century management’s gold valuation analysis · 2014. 11. 16. · 2. how much gold prices dropped...

W W W. C EN TM A N. COM

Continued on page 2

March 13, 2014

Century Management’s Gold Valuation AnalysisGold has confounded economists and investors throughout time. Nathan Meyer Rothschild (1777-1836), the top financier of the early 19th century, said, “There are only two people who understand gold: One is a director in the Bank of England, and the other an obscure clerk in the Bank of France. Unfortunately, they disagree.” Today, nearly 200 years later, Ben Bernanke, the former Chairman of the U.S. Federal Reserve, remains equally perplexed when it comes to gold. In a statement to Congress on October 7, 2013, he said, “Nobody really under-stands gold prices and I don’t pretend to really understand them either.” In addition, Janet Yellen, the current Chair of the U.S. Federal Reserve, stated in her testimony to Congress on November 14, 2013, “Well, I don’t think anybody has a very good model of what makes gold prices go up or down.” With all the different opinions surrounding gold, there are basically only two different ways of looking at gold: as a commodity or as money. Some believe gold‘s sole value is that of a commodity, where it is most often used in jewelry, industry, medicine, dentistry, technology, electronics, and aerospace. Others believe as financier, banker, and philanthropist John Pierpont “J.P.” Morgan (1837–1913) did: “Gold is money.” Investor demand has served as the biggest swing factor on the price of gold over time, as central governments, institutions and consumers have frequently invested large sums in gold during periods of great uncertainty, deflation or high inflation.

For purposes of our research, we do not need to reconcile whether gold should be viewed as a commodity or as money, or why gold prices rise or fall. The focus of our research is to determine the price at which gold becomes an attractive investment.

After having analyzed gold from five different view-points, we summarize our gold price zones in Chart 1. Our research suggests gold, which has been trad-ing between $1,225 and $1,326 per ounce as of the first two months of 2014, is in a fair value zone. We believe the downside risk to gold is approximately $600 to $700 per ounce, and the extreme upside is between $1,800 and $2,200 per ounce.

We believe gold is currently trading in a fair value zone and therefore not at an attractive price to buy as a commodity. However, in our February 21, 2014, newsletter titled Inflation, Gold, and Gold Mining Companies, we illustrated that a number of the 40-plus gold mining companies we researched and bought at the end of 2013 were priced as if gold

Chart 1:Century Management Valuation Zones For Gold

The dollar amounts above represent gold prices per ounce in U.S. dol-lars, based on the London PM Fixing closing price. On January 31, 2014, gold closed at $1,251 per ounce. The numbers in this table have been rounded and are based on the average of Century Manage-ment’s five different methods used to value gold.

http://centman.com/insights/2014/02/inflation-gold-and-gold-mining-companies/

http://centman.com/insights/2014/02/inflation-gold-and-gold-mining-companies/


Continued on page 3

were trading between $800 and $900 per ounce. While gold is currently trading in our fair value zone and would not qualify under our investment discipline as a buy today, we would recommend the purchase of gold for those who want to own it as a hedge against potential higher inflation or a currency crisis rather than for pure investment purposes.

Century Management Gold Valuation MethodologyTo arrive at our gold valuation zone prices sited in Chart 1, we used these five methods of valuation:

1. The price of gold over time, adjusted for inflation2. How much gold prices dropped during gold bear markets3. The price of gold compared to the price of oil, housing, and commodities4. The price of gold compared to the U.S. Consumer Price Index5. The actual cost of producing an ounce of gold

The remainder of this report details how we arrived at our gold valuation zones using each method. Comparing each method, some approaches yielded significantly different price ranges and valuation zones. These differences occur because, when compared to gold, other assets do not always reach their peaks or their bottoms at the same time. For example, the ratios of Gold-to-Housing and Gold-to-Oil suggest that housing is currently more depressed than the oil market. However, by averaging these ratios, we gain the benefit of insight from each market.

