Gold Stocks Surge Back

The gold miners’ stocks surged back this week, blasting higher out of early-year weakness.  Those big-and-fast gains were fueled by gold’s own, which shot up without any news catalyst.  Seeing battered gold stocks showing signs of life has piqued traders’ interest, starting to shift sector sentiment back towards bullish.  These leveraged plays on gold have a long ways to run, as they remain technically-low and oversold.

Gold-stock trends are totally dependent on gold’s fortunes.  The miners’ earnings are highly levered to the yellow metal’s price changes, really amplifying its gains and losses.  That deep fundamental intertwining helps make gold-stock prices mirror and amplify gold’s own.  There’s a major psychological component to this infrangible link too, with traders most interested in buying the miners’ stocks when gold itself is rallying.

The leading sector benchmark is the GDX VanEck Gold Miners ETF, which includes the world’s major gold miners.  Their stocks and thus GDX tend to leverage material gold moves by 2x to 3x.  But they fared far better this Wednesday, with GDX soaring 7.2% on a comparatively-smaller 1.5% gold up day.  That made for massive 4.9x upside amplification, really outsized!  Leverage is also running a big 3.7x year-to-date.

This week’s surge extended young uplegs in this metal and its miners’ stocks that have been running since late September, largely in stealth-mode.  Gold climbed 6.7% in that span, which GDX amplified by 2.0x with a parallel 13.4% gain.  But with the precious-metals complex remaining low technically and generating little momentum-driven excitement, these mounting uptrends have been mostly overlooked.

Since gold is the key to gold-stock performance, I’ve written a lot about it over the past six weeks.  In mid-December I analyzed the apathy plaguing gold investment demand, starving this leading alternative asset of the capital inflows it needs to power higher.  But gold was still holding its own, weathering that month’s uber-hawkish Federal Open Market Committee meeting suffering virtually no technical damage.

The Fed not only doubled the pace of its quantitative-easing tapering, but top Fed officials tripled their rate-hike outlook to fully six federal-funds-rate increases in 2022 and 2023!  Hawkish dots have sunk gold in the past, unleashing furious hyper-leveraged gold-futures selling like back in mid-June.  Defying the naysayers, gold actually surged 3.3% out of that FOMC into year-end.  That drove GDX 6.4% higher, 2.0x.

In early January I discussed gold’s big breakout nearing.  For the past year-and-a-half or so, the yellow metal was squeezed into a giant pennant technical formation.  That was nearing a forced breakout as its descending upper-resistance and climbing lower-support lines converged.  Such continuation patterns usually resolve in the direction they were entered, which was strongly up in the case of gold’s mid-2020 flagpole.

Interestingly I got a lot of flak on that gold-upside-breakout analysis, as the metal was slammed that week when the minutes from that uber-hawkish mid-December FOMC meeting discussed starting quantitative-tightening monetized-bond runoffs early in the threatened imminent next Fed-rate-hike cycle.  But after a sharp-yet-short-lived hit, gold resumed grinding higher.  It is now right on the verge of that huge breakout!

Then last week I analyzed gold lagging inflation in a popular essay.  Because the Fed more than doubled its balance sheet since March 2020’s stock panic, conjuring up $4,630b of new money out of thin air, US inflation metrics are soaring to multi-decade highs!  Gold, the ultimate inflation hedge for millennia, hasn’t responded to that yet.  But it soon will, as gold’s epic 1970s multiplyings in the last huge inflation spikes proved.

These recent gold developments are really-bullish, but gold-stock investors and speculators alike largely weren’t paying attention.  With bearish herd sentiment festering since gold’s sharp futures-driven selloff in late November, traders were mentally-checked-out for the holidays.  So this week’s big GDX surge was a real wake-up call.  The left-for-dead gold stocks still have explosive upside potential in gold’s next upleg!

I’ve been professionally speculating in this small contrarian sector for over a couple decades now.  And the gold-stock setup today is certainly one of the most-bullish I’ve ever seen.  Sooner or later traders will catch on, and flood back into this neglected sector with a vengeance.  Establishing positions in excellent fundamentally-superior gold miners’ stocks before the herd figures this out will lead to fortunes being won.

With even heavily-lowballed headline US Consumer Price Index inflation now running up a super-hot 7.0% year-over-year, real returns in general stocks and bonds are deeply negative.  Despite that crazy 39.5-year inflation high driven by the Fed’s radically-unprecedented extreme money printing, American stock investors have virtually zero gold exposure.  They will ramp that dramatically as stock markets roll over.

