LAWRIE WILLIAMS: Higher gold prices can mean lower gold production
To the general observer of markets – one who may be interested in resource commodities and stocks – it would seem logical that higher gold prices would stimulate, and thereby increase, production. But in fact the reverse is often the case. There’s some interesting research out from Melbourne-based independent consultants, Surbiton Associates, into the Australian gold mining sector – Australia is the World’s second largest producer after China – which makes this very point in an analysis of Q1 2016 Australian gold mining output.
What many observers don’t understand is that when metals prices rise, many miners don’t see this as a route to maximising short term profits, but rather to mine more efficiently and effectively prolong mine life through mining lower grade material within the overall mining plan. The converse is true when metals prices drop. Mine production does not necessarily fall with many miners seeking to maintain profitability levels by mining higher grades if they are able to do so. Pushing higher grade ore through the process plant at an unchanged throughput means higher production. Closing a mine because of unprofitability tends to be a last resort. It is not only psychologically unwelcome to the mining company’s executives having to deal with redundancies etc., but may also be an expensive exercise in meeting environmental clean-up and closure costs.
In its latest research, Subiton Associates notes that Q1 gold production by Australia’s miners, although higher than at the same time a year ago, at some 71 tonnes in the latest three-month period, was around 1.5 tonnes or 2% lower than for the December quarter in 2015.
The consultancy does recognise that Q1 production is often, not always, the lowest quarter for production in Australia because of weather factors (cyclone season), less days in the quarter (February being the shortest month) and the New Year holiday. But this year, noted Dr Sandra Close, a Surbiton Associates Director, with the better than usual weather early this year and with an extra day for leap year Australia’s gold mines actually treated more ore in the March quarter than in the previous three months. But she pointed out that despite the increase in tonnes treated, gold production fell slightly. In other words the higher gold price had enabled the miners to treat lower grade material profitably.
“A feature of this last quarter has been the decline in the grade of ore being treated,” Dr Close said. “This is not unexpected, as the gold price in Australian dollar terms has increased, due a recovery in the US dollar price of gold and a weakening of the Australian dollar. Many mine operators have the flexibility to trim their grades and still make a reasonable profit.”
Although treating lower grade ore results in lower gold output, it also results in higher unit costs. However, if the price is higher, as it has been in Q1, margins are still maintained. If the gold price doesn’t slip back too far a period of lower grades and correspondingly lower output may lie ahead.
Australian gold prices have indeed been boosted by Australian dollar weakness compared with the U.S. dollar in which the mines are paid for their gold. Thus gold hit a high of A$1,750 per ounce in mid-February and has been mostly over A$1,700 per ounce since early May 2016. The high point in the Aussie dollar was thus only a little lower than the record of $1,800 achieved when in August 2011 when US dollar gold prices were hitting record levels..
While the research by Surbiton Associates relates only to Australian miners, we can expect to see the same effects elsewhere in the world, and while higher gold prices may re-stimulate gold exploration and eventually lead to new mines being built, the enormous lead time to permit and build a new mine from discovery is now probably 10 years or more other than in exceptional cases so the knock-on effect of higher prices stimulating new production will be a slow process and meanwhile higher prices could indeed result in lower gold production.