The Great Stock
Panic of 2008 was so mercilessly brutal that no sector escaped its
ravages. Unfortunately gold stocks, despite their history of performing
really well during general-stock bears, also succumbed to the
universal panic selling. Extreme fear snowballed without relent until
even long-time gold-stock enthusiasts capitulated and dumped their shares in
disgust.
This perfect storm of fear
spawned unprecedented carnage in the flagship HUI gold-stock index. From
its all-time high of mid-March 2008, the HUI had plunged an unbelievable
70.6% by its panic low in late October! Yet even this sickening stat
doesn’t do this panic justice. In October alone with the
general-stock panic, the HUI plummeted 51.8% in a matter of weeks
before fear finally climaxed and it carved a bottom.
The psychological impact of
seeing a sector cut in half within weeks is devastating beyond
measure. Some gold-stock investors are understandably walking away
forever. Far more are so scared, angry, and confused that they will
remain suspicious and wary of gold stocks for years. Much of the
capital that fled this gold-stock panic won’t be eager to return
anytime soon. Sentiment remains a wasteland of despair.
Despite such dire tidings, the
future for gold stocks looks brighter than ever. As of this week the
HUI had already soared 95.5% above its panic closing low, strong technical
evidence that the worst is behind us. Fearless contrarians like our
subscribers who were adding gold-stock investments and speculations in late
October and early November as the panic raged around us have already been
richly rewarded.
While this sharp post-panic HUI
rally can’t continue rocketing higher at such a blistering pace, I
suspect the best gains in gold stocks are still yet to come. Gold
stocks are ultimately a leveraged bet on the price of gold. They were
driven far lower than gold warranted during the panic, so they have plenty of
gains left merely to return to pre-panic equilibrium with gold. And
gold itself has never looked more bullish, so as its secular bull continues
unfolding gold stocks will mirror and amplify its march higher.
Since the sheer irrationality of
the gold-stock panic is one crucial foundational plank for gold stocks’
hyper-bullish case today, we have to start with some panic analysis. If
you don’t understand exactly what happened in the panic and how crazy
things got, you can’t understand why gold stocks are screaming buys
now. With some long-term perspective on the HUI’s relationship
with gold, this becomes very clear.
Gold stocks, of course, mine and
sell gold. Thus their long-term profits are driven by prevailing gold
price levels. Higher gold means higher profits on balance, and higher
profits ultimately lead to higher stock prices. So from a long-term
perspective the gold price is really the only meaningful fundamental driver
of gold-stock prices. But greed and fear excesses can drive anomalies
that temporarily interrupt this relationship.
This chart encompasses the great
majority of this secular gold-stock bull, with zeroed X-axes to ensure no
visual distortion. Note how the blue HUI line generally follows the red
gold line. Higher gold means higher HUI levels from a secular
perspective. When gold powers to new bull highs, the HUI mirrors and
amplifies it. And when gold trades sideways in a consolidation, the HUI
tends to consolidate in sympathy.
Since gold stocks have tended to
have such excellent leverage to
gold historically, speculators love them. When strong gold drives
widespread greed and excitement among the traders in this realm, they
aggressively bid up gold stocks. This drives big HUI uplegs that soar
higher than gold warrants at the time. Conversely weak gold sparks fear
among gold-stock speculators, who then sell gold stocks aggressively. This
drives big HUI corrections that fall farther than gold warrants at the time.
So while gold stocks have a core
secular-bull path ultimately defined by gold’s trajectory,
manic-depressive trader sentiment forces the HUI to oscillate around
it. The last few months were not the first time speculator fear got out
of hand and drove the HUI well below where gold suggested it should be.
We also had to weather sharp HUI selloffs in 2002, 2003, 2004, 2005, 2006, and 2007. But
2008’s panic was the biggest and most extreme by far.
At its October lows near 150,
the HUI was driven so low by once-in-a-lifetime fear extremes that
it traded at levels not seen since July 2003! But this
wasn’t rational or fundamentally-driven, despite what many naysayers
were claiming at the time in late October. In July 2003 gold averaged
$352, while in October 2008 it averaged $804. With gold 128% higher
there was no reason for the HUI to trade at identical levels.
