Gold Stocks Sentiment Shifting / Commodities / Gold and Silver Stocks 2018

The gold miners’ stockshave been largely ignored and neglected for years.  Speculators and investors wanted little to dowith them for various reasons.  But thatapathetic sentiment is finally starting to shift thanks to last week’sstock-market plunge.  Capital is startingto return to this battered sector as traders begin to realize how radicallyundervalued it is.  Sentiment meanreversions can catapult gold stocks far higher.

Sentiment is defined as“a thought, view, or attitude, especially one based mainly on emotion insteadof reason”.  We humans areinherently-emotional creatures riddled with sentiment on almosteverything.  That’s especially true inour perceptions of the financial markets, which heavily influence if notdominate our trading decisions.  We buyand sell stocks when it feels good,when markets appear to validate our outlooks.

The core mission ofspeculation and investment is simple in concept, buying low then later sellinghigh to multiply one’s wealth.  I’vegiven talks to elementary-school kids about trading and they easily graspthis.  But unfortunately actuallyexecuting on this in real-world markets is very challenging because oursentiment misleads us.  Our innate greedand fear relentlessly goad us to buy and sell at exactly the wrong times.

We wax greedy andexcited after stocks have already rallied massively, which leads to buying highafter most of the gains have already been won. Then after stocks have suffered major selloffs, our fear and despairflare brightly convincing us to sell low after losses have alreadyoccurred.  Traders who heed their ownemotions inevitably end up buying high then later selling low, which ultimatelydecimates their scarce capital.

Our individual andcollective sentiment is overwhelmingly driven by one thing, prevailing price action.  We naturally tend to extrapolate presentconditions out into the indefinite future. So we assume stocks that are rallying will keep on powering higherforever, while stocks that are falling are doomed to continue spiralinglower.  Making such linear assumptions inperpetually-cyclical markets often leads to serious losses.

So while sentimentmight serve us well in other areas of our lives, it is our worst enemy in themarkets.  Instead of being embraced, ourinherent greed and fear needs to be ruthlessly suppressed.  We can’t buy low then later sell high if itfeels good, because that means everyone else is doing it at the same time.  Instead we have to fight our hearts and fightthe herd, literally buying and selling when it feels the worst.

Everyone loves the megatech stocks because they’ve rallied on balance for many years.  But thanks to that very-long bull, they are dangerously overvalued.  So buying them today may feel good, but theirstock prices are already very high.  Thetime to buy mega tech stocks was back in March 2009 at the end ofthe last secular bear when everyone wasscared.  Over the next 9.5 years thetech-heavy NASDAQ soared 539.2%.

Leading into March 2009when mega tech stocks were hated, the elite NASDAQ 100 stocks sported anaverage trailing-twelve-month price-to-earnings ratio of 18.9x.  They were relatively cheap with bearishsentiment peaking.  But at the end oflast month after that powerful secular bull, these stocks had an average P/E twiceas high at 37.8x.  This is the time tosell high, when traders are exuberant and euphoric.

The gold miners’ stockshave the opposite problem.  Their priceshave ground lower on balance for so long now that traders have mostly forgottenabout them.  They are incredibly undervalued anddeeply out of favor, choking on suffocating bearishness.  So now is the time to buy low when few othersare willing, which is the secret to multiplying your wealth in themarkets.  That’s when stocks aredirt-cheap before big bulls.

The only speculatorsand investors able to consistently buy low then later sell high are contrarianswho’ve hardened themselves against sentiment. They choose to totally disregard their own greed and fear, and then makethe opposite trades of the thundering herd. They buy low when stocks are unwanted, and then later sell high wheneveryone wants them.  Contrarian trading is ultimately themost-profitable way there is!

The miserablegold-stock sentiment of recent years is starting to shift because contrariancapital is flowing back into the gold miners’ stocks.  This first chart looks at the leading GDXVanEck Vectors Gold Miners ETF over the past several years or so.  It is the most-popular way to trade thegold-stock sector today, and its primary benchmark.  Historically gold-stock upside has beenenormous when sentiment mean reverts.

