As the nights
lengthen, the leaves change color, and the chill winds of autumn
begin to blow, the seasons are on everyone?s mind this time of
year. But it is not only these natural seasons driven by orbital
mechanics that are changing. The most bullish seasonal time of the
year for the precious metals and their miners is nearly upon us.
The mere fact that
precious metals have seasonal tendencies is often surprising to
traders. Everyone can understand why a soft commodity like wheat is
seasonal. Due to the Earth?s axial tilt and its annual revolution
around the sun, there is one primary growing season in the northern
hemisphere. Thus wheat supplies typically peak just after harvest
before shrinking until the next harvest. Since the celestial
seasons affect supply, and supply and demand drives prices, the
Earth?s seasons play a major role in wheat price trends.
Interestingly it
is these same orbital mechanics that drive gold seasonality. The
vast majority of the world?s population lives in the northern
hemisphere, so the importance of the autumn grain harvest is
universal. In places like Asia with deep cultural affinities for
gold, farmers often invest some of the profits from their annual
harvests in gold. Harvest leads to big global surpluses of capital
and some of these funds migrate into gold.
There are other
cultural factors that also accentuate gold?s seasonal strength this
time of year. Indian wedding season is one of the most important.
In India, the world?s biggest gold consumer, little distinction is
made between jewelry and investment. When brides get married, their
families give them intricate 22-karat gold jewelry to help secure
their financial futures. The most popular time to get married is
during the autumn festival season. Thus around 40% of India?s total
annual gold demand tends to arise in October and November.
I realize this
seems quaint to our Western minds, but we too have similar behaviors
woven deeply into our own cultures. Our own holiday shopping isn?t
all that different. A large fraction of our total spending occurs
between Thanksgiving and Christmas, a single month that often
makes or breaks the entire year for retailers. Spending is high
worldwide as the year wanes and people start feeling closure on
their financial year. Even in the West, some of this holiday
spending funnels into gold jewelry for loved ones and bullion for
investment.
So world gold
demand is indeed highly seasonal, for a variety of reasons.
Understanding this is important as we traders can increase our odds
for success if we trade with these seasonal trends. But do these
gold seasonals affect the gold stocks? Each time I write about gold
seasonality I receive a blizzard of e-mails asking how pure HUI
seasonality looks. Does this flagship unhedged-gold-stock index
follow gold?s seasonal lead?
In order to
address this excellent question, I applied the same methodology I
have used for gold seasonals to the HUI itself. This was described
in depth in my latest essay
on gold
seasonals, but here are the highlights. Unlike typical
multi-decade futures seasonality studies that span bull and bear
alike, I am only interested in how HUI seasonality has unfolded
within this bull market. Past behavior within bears is probably
not all that relevant to future behavior within this bull. So all
of these charts only extend back to 2000 when today?s bull was born.
To build these
charts, each calendar year?s daily closing data was individually
indexed. The first trading day of each year was assigned a value of
100 and every subsequent day of that year was indexed off of it
based on absolute percentage gain. All of these individual annual
indexes are then date-matched and averaged together. The result,
when plotted, shows the seasonal tendencies of the HUI within its
bull market to date.
Since the average
of annual indexing doesn?t show how dispersed the underlying data
actually is, standard-deviation bands are also rendered. The
tighter the bands, the closer the underlying annual indexed numbers
were before they were averaged. The closer the pre-average data,
the higher the probability the seasonality in that region of the
chart will stay relevant going forward. Closer means it isn?t just
a statistical anomaly created by a couple of extreme outlying
years. The small inset charts show the full standard-deviation
bands.
While this essay
is on the HUI bull seasonals, we still need to start with gold bull
seasonals since the gold price is the primary driver of the gold
stocks. This chart is updated from
my July essay
on gold seasonality. The primary question that led to this thread
of research was whether gold stocks tend to follow gold?s seasonal
lead. So before we get into HUI-specific seasonals, we must first
have a clear picture of gold?s.
Gold tends to have
three big seasonal rallies every year. Provocatively for traders
today, its largest by far tends to start in mid-October and then
power higher into early February. This reflects the fabled autumn
buying season for gold. General Asian demand, Indian wedding
season, Western holiday buying, and other regional factors lead to a
major surge in gold demand and often gold prices this time of year.
Gold traders know
this well and usually really add to their long positions in
anticipation of this tendency. While gold seasonality certainly
doesn?t guarantee the gold price will comply every year, it sure
increases the odds. Seasonality is like a tailwind on top of the
other fundamental, technical, and sentimental factors driving gold.
When these other factors are already bullish, strong seasonality
ramps up the probabilities of imminent gains even further.
This chart has
been especially intriguing lately. Note above that gold tends to
start rallying in late August, climb even higher in the first half
of September, and then really shoot higher in the second half of
September. Sound familiar? This was exactly what happened over the
last six weeks or so. But since this chart includes data to the end
of September 2007, perhaps gold?s awesome performance lately unduly
skewed this chart.
