Gold: Bull Market Correction Or New Bear Market?

It’s been a tough start to the year for investors in the gold (GLD) space, with the metal, unfortunately, being one of the only asset classes with a negative year-to-date return. This poor performance is even though this 6-week period is generally one of the strongest of the year for gold, with the metal typically gaining more than 3% in the first eight weeks of the year.

Not surprisingly, this lethargic performance has much thought that we’ve seen peak gold prices as of August above $2,000/oz and that this might be the start of a new bear market. While anything is possible, the data suggest this isn’t likely the case, because silver (SLV) is acting the exact opposite of how we would expect if this bull market was already past its expiry date. Let’s take a closer look below:

(Source: TC2000.com)

In August, I noted that it was a dangerous time to add new exposure to the sector, given that gold was flashing sell signals on its daily chart. These signals typically show up when price targets are being raised across the sector, and when the metal is seeing frothy sentiment, with many expecting much higher prices over both the short-term and medium-term. However, while I was expecting a 12% correction in the metal to reset sentiment, this correction’s length and depth have been a little more than I had anticipated. Unfortunately, this has put a massive dent in the Gold Miners Index (GDX) and led to many giving up on the sector altogether.

The good news is that this complete reversal in sentiment and despondency typically breeds durable bottoms, and silver is not following the metal to new multi-month lows. In fact, it’s up nearly 5% year-to-date and massively outperforming the yellow metal. In the past, this has been a bullish indicator, which we’ll take a look at below:

(Source: TC2000.com)

As we can see in the chart above, silver has made new highs relative to gold on two occasions in the past six months and has also made a major higher low vs. the metal after breaking out from a multi-year downtrend. During the peak of the last bull market (below chart), silver peaked vs. gold in April 2011, made a new lower low vs. gold in June 2011, and made a substantially lower high vs. gold just before the peak in August 2011.

This suggested that the bull market was in its final leg and that the move higher in gold was an opportunity to sell into strength. Given that we currently see the exact opposite, this points to a higher probability of this being a violent intermediate correction versus the start of a new bear market. So, as long as the gold/silver ratio remains below 80, I don’t see any reason to lose any sleep.

(Source: TC2000.com)

If we look at a bigger picture chart of gold, this also suggests that there’s no reason to panic because the metal remains above its previous all-time high quarterly close and in a clear uptrend. No asset classes go up in a straight line (except Bitcoin), and we can see that gold was up for eight quarters in a row and has now been digesting this gain in Q4 and Q1. This is entirely normal, even during a bull market, and is actually healthy because it provides fuel for the next leg up.

When a market continues to climb without any doubt or pessimism, it’s unable to climb a wall of worry, and this is generally when it’s time to be cautious. So, while this correction has torpedoed bullish sentiment in the space and left many miners 30% off their highs, it’s the best thing for this market, as long as gold can defend the $1,700/oz level.

(Source: TC2000.com)

So, what’s the best course of action?

While silver miners are in vogue and receiving all the press lately, I continue to see the best value among established gold producers, with the stand-out value names being Kirkland Lake Gold (KL) and Alamos Gold (AGI). Both of these names are trading for below 10x FY2021 annual EPS estimates, paying between a 1.25% to 2.25% dividend yield, and have significant net cash positions, allowing them to buy back shares if this weakness in the sector continues. Obviously, valuations alone do not preclude lower prices, but this looks like a low-risk buying opportunity, especially because these names typically trade at above 15x earnings. Clearly, I was early to buy Kirkland Lake Gold as I began buying near $44.00, but I have been adding to my position recently on weakness and have an average cost closer to $40.00.

For those interested in the metal, I continue to see it as a Hold and remain long from $1,450/oz. If we were to see gold tumble below $1,700/oz, I may look to add to my position because the metal would hit oversold levels across multiple time-frames. For now, I think the miners are the much better bang per buck, and I continue to accumulate the best names on weakness.

Disclosure: I am long AGI, KL, GLD

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.

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The SPDR Gold Shares (GLD) fell $0.47 (-0.28%) in after-hours trading Tuesday. Year-to-date, GLD has declined -5.67%, versus a 4.93% rise in the benchmark S&P 500 index during the same period.

GLD currently has an ETF Daily News SMART Grade of C (Neutral), and is ranked #16 of 36 ETFs in the Precious Metals ETFs category.