Gold stocks havesuffered a rough year which is why their sentiment has been so darnedpoor.  GDX left 2017 at $23.24 per share,right in the middle of its consolidation basing trading range running between $21lower support to $25 upper resistance. Gold stocks largely ground sideways this year, leaving them way out offavor.  Speculators and investors love tochase winners to ride momentum, and gold stocks had little.

Things took a dark turnfor the worse in early August, when GDX started breaking down below that major$21 support line.  That heavy sellingsoon snowballed into a rare forcedcapitulation, which I explained in depth in a mid-September essay.  At this sector’s echo-capitulation low earlythat month, GDX was down a brutal 24.4% year-to-date.  So it’s no wonder traders were very bearish,extrapolating that trend into the future!

Sentiment in gold-stockland was absolutely miserable at that point, as collective greed and fear arethe product of technical price action. The worse stocks have performed, the more and longer they’ve fallen, themore bearish traders get on them.  Thedespair in gold stocks was so thick 6 weeks ago you could cut it with aknife.  Virtually everyone, includingprofessional analysts who should know better, expected more selling.

Sentiment of course isethereal, impossible to directly measure. The only ways to get decent reads on it are to watch what other people aresaying and actually doing with real-world trades.  If you go back and check market commentariesin early September, you’ll find virtually all of them were very negative on thegold-stock outlook.  I was an exception,writing how wildly bullish gold stocks looked the very week they bottomed.

For decades I’ve beenin the financial-newsletter business, researching, trading, and writing about markets.  That blesses me with some unique ways toanalyze prevailing sentiment.  First I’malways getting tons of e-mail questions, thoughts, and feedback from oursubscribers and readers all over the world. The overall tone of these always gets really bearish and depressed whengold stocks are carving major bottoms.

The more dejectedpeople are about gold stocks, the more bullish their near-term outlook.  Conversely when people get excited about thegold miners, they are usually topping before major selloffs.  When you get dozens to hundreds of personale-mails every day about the markets, how traders collectively feel is readilyapparent.  I try to share that aggregatesentiment zeitgeist in our newsletters to help others see it.

Second, our newslettershave always been explicitly contrarian in focus.  We strive to fight the crowdto buy low when few others will, so we can later sell high when few others can.  Interestingly our hard sales also closelymirror prevailing contrarian sentiment. When speculators and investors are down on the idea of buying low, likewhen gold stocks are really weak, fewer people bother purchasing our researchnewsletters.

Over the past coupledecades or so, weakening revenues have been a telltale sign the gold stocks arebottoming.  Unfortunately most tradersare so caught up in their own emotions that they either don’t seek out or can’thandle contrary opinions.  That leads toa sad ostrich effect in themarkets.  Most people simply check outand bury their heads in the sand if prevailing price action frustrates them, sothey miss bottoms.

I’ve never understoodthis ill-fated approach.  I bought myfirst stocks with money earned mowing lawns when I was 12 years old.  In high school I eagerly devoured financialnewsletters, which helped me learn a great deal about markets and trading.  If I had only read about and studied marketswhen it felt good, I’d have cheated myself out of all kinds of pricelesslessons and essential education.  Thatmakes no sense!

To gradually growsuccessful in the exceedingly-challenging realm of speculation and investment,one can never stop studying and learning. It’s actually way more important to stay plugged in when you don’t feellike it, because that’s when markets are bottoming before massive new bulls.  It takes discipline to always stay abreast ofmarkets, but the ultimate payout in profitable future trades vastly outweighsthe costs.

The gold stocks indeedstarted bouncing and reversing following their deep early-September lossesafter that forced capitulation ran its course. Once all the cascading trailing-stop-loss sell orders had already beentriggered, the selling was largely exhausted. So GDX surged 7.7% higher over the next week and a half or so.  But it soon stalled out near $19, becausepopular gold-stock sentiment remained heavily bearish.

That all started tochange last week, when a major inflectionpoint in the markets was likely witnessed. Out of the blue on October 10th, the flagship US S&P 500 stock indexplunged 3.3% on no news!  That was itsworst loss by far since a sharp-yet-shallow-and-short correction in earlyFebruary, driven by fears of surging 10-year Treasury yields and hawkishFedspeak.  Such a sharp drop reallyspooked complacent traders.

