Investment Matters

Gold Alpha and Aurelia Metals

As noted in our monthly investment update, we recently made an investment in Aurelia Metals.

Aurelia Metals is a gold and base metal miner (Lead, Copper and Zinc) based in Orange NSW.

Why invest in a gold miner?

Other than facilitating an exposure to gold, the company is good value. We were able to purchase the company at a forward P/E ratio of 6.4 on FY21 earnings. In addition, the company has plans for growth, some localised strategic value and exploration upside.

Our investment represents a way by which to enhance the diversification characteristics of the portfolio, while achieving exposure to a gold company that we assess has the potential to produce excess returns in its own right (i.e. beyond its pure exposure to gold as a commodity. The term we use for this is “Gold Alpha”).

Gold as a commodity has had a weak correlation with the market historically (overall).  What this means is that its price moves in a manner that is less tied to the market and therefore helps dampen “swings” in the value of a portfolio, in a similar manner to cash.

Generally speaking, gold has been more negatively correlated with the stock market during volatile periods.

 IM graph1

Source: IRESS, First Samuel

As such, historically an exposure to gold can diversify and reduce the volatility of a portfolio. 

Furthermore, gold acts as a store of value (that is, an asset that can retain its value or purchasing over time).

So gold has historically performed as a hedge (or risk reducer) in times where there has been loose or unconventional monetary policy (such as those we are seeing now), unexpected inflation or deflation.

Why invest in this gold company in particular and at these prices?

Aurelia Metals is currently developing and exploring three projects located 100km south-east of Cobar (in the Cobar Basin): the Hera Project, Nymagee Project and Peak Mine.

gold map
Source: Aurelia Metals 

The Cobar basin has been mined since the discovery of the Great Cobar copper deposit in 1870.  Deposits found in this area are deep but have only a small surface footprint.  Aurelia’s tenements lie along the Rookery Fault in this area.

In FY-19, the company produced 117,521 oz of gold, at an average all-in sustaining cost of $1,045/oz, along with 35,599 oz of base metals.  The base metals mined lift the value derived from the ore, which enables what would typically be more marginal grades of gold to be mined at a profit.  The company is also currently debt-free, with a significant cash balance ($104m).

Aurelia Metals’ price has embedded within it a discount, relating to the uncertainty as to the quality of grades it will intercept in the near term (we purchased shares at a forward P/E ratio of 6.4x on FY-21 earnings).

However, we assess the price at which we purchased shares in the company does not incorporate much of the potential upside it has over a longer time-frame (or “Gold alpha”).  This exists in several respects.

The one that is the most appealing to us is the ability for the company to acquire nearby tenements, benefiting in the ability to leverage the infrastructure it already has in place (particularly, underutilised processing capacity – with the company possessing two major processing plants) and become a significant regional player.

The company is also continually exploring along what we assess to be a highly prospective fault line.  New discoveries have the potential to generate significant cash-flow, particularly if they occur at high grades seen in the past.

Aurelia also has the ability to explore existing and new deposits at further depth (as mentioned the area is characteristic of narrow, deep deposits).  An example of this is its Peak Deeps deposit, which has returned intercepts of grades between 6.9g/t-71.6 g/t of gold (compared to an average grade of 1.2 g/t for proved resources at peak).

Summary

We see exposure to gold as a way to bring diversification and further hedge the Australian shares portfolio.  Our position in Aurelia Metals reflects a way of achieving this exposure that we assess has considerable potential for upside which we are not paying for (i.e. is not embedded in the purchase price).