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Morningstar | Newmont's Transitional Period Mars 2Q Results, but Company on Track for Improvement

At first glance, Newmont's second quarter would look disappointing. Revenue was down 11% year over year and all-in sustaining costs, or AISC, rose 16%. However, we knew this would be a challenging year for the company as it works on completing key projects such as Twin Underground and Northwest Exodus. More importantly than the second-quarter results themselves, the company's longer-term outlook is unchanged. Our expectation for lower costs and more profitable production should still kick in over the next few years.

Newmont largely maintained its full-year guidance for 2018, as well as its longer-term guidance for 2019 and 2020. Though this year will be one marked by lower profitability, the company will reap the benefits of its current reinvestment cycle in the medium term. Our forecast is largely unchanged, so we maintain our fair value estimate of $36 per share for no-moat Newmont. However, with shares currently trading above our fair value estimate, we don't see an attractive entry point at this time.

In June 2018, the U.S. Federal Reserve once again raised the federal-funds rate by 25 basis points to 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, if not more, 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."