Gold Stocks in Correction Mode / Commodities / Gold and Silver Stocks 2020

The gold miners’ stocksare mired in correction mode, which isn’t surprising after their mightypost-stock-panic upleg.  Huge buying catapultingthem higher left this sector extremely overbought.  Corrections are normal and healthy after pricesget too stretched technically.  They eradicateupleg toppings’ excessive greed, rebalancing sentiment.  That paves the way for bulls’ next uplegs,and offers great buying opportunities.

The most-popular gold-stockbenchmark today is the GDX VanEck Vectors Gold Miners ETF.  It includes the world’s biggest and best goldminers, dwarfing its peers in size.  Launchedway back in May 2006, GDX’s first-mover advantage has grown insurmountable.  This ETF’s $17.9b in net assets this week arerunning 31.4x larger than its next biggest competitor’s in the 1x-longmajor-gold-miners-ETF space.  GDX isking.

Gold stocks have awell-deserved reputation for excessive volatility, which is a key reason theyare so alluring.  When the stars align rightfor them, meaning a big and persistent gold upleg, their stock prices skyrocket!  We just witnessed that in this sector’s enormousupleg following March’s COVID-19-lockdown-fueled stock panic.  The subsequent gold-stock gains were amongthe largest out of all stock-market sectors.

As gold temporarily gotsucked into that stock panic, GDX was pummeled to a deep low of just$19.00.  Those radically-oversold conditions gave the gold stocks massive room to mean revert far higher.  And that’s exactly what they did over the following4.8 months into early August, where GDX rocketed a stupendous 134.1% higher!  Contrarian traders who bought in soon after thestock panic multiplied their capital.

But such colossal gainsin such a short span generated incredible greed, and left GDX way overextendedtechnically.  So over the next 4 tradingdays into mid-August, GDX corrected 12.2%. Since then it has been consolidating high, meandering in a tight tradingrange between that upleg top and initial correction low of $44.48 and $39.05.  Until GDX powers to new bull-market highs, ittechnically remains in correction mode.

Many if not mosttraders hate these necessary selloffs after bull-market uplegs.  Unlike powerful rallies to major new highs,corrections aren’t any fun.  But they dooffer the best opportunities to buy relatively low in ongoing bullmarkets.  Bulls’ inevitable alternatingseries of uplegs followed by corrections also greatly expand their tradablegains.  Correction bottomings are when tobuy low before later selling high at upleg toppings.

Because GDX has spent thepast 6 weeks or so mostly drifting in the low $40s, those levels increasinglyfeel normal.  But they are actually quitehigh in the context of this 4.6-year-old gold-stock bull.  This first chart shows the whole thing throughthe GDX lens.  Gold stocks have run reallyfar really fast thanks to that huge post-panic upleg!  That’s a big reason why they stalled out inearly August to start correcting.

Relative to their bullmarket, the major gold stocks shot parabolic in recent months.  The tail end of that gargantuan 134.1% uplegwent vertical, leaving GDX extremely overbought at a 7.5-year secular high!  This leading sector benchmark soared wayabove both its 200-day moving average and 50-day moving average, rendered inblack and white here.  There’s no doubt goldstocks are really stretched technically.

When any prices surgetoo far too fast, they stoke excessive popular greed.  Traders rush in to chase the quick gains, expectingthem to persist indefinitely.  But pullingforward big buying rapidly exhausts traders’ available capitalfirepower.  Soon everyone who wants tobuy in anytime soon has already fully deployed their limited funds in thered-hot sector.  Only sellers remain, andthey soon overpower the dwindling buying.

The building selling momentumfuels corrections, which work off technical overboughtness while bleeding awayexcess greed.  The gold-stock realm islike Texas, everything is bigger there! So corrections are as outsized as uplegs, making them nothing to betrifled with.  Looking at the upleg-correctioncycles so far in this secular gold-stock bull offers important insights intowhat is likely in our current young correction.

Gold stocks’ massivepost-stock-panic soaring this year was this bull’s fourth upleg.  All four averaged hefty 99.2% gains over 7.6months.  The first three uplegs werefollowed by corrections clocking in at a serious mean of 36.5% over 8.0months.  If today’s fourth correctionrises to that bull-market precedent, it would batter GDX all the way back downto $28.24!  That’s a heck of a long waysfarther down from here.

But for a variety ofreasons, the gold stocks probably won’t have to collapse so far this timearound before adequately rebalancing sentiment. This gold-stock bull’s first three corrections were each dragged down tomore-severe levels by unusual events. The first and largest one into late 2016 grew anomalously big afterTrump’s surprise election win.  Gold and goldstocks were shunned as stock markets surged on tax-cut hopes.

The second correctioninto late-summer 2018 was exacerbated by extreme speculator positioning in goldfutures, driving rare cascading stop-loss selling.  And of course the third one earlier this yearwas driven by a full-blown stock panic, which are normally only seen about oncea century.  Typical corrections ingold-stock bulls run closer to 20% to 30%, which we can call 25%.  That’s much less painful than 37%.