The S&P 500 hadbeen powering higher on balance for 9.5 years in a huge bull ballooning to atruly-monstrous 333.2% gain.  That wasthe longest and second-largest in US stock-market history!  That left traders euphoric, they extrapolatedbig gains into the indefinite future.  Butonce their stock-heavy portfolios started getting whacked, they rememberedgold.  It is the ultimate portfolio diversifier, rallying asstocks slide.

Gold reversed fromearlier losses to a minor 0.3% gain that day, no big deal.  But under the surface a big change washappening.  After shunning gold for monthsas stock markets levitated to new records, that day American stock investors started buying gold in a major way.  That was evident in the physical-gold-bullionholdings of the dominant GLD SPDR Gold Shares gold ETF.  They surged a massive 1.2% higher that day!

GLD acts as a conduitfor the vast pools of stock-market capital to slosh into and out of gold.  What GLD’s holdings are doing often accountfor the great majority of the changes in global gold investment demand whichdrive gold’s price action.  I recently wrote an essay explaining allthis in depth in late September if you need to get up to speed.  When GLD’s holdings are rising, stock-marketcapital is flowing into gold.

This leading gold ETF’smission is to track the gold price.  Butthe supply and demand of GLD shares is independent from gold’s own.  So when investors buy GLD shares faster thangold itself is being bought, its share price threatens to decouple from gold tothe upside.  GLD’s managers need to avertthis in order to maintain tracking.  Sothey issue new GLD shares to offset excess demand, raising capital from thosesales.

Then the proceeds fromthese GLD-share sales are immediately plowed into physical gold bullion held intrust for GLD shareholders.  So GLDeffectively shunts stock-market capital directly into gold.  This next chart shows GLD’s holdings and thegold price over the past few years or so. Note the sharp reversal in GLD’s holdings back higher which ignited thatvery day the S&P 500 plunged.  Goldinvestment started to return!

That 1.2% GLD build onOctober 10th arrested a major multi-month decline in GLD’s holdings whenAmerican stock investors were pulling capital out of gold on balance.  It was a big deal, the first differentialGLD-share buying at all since late July. And it was the biggest GLD build by far since mid-March.  Finally seeing a material stock-marketselloff motivated investors to startredeploying in gold, a super-bullish omen.

That wasn’t a flash inthe pan either, that investment gold buying continued with additional GLDbuilds of 0.8% on Friday the 12th and 0.6% on Monday the 15th.  We hadn’t seen sizable capital inflows intoGLD in a multiple-day cluster since early September 2017.  So investor sentiment on gold was starting toshift, potentially in a major way, on that sharp stock-market plunge.  Once that starts, it tends to run for some time.

After long periodswithout stock-market corrections, investors grow way too complacent and forgetthe risks of stock-heavy portfolios. They sell down their meager gold allocations to anomalously-low levels.  So when stock markets inevitably drop againand rekindle anxiety, they have to do lots of buying to reestablish more-normalgold positioning to hedge their stocks. So their gold buying runs for months on end.

Back in late 2015 apair of back-to-back S&P 500 corrections ignited a new gold bull out ofmajor secular lows.  While the secondselloff ended in mid-February 2016, the powerful GLD-share buying that selloffspawned continued virtually unabated until early July almost 5 months later!  Sharpstock selloffs are the trigger for gold investment demand returning, but thatbuying soon reaches critical mass to take on a life of its own.

Gold powered 29.9%higher in just 6.7 months almost exclusively on that differential GLD-sharebuying by American stock investors!  Thatalone accounted for nearly the entire annual jumps inquarterly world gold demand in those two quarters.  So if this latest bout of stock selling persistslong enough to get investors redeploying into gold, we’re likely on the vergeof a major new bull-market upleg.  That’s great for gold stocks.

