Per the data available from the World Gold Council, global demand for gold declined 7% year over year to 973.5 tons in the first quarter of 2018 - the weakest first quarter in 10 years. The weak performance can primarily be attributed to a fall in investment demand for gold bars and gold-backed ETFs, partly due to range-bound gold prices . Let's delve deeper and analyze the factors that led to the decline and also find out what is in store for the yellow metal.
Jewelry Demand - Robust in China & United States, India Disappoints
Demand for jewelry dipped 1% year over year to 487.7 tons in the first quarter. Strong demand in China and the United States mitigated weak Indian markets. China witnessed a three-year high demand at 187.8 tons bolstered by jewelry sales themed around the Year of the Dog, which appealed to consumers buying during the Lunar New Year holiday as well as Valentine's Day sales. Moreover, the United States marked the strongest first-quarter since 2009, driven by economic growth, improving employment levels and growth in consumer confidence.
Notably, India provided the main drag on the jewelry demand in the quarter, declining 12% as a depreciating rupee magnified the rise in the international gold price. Moreover, the lack of auspicious days led to lower sales in the quarter.
Total Investment Demand Suffers on Lower ETF Inflows
Total investment demand plunged 27% year over year to 394.2 tons in the first quarter of 2018. ETF inflows were 32.4 tons, down from 96 tons in the prior-year quarter. Notably, in the year-ago quarter, negative German yields reached a record low and gold prices gained 10%, which aided inflows. However, in the first quarter of 2018, relatively stable gold price and rising interest rates contrasted with sharp equity market volatility and heightened geopolitical tensions created mixed signals for gold investors.
Gold traded in a relatively steady range over the quarter, rising just 3% in US dollar terms. North American-listed ETFs were the only area of growth, adding 38.4 tons, which were negated by outflows elsewhere.
Meanwhile, global bar and coin demand dropped 15% year over year to 298.2 tons due to range-bound gold price across most major markets.
Demand from Central Bank, Technology Show Resilience
Central banks purchased 116.5 tons in the first quarter, surging 42% year over year reaching the highest first-quarter total in four years. Since 2010, central banks have bought an average 114.9 tons per quarter. Russia, Turkey and Kazakhstan remained consistent buyers and collectively account for nearly 50% of net purchases over the last five years.
Demand for gold in technology improved 4% year over year to 82 tons in the first quarter, marking the sixth consecutive quarter of growth.
Supply Growth Shows Slight Improvement
Total gold supply improved 3% to 1,032 tons in the first quarter. Recycled gold supply remained flat at 287 tons due to global uncertainty. Mine production inched up 1% year over year to 760 tons. Only Indonesia and Canada reported improvement in production, while it dipped elsewhere. Production in China continued to decrease for the sixth consecutive quarter due to stringent environmental regulations. Output from the world's largest producer slumped 8% year over year and it is likely to further decline throughout 2018.
Sector Level Earnings Trend
Per the Zacks classification, the gold-mining industry comes under the broader Basic Materials sector. The sector's earnings rose 45% in the first quarter and in the rest of the quarters, it is expected to log growth of 46%, 37% and 15% in the second, third and fourth quarters of 2018 respectively. (For a detailed look at the earnings outlook for this sector and others, please read our Earnings Trends report.)
Zacks Industry Rank Reflects Ongoing Struggles
The Zacks Industry Rank #170 (of 250 plus groups) carried by the Gold-Mining Industry highlights the fact that industry is not currently in favor, as far as investors are concerned. This unfavorable rank places the industry within the bottom 34% slot of the Zacks industries.
We classify our entire 250-plus industries into two groups: the top half (i.e. industries with the best average Zacks Rank) and the bottom half (industries with the worst average Zacks Rank). Using a week's rebalance, the top half beat the bottom half by a factor of more than 2 to 1 over the last decade. Click here to know more: About Zacks Industry Rank
Attractive Valuation, Upside Remains
Stocks in the Gold Mining industrysector have been laggards, with the sector declining 6.2% underperforming the S&P 500 index's gain of 12.4% over the past year. Nevertheless, the valuation picture for the sector is attractive, highlighting a value-oriented path head.
The industry has a trailing 12-monthEV/EBITDA multiple (a preferred valuation metric for mining companies that have high capital expenditures), of 8.3 much lower than the S&P 500's EV/EBITDA multiple of 11.3. The industry's lower-than-market positioning calls for some more upside in the quarters ahead.
Where Is the Industry Headed?