Because of gold miners’high inherent profits leverage to gold prices, gold-stock corrections tend tomirror and amplify gold’s own.  The majorgold stocks dominating GDX usually exaggerate gold’s own upleg-correctioncycles by 2x to 3x.  And of coursegold is much less volatile than its miners’ stocks.  So a normal 10% gold correction multiplied by2x to 3x yields that same 20%-to-30% correction range, averaging 25%.

25% off of early August’seuphoric gold-stock peak would drag GDX down to $33.36.  That is still way under this past month’slower-$40s drift.  Interestingly thatwould also push GDX back down near its 200-day moving average, which is running$32.15 as of the middle of this week. 200dmas happen to be the highest-probability bottoming zones technically for bull-market corrections without exacerbating factors.

A GDX 200dma approachtoday would likely signal the end of this necessary rebalancing correction.  That is the ideal time to buy relatively low,aggressively redeploying in beaten-down gold stocks.  While no one knows in advance how closely GDXwill retreat to its 200dma, the closer it gets the better the odds thiscorrection has largely run its course. Considering price levels compared to their 200dmas is a great tradingtool.

I’ve been researching thiskey technical relationship for a couple decades now, and actively trading goldstocks based on it with great success.  Icall this method Relativity Trading,since it looks at gold-stock price levels relative to their 200dmas.  This simple-yet-powerful relationship can bequantified by dividing GDX’s daily closes by their current 200dmas.  That yields the Relative GDX indicator, orrGDX for short.

Charted over longer periodsof time, this rGDX ratio forms horizontal trading ranges.  They effectively reveal how overbought oroversold gold-stock prices are, which are the best times to sell high and buylow.  This rGDX chart tracks this multipleduring this gold-stock bull to date.  VisualizeRelativity charts as flattening out 200dmas to 1.00x, and recasting priceaction around that in comparable constant-percentage terms.

Relativity tradingranges are based off the past 5 calendar years’ price action.  The Relative GDX has mostly meandered between0.85x to 1.50x during this span, which coincides with this secular gold-stockbull.  Gold stocks are extremely oversoldwhen the rGDX falls under 0.85x.  At mid-March’sstock-panic low, this metric plunged to a radically-oversold 0.694x!  So we backed up the truck to aggressively buythen.

While our specificstock trades are only recommended to our paying newsletter subscribers graciouslykeeping us in business, I did flag that incredible buy-low opportunity publicly in a weekly essay in earlyApril.  Published on April 3rd when GDXwas still under $25, I warned “All this argues that a majornew gold-stock upleg is getting underway, portending big gains coming!” and“the gold stocks will power far higher.”

While extreme technicals and sentimentalone supported that bold contrarian call, so did gold miners’ amazing fundamentals.  Higher prevailing gold prices guaranteedmuch-higher profits for the gold stocks, which indeed came to pass.  Several weeks ago I did a deep quarterly diveinto the actual Q2operational and financial results of the major GDX gold miners.  Sector-wide implied earnings soared 66.2%YoY last quarter!

But after GDX skyrocketed 134.1% in just 4.8months out of those crazy stock-panic lows, that left gold stocks extremelyoverbought.  That rGDX indicator stretchedas high a 1.454x in late July, and was still way up at 1.448x when the majorgold stocks crested in early August.  Inother words, GDX stretched a massive 45% over its 200-day moving average!  That was challenging the 50%+ extremely-overboughtlevels.

Overboughtness is a short-term technicalcondition totally independent from underlying fundamentals that governlonger-term gold-stock fortunes.  Once goldstocks run too far too fast exhausting all near-term buying potential, theyneed to correct no matter how profitable mining gold is.  Excessive greed still needs to be bled awayto rebalance sentiment.  And excessively-extendedtechnicals need to mean revert back to norms.

And that is exactly what has started happeningin this sector over the past month since GDX peaked.  The rGDX plunged as low as 1.259x inmid-August as GDX’s initial sharp 12.2% 4-trading-day selloff bottomed.  Since then GDX has drifted around 31% aboveits 200dma, with the rGDX running 1.299x in the middle of this week.  While way less overbought than 45%, 31% remainsfar above the correction-ending 0%.

Extreme overboughtness can be worked offtwo ways, correcting or consolidating.  Goldstocks can either sell off fast enough to mean revert back near their 200dma,or they can drift sideways long enough for that 200dma to catch up.  While investors prefer the lower volatilityand milder selloffs of consolidations, faster corrections are much morebeneficial to speculators.  They usher in superior buy-low opportunities quicker.

While GDX did plunge into formal correctionterritory over 10% in those initial days after it crested in early August, thegold-stock price action since has been more consolidation-like.  But consolidations can morph into correctionsat any time, depending on what gold stocks’ dominant primary driver golddoes.  GDX can still easily slump into a biggercorrection here, likely much closer to 25% than the mild 12% seen so far.

Gold’s own overboughtness relative to its200dma in early August proved far more extreme than the gold stocks’.  The rGold indicator soared to nosebleed heightsof 1.260x, an 8.9-year high!  The lasttime gold was so overextended technically was back in September 2011 soon afterits previous secular bull had peaked.  Thatextreme exhausted gold’s bull, birthing a bear that would crush it 44.5%lower in the next 4.3 years.

