The gold miners’ stocks have been grinding sideways for several weeks, after getting whacked by mid-June’s hawkish Fed surprise. While this low drift has really stoked bearish sentiment, the gold stocks are winding up like a coiled spring. Their strong technicals and fundamentals are storing big upside energy, which should soon fuel a sharp rebound rally. Traders will rush back in as gold stocks start surging again.
Gold-stock psychology remains really impaired, with fear and apathy reigning. That ignited at the latest FOMC meeting in mid-June, and has been festering ever since. As expected the Fed did nothing, leaving both its zero-interest-rate policy and $120b per month of quantitative-easing bond monetizations in place indefinitely. Both ZIRP and huge QE are the most-extreme forms of easing, super-bullish for gold and its miners.
But along with that nothingburger of an FOMC decision, the Fed released the latest unofficial federal-funds-rate projections from its individual top officials. Merely a third of those guys thought there might need to be two quarter-point rate hikes fully 2.5 years into the future, way out heading into year-end 2023. That so-called dot plot was more hawkish than expected, goosing the US dollar which scared gold-futures speculators.
So they puked out a massive amount of gold-futures selling, slamming gold 5.2% lower in just three trading days starting with that FOMC decision! I wrote a whole essay on that Fed gold-futures purge that week. As gold stocks are ultimately leveraged plays on the metal they mine, the leading GDX VanEck Vectors Gold Miners ETF collapsed 9.2% in that short span. That gutted confidence in this contrarian sector.
It really shouldn’t have though. The major gold stocks’ downside leverage to gold was just 1.8x on those hawkish dots. Normally GDX amplifies material gold moves by 2x to 3x. And as I explained that week, speculators’ gold-futures positioning going into that event pretty much guaranteed that selloff would be short-lived. These leveraged traders didn’t have the capital firepower available to sustain big selling for long.
That huge gold-futures purge indeed exhausted itself just two trading days after that FOMC decision. Gold’s closing low on the Friday after that Wednesday Fed meeting was $1,763, which has essentially held since. And GDX’s closing low of $34.13 in the immediate wake of the FOMC has proven reasonably solid too. While this primary gold-stock benchmark slumped 1.4% lower in late June, it quickly rebounded.
So the major gold stocks have been grinding sideways on balance ever since that ridiculous hawkish-dots surprise on the prospects of a couple rate hikes way out in the distant future. As a financial-newsletter guy, I hear from dozens of traders a day. Based on my e-mail flows since then, a sizable-if-not-large fraction of gold-stock traders are so discouraged they are either giving up and exiting or sorely tempted to.
That will likely prove a big mistake given the continuing super-bullish backdrop for the yellow metal and the companies that wrest it from the bowels of the earth. Since the March 2020 stock panic on all those pandemic lockdowns, the Fed has ballooned its balance sheet by an absurdly-extreme 87.4% or $3,767b! The US central bank has nearly doubled the US dollar supply in just 15.6 months, ludicrously unprecedented.
That hyper-inflationary money-supply growth means far more dollars are available to compete for and bid up gold. Its own global mined supply only grows on the order of 1% annually, vastly slower than not just the US dollar’s mushrooming but all other major fiat currencies’. The Fed deciding to gradually taper QE, which is merely slowing money’s rate of increase, doesn’t even start to unwind all that astounding inflation.
Thanks to that violent purge, speculators’ gold-futures positioning is now super-bullish for gold in coming weeks and months. They’ve exhausted their likely selling potential, leaving little room to dump more but massive room to buy back in. And gold investors have largely ignored those hawkish dots, resisting being spooked into selling by gold’s sharp plunge in mid-June. They’ll resume buying as gold mean reverts higher.
While you wouldn’t know it from all the whining in gold-stock land, both their latest upleg and secular uptrend remain intact. This chart shows GDX over the past several years or so, superimposed over a technical indicator called the Relative GDX. It looks at this gold-stock benchmark as a multiple of its key 200-day moving average, which reveals when this sector is overbought or oversold relative to its own precedent.
Before that distant-rate-hikes boogeyman roared, the major gold stocks dominating GDX were enjoying a young bull-market upleg. This sector benchmark had surged 28.4% higher in just 2.5 months, which had necessitated a perfectly-normal high consolidation to digest those big-and-fast gains. That happened for about a month before that fateful FOMC decision. GDX was trading at $37.59 on the eve of that meeting.
