Russian Metals and Mining - Trade Idea: Buy Polyus and Polymetal

We expect the2020 earnings of Polyus and Polymetal to be supported by a weak ruble and resilient gold prices. The stocks came under pressure last week amid the market-wide liquidation selloff and unprecedentedly high volatility. We see this as an opportunity to buy both stocks.> As the coronavirus continues to spread and lockdowns across the world drag down consumer demand and business activity, developed economies have rolled out huge monetary stimulus measures and are working on fiscal stimulus to support the sectors most at risk (from airlines to small businesses). Deteriorating state budgets and extremely accommodative policy have created a perfect backdrop for gold as a currency and safe-haven asset. Russian gold miners stand to benefit from this and the sharp ruble depreciation in the wake of the collapse in oil prices (see our report). > During the 2008-09 financial crisis, gold stocks tumbled alongside major stock indexes. Polyus fell as much as 80% from its peak in 2008, a peak-to-trough performance similar to that of the RTS. While we do not rule out something similar this time, we argue that there is a good chance for gold miners to outperform the market during the current crisis, for several reasons. In 2008, markets priced in most of the negatives (for instance, Lehman Brothers filed for bankruptcy on September 15) before monetary stimulus was announced. QE officially launched on November 25, and gold prices and stocks started outperforming indexes right after that. This time around, as markets continue to gauge the potential damage to the global economy from virus containment measures, the oil price war and liquidity issues, massive monetary stimulus has already been announced, while the US and EU are committed to stepping up this support if needed. > Gold stocks proved relatively resilient when the virus started to spread outside China in mid-February and when the OPEC+ deal collapsed in mid-March. However, things changed last week, when volatility spiked to record highs. Russian gold miners are now down 23-29% from their early-March peaks, while our 2020 EBITDA projections for them (based on spot prices) have fallen just 7%, as the weaker ruble has largely offset the effect of the 10% decline in gold prices. > At spot gold prices and the current USD/RUB rate, Polyus and Polymetal trade at an undemanding 2020E EV/EBITDA of 5.5 and 5.0, respectively, and the same 2020E FCF yield of 10.5%. Based on the dividend policies, Polyus is trading at a yield for dividends yet to be paid this year of 6.4%, versus 6% for Polymetal. We see the current weakness as an opportunity and open trading ideas to buy both stocks. For those reluctant to take any outright long positions in the current market, we would suggest a pair trade: long gold, short RTS.> Potential risks include another wave of liquidation selling across markets and increased taxation on the sector to offset declining oil and gas tax revenues.