While gold’s current secular bull isn’tlikely to fail yet for plenty of fundamental and sentimental reasons outside thescope of this essay, gold really needs to correct after such epicoverboughtness!  But at worst so farafter peaking in early August, gold only dropped 7.5% in this selloff’s initialfew trading days.  It is hard to imagineit not falling into 10%+ correction territory given those crazy technical andsentimental extremes.

A 10% gold selloff would drag this metalback down near $1856, which is another 4.5% lower from where it was trading inthe middle of this week.  And if the goldstocks amplify gold’s losses by that usual 2x to 3x, that extends GDX’scorrection near 25%.  While seeing GDXback down near $33.36 is no big deal at all in gold-stock-bull context, that isstill another 20.1% lower than its mid-week prevailing level of $41.76!

With the major gold stocks undeniably in acorrection, why buy now if they are likely to drift or plunge still another 20%or so lower before it bottoms?  Trading,both speculation and investment which only differ by time horizons, is allabout buying low then later selling high.  The best times to buy relatively low withinongoing bull markets is when corrections have largely run their courses.  GDX is nowhere near that point yet.

GDX has to retreat closer to its 200dma, whichwill be evident in that rGDX indicator and normal charts.  This leading gold-stock ETF doesn’tnecessarily have to fully return to its 200-day moving average, but it has toget a heck of a lot closer than 30% above. Plenty of other factors will help determine when to resume pulling thetrigger on buying fundamentally-superior gold stocks, which I discuss constantlyin our newsletters.

But whenever and wherever this gold-stockcorrection bottoms, the gold miners’ fundamentals continue to strongly support another major bull-market upleg.  Once sentimentis rebalanced and technicals are no longer stretched, gold stocks’ upsidepotential in the subsequent months is massive. So I’m really looking forward to redeploying hand over fist into excellentgold miners once the necessary green lights flash.

My recent essay on the GDX gold miners’ Q2 results dove deeply into their fundamentals.  Youought to read that if you missed it a few weeks ago.  But in a nutshell, here’s the currentsituation.  With Q3’20 now 2/3rds over,gold has already averaged an all-time-record high $1910.  Even if we assume gold corrects hard enoughin the rest of Q3 to drag that average down to $1875, that is wildly profitablefor gold miners.

Over the past four reported quarters, theGDX gold miners averaged all-in sustaining costs of $933 per ounce.  AISCs are actually likely to fall in Q3 withgold output rebounding following Q2’s shrinkage from government-imposednational lockdowns.  But at $1875 goldand $933 AISCs, the major gold miners are on track to earn a colossal $942 perounce in this current quarter.  Thatwould surge 59.5% from Q3’19 levels!

So the gold stocks still have bigbull-market gains to come after they weather this necessary and healthy correction.  Even after that enormous 134.1%post-stock-panic upleg, additional massive upside is still fundamentallyjustified in this contrarian sector! Higher prevailing gold prices drive much-higher earnings for the goldminers, which ultimately support much-higher stock prices.  Those come gradually over time in bulls.

All bull markets naturallyflow then ebb, taking two steps forward before retreating one step back.  Their price action gradually meanders around uptrends.  This normal upleg-correction pattern keepssentiment balanced, extending bull markets’ longevity.  And it is a huge boon for traders, offering excellentmid-bull opportunities to buy relatively low before later selling relativelyhigh.  That greatly expands bulls’ potentialgains!

At Zeal we started aggressivelybuying and recommending fundamentally-superior gold and silver miners in our weekly and monthly subscription newsletters back in mid-March right after the stock-panic lows.  We layered into dozens of new positionsbefore gold stocks grew too overbought, which were stopped out recently at hugerealized gains running as high as +199%!  Our subscribers multiplied their wealth withinmonths.

To profitably trade high-potentialgold stocks, you need to stay informed about their technicals, sentiment, andfundamentals.  And what is moving gold,their dominant primary driver.  Our popularnewsletters are a great way.  They drawon my vast experience, knowledge, wisdom, and ongoing research to explain what’sgoing on in the markets, why, and how to trade them with specific stocks.  Subscribe today and take advantageof our 20%-off sale!  Correctionsare the time to do your gold-stock homework, preparing to redeploy as they pass.

Thebottom line is gold stocks are in correction mode.  They shot parabolic into early August, surgingtoo far too fast exhausting the capital firepower available for near-termbuying.  Then they quickly plunged into amild correction, which has morphed into a high consolidation since.  But with gold stocks remaining very overboughttechnically, and greed still elevated after an insufficient selloff, aresurgent correction is likely.

That couldeasily extend to 25% in GDX, another 20% lower from this week’s levels.  The depth of this necessary and healthyrebalancing selloff for gold stocks depends on what happens in gold.  The larger gold’s own correction, the fartherthe amplifying gold stocks will drop. But bigger and faster is better for traders, yielding much-betterbuy-low opportunities sooner than if gold stocks instead keep driftingsideways.

Adam Hamilton, CPA

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