Adam Hamilton makes a very convincing case for a winter rally in gold and gold stocks. Here’s an update on the resurgent gold bull market…
Gold Stocks’ Winter Rally 2
The gold miners’ stocks have largely ground sideways this year, consolidating their massive 2016 gains. That lackluster trading action, along with vexing underperformance relative to gold, has left gold stocks deeply out of favor. But these uninspiring technicals and resulting bearish sentiment should soon shift. The gold stocks are just now entering their strongest seasonal rally of the year, the super-bullish winter rally.
Gold-stock performance is highly seasonal, which certainly sounds odd. The gold miners produce and sell their metal at relatively-constant rates year-round, so the temporal journey through calendar months should be irrelevant. Based on these miners’ revenues, there’s little reason investors should favor them more at certain times of the year than others. Yet history proves that’s exactly what happens in this sector.
Seasonality is the tendency for prices to exhibit recurring patterns at certain times during the calendar year. While seasonality doesn’t drive price action, it quantifies annually-repeating behavior driven by sentiment, technicals, and fundamentals. We humans are creatures of habit and herd, which naturally colors our trading decisions. The calendar year’s passage affects the timing and intensity of buying and selling.
Gold stocks exhibit strong seasonality because their price action mirrors that of their dominant primary driver, gold. Gold’s seasonality generally isn’t driven by supply fluctuations like grown commodities experience, as its mined supply remains fairly steady all year long. Instead gold’s major seasonality is demand-driven, with global investment demand varying dramatically depending on the time within the calendar year.
This gold seasonality is fueled by well-known income-cycle and cultural drivers of outsized gold demand from around the world. And the biggest seasonal surge of all is just now getting underway heading into winter. As the Indian-wedding-season gold-jewelry buying that drives this metal’s big autumn rally winds down, the Western holiday season is ramping up. The holiday spirit puts everyone in the mood to spend money.
Men splurge on vast amounts of gold jewelry for Christmas gifts for their wives, girlfriends, daughters, and mothers. The holidays are also a big engagement season, with Christmas Eve and New Year’s Eve being two of the biggest proposal nights of the year. Between a quarter to a third of the entire annual sales of jewelry stores come in November and December! And jewelry historically dominates overall gold demand.
According to the World Gold Council, between 2010 to 2016 jewelry accounted for 49%, 44%, 45%, 60%, 58%, 57%, and 47% of total annual global gold demand. That averages out to just over half, which is much larger than investment demand. During those same past 7 years, that ran 39%, 37%, 34%, 18%, 20%, 22%, and 36% for a 29% average. Jewelry demand remains the single-largest global gold demand category.
That frenzied Western jewelry buying heading into winter shifts to pure investment demand after year-end. That’s when Western investors figure out how much surplus income they earned during the prior year after bonuses and taxes. Some of this is plowed into gold in January, driving it higher. Finally the big winter gold rally climaxes in late February on major Chinese New Year gold buying flaring up in Asia.
So during its bull-market years, gold has always tended to enjoy major winter rallies driven by these sequential episodes of outsized demand. Naturally the gold stocks follow gold higher, amplifying its gains due to their great profits leverage to the gold price. Today gold stocks are once again now heading into their strongest seasonal rally of the year driven by this robust winter gold demand. That’s super-bullish!
Since it’s gold’s own demand-driven seasonality that fuels the gold stocks’ seasonality, that’s logically the best place to start to understand what’s likely coming. Price action is very different between bull and bear years, and gold is absolutely in a young bull market. After being crushed to a 6.1-year secular low in mid-December 2015 on the Fed’s first rate hike of this cycle, gold powered 29.9% higher over the next 6.7 months.
Crossing the +20% threshold in early March 2016 confirmed a new bull market was underway. Gold corrected after that sharp initial upleg, but normal healthy selling was greatly exacerbated following Trump’s surprise election win. Investors fled gold to chase the Trumphoria stock-market surge. Gold’s correction cascaded to monstrous proportions, hitting -17.3% in mid-December. But that was shy of a new bear’s -20%.
