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Gold continues to climb a wall of worry into 2023

Commentaries & Views

After two years of consolidating huge gains made during the early stages of the pandemic in 2020, the gold price comes into the new year climbing another wall of worry. Gold's time-tested role as a safe-haven returned in late Q4 2022 and has been carried over to January with investors seeking shelter from what has been forecast to be another challenging year.

To begin 2023, Gold Futures have risen towards its next resistance level at $1880 after a Ukrainian strike on New Year's Eve destroyed a temporary barracks in a vocational college in Makiivka, twin city of the Russian-occupied regional capital of Donetsk in eastern Ukraine. The tragedy was followed by the U.S. and South Korea planning for a coordinated response to a range of scenarios, including nuclear use by North Korea, White House spokesperson Karine Jean-Pierre said on Tuesday.

Increased geopolitical activities in the market have had an indirect effect on the monetary system, which is insensitive to real-time data resulting in the Fed adjusting monetary policy. The most aggressive rate hike cycle in over 40 years is having a negative effect on the economy, with the results likely not being seen for at least a year out.

As governments locked down entire economies, supply chain issues the Fed has no control over influenced the central bank to raise interest rates faster after discounting the resulting inflation as “transitory.” The delayed response by the Fed in a series of over-sized rate-hikes intended to regulate inflation have been found to be ineffective. The CPI has declined over the past three months, but this decline is merely a retracement as inflation remains out of control.

The highly anticipated Federal Reserve minutes report released this Wednesday showed members agreeing that rates must continue to rise for “some time.” The members deemed persistent inflation “unacceptably high” and cautioned against loosening policy prematurely.

The minutes also showed that officials “emphasized the need to retain flexibility and optionality when moving policy to a more restrictive stance,” with a scale back to quarter-percentage-point increases as of the Jan. 31 – Feb. 1 meeting possible, but open to an even higher “terminal” rate if inflation persists.

Even though the Fed Minutes revealed that officials are dedicated to battling inflation and expect higher interest rates to remain in place, markets continue to price in a dovish Fed pivot by the end of 2023. As system risks to the economy continue to grow with each rate-hike, 70% of the entire U.S. yield curve is now inverted.

Historically, inversion with short rates higher than longs has always been followed by a recession. Also, the more intense the inversion is, the more severe the resulted contraction. Some economists believe the recession has already started, even though it is not yet showing up in the job numbers released this morning and some manufacturing numbers. But we may already be there, based on the weakest consumer sentiment seen since the Great Recession and closer to early 1980s' recession levels.

Gold has historically performed well during periods of severe economic stress, geopolitical risks, and stagflation. All of which the world is expected to experience in 2023, heightening investor uncertainty that will likely keep the gold price elevated.

The current macro climate most closely resembles the ones that preceded both the 1973-74 stagflationary recession and the early 2000's tech bust, when major gold bull markets were formed during both instances. The stagflationary 1970s is a prime example of when gold was a major performer, gaining almost 2,400% from 1971 to 1980 after the monetary metal was severed from the financial system.

Meanwhile, investors looking to protect themselves from these risks in 2023 has already begun to be reflected in the purchase of gold stocks on day one of the new year. On the first trading day of 2023, Newmont Gold Corp (NEM) was the largest gainer in the S&P 500, as stocks dropped. The world's largest gold miner pays a chunky 4.5% dividend and its stock rose 5% on Tuesday, while high-profile companies like Tesla and market cap leader Apple both posted fresh 52-week lows.

Moreover, gold stock insurance is currently on sale. Gold equities are historically cheap relative to gold, with valuations in the mining sector at a historic low against the S&P 500. The benchmark S&P 500 index ended 2022 down 20%, its biggest annual decline since the Global Financial Crisis (GFC) in 2008, as the gold price outperformed.

Gold stocks have historically come under pressure ahead of recessions, but then outperform the stock market during them. Although the gold price is almost back to its 2011 monthly highs, the precious metals miner space is one of the most fundamentally attractive industry groups coming into 2023.

In fact, major mining companies are currently at one of the most undervalued levels in history. The aggregate P/E ratio for the precious and base metals' miners in the S&P 500 Metals Mining Index is at its lowest level since the GFC, when gold stocks made a 7-year cycle low.

After a 40% move off the miners more recent 7-year gold cycle low made in late September of 2022, price spent December consolidating these outsized gains around stiff resistance at $30 in GDX and $37 in GDXJ heading into this first week of the new year.

This week, those resistance levels in both gold stock ETFs were breached with strong volume mid-week and a weekly close above them later today will be a technical signal to bring momentum chasers and fund managers back into this tiny sector.

With sentiment in the mining space going into 2023 being worse than the multi-year bear market between 2013 and 2015, a substantial mean-reversion in this largely forgotten sector has already begun. And based on historic gold stock mean-reversions, there is +85% upside left from current levels.

Yet, the junior space is presenting an even lower-risk/higher-reward opportunity for contrarian investors looking for more leverage to the gold price. Due to the poor sentiment following a 2-year period of falling junior stock prices, capped by tax-loss related selling into the end of last year, high-quality juniors remain valued as if gold was trading below $1400 per ounce.

Institutional investment portfolios in totality have a small percentage of assets allocated to precious metals at less than 1%. Just a 2-3% allocation of their assets into the relatively tiny precious metals sector, would be accompanied by soaring prices for gold, silver, and especially junior precious metals stocks.

Once a $2000 per ounce gold price that has been strong resistance for more than a decade becomes a floor, a speculative frenzy in junior mining stocks may already be in progress. Before this tiny sector comes back into favor, it is best to accumulate full positions in select quality juniors on weakness ahead of the coming herd of momentum trader's and institutional investors.

With tax-loss related selling now completed, lower-risk opportunities have been created in quality juniors for contrarian investors accumulating long-term holding positions. Over the past several months, the Junior Miner Junky (JMJ) newsletter has been carefully constructing a concentrated portfolio of exceptional junior resource stocks with 3x-10x upside potential from deeply depressed levels.

If you require assistance in accumulating the best in breed precious metals related juniors, and would like to receive my research, newsletter, portfolio, watch list, and trade alerts, please click here for instant access.

Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.