Thankfully this is
easy to test. In my July essay on gold seasonals, the data only
runs to the end of June. Check out
the first chart
in that summer essay. Although a bit less extreme than the chart
above, gold still had the exact same tendency to do what it did from
mid-August to late September. Its seasonal patterns then and now
are virtually identical. So prior to September 2007, gold
already had a well-established tendency to rally modestly in the
first half of September and then shoot higher in the second half.
This ought to
disturb you as it calls into question today?s orthodox perceptions
of last month?s gold trading action. Almost everyone today assumes
that gold rallied because
the Fed cut
rates while the dollar hovered on the edge of the abyss. And I
agree that these factors are almost certainly the primary causes of
gold?s excellent month. But even last summer, the gold seasonality
chart already showed a crystal-clear tendency for a very similar
September price pattern to occur even without any Fed machinations.
So would gold have
rallied modestly initially last month and then shot higher in the
second half even without the Fed? Probably, as it sure has the
tendency to do just that regardless of the Fed. Perhaps traders
today should be attributing more of gold?s September to usual
seasonal buying and less to the Fed?s throwing the dollar to the
wolves. Maybe all the Fed really did for gold was modestly amplify
already established seasonality.
Another
interesting revelation from the July chart, which is even more
pronounced here, is gold?s seasonal tendency to pull back rather
sharply in early October. This, of course, is exactly what we
witnessed this week. The d?j? vu is pretty uncanny. After this
initial sharp pullback, gold gradually grinds lower and consolidates
for a week or two. This early October consolidation is extremely
important because it offers traders our last chance to load up on
long positions ahead of the biggest seasonal rally of the year.
And gold?s
tendencies right now are even more relevant because the
standard-deviation bands of its seasonality are fairly tight right
now. It wasn?t a couple of extreme annual results that distilled
down to today?s seasonality, but seven individually-indexed years
with a rather narrow clustering of indexed levels this time of
year. This renders today?s narrow window of time in which to add
long positions all the more important.
So back to our
original question, does gold seasonality drive HUI seasonality?
Absolutely! Take one more look at the gold chart above and then
quickly scroll to this HUI specimen. The HUI?s big seasonal
rallies, as well as its seasonal weak spells, mirror gold?s
incredibly well. If I cut off the left axes that map the magnitude
of these indexed moves, these two charts would be virtually
indistinguishable to the casual eye.
When comparing
these charts, realize that the HUI?s goes to 135 indexed while
gold?s only goes to 114. So while they look very similar, with
major peaks and troughs throughout a typical seasonal year matching
closely, the HUI amplifies gold?s volatility considerably. For
example, in January and February the HUI tends to go from 100 to 108
indexed while gold only tends to move from 100 to 103.
This HUI leverage
to gold is the only reason why anyone invests in gold stocks. If
the far-riskier gold stocks only tended to pace gold?s gains, then
it would make a lot more sense to own the much-less-risky physical
metal itself. But since gold stocks have amplified gold?s gains on
the order of 5.3 to 1 in their respective bulls to date, betting on
the stocks is well worth their additional risk.
Mirroring gold,
the HUI also has three big seasonal rallies each year. In indexed
terms, the one ending in May tends to rise 16 points and the one
ending in September 18 points. But it is the third, and largest
one, that is most interesting today. It tends to start powering
higher in mid-October and climb up 25 indexed points by February!
It shouldn?t be surprising that the biggest seasonal HUI rally of
the year follows the biggest gold rally.
It is gold that
drives the gold stocks. Higher gold prices mean higher profits for
mining the metal. Higher profits ultimately translate into higher
stock prices. Since the price of gold in a secular bull tends to
rise faster than the costs of mining the metal, even during a
commodities bull, it is the gold price that has the single largest
impact on worldwide gold-mining profits. So if gold is going to be
seasonally strong, the HUI should benefit tremendously as traders
anticipate higher profits.
Now this seems
simple and obvious, but an increasingly popular heresy disputes the
truth in these charts. Due to a few isolated episodes in 2007 where
gold stocks fell with the general stock markets, many PM traders
believe that it is the general stock markets that drive the HUI, not
gold. It is now fashionable to believe that no matter what gold
does, if general stocks
enter a bear
market the HUI will be dragged down with them.
This concern is
not new, and I have researched and written a great deal about it
over the last seven years. While the HUI can certainly fall with
general stocks for a few days during aggressive high-fear selling,
overall it
thrives through stock bears. From early 2000 to early 2003, the
S&P 500 lost 49% of its value at worst. Meanwhile the HUI soared
322% higher at best within this bear. The HUI even rose
within each of its three most vicious downlegs. PM stocks are
classic alternative investments not correlated with general
stocks.
These HUI seasonal
charts help illuminate this general-stock-bear concern from another
angle. The three bear years in the early 2000s that slaughtered
general stocks are also included to arrive at this seasonal
average. Thus these HUI bull seasonals transcend general-stock
bulls and bears alike. While gold stocks can be temporarily
distracted from time to time, they always follow gold in the end
since it drives their profits.
