In 2015, I stated many times that the bottom in gold would be hit very soon, and that the profits made off of those lows would be enormous. My focus was always on buying the precious metal stocks, as that was where the real gains would take place.
In early January 2016, I forecasted that the bottom was just a few weeks to a few months away in the gold and silver miners, and I was starting to load up.
Last year was one of the best years I have had in the market, right up there with the 2009-2010 gains when I bought a significant amount of tech stocks at the bear market lows (along with some precious metal shares as well). I believe that last year’s profits in the gold and silver sector were just a taste of what’s to come.
Many investors completely ignored the space from 2015 through much of the first half of 2016 – missing out on the absolute bargains and huge returns in the mining shares. However, I believe now those investors have a second chance, as gold, silver, and the miners are once again offering up very attractive entry points and massive upside still remains. The only question is, will these same investors repeat their mistakes again by shunning one of the cheapest sectors in the market?
Just A Normal Correction
The SPDR Gold Trust ETF (GLD) hit a low back in December 2015. It proceeded to gain ~30% over the next 7 months – a clear sign that the vicious, 4.5 year bear market was over. However, since then, there has been a deep correction: GLD fell to 107 last December and has been struggling to get back to those summer highs.
Of course this is creating a significant amount of fear and anxiety in the market, as the shorts are proclaiming that GLD (and the entire sector for that matter) is going back down the late 2015/early 2016 lows again. Even worse, longs seem to be listening.
The HUI (a gold miners index) has been hit especially hard, as it has declined by almost 35% from the peak last year. Even though the index hasn’t retested the January 2016 lows, the level of bearishness today feels similar to what it was back then. It certainly seems that most investors don’t believe the sector is in a bull market.
However, what’s occurring now in the precious metals and mining shares isn’t out of the norm, especially considering the gains that were realized in the first 8 months of the bull market. The HUI increased by almost 200% from the lows, that sort of price appreciation needs to be digested.
What many fail to realize is that bull markets usually start out this way. The first correction after the initial surge from bear market lows (in all markets and sectors) is often deep, volatile, and long in duration. It is designed to throw as many new bulls off as possible, and convince anyone bearish to continue to bet against the market. It’s a setup for maximum pain, both for the investors that sell out at the lows and those that stay short the market at that stage.
For example, in 2009, Seagate (STX) declined down to $2-$3 a share when the market was collapsing. After the lows were hit, it shot up to $15 over the next year. Then it began a protracted and volatile consolidation period that lasted 19 months. It was during that time when more that half of the gains from the lows were surrendered. I’m sure at that point many investors felt that the stock was going to retest $2 again. But the bear market was already long over, and the false breakdown/bear trap in October 2011 marked the end of the consolidation. The 2009 bottom was never touched (not even close). STX proceeded to increase from $7-$8 in the fall of 2011, to $25 just six months later. It eventually hit $50 as the bull market continued in the tech sector.
The 2001 bear market low in physical silver is another example. Silver bottomed out late that year, and over the next 8-9 months, it gained almost 30%. However, it then declined back down towards the lows and looked very shaky at that stage. Many investors were of the opinion that silver was still in a bear market and it would soon retest the bottom (possibly surpass it). Silver spent a whole year in a volatile trading range, always appearing as if it was on the verge of collapsing. But it was just simple consolidation before the real breakout would occur.
GLD, the HUI, and silver are going through a similar consolidation, and they will once again be off to the races very soon. There is still a chance that this correction could last a bit longer (more on this in a bit), but in 6-12 months it will be well in the past, and the sector should be on the move again as Phase 2 begins.
As a side note, silver could’ve had a false breakdown last week. We will have to see if that marked the low.
If we analyze a long-term chart of GLD, the current setup still looks very bullish. Back in 2015, my target low for GLD was 90-100. It ended up bottoming out right at 100. Since then we have had a higher low in December 2016 at 107, and as of today, GLD sits at 116-117 (another higher low). As long as that 107 level isn’t breached, the bullish setup will remain intact. Also notice that the monthly MACD for GLD is still positive, which is also a bullish sign. There is a clear consolidation pattern in an early stage bull market that is playing out right now, just like the other examples I showed above. In no way is this bearish. Quite the opposite in fact. As a side note, this could be labeled a continuation of the bull market that began in the early 2000’s, and 2011-2015 was a correction/consolidation as well. The chart below certainly supports that opinion.
