Gold Stocks Spring Rally / Commodities / Gold and Silver Stocks 2020

Before their recent surgeon gold regaining $1600, the gold stocks spent much of the past half-year or solargely drifting sideways to lower.  Thathigh consolidation really weighed on sentiment, with greed giving way to apathy.  This sector normally tends to suffer aseasonal slump into mid-March, paving the way for gold stocks’ spring rally.  That’s their second-strongest seasonal surgeof the year running into early June.

Seasonality is the tendency for prices toexhibit recurring patterns at certain times during the calendar year.  While seasonality doesn’t drive price action,it quantifies annually-repeating behavior driven by sentiment, technicals, and fundamentals.  We humans are creatures of habit and herd,which naturally colors our trading decisions. The calendar year’s passage affects the timing and intensity of buyingand selling.

Gold stocks exhibit strong seasonalitybecause their price action mirrors that of their dominant primary driver,gold.  Gold’s seasonality generally isn’tdriven by supply fluctuations like grown commodities see, as its mined supply remains relatively steady year-round.  Instead gold’s major seasonality is demand-driven, with global investmentdemand varying considerably depending on the time in the calendar year.

This gold seasonality is fueled bywell-known income-cycle and culturaldrivers of outsized gold demand from around the world.  The seasonal gold year starts in late July asAsian farmers begin reaping their harvests. They plow some of their surplus income into gold.  That’s soon followed by the famous Indianwedding season in autumn, with its heavy gold buying for brides’ dowries duringmarriage-auspicious festivals.

After that comes the Western holidayseason, where gold jewelry demand surges for Christmas gifts for wives,girlfriends, daughters, and mothers. Following year-end, Western investment demand balloons after bonuses andtax calculations as investors figure out how much surplus income the prior yeargenerated for investment.  Then afterthat Chinese New Year gold buying flares up heading into February.

These understandable cultural factors drivesurges of outsized gold demand between late summer and late winter.  But interestingly there is one moregold-demand spike in spring.  Over theyears I’ve seen a variety of theses explaining this mid-March-to-early-June goldrally, but nothing definitive like for the rest of the year’s seasonality.  As silly as it sounds, I suspect spring itself is the reason for thisdemand surge.

Sentiment exceedingly influences investing,which requires optimism for the future. Investors won’t risk deploying their scarce capital unless they believeit will grow.  And the glorious expandingsunshine and warming temperatures of spring naturallybreed optimism.  The vast majority ofthe world’s investors are far enough into the northern hemisphere that springhas a major psychological impact, buoying their spirits.

While spring’s seasonal impact on golditself is more muted, the gold stocks tend to blast higher anyway as capitalfloods in.  That optimism fuels goldstocks’ most upside leverage to gold seasonally throughout the calendaryear.  If their recent gold-$1600 surgedidn’t pull forward too much buying, gold stocks’ spring rally should getunderway near mid-March.  That usually portendsoutsized gains in this contrarian sector.

Since it is gold’s own demand-drivenseasonality that fuels gold stocks’ seasonality, that’s logically the best placeto start to understand what’s likely coming. Price action is very different between bull and bear years, and gold remainsin a younger bull market.  After fallingto a 6.1-year secular low in mid-December 2015 as the Fed kicked off its last rate-hike cycle, goldpowered 29.9% higher over the next 6.7 months.

Crossing the +20% threshold in March 2016confirmed a new bull market was underway. Gold corrected after that sharp initial upleg, but normal healthyselling was greatly exacerbated after Trump’s surprise election win.  Investors fled gold tochase the taxphoria stock-market surge.  Gold’scorrection cascaded to monstrous proportions, hitting -17.3% in mid-December2016.  But that remained shy of a newbear’s -20%.

Gold rebounded sharply from those anomaloussevere-correction lows, nearly fully recovering by early September 2017.  But gold failed to break out to newbull-market highs, then and several times after.  That left gold’s bull increasingly doubted, untilJune 2019.  Then gold surged to a major decisive breakout confirmingits bull remains alive and well!  Its totalgains grew to 57.8% by late February 2020, stillsmall for gold.

Gold’s last mighty bull market ran fromApril 2001 to August 2011, where it soared 638.2% higher!  And while gold consolidated high in 2012,that was technically a bull year too since gold just slid 18.8% at worst fromits bull-market peak.  Gold didn’t enterformal bear-market territory until April 2013, thanks to the crazy stock-market levitation drivenby extreme distortions from the Fed’s QE3 bond monetizations.