Exiting 2021, the combined holdings of the leading-and-dominant GLD and IAU gold ETFs were worth less than 0.2% of the total market capitalization of the elite S&P 500 stocks!  After years of extreme Fed quantitative easing artificially levitating these stock markets, prudent diversification with counter-moving gold has withered away to nothing.  For centuries 5%-to-10% gold allocations have been recommended.

And the Fed mushrooming its balance sheet by an insane 111.3% in just 22.6 months has forced stock-market valuations way into dangerous bubble territory.  Those S&P 500 stocks’ trailing-twelve-month price-to-earnings ratios entering January were averaging 33.6x earnings!  These wildly-overvalued stock markets will crumble as the FOMC launches its imminent threatened rate-hike cycle and QT bond runoffs.

Gold is essential for all investment portfolios because it tends to rally when stock markets weaken, acting like portfolio insurance.  As of mid-week, the S&P 500 had dropped a sharp 5.5% from its latest all-time-record high on 2022’s first trading day.  In that same span, despite that FOMC-minutes-QT selloff, gold still climbed a strong 2.2%.  GDX leveraged gold’s gains by a solid 2.3x, surging 4.9% during that time.

On Tuesday and Wednesday this week alone, the S&P 500 plunged 2.8% as bond yields blasted higher on looming Fed rate hikes.  Gold countered that with a 1.3% gain, which GDX amplified to 5.9% making for outsized 4.4x upside leverage!  As treacherous as this brittle Fed-levitated stock-market environment is, investors should be running 20% gold allocations along with an additional similar fraction in great gold stocks!

The gold miners’ allure today isn’t just riding gold’s coming massive upleg fueled by the worst inflation since at least the early 1980s.  They are also deeply-undervalued fundamentally, earning money hand over fist with these relatively-high prevailing gold prices.  After every quarterly earnings season I dig into the latest results reported by the GDX gold miners.  Those remain Q3’21’s, as Q4 reporting hasn’t started yet.

Even with gold racked by periodic bouts of heavy-to-extreme gold-futures selling on Fed-tightening fears during that quarter, the GDX gold miners were earning massive profits of $704 per ounce!  That was the difference between prevailing gold prices and miners’ average all-in sustaining costs.  Those sector earnings were still the sixth-highest on record, after the five preceding quarters.  Gold mining is very lucrative.

In conventional TTM P/E terms, most of the GDX gold miners were averaging cheap multiples of 19.8x.  Eight of GDX’s 25-largest component stocks traded in the teens, while another five were dirt-cheap languishing at single-digit P/Es!  That strong profitability is going to continue into Q4’21’s coming results.  Despite the silly Chicken-Little sentiment, gold’s $1,796 average close in Q4 was slightly better than Q3’s $1,789.

Even after GDX’s spectacular 7.2% daily surge midweek, the gold stocks remain really-low technically still in oversold territory.  This chart superimposes GDX and its key technicals over an overboughtness-and-oversoldness gauge called the Relative GDX or rGDX.  I created the underlying Relativity Trading system nearly two decades ago, which recasts prices as comparable multiples of their key 200-day moving averages.

These 200dmas prove ideal technical baselines, moving slowly enough to gradually reflect changing prevailing price levels.  Over time prices divided by their 200dmas tend to form horizontal trading ranges.  Here GDX’s 200dma is flattened to 1.0x, while rGDX multiples meander around that in red.  The gold stocks have been mostly oversold for about a year now, forming a giant technical base for a massive upleg.

Relativity trading ranges are defined based on the last five calendar years of multiple data.  In GDX’s case, that is currently running between 0.80x to 1.35x.  Gold stocks are oversold when GDX is bludgeoned near or under 0.80x its 200dma, and overbought when they surge around 1.35x above it.  Gold stocks haven’t been extremely-overbought since way back in August 2020, after GDX’s last enormous upleg.

Over 4.8 months out of that March 2020 pandemic-lockdown stock panic, GDX skyrocketed 134.1% higher!  Those huge gains were fueled by gold’s parallel massive 40.0% upleg in that span, making for big 3.4x upside leverage to gold.  Such colossal and fast gains naturally spawned universal greed and euphoria, so a healthy correction was necessary to rebalance sentiment.  That indeed happened into March 2021.

