Briefly: in our opinion, full (300% of the regular position size) speculative short positions in junior mining stocks are justified from the risk/reward point of view at the moment of publishing this Alert.
We’re almost there.
We’re almost at the point where stock market investors give up and let the big plunge unfold. I wrote about the link between the general stock market and the precious metals market previously, but as a quick reminder, they are likely to decline together, at least initially, and junior mining stocks are likely to feel the biggest pain.
For broader context, please take a look at yesterday’s analysis, if you haven’t had the chance to do so yet.
If you’re familiar with it, let’s take a closer look at the S&P 500 futures.
Even though it might not be clear at first sight, stocks actually made a new yearly low yesterday, which, of course, is something important.
They moved back up in today’s pre-market trading, but the breakdown could really be confirmed this time. We already saw a corrective rally earlier this month, and it failed to ignite a trend reversal. It's no surprise that interest rates are rising and inflation has yet to abate. History shows that rates need to climb much higher for that to happen.
Anyway, if stocks decline further soon – and that appears likely – they will then break below the neck level of the head-and-shoulder formation that started in mid-June. Based on this formation, stocks are likely to move much lower – approximately repeating their August-September decline.
What if junior mining stocks also repeat their August-September decline?
Well, then they would be likely to fall significantly – to $22-24.
However, based on the link to 2013, and based on where the strong support levels are (there aren’t any really strong support levels between ~$26 and the 2020 lows), the GDXJ is likely to decline even more.
Of course, that is unlikely to happen unless gold falls too.
The thing, however, is that gold is likely to fall, and to fall hard.
Just like it’s the case with mining stocks, gold doesn’t have any strong support all the way down to its 2020 lows. There’s support a bit below $1,600 (previous low), but it’s not very strong. Based on the link to 2013, a bigger decline is likely in the cards, so the 2020 lows appear to be the most likely target in my view.
Zooming in allows us to see that although there was an intraday rebound yesterday, overall it changed practically nothing, given where gold is trading at the moment of writing these words.
So, as the move above $1,700 was invalidated, the outlook for gold and the rest of the precious metals sector is very bearish.
Having said that, let’s take a look at the markets from a more fundamental point of view.
Stuck in Reverse
While risk assets attempted a daily rally on Oct. 11, Bank of England (BOE) Governor Andrew Bailey spoiled the party with his hawkish warning to U.K. pension funds. After restarting QE to curb the rapid rise in U.K. interest rates, he said:
“My message to the funds involved and all the firms is you’ve got three days left now. You’ve got to get this done. The essence of financial stability is that [intervention] is temporary. It’s not prolonged.”
Thus, while gold bucked the trend, it was another down day for silver, mining stocks and the S&P 500. Furthermore, with Fed officials undeterred by the financial market volatility, Cleveland Fed President Loretta Mester said on Oct. 11:
“Unacceptably high and persistent inflation remains the key challenge facing the U.S. economy. Despite some moderation on the demand side of the economy and nascent signs of improvement in supply-side conditions, there has been no progress on inflation.”
She added:
“Given current economic conditions and the outlook, at this point the larger risks come from tightening too little and allowing very high inflation to persist and become embedded in the economy.”
As a result, Mester reiterated that a dovish pivot is out of touch with fundamental reality.
Please see below:
Source: Reuters
Therefore, with central bankers ignoring investors’ cries for help, suddenly, buying the dip isn’t so profitable anymore (you have been warned). However, with the Consumer Price Index (CPI) scheduled for release on Oct. 13, volatility could be amplified depending on the result. As such, while material intraday swings could be the norm for the foreseeable future, the PMs’ medium-term fundamentals remain profoundly bearish.
To that point, with Big Tech a major driver of the S&P 500’s performance, rate hikes and quantitative tightening (QT) should weigh on both. Likewise, since the GDXJ ETF is more correlated to the S&P 500’s movement than its precious metals peers, the junior miners are caught in the crossfire.
Please see below:
To explain, the dark blue line above tracks central bank liquidity, while the light blue line above tracks the combined market capitalization of Apple, Amazon, Meta Platforms, Alphabet, Microsoft, Netflix, and Tesla. If you analyze the relationship, you can see that quantitative easing (QE) and low interest rates were a boon for Big Tech post-GFC.
