Gold Stocks Wavering

Adam Hamilton     January 17, 2020     2994 Words


The gold minersí stocks are wavering, frustrating traders.  For the better part of a half-year, this sector has neither broken out nor broken down.  Instead it has mostly ground sideways since the last uplegís peak.  Gold stocks being mired in a consolidation so long, even a relatively-high one, is steadily eroding bullish sentiment.  That ups the odds it will roll over into a correction, especially considering goldís situation.


Last summer the gold stocks were rocking, with the leading GDX VanEck Vectors Gold Miners ETF just soaring.  Following goldís decisive bull-market breakout to its first new highs in several years in late June, GDX blasted 29.0% higher over the next 2.5 months!  That generated great bullishness, capping a larger 76.2% upleg over 11.8 months.  The major gold stocks dominating GDX were becoming belles of the ball.


That fast run left them super-overbought, so a correction was highly probable to rebalance sentiment in this hot sector.  And that indeed looked to be getting underway, with GDX retreating 15.4% over the next 1.3 months into mid-October.  The gold stocks mostly bumped along those correction lows for another 1.3 months into late November.  Then GDX rallied a bit, but kept grinding sideways on balance for most of December.


But on Christmas Eveís throwaway half-day trading session, gold surged in a surprising rally managing to break out above its own downtrend resistance.  GDX surged 6.2% in just 4 trading days, rekindling hopes the gold stocks were off to the races again.  But despite goldís sharp geopolitical rally this month, the gold stocks havenít been able to break out to new highs.  This week GDX fell back to pre-Christmas-Eve levels.


Thus for 4.4 months now, the major gold stocks have effectively drifted.  They failed to roll over into a real correction, then failed to break out to new highs even while gold was.  This lackluster action reminds me of Jesus Christ admonishing a church in Asia Minor as described in Revelation.  He warned the church in Laodicea, ďI know your deeds, that you are neither cold nor hot.  I wish you were either one or the other!Ē


ďSo, because you are lukewarm - neither hot nor cold - I am about to spit you out of my mouth.Ē  That sounds like gold stocks in recent months.  If they were cold after correcting, theyíd be great buys.  If they were hot after breaking out to new highs, momentum fueled by resurgent bullish sentiment could push them higher.  But instead theyíve been lukewarm, the most unappealing temperature for food, drink, or trading.


Thereís no doubt they were hot in early September as this sectorís last upleg peaked.  GDX stretched more than 34% above its baseline 200-day moving average, revealing extreme overboughtness.  That was the most overextended gold stocks had been since late August 2016.  And that sure didnít end well, with GDX soon plummeting 39.4% in 4.4 months in a brutal severe correction!  Those exist for a reason.


After major uplegs, popular sentiment grows too bullish.  That entices in all speculators and investors who are interested in buying in the near term.  Once they are effectively all-in, the capital inflows necessary to force gold stocks higher dry up.  All traders can do is sell, and that soon starts to snowball.  The ultimate purpose of corrections is to rebalance sentiment, eradicating greed and rekindling fear through big selloffs.


Those are the most-efficient and fastest way to bleed off upleg-killing levels of greed.  But thereís another way that is much slower.  Instead of selling off sharply igniting fear, gold stocks can grind sideways after uplegs in high consolidations.  That increasingly leads to apathy, which gradually drowns out greed after uplegs peak.  The critical question for traders now is whether gold stocks are correcting or consolidating.


The trading strategies for each possibility are very different.  Corrections exhibit severe downside in this volatile sector.  So traders need to sell positions or at least ratchet up trailing stop losses to protect their gains.  Cash is king in corrections, since it preserves capital while gold stocks sell off enabling traders to buy back in at much-lower prices increasing their position sizes.  Gold-stock losses in corrections can get huge.


As this chart of recent yearsí GDX action shows, this gold-stock bullís prior two corrections averaged ugly 35.4% losses over 11.8 months!  So traders sure donít want to own gold stocks during a correction.  GDX is rendered in blue here, with this gold-stock bullís major uplegs and corrections noted.  GDXís 15.4% loss at worst over 1.3 months since the last upleg peaked is certainly not a correction-grade selloff in this sector.



