It’s been a tough 12-month stretch for investors in the gold (GLD) sector, with the metal down nearly 20% from its Q3 2020 highs and recently re-testing its low in the $1,670/oz region. Unfortunately, it’s been even tougher to endure this correction while watching the price of bitcoin soar by more than 100% and the S&P-500 (SPY) gain more than 30%.
The good news is that the backdrop for gold remains strong, with real rates deeply in negative territory, with no opportunity cost for holding gold. However, many investors have given up on the trade after watching other asset classes climb higher over the past year, with gold not doing its expected job as an inflation hedge.
While this exodus from the trade has weighed on the technicals, it’s done wonders for sentiment, with bullish sentiment now heading towards its lowest levels in months. A lack of bullish sentiment does not mean we have to bottom, but it generally means we’re close. Let’s take a closer look below:
Looking at the chart below, we can see that bullish sentiment has plunged over the past year, sliding from a reading of 90% bulls last August to 20% bulls this week. This has led to a similar drop in the long-term moving average for sentiment, with this indicator declining from 82% bulls last August to 30% bulls this week. Generally, the best time to sell gold and liquidate gold stocks is when bullish sentiment soars above 80%, given that the precious metals are not a trade one wants to be in when they get crowded. Conversely, the best time to start buying gold stocks is when the crowd that bought the highs is finally throwing in the towel, and many investors are capitulating on their gold and miner positions.
After an 18% decline in gold, this is what we’re now seeing, and gold is just shy of a low-risk buy zone that it’s only tested eight times in the past 12 years. These were excellent buying opportunities, but since gold broke out to multi-year highs last year, the troughs for this sentiment indicator have been higher, coming in at 30% vs. 20%. While this pattern could change, the current sentiment reading for gold is already back at the levels we saw in December and April, which ended up being short-term bottoms.
Even with the recent rally, investors are not becoming bullish, suggesting that many have given up on the trade. This is great news for investors looking to enter the trade, because as noted, the best time to buy is when others are giving up. Obviously, this doesn’t mean that this has to work every time, but this indicator has a great track record of calling bottoms over the past year, suggesting that we’ve likely already seen the low for the gold price at $1,670/oz.
The most encouraging part about this is that we have seen gold’s bullish sentiment decline to readings we’ve previously seen in bear markets, even though gold remains in a long-term uptrend. This is evidenced by the above quarterly chart, which shows that gold is above its previous quarterly all-time high made in 2011, and actually made a new all-time high last year.
We’ve seen this before at the beginning of secular bull markets like in Palladium in Q3 2018 when investors briefly gave up on the trade after a 7-month long 25% correction. History doesn’t have to repeat itself, but as long as gold remains above $1,670/oz and as long as this trade remains out of favor, I continue to remain optimistic.
So, what’s the best course of action?
While I am already long gold from an average cost of $1,550/oz, I see the best opportunity in the gold miners, with many of them trading at their cheapest valuations in years. This is even though the average million-ounce gold producer has a free cash flow yield above 6% and is paying an average dividend yield above 2.0%, making them attractive value plays.
One of my favorite ideas in the space continues to be Kirkland Lake Gold (KL), which trades at less than 10x FY2023 earnings estimates and industry-leading margins. For now, I continue to see gold as a Hold and remain long-term bullish, but I would consider adding to my position on a dip below $1,725/oz.
Disclosure: I am long GLD, KL
Disclaimer: Taylor Dart is not a Registered Investment Advisor or Financial Planner. This writing is for informational purposes only. It does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Taylor Dart expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.