Central Sun Mining: When the Dust Settles, Juniors Will Shine

by: Daniel Gschwend May 16, 2008 | about stocks: SMC    

Daniel Gschwend

About this author:
Become a Contributor Submit an Article
  • Font Size:
  • Print

The previous months have been a challenging time for mining stock investors, at least for these who invest in the junior sector. Since the credit crisis stroke, junior stocks suffered a great deal.

In retrospect, there are some reasons behind this underperformance of junior mining stocks, as they had attributes which most investors were avoiding since early August 2007: big appetite for capital, high beta, comparably low trading volume, very long development time and high dependency on investors’ ability to take risks. The far more important question for now is, will the junior sector recover and is the story still the same? The answer is: yes, but the game will be different this time.

We can already see some kind of bottom building process in the junior sector. I frequently monitor the ratio between the TSX Venture Index (mostly junior mining stocks) and gold. While the junior sector vs gold is trading relatively lower then when the present bull market started back in 2001, I also see some bottoming out and more importantly a rising trend. The dust is settling and the juniors prepare themselves to shine in the near future.

click to enlarge images

As shown in the graph, the junior mining stocks are now outperforming gold. The bottom has very likely been reached.

Does this mean you have to buy right now? If you’re a long term orientated investor with enough patience, then yes. Patience will be the key for the next months. Commodity cycles are long term cycles due to the long development times on the company levels. Don’t expect fast money to be made in the current environment. The junior market in general is in recovering mode, which is a good sign after the blood bath we experienced in the last months. I expect the real recovery with substantial gains will happen in the next months. I can’t tell you when, but you can get a good idea if you monitor the credit spreads (e.g. US treasuries vs corporate bonds).

This indicator tells you how much risk bond investors are willing to take. High spreads mean that investors are very risk averse and go for safety (such as physical gold or cash) – stocks and especially junior mining stocks have a negative correlation to credit spreads. The ratio is now declining or in other words, bond investors are willing to take more risk. This ratio is a leading indicator and shows that the markets are recovering. The ratio is still too high to trigger a rush into the junior mining sector, but once the trigger level is reached, you can expect a very fast and very powerful surge.

I mentioned before, the game will be different this time. While we have seen more or less broad sector buying in the past without much differentiation between the quality of different companies. This time, investors will be more choosy and only invest money into junior stocks with ‘real flesh on the bone’.

So where should you invest your money? I like companies doing business in politically stable regions (avoid places such as Ecuador, Congo or Venezuela; even though the potential profit looks appealing - it only causes headaches right now). Near term growth is a key (production and resource basis) and management should have a proven track record. I prefer junior mining stocks – since they offer the biggest recovery potential – which have near term growth potential, superb management and are undervalued to peers. This offers you a win-win situation – upside on the peer group and upside on the sector.

I like Central Sun Mining (AMEX: SMC), which is the new name of the former Glencairn Gold since it was restructured and refinanced. The company has a new, experienced and successful team. Central Sun Mining has a market cap of $130 million and is located in Nicaragua with one operating mine with approx. 50’000 ounces production p.a. and one mine which is right now being converted from heap leaching to conventional milling. The company expects to produce approx. 125’000 ounces of gold from two operating mines in 2009 with cash costs of $380 per ounce. While I see some significant production growth, I also expect the company to be able to boost the existing resources of approx. 1.7 million ounces of gold. Cash is no problem since they had $ 12.2 million at hand as of March 31, 2008 with only 60 million shares outstanding.

Besides very robust projects, they have an excellent management team with an impressive track record and strong institutional shareholders such as Yamana Gold (AUY), QVT Financial (NY based hedge fund) or Sprott Asset Management. In my view, Central Sun Mining is trading with a 50% discount to comparable peers. Taking into consideration that the entire junior sector is trading at a fairly large discount to gold or big caps this looks like a very nice investment.

I expect the junior market to take off by August. Gold is now entering a seasonally weak period and there is still some profit taking going on from short term orientated investors who went into gold because of the momentum. The broad investment community still has to figure out that we are in a secular bull market in commodities for the next 10 to 15 years and junior mining stocks are definitely one of the best buying opportunities right now.

Disclosure: The author is co-fund manager at Precious Capital Global Mining & Metals Fund. The fund has a position in Central Sun Mining.

Related Articles

This article has 6 comments:

  •  
    May 16 06:02 PM
    In any stock, management is key. Peter Tagliamonte really screwed Glencairn shareholders with a reverse split for the benefit of himself and new investors and then changed the name to Central Sun Mining. IMO, Peter T's bad management got Glencairn into the mess they were in.

    Once management resorts to such blatant disregard for shareholders, I would NOT touch an investment with that management again.

