Gold – Now ready to rise?

The extreme poor sentiment readings for gold indices and the rebound of the US$ gold price from the important US$1137 low give good indications of the probability of an improved medium term outlook for both gold and gold stocks.  The technical picture for gold stocks has been encouraging and the valuations for gold stocks are extraordinarily attractive. The move could show considerable violence.

Demand for physical gold and silver has been very strong throughout the world and particularly in China and India where monthly imports appear to be well over 300 tonnes per month and so in excess of monthly mine production.  This graphic shows the robust increase in end-user/investor gold demand in China that was about 40 tonnes per month in 2009 and is currently over 200 tonnes per month.  This graphic shows essentially just gold imports and not Chinese gold mine production where China is also the world’s largest producer at well over 400tpa. Changes to India’s gold import rules under the new Modi administration have allowed imports to be over 150 tonnes per month. Perhaps even higher.  
Source: Koos Jansen   BullionStar

Demand for coins from the major mints has been very strong and supply has faltered.  As the gold and silver prices decline the market increases its physical demand. US mint sales have been very strong and Bloomberg recently noted gold sales from the Perth Mint (Australia at about 280 tonnes is the second biggest gold producer after China) climbed 89 percent in September to the highest level in almost a year as gold prices declined. Sales of gold coins and minted bars rose to a 12 month high of 68,781 ounces from 36,369 ounces in August.

Bringing these all together gives a model that says demand for jewellery, bar and coins is firm and rising and when combined with growing central bank purchases and a minor increase in ETF holdings now exceeds supply from new mining and a declining availability of scrap.

Gold has about 177,000t of above ground stock so any or all of this may be available for sale at any time.  Nevertheless, outside the ETFs any holder of gold in size is a central bank or a true believer and unlikely to be a seller and certainly not engage in dumping in the large quantities we have seen in recent years.  So the market could be remaining tight.  

Interestingly the US COMEX gold exchange is providing some fascinating data of the activities of traders in the futures market. 

As of late November over 50,000  100 oz gold contracts (5 million oz) had not been rolled over and might suggest party or parties were looking to take physical delivery of gold on COMEX.

Moreover, data from the Commitment of Traders (COT) has shown a 25% increase in new short positions over the past month or so.  Demand for delivery of gold could be a very important issue here and could lead to some real shortcovering.


Source: Mark Lundeen

The latest weakness in gold in October has coincided with a recovery in the US$ Index against an especially weak Japanese Yen and lower Euro.   These currencies make up around 13% and 57% of the USDX and both seem to be ready to retrace at least some of the recent falls so USDX might pull back here.  I am sure you are aware of the UNIVERSAL bullishness on the US$. 

The technical position on gold still seems reasonable even though it has been quite difficult in recent months.  Down but not out and today’s sharp rally may be suggesting lot more to come!

Market cross currents continue to make forecasting anything more than an uneducated guess but for gold stocks the `wedging’ of gold indices and many stocks makes for a greatly improved technical position despite that sharp fall on Friday 28 November and on Monday 1 December after the negative Swiss referendum result. The XGD here in Australia suggests a strong upmove is coming.

ASX  XGD Gold Index

Two key stocks are Newcrest and Kingsgate with strong wedging patterns and very high volumes.

However, overall trading volumes on ASX have been low compared to the MASSIVE volume in the GDX ETF in Nth America.

 

Of perhaps greater interest is this graphic of the Philadelphia Gold Index (XAU) which has an Elliot Wave interpretation that finished Wave 1 at the beginning of 2008 then fell into its GFC hole for wave A only to rally to new highs in 2011 to an irregular B wave.  The C wave exhibited a perfect 5 wave down process that should soon see the end of Wave 2 in this horrendous 44 month bear market.

 

Note that C waves into Wave 2 occur at the period of greatest pessimism and Pessimism ONLY exists at the end of Wave 2.   Every reason for gold to fall is out now on the front pages and gold shares are absolutely unloved.  The extraordinary build up of cash in Australia and globally is clearly Wave 2 Pessimism writ large and it can only go one way from here!