So the bull-marketyears for gold in modern history ran from 2001 to 2012, skipped the interveningbear-market years of 2013 to 2015, then resumed in 2016 to 2020.  Thus these are the years most relevant tounderstanding gold’s typical seasonal performance throughout the calendaryear.  We’re interested in bull-market seasonality, because goldremains in its younger bull today and bear-market action is quite dissimilar.

Prevailing gold pricesvaried radically throughout these modern bull-market years, running between $257when gold’s last secular bull was born to $1894 when it peaked a decade later.  All those years along with gold’s latest bullsince 2016 have to first be rendered in like-percentageterms in order to make them perfectly comparable.  Only then can they be averaged together todistill out gold’s bull-market seasonality.

That’s accomplished by individually indexing each calendaryear’s gold price action to its final close of the preceding year, which isrecast at 100.  Then all gold priceaction of the following year is calculated off that common indexed baseline, normalizingall years regardless of price levels.  Sogold trading at an indexed level of 105 simply means it has rallied 5% from theprior year’s close, while 95 shows it’s down 5%.

This chart averages theindividually-indexed full-year gold performances in those bull-market yearsfrom 2001 to 2012 and 2016 to 2019.  2020isn’t included yet since it remains a work in progress.  This bull-market-seasonality methodology revealsthat gold’s spring rally is its last push higher before the summer doldrums arrive.  While this is gold’s smallest seasonal rallyof the year, the gold stocks greatly leverage it.

During these modernbull-market years from 2001 to 2012 and 2016 to 2019, gold’s spring rallytended to start in mid-March onaverage.  From that major seasonal lowfollowing the winter rally, gold often starts grinding higher before its gains acceleratethrough April and May.  This spring rallyhas generally run its course by early June. Across the 16 bull years in this study, gold averaged modest springrallies of 3.3%.

This spring rallyunfolds rapidly, with an average duration of just 2.7 months.  That makes it the smallest and shortest of gold’s three major seasonal rallies, fallingway behind the champion 9.1% winter rally that precedes it and the strong 6.2%autumn rally that follows thesummer doldrums.  Nevertheless, it isstill well worth trading.  3.3% gains reallydo make a difference, and naturally about half of years exceed this mean.

On average gold’sspring-rally bottoming occurred on March’s 10th trading day, which will be the13th this year.  If today’s seasonals staytrue to form, gold will slump in the first couple weeks of March.  But that seasonal pullback between the winterand spring rallies is pretty modest, averaging just 1.4% over a few weeks atmost.  The resulting mid-March lull ingold prices spawns an excellent gold-stockbuying opportunity.

Gold’s average seasonalperformances in March, April, and May during these modern bull-market years ran-0.4%, +1.5%, and +0.7%.  While evenApril is only gold’s 6th-best month of the year, it still has an outsized impact on gold-stock prices.  This has to be sentiment-driven.  Optimism runs high in the spring anyway, andplenty of bullish psychology lingers following gold stocks’ strong winter rallyin preceding months.

But this year’s springgold rally definitely faces some challenges, as 2020’s gold buying so far has been precarious.  It’s important to remember that seasonalitydefines mere tendencies over long spans of time, like prevailing tailwindsor headwinds.  These can amplify or retardgold’s price action driven by its two dominant primary drivers, speculators’ collectivegold-futures trading and investment-demand trends.

Unfortunately neither hasbeen firing on all cylinders in recent months. That’s why gold has only slowly ground higher since its last uplegoriginally peaked in late September, despite 2020’s shocking geopolitical news.  Gold should’ve soared with the US andIran attacking each other militarily, and a terrifying potential globalpandemic wreaking havoc in China.  Butthe capital inflows to catapult it higher didn’t materialize.

Even after late February’ssurge back over $1600, gold was just 6.8% higher than its initial upleg-toppinglevels 5.7 months earlier.  Given theominous news flow, gold should’ve blasted way higher.  Its lethargic reaction is the result ofgold-futures speculators not being able to materially buy, as their capitalfirepower was largely exhausted. And investors distracted by euphoric stock markets haven’t been interestedin buying.

The spring rally’sseasonal tailwinds alone won’t be able to overcome these challenges.  Gold needs to see significant-to-sizablecapital inflows from speculators or investors to power higher in the next fewmonths.  Gold-futures speculators haveessentially been all-in since late December, when their total longs andshorts were running 100% and 0% up into their own gold-bull trading ranges!  Their buying was tapped out.

