The gold miners’ stocks have suffered something of a lost year, with this small contrarian sector largely overlooked. Investor apathy remains high despite miners’ soaring earnings fueled by much-higher gold prices. But 2023’s unusually-subdued gold-stock price action was driven by several major anomalies that have run their courses. As markets normalize in 2024, gold miners have lots of mean-reversion rallying to do.
Christmas is a time of reflection, looking back on the challenges, blessings, and triumphs experienced over a long year. Like pretty much everyone, my family and I have had plenty of all three. 2023’s gold-stock performance is definitely in that challenges category. With this year winding down, the leading GDX gold-stock ETF has merely rallied 7.3% year-to-date. That’s really-poor performance compared to gold itself.
Despite spending the middle half of 2023 grinding sideways to lower, gold has enjoyed a solid year with 11.4% gains. Typically the major gold miners dominating GDX see their stock prices amplify material gold moves by 2x to 3x. So GDX should be up about 23% to 34% YTD, not just a third to fifth of that at terrible 0.6x upside leverage! To be worthwhile investments, gold miners need to outperform their metal.
They bear many additional risks beyond gold price trends, which traders need to be compensated for. Gold stocks’ vexing lagging is newer, they were quite strong in the first third of 2023. By mid-April, GDX had surged 25.0% YTD outpacing gold’s parallel 11.8% rally by a normal 2.1x. Those were parts of larger uplegs born in late September 2022, which clocked in at 63.9% and 26.3% gains respectively for 2.4x leverage.
Gold stocks really started decoupling from gold mid-year, and haven’t yet regained normal levels relative to the metal that drives their profits. Several anomalous market conditions contributed, including general stock markets’ artificial-intelligence bubble, elevated Fed-rate-hike fears, and a resulting monster bear rally in the US Dollar Index. All three weighed on gold demand, forcing the metal to consolidate for five months.
Gold has always been the leading alternative investment, the ultimate portfolio diversifier. Investors are most interested in prudently diversifying their stock-heavy portfolios with counter-moving gold when stock markets are struggling. But when they are soaring to lofty levels fueling universal euphoria, diversification is forgotten. The AI bubble mostly ballooned from early January to late July, with the S&P 500 soaring 20.5%!
Remember your first experience with ChatGPT earlier this year? The AI hype for these large-language models was extreme. My wow moment was asking ChatGPT to write a short story for my kids, specifying a genre, hero, and backdrop. The result was so impressive I printed it out that day and read it to them at dinner. Some of my and my wife’s friends started using ChatGPT for work, greatly improving their writing.
Gold didn’t slouch during that AI bubble, rallying 7.2% in that span. But man the gains in market darlings led by NVIDIA were astounding. From early January to mid-July, that stock skyrocketed 233%! Demand for its repurposed graphics-processing chips that also excel in AI applications was off the charts. Gold and its miners’ stocks are largely forgotten during stock-market bubbles, they can’t compete for excitement.
While AI is here to stay, the extreme hype surrounding it has passed. The bloom is off the rose on AI actually improving corporate earnings. While LLMs like ChatGPT can do impressive things, they are ultimately bullshitting machines. Computers string together pleasing grammatically-perfect prose, but have no idea what they are writing! They can’t think, and often give factually-untrue answers on specific questions.
These so-called “hallucinations” are rampant, greatly limiting the real-world utility of AI responses. For humans, intelligence requires long experience, wisdom, and discernment enabling us to understand crucial context and relevant relationships. AI chatbots just stitch together seemingly-related information from their vast databases that might not be at all. It’ll be years before AI substantially boosts corporate profits.
Like all stock-market bubbles, this year’s AI one faces a mean-reversion reckoning. In late July when the S&P 500 originally crested, all its elite companies averaged 30.5x trailing-twelve-month price-to-earnings ratios. Entering December, those were still running 28.3x which remains in formal bubble territory over 28x! These still-lofty stock markets need to seriously sell off in 2024 to normalize dangerous overvaluations.
NVIDIA’s epic 229% YTD run is one reason the S&P 500 just surged to new higher highs well above its late-July AI-bubble peak. But NVDA faces mounting headwinds as other chipmakers ramp up competing AI processors. This past summer, NVIDIA was selling its H100 GPU accelerators which only cost about $3k to manufacture for $25k to $30k each! Those shocking profit margins will collapse in 2024, hitting this stock.
And again stock-market weakness is great for gold demand, helping investors remember the wisdom of diversifying their stock-heavy portfolios. As goes gold, so go the gold stocks typically with that 2x to 3x leverage. As this chart shows, both gold and GDX crested this past spring right around when the AI exuberance was shooting into overdrive. That distraction helped drive healthy rebalancing corrections in both.
