Don’t Underestimate South Africa’s Gold Industry

May 26, 2011


By Humphrey Borkum, Chairman of JSE Limited

With gold reaching all time highs of over $1500 per ounce I was given to musing how the discovery of gold on the Witwatersrand and the development of those mines through joint stock company trading led to South Africa becoming the most prosperous country on the African continent.

However in the gold rush to the Witwatersrand in the 1880’s it was not the Johannesburg Stock Exchange alone that provided the capital for floating many of the mining companies. The JSE was established in 1887 but there were also many other stock exchanges dotted around South Africa at this time. These included the Cape Town, Kimberley, Durban, Pietermaritzburg, Barberton, Port Elizabeth, Pretoria, Potchefstroom and Klerksdorp stock exchanges. Capital was sourced mainly from the UK, France and Germany.

It was the richness of the main reef which extended from Randfontein in the west to Springs in the east that led to the commercial growth of Johannesburg and the ascendency of the JSE. One by one the other stock exchanges closed with Pietermaritzburg holding on until 1931.

Johannesburg in the 1880’s was an exciting place to be – a frontier town where many men with a gambling instinct came to seek their fortunes. This gambling instinct was an important factor because of the nature of the gold on the Witwatersrand. In previous gold rushes prospectors were mainly seeking alluvial gold. All they needed was a pick, a shovel and a prospecting pan or sieve.
The Witwatersrand was different. A man could dig out a lump of banket but then he needed to crush it to expose the gold and to do that economically a whole battery of mechanical stamps was required. As much of the reef ran underground early mining magnates like Barney Barnato, Alfred Beit, Cecil John Rhodes and J B Robinson bought up farms largely on instinct without knowing how much gold actually lay beneath the surface.

In November and December 1888 so feverish was the speculation in shares that fortunes were being made and lost in a day and the share prices bore no relationship to the gold supply. During business hours in the 1888/89 share boom The Star published editions every hour with the latest share prices. There were 750 stockbrokers in South Africa and 300 gold mining companies listed on the JSE.
Historically the price of gold remained remarkably stable for long periods of time. Sir Isaac Newton, as Master of the UK Mint, set the gold price at three pounds, seventeen shillings and ten pence per troy ounce in 1717 and it remained effectively the same for 200 years until 1914. In 1971 when the average gold price was $40 per ounce US President Richard Nixon took the US off the Gold Standard by unilaterally cancelling the direct convertibility of the United States dollar to gold and the market price has been free to fluctuate since then.

It has been a roller-coaster ride. In 1980 the average price of gold reached a high point of $615 per ounce primarily due to the Soviet invasion of Afghanistan whereas by the year 2000 the average price had dropped to $279. Five years ago in 2006 the average price was $603 per ounce and it rose through the financial crisis of 2008/9 to reach an average price of $1224 in 2010.

Many premises are put forward for the high gold prices at present including as a hedge against inflation, dollar weakness, the US budget deficit, European debt and the political upheavals in North Africa and the Middle East. China is absorbing increasing amounts of gold and there is always a great demand for gold from India where 12 million marriages are anticipated this year. At each marriage ceremony exchanges of gold are made.

However there is a perception that South African gold mines are not benefiting from the current upsurge in the gold price. Rand strength, electricity shortages, fuel and labour costs, deep mines and thinner grades are offered as explanations.

The price of gold bullion is volatile and to reduce this volatility some gold mining companies hedge the gold price up to 18 months in advance. This provides the mining company investors with less exposure to short term gold price fluctuations but reduces returns when the gold price is rising. Hedging was popular during the 90’s when the gold price was languishing around $350 per ounce. In this regard AngloGold Ashanti, for example, closed its hedgebook last year to take advantage of market prices.

My advice is don’t write off our gold mines too soon. If you know the history of gold mining in South Africa and what the mining houses have had to deal with in the form of strikes, market booms and crashes, wars, depressions and mining to new depths, you will realise that they are a tough and resilient bunch. Over the years technological innovations and a higher gold price have pushed many a mine into profitability. Our mining engineers are world renowed and South Africa has a better infrastructure than a number of the new areas where gold is now starting to be extracted.

Moreover, despite the near-meltdown of the Fukushima nuclear plant in Japan following the tsunami, it seems nuclear fuel will still be an important component for power in a future of low emission power generation. Thus, there will always be a demand for uranium which can be extracted as a by-product from our gold mines and their dumps.

SRI Index
When I first joined the JSE in 1968 no one was concerned about acid mine water, climate change or carbon tax. There was just no awareness of the fragility of our environment at that time. Now with the King III and other corporate governance guidelines I realise how important the JSE’s Socially Responsible Investment (SRI) Index is becoming. Increasingly our leading companies now see broad-based environmental, social and governance factors as part of normal business practice.

The JSE was the first bourse in the world to launch its own sustainability index. The base universe for the index is the FTSE/JSE All Share Index – the approximately 160 largest stocks listed on the exchange. These companies are eligible for the annual assessment and of these the top 100 are automatically assessed. The remaining small cap companies have the option to elect to be assessed. In the 2010 SRI Index review 74 companies, including all 13 mining companies , qualified for the Index out of the 106 that were assessed.

What struck me was that 32 companies were not included in the index because of the quality of their environmental policy and reporting. It would appear that the financial health of a company is no longer the sole criteria required for an annual report and that our leading auditing companies will increasingly have to train or employ environmental specialists if they are going to provide integrated audits.                                                                                                                  

This article first appeared in Business Report