That 100% longs and 0%shorts held by these hyper-leveraged traders is the most-bearish-possiblenear-term setup for gold.  They havelittle room to buy, but vast room to sell when the right catalyst hits.  And the least extreme specs’ excessively-bullishgold-futures bets had become since was still 89% longs and 5% shorts in early February.  These collective bets still have a lot of mean-reversionnormalizing left to do!

While gold-futures speculatorsmostly haven’t been able to buy, investors have proven indifferent since mid-Octoberor so.  That’s when the Fed launched its extreme QE4 campaign monetizing huge amounts of Treasuries. Those colossal liquidity injections catapulted the stock markets higher,generating extreme complacency and euphoria. That has killed demand for prudently diversifying stock-heavy portfolioswith gold.

It isn’t likely to returnuntil recent extreme record-high stock markets plunge into a deep and lingeringcorrection, or gold keeps surging fast enough to attract in momentum investorslike last summer.  But that seems like along shot today with gold-futures specs’ buying power mostly expended.  Without sizable capital inflows gold’s springrally this year threatens to be muted, unless something changes to bring themback.

And as goes gold, so go gold stocks.  Goldstocks also exhibit strong seasonality, which is of course the direct result ofgold’s own seasonality.  Sincegold-mining costs are largely fixed when mines are being planned, fluctuationsin gold’s price flow directly into amplified moves in gold-mining profits.  Higher gold prices drive much-higher earningsfor the gold miners, which attract in more investors to bid up stock prices.

The ironclad historical relationship betweenthe price of gold, gold-miningprofitability, and therefore gold-stock price levels is exceedinglyimportant to understand.  If you need toget up to speed, I wrote an essay looking at gold-stock price levels relative to gold in lateJanuary.  Fundamentally gold stocks are leveraged plays on gold, and usuallyreally outperform in the spring on gold’s seasonals and general optimism.

This next chart applies this same bull-market-seasonalitymethodology used on gold directly to the gold stocks.  It looks at the average annual indexedperformance in the flagship HUI NYSE Arca Gold BUGS Index in these samebull-market years of 2001 to 2012 and 2016 to 2019.  Using the HUI is necessary because the popularGDX VanEck Vectors Gold Miners ETF was only born in May 2006, missing bullyears.

That was halfway into the last secular gold-stockbull, which ran from November 2000 to September 2011.  Over that long 10.8-year span, the HUI skyrocketeda life-changing 1664.4% higher on gold’s parallel 638.2% bull!  Gold-stock prices naturally mirror and amplify gold action since it dominatesgold-mining earnings.  That’s true acrossentire secular bulls, within individual uplegs, and even in calendar-year seasons.

Gold stocks’ seasonal springrally is much stronger than gold’s, buttressing that spring-optimism-drives-stock-buyingthesis.  Between mid-March to early June,the gold stocks have averaged hefty 11.5% rallies in these 16 modernbull-market years.  That makes forexceptional 3.5x upside leverage togold’s 3.3% seasonal spring rally! Interestingly this proves gold stocks’ best seasonal leverage to gold’sgains by far.

While the HUI averagedlarger 15.2% surges during gold’s winter rally, that only made for 1.7x upsideleverage to gold’s big 9.1% gain.  Andthe HUI’s 9.0% average gain during gold’s autumn rally also only amplifiedgold’s 6.2% surge by 1.5x.  Though the gold-stockspring rally’s 11.5% average gains rank second out of the seasonal-rally trio,it offers the most bang for the buck in gold-stock upside compared to gold!

Like gold, the gold miners’stocks suffer a seasonal slump from late February to mid-March.  That has averaged 2.7% in these modernbull-market years.  So don’t getdiscouraged if we see a typical early-March slump in this sector.  That’s usually just a mild pullback beforegold stocks’ strong spring rally gets underway. Any seasonal weakness is a good opportunity to add new gold-stock trades relatively low.

The gold stocks’ post-winter-rallypre-spring-rally lull tends to bottom on March’s 11th trading day, which willbe the 16th this year.  From there theHUI surges 11.5% higher on average over the next 2.7 months into earlyJune.  That gold-stock spring-rally spannaturally closely mirrors gold’s own. How the gold stocks fare over the next several months really depends onwhat the yellow metal ends up doing ahead.

