What happened
Shares of New Gold (NGD -1.16%) gained more than 14% today. While there wasn't any company-specific news, the gold miner is ramping up production at a trajectory-altering growth project just in time to capitalize on soaring gold prices.
A combination of factors including falling bond yields and a slightly weakened dollar have pushed precious metals prices to multiyear highs in recent weeks. In fact, the price of gold has jumped to more than $1,425 per ounce -- the highest level since late 2013. If the price holds, then New Gold should be able to generate more value from its Rainy River mine sooner than expected.
There's a lot to prove, however, which likely explains why shares have rapidly cooled off. As of 1:33 p.m. EDT, the stock had settled to a 3.7% gain.
Image source: Getty Images.
So what
Investors are assuming that small-cap gold stocks will be de-risked as gold prices rise. Whether that will prove true can be debated, but the rationale is simple to understand. Smaller mining companies tend to have less-efficient operations. Therefore, higher selling prices can make projects with above-average operating expenses more profitable or, at the very least, less devastating to the owner's income statement.
Consider that New Gold expects full-year 2019 all-in sustaining costs (AISC), the primary metric used to assess the profitability of mining operations, in the range of $1,330 to $1,430 per gold equivalent ounce. That's pretty expensive compared to larger peers. For instance, Barrick Gold reported Q1 2019 AISC of just $825 per ounce.
Of course, the driving factor behind New Gold's high AISC guidance is the ramp-up of the Rainy River mine throughout 2019. While the asset is expected to produce at least 250,000 ounces of gold equivalent this year, mining and milling the initial ore and fine-tuning equipment leads to inherently less-efficient operations than those at steady-state. Case in point: Rainy River is expected to have AISC in the neighborhood of $1,740 per gold equivalent ounce in 2019.
Now what
If all goes according to plan, New Gold expects operating expenses at Rainy River to drop precipitously in 2020 and enable profitable operations and free cash flow generation. That would be a significant milestone for the small-cap gold miner. And now that gold prices are trekking higher, investors are more optimistic that the business can reach that goal. That said, this remains a high-risk investment. Investors should wait for the company to prove it can rein in operating expenses before assuming higher gold prices will be all the business needs to achieve success.
