Pure gold. A key lesson for investors

Summary: A Canadian gold producer has an important message for Australian shareholders.

Key take-out: Companies that reinvest in their operations will ultimately deliver better returns for their investors.

Back 20 or 30 years ago, picking the trends in the Australian dollar was a relatively easy task – we followed the gold price.

Australia was a major world gold producer and the China boom was not dominating our mineral exports. But our gold miners gradually spent less on exploration and more on generating cash for shareholders and, as we know, they were overtaken by iron ore, gas and other minerals.

The old BHP Gold ended up in Newcrest, which was initially a highly successful explorer and mine developer but then lost forward momentum.

Now Australia is on the edge of another gold boom, but it is being driven by the Canadians rather than the locals. The first focus of the gold boom is in none other than Bendigo – the great gold city which along with Ballarat made Melbourne the largest city in the nation.

About a decade ago I made a number of trips to Bendigo and saw that several small miners were feverishly looking for gold but achieving only moderate success. Then a Canadian company called Newmarket Gold acquired the Fosterville Mine, and later became part of the Kirkland Lake Group headed by the remarkable Tony Makuch.

Makuch is the son and grandson of old-time Canadian gold miners and he has a real smell for gold. Moreover, he is passionate that exploration is the key to the long-term future of all mining companies, but in particular gold. The Australian man he admires most is Sir Arvi Parbo, who made Western Mining one of the most successful explorers in Australian history.

Makuch walked down the Fosterville shaft and could see the change in the quartz in the newly mined sections. After further exploration he realised he had hit a bonanza. When Makuch acquired Fosterville it had 244,000 ounces in mineral reserves grading seven grams per tonne. In the two years since, Kirkland has mined over 450,000 ounces at average grades of around 15 grams per tonne – in other words, twice the original reserves have been mined at grades of double the original estimate.

But Kirkland has barely scratched the surface; it has found 1.7 million ounces at 23 grams per tonne and expects that by 2020 Fosterville will be producing 400,000 ounces of gold, which is two and a half times the 2016 level.

But, once again, it is only scratching the surface because new reserve systems are being discovered and it looks like there is a lot more there to be found, so production is set to rise even further and so are the grades. The Bendigo gold rush is back, but it's deep underground. It is going to be an enormous profit powerhouse as the company is steps up exploration.

Tucked away in the Newmarket Gold portfolio was a mine called Cosmos in the Northern Territory. Makuch went up to Cosmos and had a good look at the mine and realised it had great potential. His first action was to immediately cease production, because he wanted to do a lot more shaft sinking and exploration to determine the best way of mining the resource.

Having found a bonanza in Victoria and possibly the Northern Territory, Makuch suddenly realised that Australians have been fast asleep when it comes to gold. Where else have they overlooked bonanzas?

And he now believes he might have found a new gold province in none other than the Pilbara. We all know the Pilbara for its iron ore production. Makuch has bought 20 per cent of another Canadian company called Nova, which has gold prospects around Karratha. It is clearly early days but Makuch believes that the Pilbara may be a new gold province.

What this underlines is that while our institutions are demanding maximum cash to be distributed by our miners, that is not the traditional way of doing things. Miners reserved a sizeable proportion of their cash flow to keep exploring, and it has taken an old-time Canadian miner to reteach us that lesson.

CSL's reinvestment pays off

And talking about reinvesting in your business for the future, we saw from CSL this week how results were driven by two major strategic decisions. The first was to set up a global plasma operation by acquiring companies that were not in favour, and second, most importantly, the company powered money into research.

Year after year CSL spent money knowing that it would take a long time to reap the benefits. And now some of those benefits are coming through, and the company is ploughing even more money into research to lock in its profit growth for the next decade. In Australia few of our companies think that way, and so at a time when our banks have gorged on dividend payments CSL is gradually climbing the list of our largest top companies.

Behind the Turkish crisis

And, of course, the headlines this week have been on Turkey. Let's not be besotted by the Turkish mess but rather look behind it and why it illustrates that from time to time we are going to have a Turkish-type crisis and there is always the danger they will cause a domino effect.

It is absolutely crazy for any country or company to borrow in US dollars – and other currencies – that are not their revenue base.

It is perfectly ok for companies like BHP, with its large iron ore revenue expressed in US currency, to borrow in US dollars. But for countries or companies that do not have US dollar revenue to borrow in the American currency simply because the rates are low is the absolute height of stupidity.

Yet, that is exactly what the Turks did and what a lot of other emerging countries have done. Argentina has gone down the tube partly because of this, and Indonesia has dabbled in that area and as have other African and Asian countries.

Notably China and India have not borrowed in unhedged foreign currencies to any extent. A number of European banks have facilitated the loans to Turkey and they deserve whatever losses they get.

What made the Turkish situation dangerous was that it got mixed up with President Trump's tariffs and the tensions around a US citizen begin detained in Turkey. I think we will get through the Turkish situation, but we all need to be aware that there are no certainties.

Meanwhile, the good news for Australia is that China accepts that the trade war with the US could be an elongated affair. It is therefore stimulating its economy once again.

In the last year or so China has been trying to get its banking system back on track and has been imposing a credit squeeze on its high-risk banks.

That is being discarded to restimulate the economy. The inner problems of China will remain, but the stimulation is good for Australian exports.