In fact, at its own panic low of
mid-November gold merely revisited September 2007 levels. Yet that
month the HUI averaged 373, 145% higher than its late-October closing low!
See the disconnect here? It is ridiculously silly. Yes the HUI
looked unbearably scary technically in late October, with all major secular
support lines rendered above radically broken. Yet there was no
fundamental basis for these panic lows.
In Zeal Speculator on October 28th, the
day after the HUI closed at 152, I pointed out this anomaly for our
subscribers in real-time. I recommended buying the GDX gold-stock
ETF that day because there was no way the
HUI should be trading as if gold was in the $350s when gold was over twice
as high. That indeed proved a great time to go long gold stocks, as
GDX is now 73% higher than where I recommended it.
While the profits from the
low-hanging fruits of this panic anomaly have already been realized, the HUI
has still not returned to its long-term equilibrium with the gold
price. In other words, even if gold remained flat in the $700s
today’s gold-stock prices are still too low. This is
readily apparent when you look at a long-term HUI/Gold
Ratio chart. The HGR distills the HUI’s relationship with
gold into one clean technical line.
When the HGR is rising, the HUI
is outperforming gold. This mostly happens during gold-stock
uplegs when speculators get greedy. When the HGR is falling, gold is
outperforming the HUI. Often this means gold is falling slower
than the HUI, something that happens during gold-stock corrections when
speculators get scared. Over many years, a secular trading range has
been established in the HGR.
In financial-market analysis,
the longer a particular relationship between prices holds the more likely it
is to be fundamentally-based. If you take two prices and analyze their
relative behavior over 10 minutes, it doesn’t tell you anything. Random
noise and emotions drive prices over short spans. But these same two
prices considered over 10 years will tell you a great deal. The longer
the span, the more randomness is filtered out and the more fundamentals
assert themselves.
In the HGR’s case, we have
a secular trading range that largely held between mid-2003 and
mid-2008. 5 full years is a long time to compare gold and gold-stock
prices, which are ultimately driven by profits, which are driven by gold
price levels. There were plenty of emotional extremes within this long
span as well, greed climaxes at upleg peaks and fear climaxes at correction
troughs. So there is no doubt this HGR range is fundamentally important
and sound.
Visually support is near 0.46 or
so and resistance is up around 0.56. The daily average HGR between July
2003 and June 2008 is 0.511. In other words, on average over this
secular span of time the HUI traded at 0.511x the price of gold. We’ll
just round it to 0.5x for this essay. Despite everything that happened
in the volatile gold-stock world since mid-2003, in general the HUI tended to
trade at half gold’s level.
Well, the intense fear spawned
by recent months’ general-stock panic drove the HUI so low relative to
gold that the HGR hit 0.207 on October 27th when the HUI closed under
152. To put this into perspective, it was the lowest HGR witnessed in
this entire gold bull. You have to go back to April 2001 to see a lower
level, and that was the very month gold carved its secular bottom! Gold
stocks were ludicrously undervalued in the panic.
And note above that even after
the mighty 95.5% rally since that panic low, the HGR is still languishing
under 0.35x. The panic anomaly hasn’t fully unwound yet.
During December so far, gold has averaged $801 on close. If the HUI
merely returned to its 0.5x HGR average of this secular bull, we’d have
to see it shoot to 400! And that is merely to reflect today’s
gold levels, not any future gold appreciation.
And of course the financial
markets have a strong tendency to overshoot the other way after any
extreme. So it would not surprise me at all to see the HUI rally far
enough to push the HGR well above its secular resistance, above a
0.56x level, before more normal market conditions return. How far
above? I don’t know, make a guess. But the point is we can
likely expect more than a mere HGR mean reversion which is even more bullish
for gold-stock prices.
So even if you didn’t
seize the opportunity to add gold-stock investments and speculations at
once-in-a-lifetime bargain prices in late October and early November like our
subscribers did, you can still game this panic anomaly. To merely
return to average levels relative to gold, the HUI would need to rally another
45% from this week’s levels. There is no doubt that gold stocks
will have to realistically reflect their underlying gold fundamentals again
in the near future.