And after Wave 2 comes Wave 3!  The Optimism upleg.

Hopefully the improvement for gold and gold stocks will play out over other sectors so it should also mean better times eventually for all commodities and resources equities in particular.

Indeed the short cover rally in gold suggested in the last Dawes Points will probably follow through to all markets led by the strong US equity markets, Europe, India and China.  Australia, if it wakes from its torpor, just might follow.

But stepping back for while the observation is made that over the past several years of these volatile resources markets I have been very intrigued by market sentiment.  Markets are simply the meeting of buyers and sellers of goods and services and changes in price are all about the simple emotions of fear and greed.

I have previously quoted the words of the legendary investor Sir John Templeton (1912- 2008) who famously described fear and greed in markets by saying:-

`Bull-markets are born on pessimism, grow on scepticism, mature on optimism and die on euphoria.’

For the resources sector we have had a lot of Pessimism for a long time and we have had no Euphoria let alone Optimism.

I attempted an embellishment of Sir John’s assessment by involving some Elliot Wave analysis and labelling the first leg (Wave 1) in the new bull market `Disbelief’, the first major correction `Pessimism’ (Wave 2), the second leg `Optimism’ (Wave 3), the next correction `Opportunity’ (Wave 4) then the final upleg being `Euphoria’ (Wave 5).

This then gave us this roadmap diagram which was first presented exactly six years ago on 1 December 2008 at Australia Day at Mines and Money in London.

It worked OK for quite a while and has worked wonderfully well for US and many other equity markets but certainly not for resources since April 2011.

So where are we now?

As we are all aware,  the Resource Sector here in Australia has had thumping after thumping for the 44 months as the industry is demoralised and investors have been savaged. Demand for most commodities have been robust over this time despite the calls for downturns in all the US, Eurozone, Chinese and Emerging Markets.  Most have had good GDP numbers and the PMI for China yesterday showed yet again a still expanding economy. It is notable that the commentariat has recently switched from claims of declining demand to claims of excess new supply from producers as the reason for the perceived weakness in commodity prices.    

The falls in oil and iron ore are very real and not perceived but many other commodities the supply/demand positions appear robust.

It would be easy to accept the conventional wisdom and take the bearish course but six major issues need to be considered and resolved.

Taking a very strong US equity market and economic data that is very encouraging with very robust physical demand for gold certainly suggests a positive outcome is possible.

The bond markets continue to suggest `end of 30 year bull market’ characteristics and could  soon reverse sharply. 

So if the above analysis of gold stocks is correct (in today’s volatility who would ever know) then my roadmap becomes a little bit different but indicates basically the same outlook.

The market upleg began in Dec Qtr 1998 at the bottoming of the commodity market and peaked in 2007/08 and the GFC correction has extended over seven years.  The first leg and the correction have taken 16 years.  Note the long time frame.

The Optimism upleg if it does indeed occur could last at least 10 years and not just to 2020.  China has not fallen over and India will be there over the next few years to add to demand for bulk raw materials.  The Euphoria was expected to coincide with the peaking of aging demographics in China in about 2030.  

Coming back to gold.

We all know gold is a topic of hot debate with the protagonists of both the bull and the bear cases having a remarkably broad range of bases for discussion.  Inflation, currency debasement, hostilities, debt, interest income (or lack of it!), inverse US$, interest rates, jewellery demand, whatever. 

The arguments are fascinating and would keep us all engaged forever if we had the time.  In these notes I do try to keep the issues simple and with gold, complex as it is, it is a matter of fear and greed and thereby supply and demand.  Gold, with about 177,000 tonnes or about 50 years mine production available, is unlike any other market in that supply can’t be affected by weather, floods or  strikes and a few local hiccups in mine production here and there doesn’t have much effect  so it is mostly about fear and greed.