Instead of correcting hard to kill greed quickly, the major gold stocks have largely been drifting sideways generating apathy.  This lukewarm wavering is slowly staking enthusiasm for this sector.  This is evident in gold-stock capital flows and gold-stock sentiment.  Back in late August and early September, bullishness for big additional gains ran rampant.  Today gold stocks are shifting back towards being ignored like usual.


Trading high consolidations is very different than trading corrections.  Since this sector mostly grinds horizontally, replacing selloff downside with time, existing positions donít have to be liquidated.  They can be held to ride out the consolidation, as the potential losses are way lower than in a correction.  Later on after the consolidation has mostly eradicated greed, new positions can be added ahead of the next upleg.


One clue both corrections and consolidations may be ending is 200dma approaches.  200-day moving averages are the strongest support zones within ongoing bull markets.  So when GDX retreats back to its 200dma, either quickly through a correction or slowly through a consolidation, odds rise that sentiment is nearing sufficient rebalancing.  And so far in this corrective phase, GDX hasnít even come close to its 200dma.


The day that last gold-stock upleg peaked in early September, GDX was running 1.341x its 200dma.  At worst in late November when the major gold stocks revisited their correction lows, that metric contracted to 1.047x.  But GDX still remained almost 5% above its 200dma, way too high for a convincing approach.  By late December that ballooned back up to 1.151x, and was still running 1.109x in the middle of this week.


Thus while overboughtness has mitigated considerably in recent months, it never went away.  Both prior gold-stock corrections saw GDX plunge way under its 200dma, to 0.767x and 0.801x respectively.  While such deep correction lows probably arenít necessary this time around, this leading gold-stock benchmark could easily fall 5% to 10% under its 200dma before greed is eradicated.  So considerable risks remain.


The key to successfully trading gold stocks is their dominant primary driver, gold.  Goldís fortunes over the next few months will dictate whether the gold miners roll over into a correction or keep consolidating high to evade one.  80%+ of gold-stock price action is driven by gold, not company-specific news.  If gold is rallying, the miners climb with it amplifying its gains.  If gold is selling off, gold stocks leverage its losses.


The major gold miners of GDX tend to leverage material gold moves by 2x to 3x.  So if gold rallies 10% from here, GDX is likely to surge 20% to 30% higher.  But if gold falls 10%, this leading gold-stock ETF will likely be dragged 20% to 30% lower.  The lack of a normal gold correction following goldís own early-September upleg peak is why gold stocks havenít corrected significantly.  They simply mirrored goldís action.


At worst in late November, gold had retreated 6.4% in 2.7 months.  While not perfectly synched time-wise, GDXís 15.4% drop at worst was 2.4x goldís.  Thatís right in the middle of that normal leverage range.  But goldís parallel high consolidation that has enabled gold stocksí has also been far milder than bull-to-date precedent.  This gold bullís prior couple corrections averaged much-larger 15.5% selloffs over 6.0 months!


So whether these wavering gold stocks correct or consolidate depends on whether gold itself corrects or consolidates.  The only way this sectorís high consolidation can continue and avoid rolling over into a bigger selloff is if gold remains relatively high too.  As always gold-stock speculators and investors must look to gold for whatís probable next.  Again it is responsible for well over 4/5ths of gold-stock price action!


Like gold stocks, gold is driven by capital flows.  When speculators and/or investors are buying, gold rallies pushing the gold stocks higher.  When they sell, gold falls dragging its minersí stocks lower.  What gold speculators and investors do in coming weeks and months will determine the short-term fate of the gold stocks.  Unfortunately the recent gold buying looks precarious, as I detailed in another essay last week.


In recent weeks GDXís highest close remained 4.7% under its last upleg peak in early September.  Yet gold was breaking out to new upleg highs, fueled by shocking geopolitical events.  The US government assassinated Iranís top general with a drone strike while he was traveling in Iraq, then Iran retaliated by lobbing ballistic missiles at Iraqi bases used by the US military!  So gold blasted 2.9% higher in 3 trading days.


