Gold has had an interesting year. Thanks to the Russian crisis and subsequent geopolitical tensions, the price of the yellow metal has rallied 17% to a high of around $1,400 per ounce after entering the year at around $1,200.
With the Russian crisis ongoing, the price of gold is remaining buoyant, and other indicators suggest demand for the precious metal is rising rapidly.
Demand is surging
The most telling indicator of rising gold demand is the fact that China's reported gold imports hit a new high of 109.2 tonnes in February, a month-over-month rise of 30%; year over year, gold imports have jumped 79%!
India's gold imports have also surged, rising by more than 100 tonnes during full-year 2013. On top of this, despite stringent import and trading restrictions, "unofficial imports" almost doubled according to some estimates.
Elsewhere, Iraq has been stockpiling the precious metal, buying 36 tons during March -- a dollar value of around $1.5 billion.
So, after taking these factors into account, I'm looking to invest in the gold mining sector as demand for the yellow metal continues to rise. Nevertheless, to limit my risk, I'm only looking for industry-leading, low-cost producers boasting high-quality assets.
One of the lowest-risk ways to play the gold market is via a streaming company such as Franco-Nevada (NYSE:FNV).
Streamers provide an upfront cash payment to miners in exchange for the right to purchase a percentage of its future production at a set price. The deal is good for both parties; the miner gets the cash to fund development costs, and the streamer, Franco-Nevada in this case, gets to buy precious metals at a discount.
Still, Franco is not a pure gold streamer; gold accounted for 68% of Franco's total revenue during 2013, and the company also works with other metals including palladium and platinum (roughly 13% of sales) and oil and gas (17% of sales). So, not only does Franco offer a reduced risk of playing gold, but the company is also well diversified.
What's more, Franco has more than $770 million in cash and an unused $500 million credit line, and the company plans to increase its production by 5.5% this year to 255,000 gold equivalent ounces.
Unfortunately for some, Franco's shares may seem expensive, as the company trades at a forward P/E of 35.6.
However, if we deduct the company's net cash balance of $788 million, or $5.5 a share, this valuation drops to 31.4, which still seems expensive, but the company is locked into contracts. This income is, for the most part, guaranteed, removing much of the risk that comes within high-multiple stocks.
AuRico's 2014 operational estimates currently forecast that companywide production is expected to be in the range of 210,000 to 240,000 gold ounces, an increase of up to 25% from the previous year.
Unfortunately, higher production is not forecast to translate into lower costs, and companywide all-in sustaining costs are expected to be between $1,100 and $1,200 per ounce during 2014, similar to the $1,181 per gold ounce reported for fiscal 2013.
Still, AuRico's management is forecasting a 40% slump in capital spending for 2014, which should translate into stronger free cash flow for the company as production expands.
Capital investment requirements of $125 million to $135 million have declined by up to 40% over the previous year, reflecting the completion of construction activities at the Young-Davidson mine.
It is anticipated that annual capital investment requirements as well as all-in sustaining costs per ounce will continue to further decline over the coming years.
Locked into contracts
On the other hand, Primero recently acquired peer Brigus Gold and expects the acquisition to drive production to over 240,000 gold-equivalent ounces this year.
Primero is, for the most part, a silver producer and sells most of its production to streamer Silver Wheaton. This production is contracted at a set price, which gives Primero some revenue clarity, but the silver is sold below market prices.
Nevertheless, the company recently reported that it had crossed the annual threshold of producing 3.5 million ounces of silver at its San Dimas project in Mexico that it is required to deliver to Silver Wheaton, six weeks ahead of schedule.
So, between now and August, the rest of the output from the mine is available for Primero to begin selling at spot prices for its own account. It is estimated the miners will be able to sell between 1.25 million and 1.5 million ounces by Aug. 5.
Overall, demand for gold is surging, and it looks as if the yellow metal's price could be due for a sharp correction higher as supply struggles to keep up with demand.
The best way to play this trend looks to be via low-cost gold producers such as Franco-Nevada, Primero, and AuRico, all of which look to be extremely well placed to ride a rising gold price.