That was only down 5.3% from this upleg’s latest interim high of $39.68 achieved in mid-May. That is just pullback territory after a sharp surge, nothing worrying. In the month after that high-water mark, GDX had averaged a high and solid $38.90 on close. Such mid-upleg pauses to rebalance sentiment are healthy, preparing the way for the next surge higher. Gold stocks weren’t overbought leading into the FOMC either.
Over the past five calendar years, GDX has tended to meander between 80% to 150% of its 200dma. That is the current Relative GDX trading range. At most in early June well before those hawkish dots, this rGDX indicator had crept up to 1.075x. Historically gold stocks need to exceed 1.30x to even start looking overbought. Bull uplegs generally aren’t at risk of rolling over into corrections until the rGDX shoots over 1.40x.
The mission of trading is buying in relatively-low then later selling relatively-high to multiply capital. In rGDX terms, gold stocks should be bought when that indicator nears 0.80x. While gold stocks weren’t pummeled down that far, the Relative GDX has slumped as low as 0.927x in recent weeks. That is well into oversold territory, which means gold-stock traders should be rushing to buy instead of capitulating to sell low.
That post-FOMC gold-stock hammering on gold’s own also stopped right at the support line of GDX’s strong secular uptrend. At worst late last month, GDX had retreated 15.2% from this upleg’s latest interim high in mid-May. While definitely a severe artificially-boosted selloff, that neither torpedoed gold stocks’ latest upleg nor their longer-term secular uptrend. Both remain very much intact as this chart reveals.
So technically gold stocks are winding up like a coiled spring again, basing and storing upside energy that will rapidly be released catapulting them higher. The triggering catalyst will be gold rebounding on its own strong fundamentals. While gold-stock traders can sulk and ignore gold strength for a little while, it always soon attracts them back. Once gold stocks really start moving, traders rush in to chase the momentum.
The major gold miners’ strong fundamentals will add to the upside pressure on their battered stock prices. With Q2’21 just finished, the gold stocks’ earnings season will soon be underway. They generally report their latest quarterly results from three-to-six weeks after quarter-ends. This coming round should prove solid if not strong for several reasons. That will boost gold-miner earnings, pushing low valuations even lower.
While gold exited Q2 on a sour note thanks to that crazy distant-future-rate-hikes scare, it actually had a good quarter. The yellow metal averaged $1,814 on close in April, May, and June, which was 1.2% better than Q1’s $1,793. Gold miners’ profitability leverages gold price moves, so better gold prices drive much-better earnings. Those are the difference between prevailing gold levels and miners’ production costs.
The best measure of the latter are all-in sustaining costs, and they are likely to retreat in Q2 even as gold is advancing. The main reason is higher gold output. Gold miners tend to see big sequential production growth between Q1s and Q2s. And the more ounces yielded to spread mining’s big fixed costs across, the lower unit costs and the better profitability. This Q1-to-Q2 output boost is well-established empirically.
The best global gold fundamental data is published quarterly by the World Gold Council. It includes world mined-gold production. In the last 11 Q2s starting in 2010, total global gold mined surged an average of 4.6% sequentially from Q1 to Q2! That is a large jump for relatively-static mine output, and it is actually skewed low by Q2’20. Plenty of gold mines had to shutter a year ago due to national COVID-19 lockdowns.
Excluding Q2’20’s extremely-anomalous 5.9% sequential plunge, the world’s gold miners averaged huge 5.6% output growth from Q1 to Q2 in the prior 10 years! There are multiple reasons for this, mostly the result of lower Q1 production. Gold miners tend to schedule maintenance and upgrades in Q1s, which slows output as equipment is temporarily taken offline. Operations are back up to normal speed in Q2s.
Mirroring the world’s land masses, most of the gold mines are in the northern hemisphere. So winter and monsoon seasons can adversely impact operations in Q1s. Also gold deposits have varying ore grades, and mine managers often choose to feed lower-grade mixes through their mills in Q1s lowering gold output. They do this early in years because Q1s are a long ways from year-end bonuses based on share prices.