0

500

1,000

1,500

2,000

2,500

Jan-

11

Apr-

11

Jul-1

1

Oct

-11

Jan-

12

Apr-

12

Jul-1

2

Oct

-12

Jan-

13

Apr-

13

Jul-1

3

Oct

-13

Fair Value Zone($1,100 to $1,300)

Expensive Zone($1,800 to $2,200)

Buy Zone($800 to $1,000)

Worst Case Zone($600 to $700)

Chart 2:The Price of Gold Relative to CM Valuation Zones

From January 2011 through December 2013

The dollar amounts above represent gold prices per ounce in U.S. dollars, based on the London PM Fixing closing price. Source: Century Management


Continued on page 4

Method 1: Historical Gold Prices, Adjusted For InflationChart 3 highlights the low and high prices for gold from 1968 through 2013. These prices are historical, meaning not adjusted for inflation. Using this approach, we benefit from observing the market’s determination of gold prices at ex-tremes.

Chart 4 also shows the low and high prices for gold, except these prices are adjusted for infla-tion as measured by the U.S. Consumer Price Index (CPI). Now let’s compare Charts 3 and 4 to see the impact of inflation on gold prices. The peak gold price was $850 per ounce on 1/21/1980 (Chart 3). Using the same date of 1/21/1980, but now looking at Chart 4, the price of gold is $2,546 in today’s dollars (i.e. adjusted for inflation). The difference in price between these two charts suggests that inflation has av-eraged an annualized rate of 3.28% over the past 34 years.

Method 2: How Much Gold Prices Dropped Dur-ing Gold Bear MarketsChart 6 shows gold’s bear markets over the past 40 plus years. We define a gold bear market as a minimum 25% decline from peak gold prices. During the six gold bear markets between 1974 and 2008, the price of gold declined 43% on av-erage. The largest decline, which occurred from January 21, 1980 through June 21, 1982, was 65%. The current gold bear market, which start-ed on September 5, 2011, and, in theory, ended on June 28, 2013, saw the price of gold decline 37%. However, based on gold’s $1,225 to $1,326 per ounce trading range during the first two months of 2014, the jury is still out on whether

June 2013 was the end of this last bear market. Only time will tell. Regardless, by analyzing gold’s bear markets, we believe we can estimate a good worst case and buy price for gold.

Chart 3:Gold Prices – Not Adjusted for Inflation

'70 '75 '80 '85 '90 '95 '00 '05 '10$0

$200

$400

$600

$800

$1000

$1200

$1400

$1600

$1800

$2000

1/21/1980$850.00

6/21/1982$296.75

2/1/1983$508.50

2/26/1985$285.75

4/2/2001$255.95

9/5/2011$1,895.00

9/24/1980$710.50

10/4/2012$1,791.75

QE 111/25/2008

$820.50

12/31/2013$1,204.50

©FactSet Research SystemsSource: Thomson Reuters

Gold, London PM Fixing ($/ozt) - CloseRecession Periods - United States

Chart 4:Gold Prices – Adjusted for Inflation

'70 '75 '80 '85 '90 '95 '00 '05 '10$0

$500

$1000

$1500

$2000

$2500

$30001/21/1980$2,546.17

6/21/1982$712.96

9/24/1980$1,971.21

2/1/1983$1,210.47

2/26/1985$628.24 4/2/2001

$337.19

QE111/25/2008

$900.16

9/5/2011$1,946.45

10/4/2012$1,805.17

12/31/2013$1,204.50


Gold, London PM Fixing ($/ozt) - Close versus CPI Indexed to 100 TodayRecession Periods - United States

http://www.bls.gov/cpi/



Continued on page 5

To calculate a worst-case price for gold, we used the September 5, 2011 peak gold price of $1,895 and multiplied the number by 35%, which represents one minus the 65% maximum gold bear market decline from 1972 to 2013. The worst case based on this calculation is $663.25. To calculate a buy price for gold, we multiplied the Sep-tember 5, 2011, peak gold price of $1,895 by 57%, which represents one minus the 43% average gold price decline during gold bear markets between 1972 and 2008. This calculation suggests a buy price of $1,080.

In addition to gold, we have also analyzed how other commodi-ties behave in periods of de-cline. As shown on Chart 9, the maximum decline for the aver-age of these 16 commodities is 67% versus a maximum decline of 65% for gold as shown on Chart 7. The average decline for these 16 commodities is 42% versus an average decline of 43% for gold. We believe these results provide support for this method of quantifying a buy point and a worst case price for gold.

