Gold-Stock Upleg Breaking Out | Adam Hamilton
by Adam Hamilton January 4, 2019
The gold stocks’ young upleg is really growing, on a trajectory to become major. This contrarian sector is breaking out to the upside on multiple fronts technically, which is really improving sentiment. Traders’ extreme bearishness of late summer has mostly abated, with bullish shoots taking root. Fundamentals certainly justify the mounting gold-stock buying, with earnings set to surge on higher gold prices in coming quarters.
This baby new year should prove far happier for gold stocks than 2018. This sector’s performance is measured by the share price of the flagship gold-stock investment vehicle, which is the GDX VanEck Vectors Gold Miners ETF. This week it held shares worth $10.5b in 46 major and mid-tier gold and silver miners from around the world. GDX is now 60.1x larger than the next-biggest 1x-long major-gold-miners ETF!
2018 was rough for the gold miners, with GDX slumping 9.3%. Weaker gold prices were to blame, as gold is the dominant driver of gold-mining earnings. While the yellow metal recovered to a mere 1.6% loss last year, it slumped much lower in late summer. By mid-August extreme record gold-futures short selling had pummeled it down 9.9% year-to-date. That eviscerated gold-stock psychology, scaring traders out.
The major gold miners’ stocks suffered a brutal forced capitulation in that gold low’s wake as stop losses were triggered leading to cascading selling. So by mid-September, GDX had cratered 24.4% YTD. This bloodbath really turned traders off from this small contrarian sector. But as I warned just days later back in mid-September near the lows, that extreme selling heralded the birth of a major new gold-stock upleg.
GDX has indeed powered higher on balance ever since, rallying 20.0% in 3.4 months by Christmas Eve. That was fueled by the roughly-parallel young gold upleg that climbed 9.3% by the middle of this week. Things are really looking up for the gold stocks. Investors and speculators alike are starting to remember the big upside this small sector enjoys in major uplegs. Key breakouts are confirming one is underway.
Several weeks ago I wrote an essay analyzing the imminent upside triple breakout in GDX. Closing at $20.12 that day, GDX was on the verge of surging back over $21. That is an exceedingly-important level for the major gold miners technically. This updated chart shows why, and reveals the gold stocks are now enjoying their longest and best-foundationed upleg in years. And it is going to grow a lot larger as gold rallies.
Three major upper resistance zones have converged at GDX $21. This was strong lower support for the gold miners’ stocks in a major consolidation basing trend that lasted for 21.5 months. It only failed in early August when gold was pounded by that extreme record futures short selling. Once they break, old support levels often become new resistance zones. Traders are wary to buy aggressively before they are overcome.
GDX $21 is also where the downward-sloping upper resistance line from gold stocks’ descending-triangle technical pattern has ended up. That connected the lower GDX highs that have vexed this sector since September 2017. The final and most-important resistance zone near GDX $21 is its key 200-day moving average. This essential line is usually the most-widely-watched by all the technically-oriented traders.
Market history has long shown 200dmas often prove the key dividing line between bull and bear markets. When prices surge back above their 200dmas after long periods underneath them, traders usually flood back in driving exploding upside momentum. 200dma upside breakouts often herald new bull markets or powerful uplegs within existing bulls. So GDX powering back over its 200dma is a major gold-stock buy signal.
While GDX has been meandering around $21 since Christmas Eve, that 200dma breakout has already happened! Since this leading gold-stock ETF’s 200dma is falling, the last time it was actually at $21 was in mid-November. This week the black 200dma line above has slumped to $20.72. A decisive breakout is 1% over that level. GDX achieved this milestone on December 18th, and has mostly maintained it since.
But with that 200dma still rounding to GDX $21, that is still the triple-resistance zone traders need to see left decisively behind. That critical upside breakout is happening before our very eyes! With GDX closing near $21.50, investors and speculators alike are going to consider the gold stocks off to the races. They will rush to buy and chase the upward momentum, accelerating it. This fuels major gold-stock uplegs.
The more capital traders deploy in gold stocks, the faster their share prices rise. The bigger their gains, the more traders want to buy. This virtuous circle of capital inflows has propelled past gold-stock uplegs to monstrous proportions. The last example of gold stocks powering higher out of major secular lows happened in largely the first half of 2016. The setup for that huge gold-stock upleg was very similar to today’s.