    There are many other juniors to risk your money in with potential just as good, if not better, that have not treated shareholders so badly.
    Reply | Link to Comment
  •  
    May 17 05:55 AM
    Halfway true, Glencairn Gold messed up with Bellavista in Costa Rica - this was the reason the stock dived and the company had to be restructured. BUT this was really bad luck - Orosi and Limon are the core mines and the new management team is doing a great job there. Just remember Peter is the former COO at Yamana's Jacobina mine (producing 145k in 2008) he is a great engineer. If you check out the new management and board of directors you will figure out that they have a great team together. Sometimes a company deserves a second chance, especially if they are on the right track again. CSM is a major recovery story IMO - sure market is still sceptical if they can achieve their production target in 2009, thats the reason for the discount vs peers. Lets see how they progress.
    Reply | Link to Comment
  •  
    May 17 07:23 PM
    Any time a manager like Peter T. screws the old shareholders to give the bulk of the company's assets to investors with new money to pay for his mistakes, he has little incentive to perform.

    If Peter T. screws up again, he will do the same trick again and again.

    The failure of Glencairn should have included Peter T. resigning or being fired by the board.

    Plenty other places to risk your money. Not with a management that screwed the shareholders before.
    Reply | Link to Comment
  •  
    May 18 06:14 AM
    Obviously you lost money with Glencairn - but if I understand the author's opinion right, he thinks Central Sun is a good turn around play with considerable upside, right? If you value turn around situations than you have to check the changes a company made instead of what happend in the past. As for Bellavista - to my knowledge the mine had to be closed because the leach pads began to move - that's a ecological problem and I doubt if anybody could foresee something like this. Anyway, Peter and the new team (which is in my opinion the key and I do agree with the author in this respect) have done the right changes, converting Orosi from heap leaching to milling and improve production greatly. The restructering was the only way to bring the company back on track - there are only few companies with this kind of performance in the last 6 months. In my opinion the new team is the key - they have Forbes & Manhatten involved, which is a pool of highly respected mining professionals. Remember they did (this includes Peter), Desert Sun Mining! this company was acquired by Yamana Gold for over 700m $. They also did Consolidated Thompson Iron Mines (CLM) or Largo Resources (LGO) - LGO just entered into an off-take agreement with Glencore. This group has great success - CSM is also benefiting. I do like the story and I think, CSM is a easy double if the can achieve their production target in 2009. But you're right there are many nice investment opportunities around - the article made it pretty clear - but again I also got burned with early stage companies and low scale producers....I dont touch companies with less than 100k ounces p.a. production any longer......
    Reply | Link to Comment
  •  
    May 18 09:17 AM
    Obviously we have some sore losers here posting. Actually the reverse split was smart strategy in the end as more institutions & funds will invest in a $2 rather than $.30 stock. What happened at Bellavista really hurt SMC in the present but the management handled it like a responsible professional company. In fact it might have benn for the best as Bellavista was getting bad publicity from the enviromentalists/tree huggers.

    I've held traded and held shares of this company for 3 years and I'm willing to hold for another 3 years. I'm up about 50% due to adding shares when they were cheap. I believe SMC will be a $5 stock if not more by summer 2009. I agree with the author of the article as Central Sun will have it's day to shine in the sun!
    Reply | Link to Comment
  •  
    May 24 01:34 PM
    This analysis cracked me up. The author notes that when the juniors do recover, buyers will be more selective. He explains that investors should therefore avoid suspicious political jurisdictions such as Ecuador, Congo or Venezuela. However, in the next paragraph, he recommeds Central Sun Mining, a company operating in Nicaragua(?!). Who wants to invest in Nicaragua in this investment climate?

    Moreover, why bother with an investment in Nicaragua when you can get resource growth (128M Ag. equiv resource at year-end 2007 and 300M Ag. equiv resource guided for year-end 2008), production expansion (4M oz. Ag-equiv produced in 2007 and 5.4M oz. Ag-equiv guided for 2008), political safety (Mexico), seasoned management (CEO Keith Neumeyer was a founding president of First Quantum, a multi-billion dollar resource company) and first-ever earnings delivery (Blackmont Capital forecasts $0.32 per share in 2008) at FIRST MAJESTIC SILVER (TSX:FR). Now there's a stock institutions will flock to when juniors start to move this year. You can take that to the bank.
    Reply | Link to Comment
More Comments on SMC »
Top Rated Comment Streams:

Numbers are net rating-

See all Top 100 »
More by Daniel Gschwend

Investment Resources
Money Management
Research
Seeking Alpha provides these ads as a service to its leading contributors
Articles on related themes
Long Ideas
Small Cap
Metal Miners
Gold Price