72 73 74 75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13

2,000

1,800

1,600

1,400

1,200

1,000

800

600

400

200

0

Gold US$/Troy Oz

Chart 6: Worst Case Analysis

Source: Factset and Century Management

Chart 7: Gold Bear Markets from 1972 -2013Chart 7

Gold Bear Markets from 1972 through 2013 Peak to Trough

Periods Months Gold Prices Change

12/30/74 to 08/30/76 20.3 $195.3 down to $103.5 -47% 01/21/80 to 06/21/82 29.4 $850.0 down to $296.8 -65% 02/16/83 to 02/25/85 24.7 $509.3 down to $284.3 -44% 12/14/87 to 03/10/93 63.8 $499.8 down to $326.1 -35% 02/07/96 to 08/27/99 43.2 $414.5 down to $253.8 -39% 03/17/08 to 10/24/08 7.4 $1,011.3 down to $712.5 -30%

Average Decline -43%

Gold Bear Markets

Largest Decline -65%

Current Decline…Was This The Bottom? Time Will Tell.

09/05/11 to 06/28/13 $1,895 down to $1,192 -37%

.

Chart 5: Method 1: Historical Gold Prices

Adjusted for Inflation: Price Ranges

The dollar amounts above represent gold prices per ounce in U.S. dollars, based on the London PM Fixing closing price. The price ranges shown are Century Man-agement’s estimates based on averaging the data points using Method 1. The Gold Valuation Analysis Summary shown on Chart 22 at the back of this report shows which data points were averaged to arrive as these zones. The numbers in these zones have been rounded.

Source: Factset and Cen-tury Management. *We define a gold bear market as a minimum 25% decline from peak gold prices.


Continued on page 6

For those of you interested in see-ing what the price of gold would be in our worst case and buy case scenarios by reviewing the change in oil prices to gold, please see Ex-hibit 1. Note, adding these figures to our gold framework would not cause our summary gold worst case or buy zones to vary by more than 4%.

Method 3: The Price of Gold Com-pared to the Price of Oil, Housing, and Commodities

Gold vs. West Texas Intermediate Crude Oil (WTI)Chart 10 shows the relationship between gold and West Texas Inter-mediate Crude Oil (i.e. Gold/WTI). The higher the ra-tio, the more bar-rels of oil needed to buy an ounce of gold. Over the past 40 years, it has taken, on average, 15.37 barrels of oil to buy one ounce of gold (or 15.37 times Gold/WTI). The ra-tio of Gold-to-WTI typically troughs at 7.5 times, and it generally peaks between 25 and 27 times. We believe 12 times Gold-to-WTI represents a good buy point. The Gold-to-WTI trading range of 12 to 13 times during the first two months of 2014 suggests that gold looks attractive relative to oil.

Buy Point Attractive Investment $1,080

Worst Case Very Attractive Investment $663

Chart 8: Worst Case and Buy Price Using Gold Bear Market Analysis

Note, we excluded the gold bear market that began in 2011 from this specific analysis as there is a debate as to whether it has officially ended. Numbers above have been rounded.

Chart 9: Periods of Commodity Declines from 1960 through 2013Chart 9 Periods of Commodity Declines From 1960 through 2013

Commodity

Max Decline

Max Decline Period

Average Decline

Number of Declines

Measured Metals

Nickel ($/MT) -73% 03/07/08 12/05/08 -39% 11 Copper ($/LB) -68% 04/04/08 12/26/08 -38% 10 Platinum ($/OZ) -65% 12/06/08 01/29/71 -34% 12 Aluminum (LME $/T) -62% 07/11/08 02/20/09 -41% 9

Average Metals -67% -38%

Energy NY Harbor ULSD (Heating Oil) Futures (Cents/Gal) -71% 07/04/08 02/20/09 -41% 13 NYMEX RBOB Gasoline Futures (Cents/Gal) -76% 07/04/08 12/26/08 -48% 3 U.S. Central Appalachian Coal Future Contracts ($/T) -69% 06/27/08 04/24/09 -49% 4 Natural Gas (NYM $/BTU) -80% 07/03/08 09/04/09 -42% 26 Crude Oil (NYM $/BTU) -74% 07/03/08 12/26/08 -42% 13