Gold’s last mighty bull market ran from April 2001 to August 2011, where it soared 638.2% higher! And while gold consolidated high in 2012, that was technically a bull year too since gold just slid 18.8% at worst from its bull-market peak. Gold didn’t enter formal bear-market territory at -20% until April 2013, thanks to the crazy stock-market levitation driven by extreme distortions from the Fed’s QE3 bond monetizations.
So the bull-market years for gold in modern history ran from 2001 to 2012, skipped the intervening bear-market years of 2013 to 2015, and resumed in 2016 to 2017. Thus these are the years most relevant to understanding gold’s typical seasonal performance throughout the calendar year. We’re interested in bull-market seasonality, because gold remains in its young bull today and bear-market action is quite dissimilar.
This chart averages the individually-indexed full-year gold performances in those bull-market years from 2001 to 2012 and 2016. 2017 isn’t included in this analysis yet since it remains a work in progress. This chart distills out gold’s bull-market seasonal tendencies in like percentage terms. Quantifying gold’s bull-market seasonal tendencies requires all relevant years’ price action to be recast to be perfectly comparable.
That’s accomplished by individually indexing each calendar year’s gold price action to its final close of the preceding year, which is recast at 100. Then all gold price action of the following year is calculated off that common indexed baseline, normalizing all years regardless of price levels. So gold trading at an indexed level of 105 simply means it has rallied 5% from the prior year’s close, while 95 shows it’s down 5%.
This methodology renders all bull-market-year gold performances in like percentage terms. That’s critical since gold’s price range has been so vast, from $257 in April 2001 to $1894 in August 2011. Finally each calendar year’s individually-indexed gold prices are averaged together to arrive at this illuminating gold-bull seasonality. Gold has always had a strong tendency to enjoy major winter rallies, starting right about now.
During its modern bull-market years from 2001 to 2012 and 2016, gold’s major winter rally started on average in late October. Technically gold’s key seasonal bottom averaged being carved on that month’s 16th trading day, which was October 23rd this year. From there gold surges into its strongest seasonal rally of the year. Between late October and late February in these bull years, gold blasted 9.5% higher on average!
These big winter-rally seasonal gains are much larger than the 3.8% and 6.9% averages seen in gold’s other major seasonal rallies in spring and autumn. That makes late October one of the best times of the year to deploy capital into gold. That Western holiday gold-jewelry buying fuels such outsized demand that November has long proved one of gold’s best months of the year with average bull-year gains of 3.1%.
While this bullish gold seasonality really moderates in December with an average 0.6% bull-year gain, it soon accelerates again in January on that surplus-income gold investment buying. The 2.9% average gain gold enjoyed in January during those bull years between 2001 to 2012 and 2016 makes for this metal’s third best month of the calendar year. This winter-rally span is when gold enjoys peak seasonal tailwinds.
Unfortunately the great majority of speculators and investors remain wary of deploying into gold to ride its strong seasonal winter rally. Just like the last couple years, traders are worried about the Fed’s next rate hike once again very likely in mid-December. Gold-futures speculators in particular have spent recent years fooling themselves into believing Fed rates hikes are gold’s mortal nemesis, despite history proving that totally false.
The record is crystal-clear, gold actually thrives during Fed-rate-hike cycles! Before today’s there have been 11 since 1971, and gold has averaged impressive 26.9% gains across the exact spans of all these Fed-rate-hike cycles. In the majority 6 of these where gold actually rallied, its average gains were a staggering 61.0%! In the other 5 where gold retreated, its average losses were an asymmetrically-small 13.9%.
Gold blasted higher during Fed-rate-hike cycles when they started with gold relatively low, and unfolded at a gradual pace. Gold not only entered today’s 12th modern rate-hike cycle at major secular lows, but the Fed has never been slower in raising rates. Gold is still up 20.2% cycle-to-date since the day before the Fed finally started hiking again in December 2015. Fed rate hikes are bullish for gold, contrary to the myths.
During its last rate-hike cycle between June 2004 to June 2006, the FOMC hiked at 17 consecutive meetings for a total of 425 basis points! That more than quintupled the federal-funds rate to 5.25%, an inconceivably-high level today. Even though that was a very-aggressive rate-hike cycle, gold still managed to power 49.6% higher over that exact span! Rate hikes are no threat to gold’s strong winter seasonals.
