Briefly: in our opinion, full (300% of the regular position size) speculative short positions in mining stocks are justified from the risk/reward point of view at the moment of publishing this Alert.
We started yesterday's Gold & Silver Trading Alert with the Gold Miners Bullish Percent Index, and we'll start today's analysis in the same way. We'll do so, because we received a question about whether gold miners stayed overbought for a long time, while they kept pushing to new highs - just like what markets sometimes do (especially the general stock market) when a given indicator (say, RSI) is already overbought.
In short, no.
The only other case when the index was at 100, was in mid-2016. We marked this situation with a vertical dashed line. Did miners continue to move higher for a long time, or did they move much higher? No.
Precisely, the index reached 100 on July 1st 2016, and gold mining stocks moved higher for two additional trading days. Then they topped. This was not the final top, but the second top took miners only about 5% above the initial July high.
This year, the index reached the 100 level on July 2nd - almost exactly 4 years later, and once again practically exactly in the middle of the year. Yesterday was the third day after this move. It's not justified to assume that the delay in the exact top would be 100% identical, but it seems justified to view it as similar. Two-day delay then, and three-day delay now seem quite in tune.
There's also one additional case that we would like to emphasize and it's the previous high that the index made on November 9, 2010. That was the intraday top, so there was no additional delay. There was one additional high about a month later, in December, but miners moved only about 1.5% above the initial high then.
One might ask if mining stocks are really overbought right now given the unprecedented quantitative easing, and the answer is yes. Please note that in 2016 the world was also after three rounds of QE, which was also unprecedented, and it didn't prevent the miners to slide after becoming extremely overbought (with the index at the 100 level). The 100 level in the index reflects the excessive optimism, and markets will move from being extremely overbought to extremely oversold and vice versa regardless of how many QEs there are. People tend to go from the extreme fear to extreme greed and then in the other way around, and no fundamental piece of news will change that in general. The economic circumstances change, but fear and greed remain embedded in human (and thus markets') behavior.
It's unlikely that gold miners would wait as long before declining profoundly, or that there would be another move higher before the bigger decline. Why? We already wrote about that this week - for instance, because of gold's long-term turning point and because of USD's mid-year turning point:
Gold's very long-term turning point is here and since the most recent move was to the upside, the implications are bearish. They are particularly bearish since gold just invalidated the tiny breakout above its November 2011 high.
Naturally, everyone's trading falls within their responsibility, but in our opinion, if there ever was a time to either enter a short position in the miners or to increase its size if it wasn't already sizable, it's now. We made money on the March decline and on the March rebound (buying miners on March 13th), and it seems that another massive slide is about to start. When everyone is on one side of the boat, it's a good idea to be on the other side, and the Gold Miners Bullish Percent Index literally indicates that this is the case with mining stocks.
We used the purple lines to mark the previous price moves that followed gold's long-term turning points, and we copied them to the current situation. We copied both the rallies and declines, which is why it seems that some moves would suggest that gold moves back in time - the point is to show how important the turning point is in general.
The take-away is that the long-term turning point is a big deal, and that gold could fall significantly before it soars due to its extremely positive fundamental outlook. This also means that the downside target of $1,400 or slightly lower (the 2016 - 2018 highs) is well within the range of the possible moves.
Before that happens, however, we expect gold to pause closer to $1,700, more or less where the previous April - June declines ended. People will likely think that this is more of the same and gold would trigger another correction, but this time it would be just that - a correction within a big decline. Since the proximity of $1,700 worked so many times before, breaking below it in a decisive way is likely something that would make people sell en masse.
Now, gold moved higher yesterday and in the overnight trading, likely due to the move lower in the USD Index.
The USDX is now very close to the rising short-term support line and it's approaching the previous short-term lows. The former is a good reason for the USDX to reverse shortly, but the latter is something that makes the current situation similar to a very important point in the history of the U.S. currency.
Namely, we saw something similar in mid-2008 and in mid-2011. The mid-2014 is also quite similar, but at that time, the USDX's decline was smaller.
