to gold's investment appeal, which is one reason ETF gold holdings rose through most of 2018 and spot prices remained above $1,300. However, as we had anticipated, higher inflation has emboldened the Fed to pursue rate hikes at a quicker pace, which lifts the real interest rate and, in doing so, increases the opportunity cost of holding gold.

Historically, we've observed a strong inverse relationship between the real interest rate and the price of gold: when the former rises, the latter tends to fall. We thought it was only a matter of time before gold investment adjusts to the higher opportunity cost, not only leading to slowing investment demand, but also outflow of gold from ETFs back into the gold market. Our prediction has begun to take hold as ETFs saw outflows in all regions in June.

On the back of weak investment demand, gold prices have fallen to slightly above $1,200 per ounce. Nevertheless, we still believe gold has a promising future, and we forecast a nominal gold price of $1,300 per ounce by 2020. We expect that, in the long term, Chinese and Indian jewelry demand will fill the gap left by waning investor demand.

For more on why rate hikes present a significant risk to near-term gold prices, please see our August 2017 report "Gold is Standing on One Leg."