Average Energy -74% -44%

Agriculture Corn Futures (Cents/BU) -65% 07/12/96 05/11/01 -41% 12 Soybean Futures (Cents/BU) -55% 07/20/73 11/02/73 -40% 17 Live Cattle Futures (Cents/BU) -36% 08/10/73 12/07/73 -31% 6 Sugar Futures (Cents/BU) -86% 10/10/80 09/17/82 -49% 30 Cotton Futures (Cents/LB) -68% 03/04/11 06/01/12 -44% 17 Arabica Coffee Futures (Cents/LB) -70% 12/03/99 11/30/01 -47% 17 Cocoa ($/MT) -61% 12/27/63 07/16/65 -44% 18

Average Agriculture -63% -42%

Average Total Commodities -67% -42%

Gold (by itself) -65% -43%

These numbers have been rounded. Source: Factset and Bloomberg Finance, LP


Continued on page 7

0

5

10

15

20

25

30

35

40

Dec-

71

Dec-

73

Dec-

75

Dec-

77

Dec-

79

Dec-

81

Dec-

83

Dec-

85

Dec-

87

Dec-

89

Dec-

91

Dec-

93

Dec-

95

Dec-

97

Dec-

99

Dec-

01

Dec-

03

Dec-

05

Dec-

07

Dec-

09

Dec-

11

Dec-

13

Gold/WTI Ratio Average Normal Sell Bull Sell Buy Worst Case

Chart 10:Gold-to-West Texas Intermediate Crude Oil Ratio 12/31/71 - 12/31/13

Source: Century Management and Bloomberg Finance, LP

Chart 11: Gold-to-West Texas Intermediate Oil Ratio

'75 '80 '85 '90 '95 '00 '05 '10

$90$100

$200

$300

$400

$500$600$700$800$900

$1000

$2000

$3000

$4000

$5000$6000

12/31/2013$2,754.72

12/31/2013$2,764.61


(INDEX) Gold, London PM Fixing ($/ozt) - Close(INDEX) WTI Crude Oil ($/bbl) - PriceRecession Periods - United States

Chart 11 shows the results of $100 invested in gold and $100 invested in oil from De-cember 31, 1971 (when gold started trading freely) through December 31, 2013. As you can see, despite the short-term volatility, gold and oil trade very close to each other over the long run.

The WTI price as of December 31, 2013, mul-tiplied by the Gold/WTI ratio suggests the following gold prices as shown on Chart 12.

We have also analyzed the supply and de-mand of oil to determine reasonable oil price ranges. By using the average 15.37 Gold/WTI ratio and multiplying it by our reasonable range of WTI, we estimate the following gold prices as shown on Chart 13.


Continued on page 8

Gold-to-US Existing HomeMedian PriceChart 14 shows the percentage of a house that one ounce of gold can buy. The rationale in comparing this rela-tionship is that gold and home prices are competing for investment dollars. Gold appeared relatively attractive during the housing bubble in the early-to-mid 2000s. During 2010-2012, gold became relatively expensive compared to the existing home median price as investors worried about future infla-tion. As of January 31, 2014, the rela-tionship of gold priced at $1,251 per ounce to the US existing home median price of $188,900 (as reported by the National Association of Realtors) is 0.66%. This 0.66% figure is well above the past 42-year average. Thus, gold is relatively expensive versus the US median home price despite the recent housing recovery.

Expensive Zone Time To Sell $2,461-$2,657

Fair Value Reasonable price $1,513



The first expensive zone number represents a sell point we would expect in normal times. The second (i.e. higher) expensive zone number represents a gold price potentially achieved during high inflation.

Chart 12:Gold-to-Current WTI: Implied Gold Prices

The first expensive zone number represents a sell point we would expect in normal times. The second (i.e. higher) expensive zone number represents a gold price poten-tially achieved during high inflation.

Gold Price

Forecasted Oil Price

Expensive Zone Time To Sell $1,691-$2,400 $110-$120

Fair Value Reasonable price $1,384 $90

Buy Point Attractive Investment $1,153 $75

Worst Case Very Attractive Investment $769 $50

Chart 13:Average 15.37 Gold-to-WTI Ratio: Implied Gold Prices

The first expensive zone number represents a sell point we would expect in normal times. The second (i.e. higher) expensive zone number represents a gold price poten-tially achieved during high inflation.