However, with the trend reversing, the Fed needs to remove liquidity to quell inflation, and the policy stance should continue to suppress Big Tech’s multiples, while the GDXJ ETF should underperform gold as the drama unfolds.
In addition, while investor sentiment remains highly depressed, the economic impact of the liquidity drain has been relatively minimal outside of the U.S. housing market. Moreover, with the Atlanta Fed projecting resilient real GDP growth in Q3 and demand outweighing supply in the U.S. labor market, the economic climate isn’t as bad as the daily price action suggests.
However, with more rate hikes needed to suppress demand, a sharp rise in bankruptcies could spark the next bout of panic.
Please see below:
To explain, Bank of America counted recession (the light blue line) and bankruptcy stories (the dark blue bars). If you analyze the relationship, you can see that bankruptcies often move in lockstep with recessionary fears.
However, the right side of the chart shows how bankruptcy stories remain well below recession stories. Yet, that gap should close in the months ahead, as money-losing companies that rely on debt/equity financing to survive could be the next shoe to drop.
For context, I wrote on Oct. 10 that Minneapolis Fed President Neel Kashkari noted the issue on Oct. 6. He said:
“I fully expect that there are going to be some losses and there are going to be some failures around the global economy as we transition to a higher interest rate environment, and that’s the nature of capitalism.
“We need to keep our eyes open for risks that could be destabilizing for the American economy as a whole. But to me, the bar to actually shifting our stance on policy is very high. It should not be up to the Federal Reserve or the American taxpayer to bail people out.”
As a result, with Fed officials warning investors they're on their own until inflation subsides, a cold winter should confront risk assets.
More Employment Strength
I’ve long warned that a demand-driven U.S. labor market is bullish for Fed policy, and as long as the employment outlook remains constructive, the central bank should make life difficult for gold, silver, mining stocks, and the S&P 500. I added on Oct. 10:
While I stated on Sep. 22 that a resilient U.S. labor market gives the Fed the green light to hammer inflation, Waller made the point for me.
Please see below:
Source: Bloomberg
So with more supportive data hitting the wire recently, the results are bullish for the U.S. federal funds rate (FFR), the U.S. 10-Year real yield and the USD Index.
For example, the Conference Board released its Employment Trends Index (ETI) on Oct. 10. The headline index increased from 118.48 in August (a downward revision) to 120.17 in September. Frank Steemers, Senior Economist at The Conference Board, said:
“Some easing to labor shortages is expected as the demand for workers diminishes. However, recruitment and retention difficulties will not disappear as the unemployment rate is only projected to rise to around 4.5% in 2023 and labor supply remains challenged. In this environment, wage growth may also remain elevated. Companies will need to prepare for continued labor shortages and further improve their sourcing and retention strategies to remain competitive.”
Thus, while demand destruction is the perfect ingredient for a dovish pivot, we’re far from that scenario.
Please see below:
On top of that, the NFIB released its Small Business Optimism Index on Oct. 11. The headline index increased from 91.8 in August to 92.1 in September. Moreover, the NFIB’s jobs report (released on Oct. 6) revealed:
“64% reported hiring or trying to hire in September, up one point from August. Eighty-nine percent of those owners hiring or trying to hire reported few or no qualified applicants for their open positions. Twenty-seven percent of owners reported few qualified applicants for their open positions and 30% reported none.”
In addition:
“Small business owners’ plans to fill open positions remain high, with a seasonally adjusted net 23% planning to create new jobs in the next three months, up two points from August.”
Therefore, despite the Fed’s efforts, small business labor demand increased month-over-month (MoM).
Please see below:
Source: NFIB
Also noteworthy, the percentage of small businesses with at least one unfilled job opening is closer to its all-time high than its pre-COVID-19 level.
Please see below:
Source: NFIB
Add it all up, and the U.S. labor market remains on solid footing. Likewise, while Wall Street assumes its gloomy mood can influence Fed policy, the reality is that Main Street considers inflation more problematic than decelerating demand.
Please see below:
Source: NFIB
To explain, the red rectangles above show how inflation and the cost of labor are high on the list of small businesses' "single most important problem." In contrast, the percentage of respondents citing poor sales declined from 4% in September 2021 to 3% in September 2022, and the current reading is only 1% above its all-time low.