Meanwhile investors remain distracted by this past year’s absurd Trumphoria rally, which is retarding gold investment demand. When stock markets melt up to endless record highs drenched in stellar complacency, investors aren’t interested in prudently diversifying into gold. Since gold tends to move counter to stock markets, investment demand surges when stocks weaken. A stock correction ignited this young gold bull.
As the Fed’s surreal stock-market levitation cracked in early 2016, American stock investors flocked to gold via shares in the flagship GLD SPDR Gold Shares gold ETF. When they buy its shares faster than gold itself is being bought, this ETF’s managers must issue sufficient new shares to offset all this excess demand and maintain gold tracking. The proceeds from these GLD-share sales are then used to buy gold bullion.
Thus GLD holdings builds show stock-market capital migrating into gold. In 2016 massive differential GLD-share buying drove a 28.0% or 179.8 metric-ton holdings build, helping drive gold 8.5% higher. But year-to-date in 2017, GLD’s holdings are only up 3.3% or 27.4t. Despite that gold is still impressively up 10.9% YTD, but it will surge dramatically when investment demand returns as these euphoric stock markets roll over.
That day of reckoning is inevitable. Back in late September the Fed finally started unwinding its trillions of dollars of quantitative easing that levitated stock markets for years. Quantitative tightening has never before been attempted, and it is exceedingly ominous for QE-inflated stock markets. While QT is starting small, it will ramp up to a $50b-per-month pace in Q4’18. That accelerating QT juggernaut will strangle stocks.
When these lofty Trumphoria-fueled stock markets finally mean revert, investors’ capital will flood back into gold for prudent portfolio diversification. If that happens in the coming months, it will really amplify gold’s strong winter seasonals. But gold’s biggest seasonal rally doesn’t need to be kick started by flight capital from bubble-valued stock markets. All that’s necessary is November’s usual outsized gold-jewelry demand.
So neither speculators’ Fed-rate-hike fears nor investors’ current apathy towards gold thanks to record stock markets are likely to short circuit gold’s strong winter rally this year. And if gold’s bull-market seasonals again prevail, that’s super-bullish for gold stocks in the coming months! They also enjoy strong winter seasonals thanks to gold’s, because gold miners’ profitability and thus stock prices leverage gold’s price action.
This next chart applies this same bull-market-seasonality methodology to the leading benchmark HUI NYSE Arca Gold BUGS Index. Naturally gold-stock seasonals closely mirror gold’s, so the miners too are also just entering their strongest seasonal rally of the year. On average in those last bull-market years from 2001 to 2012 and 2016, the HUI powered a big 15.4% higher between late October and late February!
Gold stocks’ strong 15.4% average winter rally bests their 14.0% and 11.2% rallies heading into spring and autumn. On average gold stocks’ major seasonal bottoming heading into their winter rally arrives on October’s 19th trading day, which translated into October 26th this year. Like their primary driver gold, gold stocks tend to rally strongly in November, moderate in December, and then surge again in January and February.
And given the sentimental, technical, and fundamental setups for gold stocks entering this year’s winter rally, the usual seasonal tailwinds are likely to help propel them much farther than usual. Just like gold and because of it, gold stocks entered a mighty new bull market early in 2016 as well. Between mid-January and early August last year, the HUI soared 182.2% higher in just 6.5 months! It was a wildly-profitable run.
That left the red-hot gold stocks very overbought last summer, then they got sucked into gold’s correction. Just like gold, their correction ballooned to monstrous proportions thanks to that post-election Trumphoria stock rally’s impact on gold investment demand. At worst the HUI plunged 42.5% in 4.4 months, a brutal drop. But ever since then gold stocks consolidated sideways on balance, recently seeing major upside breakouts.
But after surging 8.4% in August, the very next month the gold stocks were whacked back down 7.5% in sympathy with gold. Gold-futures speculators fled as futures-implied Fed-rate-hike odds at its upcoming mid-December meeting skyrocketed from 32% to 83% in less than three weeks! So the HUI spent late September and much of October languishing under 200, low technical levels breeding bearish sentiment.