0.00%

0.20%

0.40%

0.60%

0.80%

1.00%

1.20%

Mar

-72

Mar

-73

Mar

-74

Mar

-75

Mar

-76

Mar

-77

Mar

-78

Mar

-79

Mar

-80

Mar

-81

Mar

-82

Mar

-83

Mar

-84

Mar

-85

Mar

-86

Mar

-87

Mar

-88

Mar

-89

Mar

-90

Mar

-91

Mar

-92

Mar

-93

Mar

-94

Mar

-95

Mar

-96

Mar

-97

Mar

-98

Mar

-99

Mar

-00

Mar

-01

Mar

-02

Mar

-03

Mar

-04

Mar

-05

Mar

-06

Mar

-07

Mar

-08

Mar

-09

Mar

-10

Mar

-11

Mar

-12

Mar

-13

Average Worst Case Buy Normal Sell Bull Sell % Of A US Existing Home You Can Buy With an Oz of Gold

Chart 14:Percentage of a Median Priced US Existing Home You Can Buy With One Ounce of Gold

Source: Factset and the National Association of Realtors

http://www.realtor.org/


Continued on page 9

The current US existing home median price divided by the per-centage of a US existing home you can buy with an ounce of gold suggests the following gold prices as shown on Chart 15.

Gold-to-Commodity Research Bureau (CRB) Metals IndexChart 16 shows gold prices ver-sus the Commodity Research Bureau (CRB) Metals Index. This index consists of copper scrap, lead scrap, steel scrap, tin and zinc. CRB Metals data became

available in late 1984, so we began our analysis on that date. The approach is based on the premise that gold should trade like other metals over time, as gold investor demand will ebb and flow. The relationship between

Source: Factset and the National Association of Realtors


Fair Value Reasonable price $840

Buy Point Attractive Investment $687



Chart 15:Gold-to-US Existing Home Median Price: Implied Gold Prices


0.8

0.9

1

1.1

1.2

1.3

1.4

1.5

1.6

1.7

Dec-

84

Dec-

85

Dec-

86

Dec-

87

Dec-

88

Dec-

89

Dec-

90

Dec-

91

Dec-

92

Dec-

93

Dec-

94

Dec-

95

Dec-

96

Dec-

97

Dec-

98

Dec-

99

Dec-

00

Dec-

01

Dec-

02

Dec-

03

Dec-

04

Dec-

05

Dec-

06

Dec-

07

Dec-

08

Dec-

09

Dec-

10

Dec-

11

Dec-

12

Dec-

13

Gold/CRB Metals Average Normal Sell Bull Sell Buy Worst Case

Chart 16:Gold-to-CRB Metals Since December 1984

(Note: we have started the vertical axis at 0.8 so the ratio is easier to review) Source: Factset


Continued on page 10

gold and the CRB Metals Index is fairly tight over time and the ratio is currently near its historical average as shown on Chart 16.

The current CRB Metals Index multiplied by the Gold/CRB Metals Index ratio suggests the following gold price ranges as shown on Chart 17.

Method 4: The Price of Gold Compared to the U.S. Consumer Price Index (CPI)We compared gold against the basket of goods used in calculating the United States Consumer Price Index (CPI). We used this

approach because gold is periodically purchased by investors as a way to protect against inflation and deflation. Today’s Gold-to-CPI ratio suggests gold looks relatively expensive versus the basket of goods. One reason that gold looks more expensive than this basket of goods is because, in our opinion, the CPI is currently understating inflation. We believe a better measure of inflation can be found in the Everyday Pricing Index produced by the American Institute for Economic Research (AIER). Nevertheless, we will use the official inflation statistic, CPI, since it is commonly used by investors and government officials.