As such, the Fed still has plenty of room to raise the FFR before the U.S. labor market suffers, and a realization is profoundly bearish for gold, silver, and mining stocks.
The Bottom Line
With the ‘’good news is bad news’ mantra maiming the bulls, a resilient Main Street is highly bearish for Wall Street. Moreover, with the S&P 500 and the GDXJ ETF selling off mid-day on Oct. 11, anxiety is contagious. So while the CPI release could be a ‘sell the rumor, buy the news’ event, the PMs and the S&P 500’s fundamental issues are far from solved.
In conclusion, the PMs were mixed on Oct. 11, as gold ended the day in the green. Conversely, the U.S. 10-Year real yield ended the day flat, and the USD Index delivered a similar performance. However, the Fed’s inflation fight is bullish for both metrics, and they should hit higher highs in the months ahead.
Overview of the Upcoming Part of the Decline
- It seems to me that the corrective upswing is over, and that the next big move lower is already underway.
- If we see a situation where miners slide in a meaningful and volatile way while silver doesn’t (it just declines moderately), I plan to – once again – switch from short positions in miners to short positions in silver. At this time, it’s too early to say at what price levels this could take place and if we get this kind of opportunity at all – perhaps with gold prices close to $1,600.
- I plan to switch from the short positions in junior mining stocks or silver (whichever I’ll have at that moment) to long positions in junior mining stocks when gold / mining stocks move to their 2020 lows (approximately). While I’m probably not going to write about it at this stage yet, this is when some investors might consider getting back in with their long-term investing capital (or perhaps 1/3 or 1/2 thereof).
- I plan to return to short positions in junior mining stocks after a rebound – and the rebound could take gold from about $1,450 to about $1,550, and it could take the GDXJ from about $20 to about $24.
- I plan to exit all remaining short positions once gold shows substantial strength relative to the USD Index while the latter is still rallying. This may be the case with gold prices close to $1,400 and GDXJ close to $15 . This moment (when gold performs very strongly against the rallying USD and miners are strong relative to gold after its substantial decline) is likely to be the best entry point for long-term investments, in my view. This can also happen with gold close to $1,400, but at the moment it’s too early to say with certainty.
- The above is based on the information available today, and it might change in the following days/weeks.
You will find my general overview of the outlook for gold on the chart below:
Please note that the above timing details are relatively broad and “for general overview only” – so that you know more or less what I think and how volatile I think the moves are likely to be – on an approximate basis. These time targets are not binding nor clear enough for me to think that they should be used for purchasing options, warrants, or similar instruments.
Letters to the Editor
Q: I'm concerned about England's problems and how they will affect the world's banking system. I do believe the PMs will continue to go lower for all the reasons you have stated. My worry is that the BOE will trigger a world financial crisis. Your thoughts, please.
A: I wrote a bit about England’s problems today, but I’d like to add that, overall, the entire financial system will have a problem with high interest rates. And yes, I expect the outcome to be somewhat similar to what we saw in 2008.
How did the markets perform then? There was a big slide in gold that was then followed by a long-term rally, and the stock market declined severely, bottoming out after gold. While gold declined, silver and mining stocks truly plunged. That’s what I also expect to happen this time. And yes, I expect the precious metals sector to rally in the months (and probably years) that follow this upcoming bottom.
Summary
Summing up, it seems that the biggest part of the 2013-like decline is taking place right now, and – while I can’t make any promises regarding performance - it seems likely to me that our big profits are about to become huge, and then ridiculously big in the relatively near future.
As far as this quick corrective upswing is concerned, it seems that it might already be over.
The current quick upswing most likely doesn’t change anything. Fundamentals and technicals continue to point to lower precious metals values in the coming weeks / months. The current geopolitical news-based rally is likely to serve as nothing more than just a verification of the breakdown below the previous lows in gold.
Things might happen very fast in the coming days, and if I plan to make any adjustments, I’ll keep you informed. Still, if the targets that I’m mentioning in the “Trading” part of the summary are reached, I think that profits should be taken off the table without an additional confirmation from me. I will probably get on the long side of the market at that time, but I’ll send a confirmation if I decide to do so.
After the final sell-off (that takes gold to about $1,350-$1,500), I expect the precious metals to rally significantly. The final part of the decline might take as little as 1-5 weeks, so it's important to stay alert to any changes.