That sharp 3.3% S&P500 plunge on October 10th wasn’t the end of that serious selling, as this leadingbenchmark dropped another 2.1% the next day! That’s when gold really caught a bid, blasting up 2.5% on both investorsand gold-futures speculators buying aggressively.  That was a hugerally, gold’s best up day since late June 2016’s surprise pro-Brexit vote inthe UK.  The gold stocks took off like arocket on that.

GDX soared a massive6.7% higher that day, its major gold miners leveraging gold’s advance by 2.7x!  That shattered this leading ETF’s recent $19resistance, paving the way for a return to its consolidation trend channel ofrecent years between $21 to $25.  And ifgold investment has indeed turned the corner to a new accumulation phase, thecoming gold-stock gains should be huge. Consider early 2016’s example.

Much like last month,the gold miners’ stocks were deeply out of favor in January 2016.  This small sector was largely forgotten anddespised, leaving the gold stocks trading at fundamentally-absurd all-timelows.  That very week I fought prevailingsentiment to take the contrarian side and argue that a major new bull wasimminent.  And indeed GDX skyrocketed151.2% higher in 6.4 months, leveraging gold’s upleg by 5.1x!

That massive gold-stockmean reversion higher out of extreme anomalous lows started when sentiment was overwhelmingly bearish, when gold stockswere left for dead.  As traders’sentiment started to shift back to neutral and eventually bullish, thatpsychological change fed on itself.  Themore gold stocks rallied, the more traders wanted to buy them.  The more traders bought them, the more goldstocks rallied.

Given the magnitude ofthese new gold-stock and gold surges on last week’s stock-market plunge, andthe crucial confirmation of strong gold investment buying via GLD by Americanstock investors, there’s a good chance sentiment is again shifting.  Seeing the mighty S&P 500 plummet 5.3% injust two trading days after widely being considered riskless is a major, jarring discontinuity.  It has to really taint sentiment.

And if investors startworrying these lofty stock markets are getting riskier, they will naturallystart upping their tiny portfolio allocations to gold.  As gold powers higher on that, the goldstocks will return to favor.  They areactually the last cheap sector in these entire stock markets, likely the only sector refuge if the S&P 500rolls over into a long-overdue new bear. The Fed’s record QTtightening virtually assures that outcome.

The greatest gains inthe next gold-stock upleg won’t be won in the popular ETFs like GDX and GDXJ,as they are far-overdiversified and burdened with way too many under-performinggold miners.  So it’s much more prudentto deploy capital in the best individual gold miners with superiorfundamentals.  Their gains will handilytrounce the ETFs, further amplifying the already-huge upside potential of this sector as a whole.

The key to riding anygold-stock bull to multiplying your fortune is staying informed, both about broader markets and individualstocks.  That’s long been our specialtyat Zeal.  My decades of experience bothintensely studying the markets and actively trading them as a contrarian ispriceless and impossible to replicate.  Ishare my vast experience, knowledge, wisdom, and ongoing research through ourpopular newsletters.

Published weekly and monthly, they explain what’sgoing on in the markets, why, and how to trade them with specific stocks.  They are a great way to stay abreast, easy toread and affordable.  Walking the contrarianwalk is very profitable.  As of Q3, we’verecommended and realized 1045 newsletter stock trades since 2001.  Their average annualized realized gainsincluding all losers is +17.7%!  That’s double the long-term stock-marketaverage.  Subscribe today and getinvested before gold stocks soar way higher!

The bottom line is gold-stocksentiment looks to be shifting.  It wasnaturally very bearish following the recent forced capitulation, which leftthis small contrarian sector despised. But gold stocks soon started recovering from those extremely-oversoldand absurdly-undervalued lows.  Then lastweek they surged with gold as the general stock markets plunged.  That may prove a major sentimental inflectionpoint.

American stockinvestors suddenly remembered gold, aggressively buying it to diversify theirbleeding stock-heavy portfolios.  Oncegold started moving, the gold stocks nicely leveraged its gains likeusual.  All this suggests speculators andinvestors are just starting to warm to gold and gold stocks again.  That portends a sentiment mean reversion andovershoot, fueling massive new uplegs in gold and its miners’ stocks.

Adam Hamilton, CPA

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