Those fear-driven gains catapulted gold to $1572 on close, 1.2% above early Septemberís upleg peak of $1554.  Gold-stock traders were apparently skeptical goldís gains would hold, as GDX certainly didnít amplify them like normal.  As I warned in early January, gold stocksí surge since Christmas Eve looked like a head-fake rally.  Those gains didnít look sustainable because of the situation gold itself was facing.


Gold speculatorsí likely buying was effectively exhausted, while gold investors werenít buying.  Gold canít enjoy uplegs without material capital inflows from either or both of these key constituencies.  Speculators mostly game gold through gold futures, which allow extreme leverage exceeding 30x!  Their positioning is reported weekly, and forms trading ranges when considered across goldís current 4.1-year-old secular bull.


The latest spec gold-futures data before this essay was published was current to last Tuesday January 7th, the very day gold peaked on US-Iran-conflict fears.  Total spec longs, upside bets on gold, hit an all-time-record high of 444.0k contracts!  That implies spec gold-futures long buying is tapped out, since both gold-futures traders and the capital they command is finite.  They are effectively all-in gold, fully deployed.


Meanwhile their total shorts, downside bets on gold, remained really low at 88.0k contracts.  That was just 6.5% up into their trading range during this gold bull.  In those gold-bull-to-date trading-range terms, they had room to buy and cover just 11.8k contracts.  But they had room to sell short a massive 168.7k!  The spec gold-futures shorts were near their effective floor, so traders likely werenít able to buy materially more.


The most-bullish-possible near-term setup for gold is specs being 0% long and 100% short in gold-bull-trading-range terms.  If positioning looked like that, the gold stocks would be poised for a major new upleg running from here.  But this latest data revealed specs were actually 100% long and 7% short, which is still close to the most-bearish-possible for gold of 100% and 0%!  Speculators canít buy much more from here.


Even worse, they are going to soon have to sell a big fraction of their excessively-bullish bets to normalize their positions.  Gold-futures contracts have expiration dates.  So these all-time-record-high longs have to be sold sooner or later, which will push gold lower.  And that could be much lower.  Including both their longs and shorts, specs now have room to buy 11.8k contracts but room to sell 36.0x more way up at 426.1k!


So the gold stocks arenít only not going to get help from more gold-futures buying, big gold-futures selling could slam them lower amplifying goldís losses by 2x to 3x.  That means the only hope for gold stocks to continue consolidating high rather than rolling over into a correction is gold investment buying.  Although global gold investment demand is only reported quarterly, thereís a great daily proxy of investment capital flows.


That is the holdings of the leading and dominant gold exchange-traded fund, the GLD SPDR Gold Shares.  GLD acts as a conduit for the vast pools of American stock-market capital to slosh into and out of gold.  If you need to get up to speed on the critical importance of GLD capital flows evident in its holdings or that spec gold-futures trading, last weekís essay covered both in more depth.  Gold stocks are this essayís focus.


These lukewarm wavering gold stocks can only keep consolidating high if gold itself does.  And with the gold-futures tradersí buying effectively exhausted, gold stocksí only near-term hope is big gold investment buying.  This chart of GLDís daily gold-bullion holdings superimposed over gold unfortunately proves this isnít happening.  Investors were barely buying gold in recent weeks, and that has rolled over into selling.



Gold investment capital flows tend to lag gold somewhat, as investors are slower to respond to gold price swings than speculators.  GLDís holdings peaked at 924.9 metric tons of gold held in trust for shareholders in late September a few weeks after goldís last upleg originally crested.  Then investorsí enthusiasm for gold faded with its price, so GLDís holdings fell 4.8% or 44.3t into mid-December as GLD shares were sold.


While goldís downtrend-breakout rally happened on Christmas Eve, it was testing other key resistance the day before.  So Friday December 20th was really goldís last normal correction day.  Over the next couple of weeks, gold would surge 6.4% higher first on that breakout and later on the US-Iran conflict flaring.  But American stock investors werenít doing much buying, as GLDís holdings only grew by 1.2% or 10.3t in that span.