This final chart zooms in on
gold and the HUI in 2008, offering a higher-resolution view of their
respective behaviors during the Great Stock Panic of 2008. Their
performances over various big-swing spans, and the HUI’s leverage to
gold ratio (yellow) over them, are noted. Once again this drives home
the point that gold-stock traders sold irrationally because they
couldn’t control their own fear, not because of gold-driven
fundamentals.
Up until early August, the HUI
was drifting along not far from all-time highs and looking healthy
technically. Gold often tends to drift sideways in the summer, which
means silver and the precious-metals
stocks follow it sideways like usual. I call these the PM summer
doldrums, they are par for the course. The HUI amplified a
gold correction ending in late April by 1.9x and a minor gold rally ending in
mid-July by 1.8x.
While this leverage was a bit on
the low side by historic
standards, all looked normal until August. Although the
stock panic hadn’t started yet, a bond panic had begun. Bond
investors fled imploding mortgage-backed and corporate debt and sought safe
haven in US Treasuries. But foreign investors first had to buy US
dollars before they could deploy in the least-risky debt securities in the
world. This drove a big and fast US dollar rally.
Many futures traders ignore
gold’s own fundamental merits (declining global mined supplies,
shrinking central-bank hoards and selling, relentlessly-growing global
investment demand) and think of this metal as merely the anti-dollar. So
when they saw the giant US dollar rally, they sold gold aggressively in early
August. I wrote about this dollar-driven gold plunge in depth in late October if you
want more background.
Of course the only reason to own
gold stocks is to leverage gold, so as gold plunged through $900 and then
$800 within just 2 weeks in early August, gold-stock investors and
speculators got scared and sold. This drove the HUI under 325 by the
time gold stabilized. The HUI then stabilized too, but gold-stock
owners remained spooked. Many analysts were calling for sub-$600 gold
and pessimism was rampant.
So in early September when gold
selling resumed, gold-stock traders launched a mini-panic of their own.
The HUI plunged 24.4% in just 6 trading days to 260. Of course gold
didn’t warrant such a deep selloff so the HUI soon recovered to
350. But unfortunately then, late September, the general-stock panic
was just starting. This slammed the gold stocks simultaneously on two
major fronts.
First, flight capital fleeing
the stock markets flooded into short-term US Treasuries. Again foreign
investors had to buy dollars first, which was like pouring rocket fuel on the
already abnormally strong and fast dollar rally. The resulting
accelerating dollar sparked much futures selling in gold. With gold
looking weak, especially for during a stock panic when it ought to soar,
gold-stock investors and speculators dumped their shares aggressively.
On top of that, as I discussed
last week, the general-stock-market selling and volatility was
mind-blowing. When the flagship S&P 500 stock index, representing
the broader US stock markets, can plummet 27.1% in less than 4 weeks in
October, gold stocks didn’t stand a chance. Everyone was so
scared in this panic that all stocks were sold indiscriminately. Over
this very span, the HUI plummeted 51.8%! Without this general-stock
panic, the HUI probably wouldn’t even have gone under 300 again.
As discussed above, gold-stock
prices were driven so irrationally low relative to gold that the anomaly
couldn’t persist. And it didn’t, even though the general
stock markets fell to new panic lows in November. Over a span where the
S&P 500 fell another 11.4% to its late November low, the HUI
actually managed to rally 10.2%. Gold-stock traders, who had
embarrassingly totally succumbed to irrational fear, were slowly starting to
return to their senses.
And this trend continues today.
Despite all the problems in the stock markets and underlying economy,
gold-stock profits and hence future stock prices are driven by the price of
gold. So no matter where gold settles out, $700, $800, $900, or higher,
gold-stock prices are going to reflect this sooner or later. Sentiment
anomalies are always short-term events, over the long-term fundamentals hold
sway.
And since gold is gold
stocks’ only meaningful long-term driver, and gold fundamentals are
looking so dazzlingly bullish, gold stocks are likely to go a heck of a lot
higher in the coming years. Gold mining is so
challenging that mined supply has been shrinking for years.
