Will the Gold Market Continue to Heat Up?

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The gold market has started to recover in the past several weeks. For instance, so far in August, the price of gold has risen over 8%. This rally has positively affected gold producers such as Goldcorp (NYSE: GG  ) . Will gold prices continue to rise? Is it time to reconsider investing in gold and gold producers?

What's the Fed's next move?
One issue that could affect the future price of gold prices is the Federal Reserve's monetary policy. In the past couple of months, the Fed has hinted it may taper its asset-purchase program soon. The FOMC's next meeting in mid-September could shed some light on its future plans. If the Fed decides to start tapering at the end of 2013, this decision is likely to pull gold prices back down in the coming months.

One of the reasons people purchase gold is to hedge against a potential rise in inflation. Considering U.S inflation has been stable at around 2%, this raises the question of keeping gold to hedge against inflationIf the Fed tapers by the end of 2013, market expectations for rising inflation will diminish, which is likely to reduce demand for gold as a safe haven investment.
Now let's look at the latest changes in the demand for gold's leading ETF. 
The recent rally in gold has also been reflected in the rise of the SPDR Gold ETF  (NYSEMKT: GLD  ) . Despite the rally, total gold holdings are still down for the month: The ETF's gold holdings are 915.32 tonnes, which is nearly 0.8% below its holdings at the end of July and 31.9% below the levels at the beginning of 2013. The decline in gold holdings has also been reflected in the drop in GLD's asset value: current asset value is $42.02 billion, which is 19.8% lower than $52.43 billion at the end of 2012. 

Gold producers
Several gold producers, such as Goldcorp and Yamana Gold (NYSE: AUY  ) , have benefited from the recent recovery of gold. Nonetheless, these companies will face several challenges that could impede their progress. The three main issues will be: production, price of gold, and cost of production. Let's examine these issues. 

Yamana's management still projects its gold equivalent production to increase by at least 10% in 2013. Up to now, however, the total gold equivalent production increased by roughly 3.4% year over year during the first half of 2013. Most of the growth in production came from the El Peñón, Minera Florida, and Mercedes mines, which increased their production by 12.5%, 25% and 43%, respectively.

Therefore the company will need to augment its production in the second half of 2013 to reach its projections. Yamana may reach its projection via mines such as Pilar and C1 Santa Luz in Brazil, which are expected to start operating at the end of 2013 and the third quarter of the year, respectively. The increased production should provide a revenue boost in the coming quarters. 

Goldcorp expects to increase its production by at least 6% this year. Up to now, the company expanded its production by 14.3% (first half of 2013), which means Goldcorp is on its way to reaching its annual expectation. Most of the growth in production came from its Pueblo Viejo mine, which produced 145,000 ounces of gold in the first half of 2013 and is expected to reach full capacity in the second half of 2013. Looking forward, the company's main growth projects are Cerro Negro, Éléonore and Cochenour, which are projected to start producing in the first quarter of 2014, end of 2014, and first half of 2015, respectively. Keep in mind, some of these projects, such as Cerro Negro, might not be profitable considering the company's high capital expenditure relative to the gold expected to be produced. 

On the one hand,  production costs continue to rise. On the other, the price of gold is still lower than last year's. These two trends are likely to reduce Yamana's and Goldcorp's profit margins and revenues in the coming quarters.   

Bottom line
Despite the recent rally in gold prices, it's still too soon to call it a comeback. The upcoming decision of the FOMC could determine the future trajectory of gold. Finally, gold producers will continue to struggle to create revenue growth if the price of gold resumes its downward trend.

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Related Tickers

9/23/2016 4:02 PM
AUY $4.49 Down -0.20 -4.26%
Yamana Gold CAPS Rating: ***
GG $16.66 Down -0.43 -2.52%
Goldcorp CAPS Rating: ***
GLD $127.65 Up +0.08 +0.06%
SPDR Gold Trust CAPS Rating: **