We have both: the same time of the year, and the same price pattern. And we have a fundamental situation in which the economy is in a much worse shape than the investors appear to assume. The pandemic is spreading, and the economic implications are getting worse, not better, while the stock market is still just about 7% below its all-time highs. As people start selling stocks, they will likely turn to cash (and - a bit later - to gold).
Also, silver tends to outperform in the final parts of a given move and it tends to break out above important technical levels only to then invalidate these breakouts shortly, making them "fake outs". And what did the white metal do recently?
Silver just broke above the previous 2020 highs. Bullish? Absolutely yes, if you're someone new to the silver market, and absolutely not if you have years of experience in it.
But the mining stocks - they also showed strength!
They did, however, not before underperforming to a significant extent! This changes a lot, because it makes gold miners' performance similar to many other cases when we saw this kind of action.
And it's not bullish.
The periods marked in black are when miners were lagging gold, and the cases marked with red are when gold miners multiplied gold's moves. At the very end of a given move, gold miners faked the outperformance!
Please note that this doesn't mean that the gold miners' strength is bearish - no, far from that. Gold miners strength at the beginning of a given upswing is a bullish sign. That's what happened right after the early-2016 bottom, and that's what happened after the March bottom.
However, when the miners suddenly start to be strong for a day or few days after a rally and a period of visible underperformance, it's likely fake strength.
That's literally how the huge March slide started. Gold miners jumped up, breaking above the previous highs and they only did that to disappoint and truly plunge in the following days and weeks.
There will be a time when gold miners' strength is really bullish, but it seems very likely that this time is not here yet.
Summary
Summing up, the extreme overbought reading from the Gold Miners Bullish Percent Index is a perfectly bearish confirmation for points that we made previously about gold and the USD Index.
Naturally, everyone's trading is their responsibility, but in our opinion, if there ever was a time to either enter a short position in the miners or to increase its size if it wasn't already sizable, it's now. We made money on the March decline and on the March rebound, and it seems that another massive slide is about to start. When everyone is on one side of the boat, it's a good idea to be on the other side, and the Gold Miners Bullish Percent Index literally indicates that this is the case with mining stocks.
After the sell-off (that takes gold below $1,400), we expect the precious metals to rally significantly. The final decline might take as little as 1-6 weeks, so it's important to stay alert to any changes.
Most importantly - stay healthy and safe. We made a lot of money on the March decline and the subsequent rebound (its initial part) price moves (and we'll likely make much more in the following weeks and months), but you have to be healthy to really enjoy the results.
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 mining stocks is justified from the risk to reward point of view with the following binding exit profit-take price levels:
Senior mining stocks (price levels for the GDX ETF): binding profit-take exit price: $10.32; stop-loss: none (the volatility is too big to justify a SL order in case of this particular trade); binding profit-take level for the DUST ETF: $231.75; stop-loss for the DUST ETF: none (the volatility is too big to justify a SL order in case of this particular trade)
Junior mining stocks (price levels for the GDXJ ETF): binding profit-take exit price: $9.57; stop-loss: none (the volatility is too big to justify a SL order in case of this particular trade); binding profit-take level for the JDST ETF: $284.25; stop-loss for the JDST ETF: 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. In our view, silver has greater potential than gold does):
Silver futures downside profit-take exit price: $8.58 (the downside potential for silver is significant, but likely not as big as the one in the mining stocks)
Gold futures downside profit-take exit price: $1,382 (the target for gold is least clear; it might drop to even $1,170 or so; the downside potential for gold is significant, but likely not as big as the one in the mining stocks or silver)
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
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Please note that the in the trading section we describe the situation for the day that the alert is posted. In other words, it 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, so that you can decide whether keeping a position on a given day is something that is in tune with your approach (some moves are too small for medium-term traders and some might appear too big for day-traders).
Plus, 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 (like 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: UGLD, DGLD, USLV, DSLV, 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" (DGLD for instance), but not for the "main instrument" (gold in this case), we will view positions in both gold and DGLD as still open and the stop-loss for DGLD would have to be moved lower. On the other hand, if gold moves to a stop-loss level but DGLD doesn't, then we will view both positions (in gold and DGLD) 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 on a daily basis 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. Additionally, 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.
Sincerely,
Przemyslaw Radomski, CFA
Editor-in-chief, Gold & Silver Fund Manager