So lower Q1 gold production bounces back in Q2, driving big sequential output growth. Since most gold-mining costs are fixed, output and unit costs are generally inversely proportional. If the major miners’ gold produced surges 5% in Q2’21 from the prior quarter, their AISCs should be about 5% lower. Those averaged $1,067 per ounce for the GDX-top-25 gold miners in Q1, so 5% less would lop that down to $1,014.
That’s reasonable, fairly in-line with their past four quarters’ average AISCs of $1,029. For our purposes today, let’s assume the major gold miners’ all-in sustaining costs come in around $1,025 last quarter. That implies unit profits of $789 per ounce, which would be the third-highest on record! And AISCs could easily prove considerably lower further boosting earnings, as Q1’s were unusually high for temporary reasons.
So the gold miners’ fundamentals remain strong too, adding to their coiling spring of upside potential. A good-or-maybe-even-great Q2 earnings season would help attract traders back to this sector, bidding up gold-stock prices. Traders are going to increasingly realize it made little sense to flee for the exits after that mid-June FOMC meeting. A minority of Fed officials seeing rate hikes in the distant future doesn’t matter.
Within an hour after that latest dot plot’s release last month, the Fed chair himself warned to take the dots “with a big grain of salt” because those unofficial projections are “no great forecaster of future” rates. The examples of this are legion. When the Fed’s last rate-hike cycle kicked off in mid-December 2015, dots predicted four rate hikes in 2016. But only a single one happened, a full year later in mid-December 2016!
The ninth hike of that cycle came in mid-December 2018, when the dots forecast three more hikes in 2019 and 2020. Zero of those came to pass! The dot plot is a notoriously-inaccurate short-term rates indicator, and looking years into the future it is utterly worthless. Mid-June’s gold-futures purge and the resulting gold-stock plunge sparked by more-hawkish-than-expected dots were completely unrighteous.
The gold-stock low grind since has dragged some trades back to their stop losses, which were elevated in this young upleg’s fast progress into mid-May. That bumpy ride certainly contributed to today’s bearish sector psychology. But the gold miners’ stocks still look really bullish technically and fundamentally, as does the metal they mine. So this summer swoon should be viewed as a nice contrarian buying opportunity.
The great tragedy of the markets is most traders do the exact opposite of what they should, buying high in greedy excitement then later selling low in fear. Millennials loved bitcoin as it rocketed higher in March and April, aggressively buying as it blasted over $60k. But as it plummeted under $35k since, their interest collapsed. Gold stocks are the same, crowded into when they’re strong then abandoned when they’re weak.
Buying in relatively-low when few others want to is how prudent traders multiply their wealth in this volatile high-potential sector. This gold-stock bull’s previous four uplegs have averaged massive 99.2% gains in GDX terms over 7.6 months! Smaller fundamentally-superior gold stocks have fared much better. So anomalous gold-stock weakness like this Fed-spawned plunge should be aggressively bought, not feared.
While we’ve taken our lumps in stoppings thanks to this silly hawkish-Fed-dots scare, we’ve redeployed to keep our newsletter trading books full. When gold and its miners’ stocks are beaten-down while both their technicals and fundamentals remain very bullish, big gains are coming soon. Such price disconnects spawned by sentiment birth and rekindle major uplegs. Smart traders are fighting the crowd to stay in or get in.
At Zeal we walk the contrarian walk, buying low when few others are willing before later selling high when few others can. We overcome popular greed and fear by diligently studying market cycles. We trade on time-tested indicators derived from technical, sentimental, and fundamental research. That has already led to unrealized gains in this current young upleg as high as +66.5% on our recent newsletter stock trades!
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The bottom line is gold stocks are coiling again in the wake of that hawkish-Fed-dots scare. While that unjustified gold-futures purge slammed the miners, their technicals and fundamentals remain strong. The gold stocks’ post-FOMC plunge proved mild compared to gold’s, and their upleg and longer secular uptrend remain intact. The gold miners are also likely to report good-to-great Q2 results in the coming weeks.
They should see their usual big sequential production boost from Q1, lowering unit costs proportionally. That along with higher prevailing gold prices should fuel strong earnings. Gold ought to resume powering higher on balance too, as speculators’ gold-futures positioning is super-bullish and the Fed continues to print money like crazy. This makes for excellent and building upside potential for the gold miners’ stocks.
Adam Hamilton, CPA
July 9, 2021
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