There was little investment buying fueling goldís recent spike to a new 6.8-year secular high.  The lionís share of the gold buying driving those fast gains came from speculators buying gold futures.  In roughly that same span, specs added 43.7k gold-futures longs.  Thatís the equivalent of 135.8t of gold buying, or 13.2x more than GLDís holdings build!  Goldís breakout canít continue without big investment-capital inflows.


But much more ominously, over this past week that modest differential-GLD-share buying has turned into sizable investment selling.  Once goldís sharp geopolitically-fueled gains proved unsustainable, investors quickly resumed exiting.  In just 3 trading days ending last Friday, GLDís holdings plunged 2.4% or 21.7t!  That more than wiped out recent weeksí entire build, dragging GLDís holdings to a fresh correction low.


Itís certainly understandable investors arenít enamored with gold.  After spending just two trading days at new upleg highs early last week, that breakout fizzled out.  And gold investment demand usually proves weak anyway when stock markets are near record highs spinning off great euphoria.  Thatís certainly the case today, thanks to the Fedís extreme easing via ongoing QE4 money printing monetizing US Treasury bills.


The gold investment capital flows per their leading daily proxy argue that goldís breakout spike was just a temporary anomaly with no foundation.  If this gold investment selling persists on balance, it is going to push gold lower.  That could unleash the vast pent-up selling from speculatorsí record gold-futures-selling overhang.  Being effectively all-in, the gold-futures specs really couldnít buy more even if they wanted to.


The continuing viability of gold stocksí high consolidation in recent months is totally dependent on goldís fortunes.  Gold needs ongoing capital inflows to stay high or rally higher.  The gold-futures specs canít buy, and the gold investors arenít buying.  If the investorsí recent selling pushes gold low enough to start unleashing that massive gold-futures selling, gold will roll over into a correction dragging gold stocks with it.


These lukewarm wavering gold stocks have only consolidated high because gold has.  They will definitely get dragged into a real correction if gold breaks down.  And thatís very probable given speculatorsí current gold-futures positioning and investorsí ongoing gold selling.  If gold falls 10% from here, which is mild by bull-to-date standards, the major gold stocks as represented by GDX are likely to amplify that to 20% to 30%.


Thatís a lot of asymmetric downside risk compared to very-limited short-term upside at best!  So it remains prudent to be wary here, these relatively-high gold-stock levels likely arenít sustainable.  The fortunes of this sector overwhelmingly depend on goldís own.  And both gold-futures speculators and gold investors seem far more likely to sell than materially buy in the near future.  Thatís certainly bearish for gold stocks.


To multiply your capital in the markets, you have to trade like a contrarian.  That means buying low when few others are willing, so you can later sell high when few others can.  In the first half of 2019 well before gold stocks soared higher, we recommended buying many fundamentally-superior gold and silver miners in our popular weekly and monthly newsletters.  We later realized big gains including 109.7%, 105.8%, and 103.0%!


To profitably trade high-potential gold stocks, you need to stay informed about whatís driving broader gold cycles.  Our newsletters are a great way, easy to read and affordable.  They draw on my vast experience, knowledge, wisdom, and ongoing research to explain whatís going on in the markets, why, and how to trade them with specific stocks.  Subscribe today and take advantage of our 20%-off sale!  Get onboard now so you can mirror our coming trades for goldís next upleg after this correction largely passes.


The bottom line is gold stocks have been wavering in a high consolidation only because gold has mostly done the same.  The gold miners canít break out to the upside without sustained higher gold prices.  But thatís really unlikely given speculatorsí record excessively-bullish bets and investors continuing to sell on balance despite goldís recent geopolitical spike.  That investment selling will likely trigger big gold-futures selling.


That would force the gold stocks to roll over into a real correction, breaking down to the downside.  Thatís normal after major uplegs in this gold bull, rebalancing sentiment way more quickly than drifting sideways can.  Gold-stock traders must remain wary until speculatorsí extreme gold-futures positioning finally gets normalized through big selling.  That will usher in the buy-low opportunities before goldís next major upleg.


Adam Hamilton, CPA     January 17, 2020     Subscribe