Chart 17 Gold-to-CRB Metals Index: Implied Gold Prices






Chart 17:Gold-to-CRB Metals Index: Implied Gold Prices


0

1

2

3

4

5

6

7

8

9

Dec-

71

Dec-

73

Dec-

75

Dec-

77

Dec-

79

Dec-

81

Dec-

83

Dec-

85

Dec-

87

Dec-

89

Dec-

91

Dec-

93

Dec-

95

Dec-

97

Dec-

99

Dec-

01

Dec-

03

Dec-

05

Dec-

07

Dec-

09

Dec-

11

Gold/CPI Average Normal Sell Bull Sell Buy Worst Case

Chart 18:Gold-to-CPI Ratio Since January 1972

Source: Factset


https://www.aier.org/epi

https://www.aier.org/epi



The current U.S. Consumer Price Index mul-tiplied by the Gold-to-CPI ratio suggests the following gold prices as shown on Chart 19.

Method 5: The Actual Cost to Produce One Ounce of GoldWe tracked how gold prices compare to marginal production costs over time. While some people believe that gold prices follow costs, others believe costs follow gold prices. Regardless of which theory you subscribe to, history sug-gests gold costs and prices track one an-

other over time. Therefore, it is our contention there is utility to using a marginal production cost approach.

Marginal production costs refer to the incremental costs incurred to produce an ounce of gold. This approach suggests that if gold prices fall significantly and are sustained over a period of time, operators will shut down higher cost mines, causing marginal costs to fall.

Miners have used many definitions of cost over time. We focused our analysis on two of the most commonly understood definitions that we believe offer the best visibility into incremental costs: cash costs and all-in sus-taining costs.

Cash CostsCash costs highlight the on-site cash costs involved in producing an ounce of gold. Cash costs include operating-site mining expenses, general and administrative ex-penses, stripping costs, smelting costs, refining and transportation costs, roy-alties and production taxes, mine com-munity costs, mine permitting costs, re-alized gains/losses on hedges related to mine operations, and byproduct credits.

Cash costs have increased significantly since 2000 due to lower grades being mined, increased energy costs, as well as consumables and labor costs. Gold has typically traded between 1.6 and 2.1 times cash costs over time. See Chart 20.

Chart 19 Gold-to-CPI: Implied Gold Prices


Fair Value Reasonable price $770

Buy Point Attractive Investment $629


Chart 19:Gold-to-CPI: Implied Gold Prices


0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.5

5.0

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

Gold High Price/Cash Cost Gold Low Price/Cash Cost Gold Average Price/Cash Cost

Chart 20:Gold versus Cash Costs

Source: Century Management and Factset



The current cash costs multiplied by the Gold-to-Cash Costs ratio suggests the following gold prices as shown on Chart 21.

All-In Sustainable Costs We also incorporated all-in sustainable costs into our gold valuation framework. We used this par-ticular calculation because all-in sustainable costs include support activities and non-cash expenses that are required to maintain production. The World Gold Council provided a detailed framework on this cost measure in 2013.





Chart 21:Gold-to-Cash Costs: Implied Gold Price Values


Valuation Method Downside Buy Fair Value Normal High Bull High

1) Inflation AdjustedSince January 1980 Peak $2,546 $2,546Since September 1980 Peak $1,971 $1,971Since June 1982 Trough $713Since February 1983 $1,210Since February 1985 Trough $628Since April 2001 Trough $337Since November 2008 Start of Quantitative Easing $900Since September 2011 Peak $1,946 $1,946Since October 2012 Peak $1,805 $1,805

2) Gold Price Decline Analysis $663 $1,080

3) Gold Relative To Other AssetsOil $738 $1,169 $1,513 $2,461 $2,657CRB Metals $916 $1,008 $1,154 $1,283 $1,374US Median Home Prices $392 $687 $840 $1,570 $1,766Forecasted WTI Oil x Gold/WTI Multiple $769 $1,153 $1,384 $1,691 $2,400

4) Gold Relative to CPI $396 $629 $770 $1,328 $1,631

5) Gold-To-Cash Costs $770 $1,120 $1,260 $1,470 $3,220All-In Sustaining Cost of Production $1,300

Average of Above Calculations $632 $968 $1,179 $1,807 $2,132

Chart 22: Gold Valuation Summary Analysis

Source: Century Management, Bloomberg Finance, LP, Factset, Commodities Research Bureau, National Association of Realtors, World Gold Council.