The AI bubble wasn’t the only anomalous market condition that retarded gold demand in 2023, keeping gold miners out of favor. Another summer one was soaring expectations for more Fed rate hikes both this year and next. Both stronger-than-expected key US economic data and top Fed officials’ forecasts for their federal-funds rate drove that. My essay last week on Fed dots spurring gold analyzed all that in depth.
Back in mid-July leading into that AI-bubble peak, GDX was still holding its own up 13.8% YTD. The major gold stocks were doing much better then than this week’s +7.3%. Then in late July, an unusual huge upside surprise in US GDP data really ramped Fed-rate-hike odds. That accelerated a healthy US-dollar bear rally to massive proportions, unleashing withering extreme gold-futures short selling in August.
Gold dropped 1.3% that month, fairly resilient with the US Dollar Index blasting 1.7% higher. But the incessant more-Fed-rate-hikes-looming talk really scared gold-stock traders, who hammered GDX down an ugly 6.8% that month! That extreme 5.1x downside leverage highlights the magnitude of gold stocks’ decoupling from their metal. Then those anomalous market conditions actually accelerated in September.
The USDX’s mighty bear rally soared another 2.5%, slamming gold down 4.8% which GDX amplified to an 8.1% monthly loss! Traders were worried about top Fed officials’ higher-rates-for-longer jawboning, which was solidified in late September’s FOMC meeting. There these policymakers boosted their year-end-2024 FFR projections by 50 basis points to 5.13%. That really deepened the gold and gold-stock selling.
By early October what started as healthy rebalancing selloffs in gold and GDX extended to much-bigger losses. Gold fell 11.3% in 5.1 months, formally ending its previous upleg. Major gold stocks amplified that by 2.5x with GDX plunging 27.7% in 5.5 months. That recent plunge wrought serious sentiment damage in this sector, leaving gold stocks even more out of favor. But it proved anomalous and short-lived.
The heavy gold-futures selling that drove gold lower mid-year wasn’t sustainable, as it largely exhausted speculators’ capital firepower on both the long and short sides. And after the FOMC had hiked its FFR an extreme 525bp off zero in just 16.3 months, that record hiking cycle had to be ending. Thus it was highly irrational for traders to keep forcing the USDX higher and gold lower on expectations for more rate hikes.
So the US dollar’s monster bear rally peaked shortly after in early October, soaring 7.3% since mid-July. That unleashed enough gold-futures selling to slam gold a proportional 6.9% lower. GDX plunged 19.0% in that span, leveraging gold’s downside a normal 2.7x. Just like the AI bubble, 2023’s other anomalous market conditions of surging Fed-rate-hike expectations and a resulting huge dollar rally won’t happen in 2024.
Last week top Fed officials walked back their year-end-2024 FFR projections by 50bp to 4.63% again. That implies three 25bp rate cuts in 2024! In addition after that FOMC meeting, the Fed chair himself came across as dovish. The most-widely-followed Fed watcher from the Wall Street Journal declared that a major dovish pivot. That changes everything going forward, which I again analyzed in my essay last week.
Mid-2023’s USDX surge and resulting heavy gold-futures selling resulted from traders expecting more rate hikes coming. All major US economic data believed to influence Fed officials’ decisions was viewed through that hawkish lens. But with that epic rate-hike cycle over and those Fed guys themselves now predicting a new cutting cycle, 2024 will have a very-different tenor. Traders have shifted dovish, seeing cuts.
All key Fed-influencing US economic data going forward will be interpreted from that perspective! As new monthly jobs, CPI inflation, PPI inflation, PCE inflation, and GDP reports are released, traders will focus on anything supporting Fed rate cuts. Major economic data often has internal crosscurrents, some things that are Fed-hawkish while others are Fed-dovish. These releases are like Rorschach inkblots, revealing biases.
While top Fed officials projected three 25bp rate cuts next year, traders upped their expectations to fully six! Anything seen as bolstering that outlook will lead to US-dollar selling and gold-futures buying. And of course gold stocks will mirror and amplify gold’s fortunes like usual. So 2024 is looking very different from this year with rate-hike fears gone and Fed officials’ higher-for-longer jawboning increasingly doubted.
Gold stocks are already starting to reflect this new Fed-dovish paradigm. This battered sector is regaining lost ground, with GDX rallying 18.8% from its deep early-October low as of mid-week. That’s 1.6x gold’s parallel 11.6% mean-reversion rebound, still light but improving. These new gold and gold-stock uplegs should really accelerate next year, with a couple more factors converging to drive outsized gains in 2024.
These are on top of stock markets’ AI bubble popping and US-dollar selling resuming as Fed-rate-cut expectations mount. They include new record gold highs really goosing investment demand and gold miners’ earnings skyrocketing. Together all this could easily make 2024 a mean-reversion overshoot to massive gold-stock gains. Next year gold stocks should surprise to the upside more than 2023 did to the downside.
