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Gold bars are seen in this file photo. (JUNG YEON-JE/AFP/Getty Images)
Gold bars are seen in this file photo. (JUNG YEON-JE/AFP/Getty Images)

TheStreet

Analysts see gold retesting all-time highs in 2012 Add to ...

Gold prices took a beating in late 2011, but many experts think the path in 2012 is still paved with higher prices.

Gold had a wild 2011, starting the year at $1,412 (U.S.) an ounce, hitting a low right out of the gate of $1,314 and then rallying to an intra-day high of $1,923 an ounce.

The past few months have not been kind for gold. The precious metal tanked 13 per cent in September and 8 per cent in just three days last week as a strong dollar hammered prices. Gold’s haven status looked to be a thing of the past as negative headlines out of Europe triggered a rush into the dollar instead of gold as liquidity dried up.

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But gold’s recent massacre is not scaring most experts.

“What I am looking for is a gold price of $1,800 an ounce in 2012,” says Jeffrey Wright, senior research analyst at Global Hunter Securities. Wright says there could be spikes to $1,900 or $2,000, especially if gridlock in Congress brings up another budget battle and highlights the U.S.’ own fiscal problems. “Once we get back into those discussions, there will be further pressure on the U.S. dollar and a refocusing on gold as a safe haven asset.”

Leo Larkin, metals and mining analyst at S&P Capital IQ, thinks that $1,900 gold might not be that much of a stretch. “Gold has been going up without interruption for 10 years” and a correction is totally normal, Larkin says. Gold has risen on average 17 per cent annually over the past 10 years, and while Larkin doesn’t expect such a juicy return in 2012, he does expect the up-trend to continue.

“The United States’ M2 supply is up 9 per cent from the beginning of the year and the monetary base is up 30 per cent. They are setting the stage for higher gold prices,” argues Larkin. Before last week’s carnage, $2,000 price targets for 2012 were all the rage but even current “conservative” forecasts represent 12 per cent upside from current levels.

“People get so caught up with the next three minutes for gold and they should really be focused on the next three years,” says Frank Holmes, CEO of U.S. Global Investors. “Does anyone really believe in the long term strength of the U.S. dollar?”

Since 1975, the dollar has lost 75 per cent of its purchasing power and 98 per cent of its purchasing power compared with gold. “We’re just going to have to live with this volatility for another 12 months,” says Holmes, who still thinks gold prices could double to $3,600 an ounce in five years.

Not everyone is as optimistic. Jon Nadler, senior analyst at Kitco.com, thinks gold prices will more likely see $1,000 an ounce before $2,000 an ounce. “The question will remain for 2012, to what extent will investment demand be able to remain the principle driver and continue to attract interest from speculators and investors,” he said, a shaky prospect after last week’s carnage. Nadler thinks gold might need a significant period of consolidation, perhaps two to three years, to regroup.

The combination, however, of gold’s selloff mixed with persistently high prices make gold stocks more attractive. On the one hand, gold’s selloff makes the stocks even cheaper to buy, as the stocks fall with the underlying commodity. However, companies mining gold for $400-$800 an ounce are still seeing big profit margins and increased free cash flow.

“Even if you weren’t a gold bug, they look like good value investing,” says Larkin. Gold stocks used to outperform the gold price, but have lagged of late. In 2011 Market Vectors Gold Miners , a basket of large cap miners, has sunk more than 12 per cent while the gold price climbed 13 per cent.

The popular gold ETF, SPDR Gold Shares , has distracted hedge funds but Larkin thinks that will change and institutions will rotate into miners.

“I think when institutions get around to gaining more gold exposure to their portfolios it’s going to be hard for everybody to buy the GLD, so the stocks will move.” Bigger gold miners like Newmont Mining have been trying to woo those institutions with gold-linked dividends.

Larkin has a strong buy on Barrick Gold , the biggest gold miner in the world, and buy ratings on Newmont and Randgold Resrouces , a West African gold miner with a paltry dividend but huge growth profile – third quarter production was up 9 per cent quarter on quarter and profit soared 335 per cent year over year.

Many gold stocks like Newmont or Barrick had to issue a lot of shares over the last 10 years to finance operations, keeping a lid on share prices. “Between 2001 and 2010, Barrick increased shares outstanding by 86 per cent,” says Larkin. “Once they start to get better earnings, they might think about buybacks to offset some of the impact of the dilution.”

Other analysts are counting on mergers and acquisitions with gold stocks. Big gold miners like a Newmont “have a hard time maintaining their reserves and spend a lot of time running in place,” says Larkin, which leaves purchasing small miners as a good alternative. Junior miners, those companies with small production or those in the development stage, have also gotten cheaper as the gold price sunk, which makes them even more attractive to the seniors.

“Valuations have been pushed so low they’re nearly at record levels,” says Holmes. “This means you’re going to start seeing more and more of them gobble each other up ... that is why we’ve seen take-outs at 60 per cent, 80 per cent, 120 per cent premiums.” Eldorado Gold recently bought European Goldfields for a 56 per cent premium, a trend Holmes thinks will continue in 2012.

Jeb Handwerger, editor of GoldStockTrades.com, recommends International Tower Hill in Alaska as a good way to play this take-out theme. International Tower Hill has what big miners want – 100 per cent ownership of the 20th-largest gold deposit in the world, Livengood. It ranks in the top 2 per cent of gold discoveries over the past 20 years. The mine could produce an average of 562,000 ounces of gold over a 23 year life, delivering 664,000 ounces of gold during the first five years.

The company has seven more years of feasibility work, permitting and construction ahead of it before it will start producing gold. Although it has $116-million in cash and no debt, its capital costs will still reach $1.6-billion – all preproduction cost. Costs might be helped, however, by a new development. Tower Hill recently bought the land rights to an area near Livengood originally used for placer gold mining – gold that was originally at Livengood but has been moved over decades by rain and now lives in valleys at the base of the deposit. Tower Hill now owns that land.

Due to the concentration of gold, the grade is three to four times higher than the average grade at Livengood, according to the company. Tower Hill is working on a preliminary economic assessment which will provide cash costs and production capability, but the company now has the ability to become an overnight producer and use the cash to fund construction and production at Livengood. This might eliminate the need for Tower Hill to issue shares to raise cash and might make it even more appealing for a major searching for gold.

Rick Trotman, senior research analyst at MLV & Co, is looking at gold stocks in a different way. One of the companies he recommends is Royal Gold , a gold royalty company. The company gives money to a miner to help with financing and gets a portion of the gold over the life of the mine. The company also has a streaming option where it puts less money upfront and then buys gold over the life of the mine at a low fixed rate such as $400 an ounce. One of these streams at the Mt. Milligan mine owned by Thompson Creek Metals just increased from 25 per cent of its gold production to 40 per cent in exchange for $270-million with $112-million given on signing and the rest over time through 2013.

“Cash costs and margins are key for miners,” says Trotman and Royal Gold avoids those mining risks while still taking advantage of high gold prices.

To be sure investing in gold right now comes with risks. As investors continue to deleverage in the midst of a European debt crisis, they could continue to sell euros for dollars which could continue to hurt gold. Gold really needs the crisis Europe to ebb in order to mount another big rally, but it doesn’t mean there aren’t significant buying opportunities along the way.

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