All-in sustainable costs recognize site cash costs, site based non-cash compensation, and stock pile and inventory write-downs. All-in sustainable costs also include reclamation, remediation, corporate over-head, exploration, stripping and underground mine development costs (both capitalized and expensed), and capital expenditures necessary to maintain the same level of production volume. Today, we believe the industry all-in sustaining cost of production to be $1,300 per ounce. We used this figure in our fair value estimate for gold._________________________________________

Chart 22 summarizes the line-item details of all five valuation methods.

On Chart 23, we have taken the summary results shown on Chart 22 and created valuation zones for the price of gold. We believe it is more instructive to rely on a valuation price zone rather than just one number for each of our valuation categories. Chart 23 is the same as Chart 1 that was shown at the beginning of the report.

We believe that in order to achieve attractive investment returns, we must stick to our investment discipline and only buy when the security or commodity is at the right price. As Benjamin Graham said, “price determines return.” For example, if you had bought gold on January 3, 1972, when gold traded freely, and held it through December 31, 2013, you would have earned an 8.2% annualized rate of return. On the other hand, if you had bought gold on January 21, 1980, when gold was at a peak and held it through December 31, 2013, you would have only earned a 0.7% annual-ized rate of return.

Having witnessed one gold bear market decline of 65% and numerous gold bear market declines of 43% over the past 45 years, we are confident that exercising patience and buying gold in the buy point zone should provide good returns into the future. See Exhibit 2 at the end of this report to see the returns by major asset classes compared to gold.

Written By:Arnold Van Den Berg, CEO, Co-Chief Investment OfficerBill Hawes, CFA, Portfolio Manager, Senior Analyst

Contributions By:Scott Van Den Berg, CFP, PresidentJim Brilliant, CFA, Co-Chief Investment Officer, Portfolio ManagerStephen Shipman, CFA, Portfolio ManagerCasey Vaught, Equity AnalystLisa Stroud, CMFC, Assistant EditorKara Bell, Assistant Editor


Fair Value Zone Reasonable Price $1,100-$1,300

Buy Point Zone Attractive Investment $800-$1,000

Worst Case Zone Very Attractive Investment $600-$700

The dollar amounts above represent gold prices per ounce in U.S. dollars, based on the London PM Fixing closing price. On January 31, 2014, gold closed at $1,251 per ounce. The numbers in this table have been rounded and are based on the average of Century Management’s five different methods used to value gold.

Chart 23:Century Management Valuation Zones For Gold

The dollar amounts above represent gold prices per ounce in U.S. dollars, based on the London PM Fixing closing price. On January 31, 2014, gold closed at $1,251 per ounce. The numbers in this table have been rounded and are based on the average of Century Man-agement’s five different methods used to value gold.



Review of Four Notable Gold Price Declines From 1972 Through 2013

Implied Gold Price During significant gold price declines, the most West Texas Intermediate Crude Oil (WTI) fell over these same periods was 36.5%. During these periods when gold was in a major decline, the average gold bear market Gold/WTI multiple was 11.1. To calculate our downside oil price estimate, we used the September 8, 2011 price of $104.87 and multiplied it by 63.5% (i.e. 1 minus 36.5% which again is the most WTI fell during major gold declines) = $66.59. To convert this downside oil price of $66.59 to a gold price estimate, we then multiplied it by 11.1 average gold bear market Gold/WTI multiple which implies a gold price of:

$737

During significant gold price declines, West Texas Intermediate Crude Oil (WTI) decreased 2% on average. The lowest gold bear market Gold/WTI multiple experienced during these gold downturns was 8.5. To calculate our downside oil price estimate, we used the September 8, 2011 price of $104.87 and multiplied it by 98% (i.e. 1 minus the 2% average downturns experienced by WTI when gold is in a significant price decline) = $102.77. To convert this average downside oil price of $102.77 to a gold price estimate, we then multiplied it by 8.5 times the lowest gold bear market Gold/WTI multiple which implies a gold price of:

$872

Average Worst Case $805 Numbers have been rounded. Source: Century Management, Bloomberg Financial, LP