Gold stocks in the US and in Australia have declined sharply over the past 44 months and are trading at very low levels as shown in the graphics above.  Sentiment is clearly poor for holders of these shares and any potential buyer is gun shy and particularly very wary of risks associated with clear market manipulation. Short positions in some stocks are considerable.

When measured against gold itself these gold stocks are at massive discounts to the long term averages.  Some higher input costs, inadequate accounting for total costs, lower long term ore grades (as new mines have high volume low grade ore throughput) and bad management decisions have undermined relative values but however we look at them the positions are extreme.

Here in Australia the ASX Gold Index is still down 80% from its April 2011 highs and made a new low below that of Dec 2013 which I previously thought had to be the real low.

The shorter term market is best seen in this wedging pattern shown again for the XGD.  Technical patterns like this can be resolved with sharp upmoves and a two year view could put XGD at about 5000 again, up about 150%.

The same `wedging’ can be seen for so many gold stocks and with all the November AGMs out of the way now we have a good collection of presentations that give up to date data on output and costs forecasts.

In noting the 24 stocks in the XGD and a chosen few from outside it is possible to ascertain the market leaders with best relative strength.

NST and TBR have excellent operators and have made new highs in recent months so are clear market leaders with BDR, TRY,MLX and ABU also having relative strength.

OGC, GOR, DRM and SAR have good market character and are also BUYs.

Many stocks are just oversold and are wedging to give strong rebounds.      NCM, KCN, EVN, RSG, MML and RRL are BUYs.

I have given some notional price targets based simply on technical character and backed up by reviews of the latest AGM presentations.  The issues for individual stocks are far more complex of course but we are talking about stocks down 80% and at the start of a new bull market in gold.

Risk is low, reward is high!  

Gold Sector Dec 2014

 

Last high

Downtrend months

Price decline

Current price

2 Year target

Gain %

Rank Technical

Comment

   

 

 

 

 

 

 

 

XGD

Apr-11

44

80%

1701

5100

200%

9

Strong

ALK

Apr-11

48

93%

20

100

400%

9

Strong

AQG

Dec-11

42

82%

205

350

71%

9

Strong

BDR

Mar-13

18

83%

19

70

268%

9

Rebound

DRM

Nov-10

50

84%

27

100

270%

9

Rebound

EVN

Nov-10

50

81%

43

130

202%

9

Strong

FML

Apr-11

44

85%

1.6

3

88%

6

Avoid

IAU

Apr-11

44

94%

15.5

?

 

6

Wait

KCN

Apr-11

44

95%

62

400

545%

9

Strong

KRM

Apr-11

44

87%

25.5

60

135%

5

Rebound

MML

Apr-11

44

93%

57

250

339%

9

Rebound

NCM

Apr-11

44

78%

918

2400

161%

9

Strong

NGF

Dec-09

50

60%

14

25

79%

5

Avoid

NST

Sep-14

2

50%

96

300

213%

9

Strong

OGC

Dec-10

50

50%

207

400

93%

9

Strong

PRU

Sep-11

38

94%

24

200

733%

9

Rebound

RED

Sep-11

38

96%

8.7

?

   

Wait

RRL

Dec-11

38

78%

129

250

94%

8

Strong

RSG

Dec-11

38

89%

23

60

161%

9

Rebound

SAR

Dec-11

38

78%

21

90

329%

9

Strong

SBM

Dec-10

50

97%

8

?

   

Wait

SLR

Dec-11

38

94%

22.5

85

278%

6

Rebound

TBR

Aug-14

3

33%

265

500

89%

9

Strong

TRY

Dec-12

23

91%

46

200

335%

9

Rebound

Non XGD stocks I like

GOR

Apr-11

44

76%

20.5

150

632%

9

Strong

CGN

Sep-09

62

97%

12.5

50

300%

9

Strong

ABU

Nov-11

36

82%

22

90

309%

9

Strong

MLX

Dec-10

50

56%

70

300

329%

8

Strong

I own NCM, NST, TBR, BLK, ABU, CGN, GOR, DRM, MLX.

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