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Morningstar | Yamana’s Solid 3Q Leads to Higher Production Guidance and Lower Cost Expectations

Yamana continued its strong performance into the third quarter. Total production from Yamana mines rose 11% to 246,788 gold ounces, driven by better performance from Canadian Malartic and Jacobina and contribution from the recently opened Cerro Moro. Co-product cash costs rose about 2% to $618 per ounce, and co-product all-in sustaining costs declined about 1% to $824 per ounce. Following another strong quarter, Yamana raised its production guidance to 920,000 ounces from 900,000, and now expects to beat co-product AISC guidance of $850 to $870 per ounce.

We’ve slightly raised our forecast to incorporate the new guidance, but the impact isn’t material enough to have an effect on our fair value estimates. As a result, we are maintaining our fair value estimates of $3 per share and CAD 3.90 per share. Our no-moat rating remains unchanged. Shares look fairly valued at this time.

In September 2018, the U.S. Federal Reserve once again raised the federal-funds rate by 25 basis points to 2.25% from 2%. This was the third rate hike of the year. Most central bank officials expect one additional rate hike in 2018 and three in 2019. The market appears to be largely in line with this view, as current interest-rate option prices imply a more than 70% chance that there will be at least one more hike by the end of 2018.

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 proven true, as ETFs have seen net outflows since June through September.

On the back of weak investment demand, gold prices have fallen to nearly $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.