If gold keeps grindinghigher, its miners’ stocks should follow and leverage its gains.  Gold needs to see rekindled capitalinflows to pull that off.  If golddrifts sideways, odds are the gold stocks will too.  And if gold suffers a counter-seasonal springselloff on gold-futures speculators dumping longs and adding shorts to normalizetheir excessively-bullish positions, the gold stocks will track their metallower like usual.

But gold stocks’ springoutperformance relative to gold in any of these scenarios will certainly bejustified by their fundamentals.  TheirQ4’19 results are being reported and this latest earnings season will wrap upby mid-March.  In the preceding Q3’19, themajor gold miners of GDX averaged all-in sustaining costs of $910 per ounce.  With that quarter’s average gold price near $1474,that implied gold-miner profits of $564.

Those were up astaggering 36.2% sequentially quarter-on-quarter and 68.9% year-over-year!  Q4’19’s results are likely to continue showingspectacular gold-mining profits growth, as average gold prices rose slightly to$1483.  Assuming the GDX major goldminers’ Q4’19 AISCs are in line with their preceding four-quarter average of$897, that implies sector earnings of $586. That would be up a massive 72.9% YoY!

And so far in Q1’20, goldhas averaged $1576 which makes for another big 6.3% QoQ gain.  As investors figure out the stock markets’ bestearnings growth is coming in this obscure contrarian gold-mining sector,that could easily fuel major gold-stock outperformance relative to gold again.  This year’s outsized spring gold-stock rallycould very well happen for fundamental reasons even if gold’s own spring gainsremain muted.

This last chart breaks down gold-stockseasonality into even-more-granular monthly form.  Each calendar month between 2001 to 2012 and 2016to 2019 is individually indexed to 100 as of the previous month’s final close,then all like calendar months’ indexes are averaged together.  Slicing up seasonal tendencies this way showsMay has actually averaged gold stocks’ strongestmonth of the year in modern bull-market years!

During the 16 Aprils inthese gold-bull-market years, the gold stocks as measured by the HUI saw averagegains of 1.0%.  But the lion’s share ofthe spring-rally gains came in May,where average gains more than quadrupled to 4.4%!  For decades if not longer, May has been oneof the best and most-important months to be heavily long gold miners’ stocks.  Only August now manages to rival it thanks to2019’s surge.

The key to gold stocks’spring rally is to get your capital deployed by mid-March, when gold stocks swoon to their spring-rallybottoming.  In intra-month terms theinitial gains are often fast in late March as gold stocks rebound out of their seasonallull.  But then the spring rally tends toslow down in mid-April, which invariably discourages impatient and short-sightedtraders.  The real gains come in May, whengold stocks surge.

Of course the standard seasonality caveatapplies that these are mere tendencies,not primary drivers of gold or gold stocks. Seasonal tailwinds can be easily drowned out by bearish sentiment,technicals, and fundamentals. Seasonality doesn’t always work, especially when it doesn’t align withthe primary drivers of sentiment, technicals, and fundamentals in thatorder.  That casts this year’s springrally into some doubt.

Ultimately gold stockswill follow gold, since their earnings amplify changes in its price.  If gold-futures speculators start selling enmasse to normalize their excessively-bullish positions, that will certainly forcegold lower.  If investors enamored with recent Fed-levitated stock markets don’t resume consistently buying gold, it’s not going to rally.  If gold is sufficiently weak in coming months,gold stocks will follow it lower.

But if gold can hang inthere and consolidate high, or better yet rally on resurgent investment demand,the gold stocks should enjoy excellent spring-rally gains.  The major gold miners’ earnings are soaringin a market where profits growth is getting harder to find.  As American stock investors figure this out,this small contrarian sector will see major capital inflows catapulting gold-stockprices much higher in years ahead.

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.

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The bottom line is gold stocks often experiencea strong spring rally seasonally.  Thisis driven by gold’s own seasonality, where outsized investment demand arises atcertain times during the calendar year. Gold usually enjoys a solid spring rally likely fueled by the universaloptimism this season brings.  And sincegold drives gold miners’ profitability, their stock prices naturally follow ithigher while amplifying its gains.

Unfortunately this year’s potential spring rally is more clouded than usual.  Speculators’ positioning in gold futures remainsexcessively-bullish, their buying firepower largely expended.  And investors have been ignoring gold tochase recent record-high stock markets. But if gold can consolidate high or push even higher, the gold stockswill likely surge to outsized gains this spring as their profits growthdazzles investors.

Adam Hamilton, CPA

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