Gold Stocks Showing Strength
Despite all of the negativity that is permeating throughout the gold sector – and the decline that has taken place in the HUI – many mining stocks are actually showing incredible strength. These stocks appear as if they want to launch higher, not plunge back down to the depths of the bear market.
Kinross (KGC) keeps hitting higher lows; it’s still well above December 2016 levels, and is triple from the January 2016 bottom. The 200-day moving average is also acting as support of late.
It’s a similar story for B2Gold: higher lows have formed and BTG is just above the 200-day.
Agnico Eagle (AEM) has recently declined below the MA (200), but in no way is this chart bearish at the moment. It would have to fall below $36 before the bullish outlook would change.
There are many other examples of bullish setups in place in the mining stocks. All of these are climbing that proverbial wall of worry.
Is The Correction Complete?
I don’t believe that GLD is going back down to 100, but it’s difficult to say when this period of consolidation will be complete. That’s the only thing I’m trying to decipher at the moment.
It’s been almost a year now since the sector peaked, and while this correction could drag on for longer, I very much lean towards a low forming sometime this month (we could have hit one already several days ago). July is typically very weak for the gold sector. Over the last 20 years, the HUI has closed out July higher than where it opened only 30% of the time. The average loss for the month is 3.1%. However, the weakest month is followed up by the strongest, as August usually will bring out the bulls. That momentum also continues through September.
If GLD breaks below 114-115, then there is more downside to this correction, but I believe 107 will still hold and we will get another higher low in the series. As for the HUI, as long as ~180 holds the setup is still very bullish in the short term. If it dips again under that level then it brings the December lows of 160-165 back into play. A retest of those levels would be normal for an early stage bull market. I wouldn’t be concerned about this sector unless those lows are taken out.
If GLD and the HUI do in fact break below those December lows, then it doesn’t change anything in terms of the long-term outlook; it just delays the upside momentum in the short to medium term. Instead of a more aggressive move higher in the market, it will be more of a sputtering start, where things take off low and trend sideways for a longer period of time. We will address that scenario should the market decline below key support. Right now, this is far away from occurring in the GLD and HUI (at least in terms of price).
A Second Chance
In summary, I believe this is just a correction/consolidation period in an early stage bull market. It’s been almost a year since the 2016 peak, and it would be unusual for this volatile, sideways, ping-pong type of pattern to last much longer. The charts still have bullish setups in place and appear as if they want to break higher, not lower. I expect GLD to surge higher over the next 6-12 months, and I continue to believe the best way to play this market is via the precious metal shares.
The silver lining for those that missed last year’s run is that gold and silver stocks have come down quite a bit from their highs (some more than others). The surge last year started at levels that were exceedingly bearish in terms of valuations. Companies were trading well below book value, and some had market caps that were just above the net cash on their balance sheet. Valuations expanded rapidly in the first half of 2016, but these mining companies were still trading at significant discounts to fair value.
Over the last 11 months, we have seen another contraction in valuations. They aren’t at January 2016 levels again (at least on average – a handful of stocks are back to those prices), but they are still bargains.
One other thing to keep in mind is that over the last year, several companies in this sector have seen big improvements in their balance sheets. Healthy cash flow from high metal prices, and dilution events from high stock prices, have boosted cash positions. That means that prices are even cheaper than they appear when you factor in the increase in Net Tangible Asset Value.
Many companies in this sector are well positioned for the future. Their current declining stock prices don’t tell the true story.
The bottom line: I expect a repeat of 2016 gains at some point in the not too distant future. This is a second chance for all of those who missed out on the first run.
The Gold Edge
If you would like to read more of my thoughts, ideas, and research on the gold sector, including which companies I believe are best positioned for outsized returns in this bull market, you can subscribe to The Gold Edge – my premium service here on Seeking Alpha.
Disclosure: I am/we are long KGC.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.