And all the currency turmoil is making central banks even less likely to sell
their gold. And as their gold hoards shrink, their “market
share” and hence influence over gold supplies is waning
dramatically. Meanwhile global investment demand is soaring.
The major governments of the world,
led by ours in Washington, have just made the future for gold radically more
bullish than it was even a few months ago. Rather than let the free
markets run their course as they should, the socialists in power
panicked. They frantically created literally trillions of
dollars of fiat money out of thin air to inject into the financial
system. We’ve just seen the biggest inflationary event in world
history.
Of course gold thrives in
inflationary times, and as this unprecedented surge of money filters into the
real economy inflationary expectations are going to start roaring. This
alone would increase gold investment demand tremendously, as gold is the
single best investment in inflationary times. And by driving real
interest rates radically negative, the US Fed has made gold even more
attractive to investors.
While I wrote about how negative
real rates are the most bullish possible monetary environment for
gold a couple weeks ago, the Fed’s insane actions this week have
supercharged gold’s potential. By forcing rates artificially low
near zero, the Fed has declared open war on savers. The madmen running
the Fed want to make saving so unappealing and useless that investors are
bullied back into risky mortgage-backed bonds.
But when safe Treasuries yield
nothing, indeed investors lose real purchasing power each year by owning
them, the opportunity cost of gold investing drops to zero. Mainstream
bond investors’ main argument against gold is it has no yield. But
thanks to the Fed, US Treasuries now have big negative yields after
inflation. This rightly infuriates bond investors and leads to a
growing exodus from bonds to gold.
Because of this ruinous fiat
inflation in the pipeline and never-before-witnessed extremes of monetary
excess, I have never been more bullish on gold than I am today. And I
first recommended physical gold coins to our subscribers in May 2001 when
gold traded in the $260s, so this includes the entire gold-bull span. Thanks
to the once-in-a-lifetime gold-stock bargains this panic drove, at Zeal
we’ve spent the last few months zealously researching all the
world’s gold stocks to uncover our favorite opportunities.
Just this week we published a
comprehensive new fundamental
report on our 12 favorite gold-producing stocks. We started with a
universe of all the publically-traded primary gold producers we could find on
the planet. Then we researched each in depth, gradually narrowing down
the field to our favorites. Through hundreds of hours of painstaking
research, we maintained a focus on these companies’ financial strength
and survivability in these crazy times.
The end result is 36 pages of
fascinating fundamental analysis on what we believe are the 12 best gold
producers in the world. We look at each stock in depth, on a
project-by-project basis, and explain why each has such great potential
fundamentally. With gold stocks looking so promising in 2009 as this
secular gold bull powers higher, now is an ideal time to deploy
capital. Buy our new
report today!
We also publish acclaimed weekly and monthly
newsletters. We added new long-term precious-metals-stock
investments in late October at incredible prices when no one wanted
them. We’ve been buying gold- and silver-stock trades as well,
gaming this unsustainable HGR anomaly. To greatly deepen your knowledge
of the markets, of when to launch trades (and to see which specific trades
we’re making), subscribe today!
The bottom line is gold stocks unfortunately
got sucked into the general-stock panic as well. This event generated
such extreme fear that gold stocks plummeted to levels last seen when gold
traded in the $350s. Obviously such prices are ridiculously irrational
in a world where gold is trading over twice as high. Such a silly
anomaly simply could not persist, and the HUI’s recent surge has indeed
started to erase it.
With the panic over and gold
stocks still far too cheap relative to gold, and gold itself likely to power much
higher thanks to governments’ enormous inflationary excesses,
I’ve never seen a more bullish environment for gold stocks. If
you want a high-potential sector in which to deploy capital for 2009 and
beyond, gold stocks are it. True contrarians are buying these bargains
like mad while they still exist. Carpe diem!
Adam Hamilton, CPA
Zealllc.com
November 21, 2008
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Fire away at zelotes@zealllc.com. Due to my
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and really appreciate your feedback!
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