With gold out of favor this year, investment demand has been anemic. But that should change fast with gold forging into new all-time-high territory. In early December gold surged to its first nominal record close in 3.3 years! At that point gold’s young upleg was still only up 13.8%, smaller by recent standards. Again gold powered 26.3% higher into early May 2023, and enjoyed monster 42.7% and 40.0% uplegs in 2020!
As gold continues climbing higher on balance and achieving more new records, investors will flock back. They love chasing winners, and nothing attracts them like new record highs stoking fear-of-missing-out greed. A couple weeks ago I wrote a whole essay on this powerful gold-record-momentum dynamic. The more records gold hits, the more investors notice it, the more capital they deploy, the higher gold rallies.
When such potent self-feeding virtuous circles of gold buying emerge, the gold stocks soar. The last time a gold upleg surged deep into new-record-high territory was mid-2020, when gold blasted 40.0% higher in just 4.6 months. That worked wonders for gold-stock sentiment, catapulting GDX up a gigantic 134.1% in only 4.8 months for awesome 3.4x upside leverage! Gold stocks could easily double again from here in 2024.
Adding to their appeal will be enormous profits growth. Right after every earnings season, I dig into the latest quarterly results from the top 25 GDX gold miners. Subtracting their average all-in sustaining costs from average gold prices yields an excellent proxy for sector profitability. The GDX-top-25 gold miners’ implied unit earnings in Q3’23 skyrocketed 94% to $622 per ounce! And the current Q4 is tracking even better.
While gold averaged $1,926 on close in Q3, Q4’s quarter-to-date is way higher at $1,967. And the major gold miners are mostly forecasting lower AISCs, even below Q3’s $1,304 which dropped 7.2% year-over-year. Their average full-year-2023 guidances in those Q3 results ran $1,256, which means Q4’s AISCs have to come in even lower to offset higher mining costs earlier this year. But let’s conservatively use $1,256.
That implies the major gold miners are now earning around $711 per ounce, 14.2% better than the prior quarter! Those would also be the best implied unit earnings since Q2’21, and blast another 53% higher YoY. Gold miners’ soaring profits leave their battered stocks even more undervalued fundamentally. And that should attract in way more institutional fund capital in 2024 as record gold prices capture investors’ attention.
Much-higher gold prices should persist going forward too. The primary reason gold has been valuable all throughout history is it is scarce and difficult to mine. Unlike fiat currencies, gold can’t simply be conjured into existence. The global above-ground gold supply grows around 1% annually, which is often an order of magnitude slower than major world currencies. And the world remains flooded with vastly more of them.
Major central banks including the Fed freaked out after March 2020’s brutal pandemic-lockdown stock panic. They redlined their printing presses flooding major world economies with vast deluges of new money. In the Fed’s case, it ballooned the US money supply an absurd 116% higher in just 25.5 months! Despite starting to shrink that through quantitative-tightening bond selling, the Fed’s balance sheet is still up 86%!
With the US-dollar supply still nearly doubled, gold needs to surge proportionally to reflect that. Prices of virtually everything else have, which is the raging inflation infuriating Americans. In February 2020 before all that, gold averaged $1,596. To merely normalize to the endless new US dollars printed since, gold would have to trade near $2,969! And that ignores vastly more euros, yuan, yen, pounds, and other dollars since.
Yes, 2023 was a lost year for gold stocks which was challenging psychologically. But market fortunes change fast, and 2024 is looking radically different on multiple important fronts. The major gold stocks of GDX have massive room to mean revert higher. Back in mid-April 2022 before the USDX shot parabolic on extreme Fed rate hikes, GDX hit $40.87 at $1,977 gold. A doubling from early October would surge near $52.
But as long-time readers know, I mostly avoid major gold stocks. The biggest gains during gold uplegs come in smaller mid-tiers and juniors with superior fundamentals. Better able to consistently grow their production, their stocks way outperform the majors. Smaller gold miners just reported one of their best quarters ever, and our newsletter trading books are currently full of great ones poised for massive gains.
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The bottom line is gold stocks just suffered a lost year. They lagged way behind gold in 2023, terribly underperforming. But that resulted from several anomalous market conditions that no longer exist heading into 2024. The AI bubble has peaked, Fed-rate-hike expectations have reversed to traders now looking for cuts, and the US dollar’s mighty bear rally has rolled over and died. So next year looks way different.
Gold is forging into new nominal record territory for the first time in several-plus years, which will really attract investors. As their momentum-chasing capital inflows accelerate gold’s upleg, gold miners’ stocks will quickly return to favor. They aren’t only battered technically, but cheap fundamentally with earnings exploding as gold powers higher. So gold stocks are set up for massive mean-reversion gains in 2024.
Adam Hamilton, CPA
December 22, 2023
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