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Cashed-up explorers turn off some mining investors over value

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A drill rig set up for gold exploration in Western Australia.
Source: Hexagon Energy Materials Ltd.

The cashed-up exploration sector has become a hard place for certain resource investors to find value, according to industry observers.

Joe Mazumdar is a partner with Exploration Insights who attended the Beaver Creek Precious Metals Summit in September, a virtual conference for exploration companies in the mining industry. Mazumdar said too many of the 40 companies he met with at the event were overvalued, making it hard to pull the trigger on investing, despite a handful of companies with interesting discovery potential.

"It was tough to select [companies] that had the right management team on the exploration side, the right asset and jurisdiction, and also, importantly, valuation," Mazumdar said. "Everybody's got money, some more than they need — a lot more than they need."

The exploration sector has fared well in 2020. The price of gold, which drives a lot of activity for smaller-cap exploration equities, has increased by about 25% in the year to date, propelling investor interest in companies that were out of favor. Likewise, the S&P/TSX Venture Composite Index, which is heavily weighted toward exploration companies and development companies that account for a significant portion of global exploration, has increased by about 22%.

Financings have also been on the rise, which is perhaps more telling for companies that largely rely on venture capital. Global junior and intermediate companies raised $1.48 billion in August, or $349.2 million more than the prior month, in an ongoing trend, according to S&P Global Market Intelligence research.

"The number of financings by junior and intermediate companies increased for a fourth consecutive month in August, to 310 from 297 in July, and the $1.48 billion raised was the highest amount raised since March 2014," Market Intelligence research analyst Robert Anders said in a Sept. 14 report. "With $6.21 billion raised to date in 2020, the year has now seen a higher total raised than the equivalent period of 2019."

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The influx of cash will drive new exploration while also providing funds for companies to test mine expansions, build resources at development projects and target riskier early-stage plays.

Peter Megaw, an exploration entrepreneur and chief exploration officer with MAG Silver Corp., told Market Intelligence that "savvy investors" understand there is a shortage of discoveries in the sector but that some exploration teams have been "quietly" advancing projects in anticipation of better markets. While the cash is now flowing, it is not always discriminating, he said.

"There's a lot of dumb money pouring in, too, that is going to the same old tired stories," Megaw said.

Brent Cook, a veteran resource investor and the former lead at Exploration Insights, echoed the sentiments expressed by Megaw and Mazumdar. Cook said the flow of funds to exploration had driven up valuations on overpromoted companies and drillhole plays. "I think it's highly variable as to whether a company or the market is overvalued or are fairly valued or undervalued," he said.

Patience and a break in the furious rise of the gold price may cool things off for a while, experts said. Gold was priced at $1,899.84 per ounce as of Sept. 30 after breaking through the $2,000/oz level in early August.

Kai Hoffmann, CEO of Oreninc, a boutique merchant bank that tracks exploration sector financings, said investors sitting on substantial equity gains may decide to sell positions due to the exploration market moving sideways amid the recent drop in gold prices, which could weigh on stock prices.

"Lots of them have been heavily promoted, and those promotions are not as effective anymore as they were at $2,000/oz gold," Hoffmann said.

Mazumdar said he was looking for such events to pull the trigger on certain company stocks he wants to buy but thinks are too expensive. He is waiting for potential pullbacks, perhaps spurred by metal prices, a general market correction or more idiosyncratic events, such as hold periods associated with specific financings expiring.

"There might be pressure on the stocks later in the year," Mazumdar said.