After that rebalancing gold started powering higher again in a solid young 13.5% upleg by June, which GDX was starting to leverage with a 28.4% gain or 2.1x.  But that gold upleg was prematurely truncated mid-month when gold-futures speculators freaked out about Fed officials predicting maybe two rate hikes way out into year-end 2023!  Fearing that Fed-rate-hike cycles will hammer gold makes no sense historically.

Since 1971 the FOMC has executed fully twelve rate-hike cycles, three or more consecutive increases in its federal-funds rate.  Gold’s average absolute gains across the exact spans of all dozen were +26.1%.  In the seven where gold rallied, its average gains were an awesome +54.7!  In the other five where gold slumped, its average losses were an asymmetrically-small 13.9%.  Two key factors drove gold’s performances.

Gold fared best during Fed-rate-hike cycles when it entered them relatively-low technically and they were gradual.  Both conditions are true today.  Gold has largely consolidated sideways since mid-2020, and is back down near its 200dma.  And the FOMC can’t risk hiking more than a quarter-point per regularly-scheduled meeting in the coming thirteenth modern hiking cycle without tanking bubble-valued stock markets.

The rGDX plunged into extremely-oversold territory twice in this past year, starting with 0.825x climaxing gold stocks’ last normal bull-market correction in early March.  Then in late September when gold-futures speculators’ supremely-irrational Fed-tightening hysteria peaked, GDX was again battered back down to just 0.838x its 200dma.  After being mostly oversold for about a year, gold stocks have big room to soar higher.

They remain relatively-low technically today, which explains the recent bearish sentiment plaguing this high-potential sector.  GDX has been trading near mid-2019 levels despite much-higher prevailing gold prices.  From June to September 2019, gold and GDX averaged closes of $1,447 and $27.00.  From September to December 2021, these averages climbed 23.8% and just 17.5% to $1,791 and $31.71.

Remember GDX tends to amplify prevailing gold trends by 2x to 3x, implying GDX should have been running between roughly $40 to $46 per share in recent months!  That’s where this leading major gold miners’ ETF needs to mean revert back up to.  Those are big gains from midweek $33ish levels.  To hit that extremely-overbought warning at 1.35x its depressed 200dma, GDX would have to soar back over $45.

Including mid-2021’s FOMC-stunted dwarf upleg, GDX’s five uplegs so far during this secular gold bull have averaged massive 85.0% gains!  To merely do that again out of late-September’s latest major interim low, GDX would have to power all the way above $53!  So despite gold stocks’ strong surge this week, their upside potential remains enormous.  This young upleg has a long ways to run yet before it matures.

And GDX is certainly not the best gold stocks have to offer.  The smaller mid-tier and junior gold miners are generally fundamentally-superior to the majors, achieving much-bigger gains during gold uplegs.  Not only are their much-lower market capitalizations way easier for capital inflows to drive higher, but they are able to achieve much-better production growth off smaller bases.  Their upleg gains usually trounce those of GDX.

So the battered gold stocks have a super-bullish setup today on multiple fronts.  While traders noticed GDX’s powerful 7.2% up day this week, they aren’t yet convinced and thus haven’t yet started redeploying en masse.  But as gold continues powering higher on balance on this intractable monetary and inflation disaster the profligate Fed has spawned, the gold miners’ stocks will increasingly return to favor and soar.

The biggest beneficiaries of much-higher gold prices ahead are those fundamentally-superior mid-tier and junior gold stocks.  They rallied sharply with gold into mid-November, but were dragged back down to their stop losses by another bout of heavy gold-futures selling.  Our stoppings averaged out to neutral, fully recovering our capital.  So we’ve been aggressively redeploying buying back in low in our newsletters.

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The bottom line is gold stocks surging back again confirms a young upleg underway.  This long-overdue next bull run higher has big potential to grow enormous.  Gold-stock sentiment has been overwhelmingly-bearish in recent months, fueled by this sector’s battered technicals.  Yet the gold miners are still earning money hand over fist with relatively-high prevailing gold prices, and generally trading at cheap valuations.

Gold-stock prices have fallen well behind gold’s despite one of this metal’s most-bullish setups ever.  Gold prices have yet to respond to the raging inflation unleashed by the Fed’s epic money printing.  The last time inflation ran this hot in the 1970s, gold skyrocketed by multiples in response.  Gold stocks will soar in the coming powerful gold upleg driven by inflation-fear-fueled portfolio-diversification capital inflows.

Adam Hamilton, CPA

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