A number of new mines entered production in fourth-quarter 2017, which might support mine production till 2018. Noteworthy mines include The Natalka project in Russia, Canada's Rainy River project and Houndé in Burkino Faso. However, production in China, the largest producer since 2007, will bear the impact of recently imposed regulations, targeting the discharge of cyanide in tailings for few quarters.
Overall modest growth in global production is expected in 2018. While a small handful of greenfield projects are expected to command a portion of the rise in production, main growth will be driven by the expansion of existing mines and the ramp-up of recent projects. This trend may continue beyond 2018.
It has been observed that increasing cost pressures from currency movements and rising input costs combined with greater scrutiny from investors, is leading to miners focus on growing margins. Notably, mine production is now anticipated to improve at a moderate rate in contrast with decline expected earlier.
On the demand side, major markets, India and its neighbor China will continue to be growth drivers. Last year, the Indian market had suffered a setback due to the impact of imposition of Good and Service Tax ("GST") and anti-money laundering legislation ("AML") around jewelry retail transactions.
We expect it to bounce back as the market adapts to GST. Pent-up demand as well as festive buying is anticipated to boost demand for jewelry in the country. Moreover, government measures like mandatory hallmarking in 2018 is likely to be a positive for the industry. In China, retail demand remains high around the Chinese New Year.
The Indian government also announced measures to bolster rural incomes. This along with forecast for a normal monsoon bodes well the rural sector which is an important consumer for the gold industry.
Macroeconomic trends in Asia will support economic growth in the coming years. Given that gold demand is generally closely correlated to increasing wealth in the continent, gold demand will increase in tandem. In Asia, gold demand is mainly retail in nature due to festival and wedding related buying activities in countries like India and China.
Further, the United States continues to be a strong market driven by economic growth, improving employment levels and growth in consumer confidence. Elsewhere, Germany's economy is expected to maintain momentum while unemployment is anticipated to continue declining, providing support for the world's third-largest bar and coin market.
Demands from central banks also remain strong with Turkish and Russian central banks adding to their gold reserves. Further, gold is witnessing increased requirement in technology, bolstered by demand for high-end smartphones after years of declines.
How to Play the Industry
Earnings growth expectation, attractive valuation makes a good investment case for the gold mining industry now. Investors can consider the following gold stocks that carry a Zacks Rank #3 (Hold) and have been witnessing estimate revision in earnings. You can see the complete list of today's Zacks #1 (Strong Buy) Rank stocks here .
Franco-Nevada Corp.'s (FNV) estimates for fiscal 2018 and fiscal 2019 have gone up 4% and 1%, respectively. Franco-Nevada has an expected earnings growth of 13% for both fiscal 2018 and fiscal 2019. The company has an expected long-term earnings growth rate of 4%.
Sandstorm Gold Ltd.'s (SAND) estimates for fiscal 2018 and fiscal 2019 have gone up 43% and 9%, respectively. The company has an expected earnings growth of 67% for fiscal 2018 and 20% for fiscal 2019.
The earnings estimates for IAMGOLD Corp. (IAG) have moved up 45% for fiscal 2018 and 24% for fiscal 2019. The Zacks Consensus Estimate for fiscal 2018 projects year-over-year growth of 167% and for fiscal 2019 reflects year-over-year growth of 28%.
Kinross Gold Corp. (KGC) has seen its estimates go up 16% for fiscal 2018 and 5% for fiscal 2019. The Zacks Consensus estimate for earnings for fiscal 2018 projects growth of 57.1%.
However, we suggest staying away from or getting rid of Zacks Rank #4 (Sell) stocks such as Harmony Gold Mining Company Ltd. (HMY), NovaGold Resources Inc. (NG), Pretium Resources Inc. (PVG) and Pershing Gold Corp. (PGLC).
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Want the latest recommendations from Zacks Investment Research? Today, you can download 7 Best Stocks for the Next 30 Days. Click to get this free reportSandstorm Gold Ltd (SAND): Free Stock Analysis ReportPretium Resources, Inc. (PVG): Free Stock Analysis ReportPershing Gold Corporation (PGLC): Free Stock Analysis ReportNovagold Resources Inc. (NG): Free Stock Analysis ReportKinross Gold Corporation (KGC): Free Stock Analysis ReportIamgold Corporation (IAG): Free Stock Analysis ReportHarmony Gold Mining Company Limited (HMY): Free Stock Analysis ReportFranco-Nevada Corporation (FNV): Free Stock Analysis ReportTo read this article on Zacks.com click here.Zacks Investment Research