Contributed Commentaries
Gold Stocks Continue to Frustrate and Confuse Investors
Kitco Commentaries | Opinions, Ideas and Markets Talk
Featuring views and opinions written by market professionals, not staff journalists.
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Since early 2017, precious metal miners have not risen along with U.S. equites, crypto’s, and pot stocks. Yet when these high flyers were aggressively sold recently, gold stocks have been sold in unison with all three. As I type this missive, the gold price is trading just $45 from a major break-out of a nearly five-year base. Yet for the second time this month the GDX is again selling down towards critical support at $21, which has been tested five times since early 2017 and was visited in mid-December when gold was nearly $100 lower.
One of the primary attributes that makes gold stocks so attractive to investors is the fact that costs do not change much regardless of prevailing gold prices. According to mining analyst Adam Hamilton, quarterly major gold miner average all-in sustain costs (AISC) within this gold upswing since late 2015 have been averaging $866 per ounce. At present, there is a giant disconnect between the price of gold and the stock prices of the miners, especially when considering the margins of the miners doing so well because they have had to keep their costs low.
The profit margins of the global miners are now twice as high as they were when the GDX was trading just 25% lower than it is trading today. At the end of 2015, the major miners were only making $225 net of AISC and now, it’s more than double that at over $460, yet the miners haven’t rallied.
I believe a big reason for this is the huge short position now existing in the GDX. According to Fred Hickey, who is a frequently cited expert on Bloomberg News and Barron's Roundtable, the GDX short position is now 55 million shares. And since the major miner ETF is a barometer for the entire mining space, this 20% short position has kept pressure on the junior sector as well. In March of 2017, the GDX had 510 million shares outstanding and just a week ago, it was 40% lower at 310 million.
I feel this huge disconnect has continued in the entire miner space due in part to many sector investors being duped into selling by this large GDX short position keeping pressure on the global miners. The entirety of the gold stock space represents less than 1% of the combined global investible equity space and the entities which control these short positions have the ability to borrow at very low levels, due to central banks keeping rates artificially low. This means they can play games with this sector and keep participants frustrated and confused until their collective short position continues down to levels where they are forced to cover due to market irrationality extremes.
As long as the gold price remains below $1375, this huge short position in the GDX may continue to coerce miner speculators into selling their positions to value investors who are awaiting the inevitable - a short-cover move which will usher in a new miner bull market. In order to cash in on a short position, the owner must buy back the short to collect his/her profit and this is why most major lows in this sector begin with a high-percentage move to the upside. A big short-cover move, when combined with large amounts of value-based buying, culminates in huge upswings within a relatively short period of time in this tiny sector. Witness the previous short-cover based run in the GDX, which sent it zooming up 180% in just six months in the first half of 2016.
I can only hazard a technical guess as to what level the short-cover move may begin, which could possibly take place at the December 2016 low around the $18 region in the GDX. We had a glimpse of some short-covering when the major miner ETF became very oversold at critical support on the daily chart. This coincided with the ending of the panic selling in the U.S. market on February 9th. However, after a bounce back to the $23 resistance level, the GDX is back to under-performing with rallies being sold into, despite the move higher in the U.S. stock market and a sideways consolidation in bullion.
Unfortunately, this gold/miner dichotomy has happened historically with regularity in the gold space, then the miners sling-shot higher once the shorts are forced to cover. Since 1939, there have been 14 triple digit percentage moves up in gold stocks, with the majority of these advances happening within a 6 to 7- month time-frame. I believe there is a high probability of a sling-shot move set-up taking shape at this time in the gold space. When you combine this possibility with the already extreme miner undervaluation in relation to the gold price, positions taken in quality juniors during this sell-off could see massive gains in a short period of time. With this in mind, I will continue to hold my positions with a bit of cash until we see the inevitable short-cover bottom.
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