After being pummeled to a major secular low in mid-January 2016, selling was exhausted and buyers started to return. GDX began powering higher, spurred on by a parallel young gold upleg. GDX blasted up through its 200dma and capital flooded in. By the time that major buying ran its course, GDX soared an amazing 151.2% higher in just 6.4 months! Those kinds of returns are what give gold stocks their allure.
The necessary psychology to maintain that gold-stock momentum resulted from a relatively-minor 29.9% gold upleg in roughly the same span. The major gold miners of GDX leveraged and amplified gold’s gains by 5.1x! That was far better than the usual 2x to 3x because the gold stocks were so beaten down, trading atfundamentally-absurd levels when that upleg was born. Yet those huge gains still weren’t too exceptional.
Despite GDX’s mounting popularity as the leading gold-stock benchmark, this ETF is relatively new with a May 2006 birth. The previous secular gold-stock bull ran for 10.8 years, extending from November 2000 to September 2011. During that long span the classic HUI NYSE Arca Gold BUGS Index skyrocketed an astounding 1664.4% higher! The world’s most-hated sector today multiplied investors’ wealth by nearly 18x.
That was driven by a parallel 638.2% secular gold bull, which the major gold stocks of the HUI leveraged by 2.6x. The individual upleg cycles within that mammoth gold-stock bull show uplegs in this sector tend to be very large. Excluding the epic mean-reversion rebound out of late 2008’s first-in-a-century stock-market panic, the HUI enjoyed 11 normal uplegs. Their average gain was a staggering 80.7% over 7.9 months!
That last secular gold-stock bull offered traders 11 separate opportunities over 11 years to almost double their capital! So while GDX’s monster 151% upleg in H1’16 was definitely on the huge side, the last bull’s 81% average uplegs weren’t tremendously behind. When investment capital returns to gold stocks in a material way, their upside is massive. Today’s young GDX upleg could easily grow to 80%+ later this year.
Even a full-on doubling is fairly conservative considering how low gold stocks were hammered in early September’s cascading forced capitulation. GDX bottomed at $17.57 on September 11th, which was a deep 2.6-year low. A 100% gain from there would merely carry it to $35.14. That would be a new high for this gold-stock bull, as GDX last peaked at $31.32 in early August 2016. But GDX $35 is still relatively low.
Back in September 2011 as that last secular gold-stock bull crested, GDX peaked at $66.63 on close. It averaged $52.61 in the three full calendar years of 2010, 2011, and 2012. Gold-stock levels have been much higher on balance in the past. So seeing GDX double from its recent lows in this young upleg isn’t a stretch at all. And major gold-stock uplegs aren’t just a technical-buying-fueling-bullish-sentiment thing.
They are also supported by fundamentals. Gold-mining costs are essentially fixed during mine-planning stages. That’s when geologists and engineers decide which gold ore to mine, how to dig to it, and how to process that ore to extract the gold. Once hundreds of millions of dollars are spent to build the mines and mills, the mining costs generally don’t fluctuate much. Real-world data abundantly confirms this truth.
Every quarter I wade through the latest financial and operational reports of the top 34 GDX gold miners. They finished reporting their latest Q3’18 results in mid-November, which I painstakingly analyzed in an essay as usual. The top 34 GDX gold miners accounted for nearly 94% of this ETF’s total weighting. And their average all-in sustaining costs for producing each ounce of gold ran $877. That was right in line.
The previous four quarters’ top 34 GDX gold miners’ average AISCs came in at $868, $858, $884, and $856 averaging $867. So the major gold miners’ costs for producing gold don’t change much regardless of what the gold price is doing. Thus higher gold prices feed directly through to bottom lines in amplified fashion. Gold stocks’ earnings surge during gold uplegs, fundamentally justifying monster gold-stock gains.
In Q3’18 plenty of major gold miners actually reported that they expected AISCs to retreat in Q4’18 as production recovered out of various temporary setbacks. So I expect to see lower average AISCs among the top 34 GDX gold miners in their upcoming Q4 results. But let’s conservatively assume that Q3’18’s $877 average AISCs hold into Q4. Higher prevailing gold prices in Q4 portend bigger gold-mining profits.
