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Scottish: gold-mining mergers safe haven in rates limbo

8 April 2019

A wave of gold mining mergers signals business reform in the sector making it the best way access the precious metal, says Scottish investment trust manager Alasdair McKinnon.

A wave of gold miner mergers signals reform in the sector, making the listed stocks the best way to invest in the precious metal, argues Scottish Investment Trust (SCIN) manager Alasdair McKinnon.

McKinnon, manager of the £610 million global trust, said gold was one of the few assets to hold up in volatility during the fourth quarter.

In fact, from the beginning of the fourth quarter in October to the end of 2018, the gold price rose from $1,185 to 1,282 per ounce and delivered a return of 7% for the year. It currently sits at $1,289 per ounce.

And while central banks globally held off raising interest rates for fear of ‘crashing debt’, McKinnon said gold also offered better returns than cash in the bank.

But he specified mining stocks were the best way to get exposure to the precious metal, especially since the sector had undergone reform in recent years as miners sought to build a reputation as ‘proper businesses’.

Along with getting balance sheets in order, mergers and acquisitions had become another way miners looked to show how the sector had changed.

‘I think the need to demonstrate that they are proper businesses has created this series of mergers, as before they probably felt it was like turkeys voting for Christmas,’ said McKinnon.

The latest example of this was Barrick Gold (GOLD.N) withdrawing its hostile $18 billion bid for Newmont Mining (NEM.N), which a 3% position in the Scottish portfolio. Instead the world’s two largest gold producers agreed to create a joint venture for their mining operations in Nevada, where Newmont has 19 mines adjacent to Barrick’s.

Newmont had rejected the initial offer from Barrick, under which the bidder requested Newmont rescind its planned takeover of Canadian miner Goldcorp (GG.N).

However, Newmont has since forged ahead with its bid for Goldcorp with shareholders having last week approved the $10 billion offer. 

Barrick also recently merged with rival Randgold Resources.

Since Newmont and Barrick reached a deal in March, shares in the former have risen 9%, while the latter is up 2%.

‘This is saving them both $500 million - a huge saving,’ he said. ‘Their mines are interspersed between each other which was unusual.’

McKinnon opted for holding gold mining stocks instead of bullion, arguing the physical precious metal was more complex due to additional annual costs of ownership and insurance. Access via exchange-traded funds was also quite complex, he added, as investors had to rely on someone to tell them the gold exists.

‘Whereas with miners there’s just a bit more to it so it’s a bit of safety angle,’ he said. ‘Also miners are have this potential upside from mergers, creating an operational leverage to the gold price so long as it behaves as it’s supposed to.’

McKinnon also holds Newcrest Mining (NCM.AX) and BHP (BHP) in the Scottish portfolio, accounting for a 4% and 3% positions respectively.

His optimism for these stocks comes despite negative performance from Newcrest and Newmont highlighted in the trust’s annual report, to the year-end in October.

However, this speaks to McKinnon’s style as a contrarian manager, who took over running of Scottish in 2015. He halved the number of holdings to focus on 50 ‘unpopular and unfashionable’ companies, which he calls his ‘ugly ducklings’.

Royal Bank of Scotland (RBS) was an example of an ‘ugly duckling’ flagged in the trust’s February commentary. Once a symbol of banking failure, RBS was now on its way to ‘rehabilitation’, announcing a higher than anticipated dividend payout in February.

The trust as a whole as continued to underperform the MSCI World index over the past year, with net asset value total returns up 99.6% against a 102.7% return from the benchmark. Though he managed to avoid the worst of the ‘Red October’ sell-off by cutting the trust’s 5% borrowed cash weighting to zero.

Over five years, Scottish has generated a total return of 55% for shareholders, beating the FTSE All-Share's 35% but trailing the MSCI World's 78.7% gain, according to Numis Securities data.

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