In my gold
seasonality studies, I also take a look at calendar-month
seasonality. Instead of indexing calendar years, calendar months
are indexed. Each month of each year is started at a level of 100
with the rest of the days indexed off of it. Then all the Januaries
are averaged together, all the Februaries, etc. I was curious on
how the HUI tends to perform within calendar months in this bull, so
I did the same analysis here. Realize that each calendar month is a
discrete individually-indexed unit, so one month does not connect to
the next.
This additional
perspective on seasonality is interesting. It closely follows the
annual-indexed approach of course, but by distilling the data in a
different way it also illuminates additional seasonal tendencies.
The HUI?s best calendar months of the year in its bull to date have
tended to be August, November, and May. And November is rapidly
approaching, a great reason to deploy more capital on this October
weakness.
Now when I first
saw this chart this week, I had to chuckle at August being the
strongest month in this bull to date. On average, the HUI has
soared almost 8% in Augusts since 2000. November and May have come
close to this performance on average, but August still wins out.
Obviously this past August didn?t cooperate though. The index fell
5% in a month that was marked by a brutal mini-panic in the middle.
This discrepancy
between what was expected and what actually happened helps
illustrate some of the key limitations of seasonality for traders.
Seasonality is simply a tendency, a bias for a price to move
in a particular direction at a particular time of the year. But
seasonality isn?t always a driving factor. Technicals and
sentiment, especially near extremes, can easily override seasonality
and drag the HUI off of its expected seasonal vector.
August 2007 was a
really unique month. Sentiment for gold stocks
was horribly bad
after they had consolidated for 15 months straight. In the middle
of the month worries about the general stock markets temporarily
spilled over into gold stocks and drove a mini-panic as many traders
capitulated. For our subscribers, I explained this whole chain of
events in great depth in the September issue of Zeal Intelligence.
Fear soon got out
of hand as intense selling dominated gold-stock prices and they
plummeted. This easily overwhelmed the usual strong August
seasonals. But check out July in this chart. July tends to look
like August did this year. Yet in 2007 July witnessed a 5% gain in
the HUI. The usual mid-summer selling in the HUI that tends to hit
in July came a month later this year in August. And after that the
usual subsequent rally was compressed into September. This helps to
illustrate just how elastic seasonal tendencies can be.
All traders who
consider seasonality in their decisions would do well to ponder
this. Seasonality doesn?t offer precise timing, just general
probabilities. So while gold and the HUI tend to start
rallying strongly again in mid-October, if their rallies start a
week or two early or late it doesn?t negate the seasonal
tendencies. Since seasonals aren?t precise and they are so easily
overridden by technicals and sentiment, I think seasonals should
never be used as a primary trading tool.
But seasonals
excel at increasing the odds for success of trades made for
fundamental, technical, and sentimental reasons. Gold continues to
be a great
fundamental buy today for a wide range of reasons, including the
struggling US dollar. In
real
inflation-adjusted terms, its price isn?t even close to looking
long-term overbought yet. And it hasn?t yet
stretched far
enough above its 200-day moving average to signal the end of
this upleg. Gold?s sentiment is certainly not euphoric either since
few have been really excited about it since May 2006. Together
these factors might give us a 75% chance for success for a long
trade today.
But when bullish
seasonals are added on top of these primary drivers, they create an
additional probability tailwind. With gold?s seasonal tendency to
start its strongest rally of the year in the next couple of weeks,
perhaps today?s probability for success rises to 85%. Although
these absolute numbers are guesses, the relatively small impact of
seasonality compared with that of primary drivers is not. So please
realize seasonality is only relevant as a secondary indicator
if primary indicators are already lining up to drive a trade.
At Zeal we are
constantly studying gold and the HUI from fundamental, technical,
and sentimental perspectives. Today the metal and stocks look to be
in a very bullish position due to these primary drivers regardless
of seasonality. But with both gold and HUI seasonality shifting
massively bullish in the coming weeks as well, our odds for success
on long trades climb even higher. These seasonal tailwinds are very
welcome.
So in response to
all the bullish fundamental, technical, sentimental, and seasonal
factors that are converging today to launch gold and its miners much
higher, we are aggressively adding positions in elite PM stocks. If
seasonals prove true to their bull-to-date precedent, we have a
narrow window here during this early-October consolidation to deploy
ahead of the next upleg. If you want to join us in this probable
highly-profitable ride higher,
please subscribe
today to our acclaimed
monthly newsletter
and mirror our new trades.
The bottom line is
HUI bull seasonals track gold bull seasonals closely, which is no
surprise for students of the markets. While not a precise primary
indicator for upcoming HUI performance, when seasonals match with
primary indicators the odds for success in new trades rise
considerably. Today we are in such a situation, when bullish HUI
seasonals match and buttress bullish HUI fundamentals, technicals,
and sentiment.
Provocatively both
gold and HUI seasonals expected this week?s sharp pullback in
early October followed by a couple of weeks of grinding
consolidation. But once this short-lived buying opportunity ends,
the seasonals project the start of the strongest gold and HUI
rallies of the year. So if you have been waiting to add new
PM-related trades, you should consider seizing this narrow window of
opportunity.
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