The average gold price climbed 1.4% quarter-on-quarter in Q4 near $1228. That implies the major gold miners of GDX were earning $351 per ounce at $877 average AISCs. In Q3 the lower average $1211 gold price drove profits of $334 per ounce. So gold-mining earnings are likely to climb by at least 5.1% QoQ in Q4’18 results. That is 3.6x upside leverage to gold, so outsized gold-stock gains are righteous.
No one knows what gold will average in Q1’19, but I bet it’s going to be much higher than Q4’s $1228. Goldthrives during stock-market selloffs as investors remember diversifying their stock-heavy portfolios with alternative investments. And with burning stock markets rolling over into a young bear driven by full-speed Fed quantitative tightening, gold investment demand is likely to push gold higher for a long time to come.
But let’s assume gold does nothing on balance in Q1, and merely averages $1280 when the dust settles. That is still 4.3% higher sequentially from Q4. At $1280 gold prices and $877 AISCs, gold-mining profits in Q1 would run $403 per ounce. That is another 14.8% higher than Q4’s projected level, implying 3.4x earnings leverage to gold. As long as gold gradually climbs on balance, the gold stocks deserve to soar.
Because their profits surge much faster than gold, so do gold-stock prices. Gold stocks again tend to outperform gold by 2x to 3x during major uplegs. So if gold rallies 30%, GDX will usually power up 60% to 90%. The major gold miners’ stocks remain wildly undervalued relative to prevailing gold prices. Back in mid-October when GDX was just clawing back out of the $18s, I made that fundamental case in depth.
But while GDX is a fine sector investment vehicle with a lot to like, it’s not without its problems. In Q3’18 for example, the top 34 GDX gold miners saw their overall gold production retreat 2.9% year-over-year. The world’s 4 largest gold miners Newmont, Barrick, AngloGold, and Kinross suffered annual production drops of 2.0%, 7.6%, 14.6%, and 10.4% in Q3. Goldcorp’s plunged an anomalously-extreme 20.5% YoY!
These 5 major gold miners alone accounted for over 30% of GDX’s total weighting. Other gold miners among its top components are also struggling with production. While GDX has to own the biggest and best gold miners no matter how they are faring, their underperformance really drags down GDX’s upside. The biggest and fastest gold-stock price gains accrue in smaller mid-tier gold miners growing their production.
So instead of buying GDX, far better gains are highly probable from handpicking fundamentally-superior GDX-component stocks to own. These include mid-tier gold miners lower in GDX’s rankings that are still growing their production organically, or through new mine builds that recently came online or will soon be live. With plenty of great gold miners in this sector, investors and speculators have no need to hold laggards.
With GDX now enjoying a major upside breakout, massive new investment buying is coming. And the best gains by far will be won in smaller mid-tier and junior gold miners with superior fundamentals. While GDX itself will power dramatically higher despite the deadweight in its holdings, the better gold miners will generate much-greater wealth creation. Finding and owning these better gold-mining stocks is essential.
That’s one of my important missions at Zeal, relentlessly studying the gold-stock world to uncover the stocks with the greatest upside potential. The trading books in both our weekly and monthly newsletters are currently full of these better gold and silver miners. Most of these trades are relatively new, added in recent months as gold stocks recovered from deep lows. So it’s not too late to get deployed ahead of big gains!
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The bottom line is this young gold-stock upleg is growing. It is now surging in a major upside breakout that should unleash a flood of new buying. With gold climbing on balance too, everything is in place to fuel a major gold-stock upleg. That could easily portend a doubling in the major gold miners’ stocks from their recent deep lows. This sector’s technicals, sentiment, and fundamentals all support massive gains from here.
The higher gold stocks are driven, the more traders want to buy them to chase their outperformance. The more gold stocks rally, the more bullish sentiment becomes leading to mounting capital inflows. Higher gold prices justify all that fundamentally, as gold-mining profits leverage and amplify gold’s gains. This is the best gold-stock setup seen since early 2016, which led to GDX soaring 151% in just over a half-year.
Adam Hamilton, CPA January 4, 2019 Subscribe