Review of Four Notable Gold Price Declines From 1972 Through 2013

Implied Gold Price West Texas Intermediate Oil (WTI) drops 2% on average when gold prices fall significantly (i.e. greater than 25%). During these gold price declines, the gold bear market Gold/WTI ratio averages 11.1. To calculate our downside oil price estimate, we used the September 8, 2011 price of $104.87 and multiplied it by 98% (i.e. 1 minus the 2% average that oil fell during major gold declines) = $102.77. To convert this downside oil price of $102.77 to a gold price estimate, we then multiplied it by 11.1 average gold bear market Gold/WTI multiple which implies a gold price of:

$1,141

Average Buy Point $1,141 Numbers have been rounded. Source: Century Management, Bloomberg Financial, LP

Exhibit 1: CM Worst Case and Buy Point Gold From Examining

Gold and WTI During Gold Bear Markets



Returns by Major Asset ClassCompounded Annual Returns

1972‐2012

Cumulative Value In 2012 of a $100 Investment In

1972Large Company Stocks 9.9% 4,875$ Small Company Stocks 13.0% 15,121$ Long‐Term Corporate Bonds 8.9% 3,241$ Long‐Term Gov. Bonds 8.8% 3,140$ Inflation 4.3% 559$ Gold 9.3% 3,768$ Source: Ibbotson and FactSet, Start is 1/3/1972, End is 12/31/12


1972‐2002


1972Large Company Stocks 10.9% 2,456$ Small Company Stocks 13.9% 5,612$ Long‐Term Corporate Bonds 8.7% 1,320$ Long‐Term Gov. Bonds 9.2% 1,522$ Inflation 4.9% 440$ Gold 6.8% 779$ Source: Ibbotson and FactSet, Start is 1/3/1972, End is 12/31/12


1980‐2000

Cumulative Value in 2000 of a $100 Investment In

1980Large Company Stocks 16.34% 2,402$ Small Company Stocks 14.47% 1,709$ Long‐Term Corporate Bonds 10.8% 856$ Long‐Term Gov. Bonds 11.2% 925$ Inflation 4.0% 227$ Gold ‐3.1% 52$ Source: Ibbotson and FactSet, Start is 1/1/1980 through 12/31/2000


2001‐2012


2001Large Company Stocks 2.6% 136$ Small Company Stocks 9.2% 287$ Long‐Term Corporate Bonds 8.7% 272$ Long‐Term Gov. Bonds 8.0% 252$ Inflation 2.3% 132$ Gold 16.2% 607$ Source: Ibbotson and FactSet, From 1/1/01 through 12/31/12

Exhibit 2:Historical Returns by Asset Class



Disclosures:The gold pricing in this report is measured using the London PM Fixing price, quoted in U.S. dollars per ounce.

Past performance is not indicative of future results. Century Management reserves the right to modify its cur-rent investment strategies and techniques based on changing market dynamics or client needs.

The content of this report/letter should not be deemed, nor is it intended to be considered an investment rec-ommendation to purchase or sell any particular security or an offer to sell any product. Certain statements included herein contain forward-looking statements, comments, beliefs, assumptions, and opinions that are based on Century Management’s current expectations, estimates, projections, assumptions and beliefs. Words such as “expects,” “anticipates,” “believes,” “estimates,” and any variations of such words or other similar expressions are intended to identify such forward-looking statements.

These statements, beliefs, comments, opinions and assumptions are not guarantees of future performance and involve certain risks, uncertainties and assumptions which are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in, or implied by, such forward-looking statements.

Viewers are cautioned not to place undue reliance on these forward-looking statements, which reflect Century Management’s judgment only as of the date of this report/letter. Century Management disclaims any responsi-bility to update its views, as well as any of these forward-looking statements, to reflect new information, future events or otherwise.

Factual material referenced in this report/letter is obtained from sources believed to be reliable and is provided without warranties of any kind, including, without limitation, no warranties regarding the accuracy or complete-ness of the material.

Century Management is a registered investment adviser. More information about Century Management, includ-ing its advisory services and fee schedules, can be found in its Form ADV Part 2 which is available upon request or you can download from our website at www.centman.com.


Corporate Office Century Management

805 Las Cimas Parkway, Suite 430 Austin, Texas 78746

Toll Free (800) 664-4888

Phone (512) 329-0050

Fax (512) 329-0816

century management’s gold valuation analysis · 2014. 11. 16. · 2. how much gold prices dropped...

Documents