As always, we'll keep you – our subscribers – informed.
To summarize:
Trading capital (supplementary part of the portfolio; our opinion): Full speculative short positions (300% of the full position) in junior mining stocks are justified from the risk to reward point of view with the following binding exit profit-take price levels:
Mining stocks (price levels for the GDXJ ETF): binding profit-take exit price: $20.32; stop-loss: none (the volatility is too big to justify a stop-loss order in case of this particular trade)
Alternatively, if one seeks leverage, we’re providing the binding profit-take levels for the JDST (2x leveraged). The binding profit-take level for the JDST: $29.87; stop-loss for the JDST: none (the volatility is too big to justify a SL order in case of this particular trade).
For-your-information targets (our opinion; we continue to think that mining stocks are the preferred way of taking advantage of the upcoming price move, but if for whatever reason one wants / has to use silver or gold for this trade, we are providing the details anyway.):
Silver futures downside profit-take exit price: $12.32
SLV profit-take exit price: $11.32
ZSL profit-take exit price: $79.87
Gold futures downside profit-take exit price: $1,504
HGD.TO – alternative (Canadian) 2x inverse leveraged gold stocks ETF – the upside profit-take exit price: $19.87
HZD.TO – alternative (Canadian) 2x inverse leveraged silver ETF – the upside profit-take exit price: $49.87
Long-term capital (core part of the portfolio; our opinion): No positions (in other words: cash)
Insurance capital (core part of the portfolio; our opinion): Full position
Whether you’ve already subscribed or not, we encourage you to find out how to make the most of our alerts and read our replies to the most common alert-and-gold-trading-related-questions.
Please note that we describe the situation for the day that the alert is posted in the trading section. In other words, if we are writing about a speculative position, it means that it is up-to-date on the day it was posted. We are also featuring the initial target prices to decide whether keeping a position on a given day is in tune with your approach (some moves are too small for medium-term traders, and some might appear too big for day-traders).
Additionally, you might want to read why our stop-loss orders are usually relatively far from the current price.
Please note that a full position doesn't mean using all of the capital for a given trade. You will find details on our thoughts on gold portfolio structuring in the Key Insights section on our website.
As a reminder - "initial target price" means exactly that - an "initial" one. It's not a price level at which we suggest closing positions. If this becomes the case (as it did in the previous trade), we will refer to these levels as levels of exit orders (exactly as we've done previously). Stop-loss levels, however, are naturally not "initial", but something that, in our opinion, might be entered as an order.
Since it is impossible to synchronize target prices and stop-loss levels for all the ETFs and ETNs with the main markets that we provide these levels for (gold, silver and mining stocks - the GDX ETF), the stop-loss levels and target prices for other ETNs and ETF (among other: UGL, GLL, AGQ, ZSL, NUGT, DUST, JNUG, JDST) are provided as supplementary, and not as "final". This means that if a stop-loss or a target level is reached for any of the "additional instruments" (GLL for instance), but not for the "main instrument" (gold in this case), we will view positions in both gold and GLL as still open and the stop-loss for GLL would have to be moved lower. On the other hand, if gold moves to a stop-loss level but GLL doesn't, then we will view both positions (in gold and GLL) as closed. In other words, since it's not possible to be 100% certain that each related instrument moves to a given level when the underlying instrument does, we can't provide levels that would be binding. The levels that we do provide are our best estimate of the levels that will correspond to the levels in the underlying assets, but it will be the underlying assets that one will need to focus on regarding the signs pointing to closing a given position or keeping it open. We might adjust the levels in the "additional instruments" without adjusting the levels in the "main instruments", which will simply mean that we have improved our estimation of these levels, not that we changed our outlook on the markets. We are already working on a tool that would update these levels daily for the most popular ETFs, ETNs and individual mining stocks.
Our preferred ways to invest in and to trade gold along with the reasoning can be found in the how to buy gold section. Furthermore, our preferred ETFs and ETNs can be found in our Gold & Silver ETF Ranking.
As a reminder, Gold & Silver Trading Alerts are posted before or on each trading day (we usually post them before the opening bell, but we don't promise doing that each day). If there's anything urgent, we will send you an additional small alert before posting the main one.
Thank you.
Przemyslaw Radomski, CFA
Founder, Editor-in-chief