The gold stocks are now entering their seasonally-strongest time of the year deeply out of favor at weak prices. These are powerful buy signals within ongoing bull markets, really upping the odds this year’s new winter rally will prove exceptionally large. Bullish sentiment and technicals really amplify the usual seasonal tailwinds. Even better, the gold miners’ fundamentals are all lined up to drive major gains in coming months.
Every quarter I analyze the operating performances of the top individual gold miners’ stocks included in the leading gold miners’ ETFs. These of course are the GDX VanEck Vectors Gold Miners ETF for the larger majors, and its sister GDXJ VanEck Vectors Junior Gold Miners ETF for the smaller juniors. The gold miners are now in the midst of reporting their Q3’17 earnings season, which should end up being impressive.
As always I’ll write comprehensive essays analyzing the latest quarterly results from the top GDX and GDXJ components once they finish reporting in mid-November. But a few weeks ago I gave a preview of what they are likely to collectively report based on average gold prices and Q3 seasonals in production and costs. Crunching the numbers for GDX yields big potential Q3’17 quarter-on-quarter profits growth around 14%!
Thus as the rest of the gold miners report their Q3’17 results by mid-November, there will likely be plenty of upside surprises. That includes higher production, lower costs, and better full-year-2017 guidance for the gold miners than today’s bearish traders expect. So good fundamentals could supercharge this first month of gold stocks’ winter rally this year. Improving fundamentals aligning with seasonals portends big upside!
If the gold stocks were entering this winter-rally period drenched in greed after a major upleg, seasonal tailwinds probably couldn’t overcome the healthy correction tendency. If the gold miners’ fundamentals were deteriorating, that would likely prove too much heavy lifting for seasonals. But with the strong winter-rally seasonals synchronizing with very bullish technicals, sentiment, and fundamentals, gold stocks should surge.
This last chart breaks down gold-stock seasonality into more-granular monthly form. Each calendar month between 2001 to 2012 and 2016 is individually indexed to 100 as of the previous month’s final close, then all like calendar months’ indexes are averaged together. While this November-to-February winter-rally period doesn’t encompass most of gold stocks’ strongest months, it does enjoy the most-consistent gains.
On average in bull-market years, November enjoys the fifth-best gold-stock gains of the calendar year at 4.6% in HUI terms. That’s not far off August’s and September’s average bull-market-year rallies of 4.7% and 4.8%, weighing in at fourth and third. May is better yet, ranking second at 5.3%. But gold stocks’ second-, third-, and fourth-best months are largely surrounded by flat or lower months offsetting those big gains.
That’s not the case during gold stocks’ winter-rally months, where the solid-gains streak persists for the whole time. November’s 4.6% average gains are followed by December’s respectable 2.3%, January’s accelerating 3.1%, and February’s massive first-place 6.2%! This unbroken winter-rally streak is what makes this period between late October and late February the best time of the year to be heavily long gold stocks.
There is no other seasonal streak with such unparalleled consistency of big gold-stock gains. Since they continue to march higher on balance throughout their winter-rally span, it yields the best seasonal gains of the calendar year. The rest of the year’s two-steps-higher-one-step-back action just doesn’t happen during the winter on average. There are no significant gold-stock selloffs in this amazing winter-rally span!
Of course the standard seasonality caveat applies that these are mere tendencies, not primary drivers of gold or gold stocks. Seasonal tailwinds can be easily drowned out by bearish sentiment, technicals, and fundamentals. Seasonality doesn’t always work, especially when it doesn’t align with the primary drivers of sentiment, technicals, or fundamentals in that order. Thankfully that certainly isn’t the case this year.
The gold miners’ stocks aren’t heading into November at overbought levels following a major upleg, thus sentiment is quite bearish. And with the HUI up just 2.2% YTD compared to gold’s 10.9% gains, the gold stocks are far underperforming the dominant driver of their earnings. Their big profits leverage usually translates into upside running 2x to 3x gold’s, so they are overdue to mean revert much higher to normalize.
And the gold miners’ fundamentals look excellent heading into this seasonally-strongest span, with big sector-wide sequential profits growth likely to come in around 14% in their latest Q3’17 results. That will probably generate plenty of exciting upside surprises for traders who’ve largely abandoned gold stocks this year. Add in a major gold upleg fueled by stock markets rolling over, and this winter rally ought to be huge.
The greatest gains in this coming winter rally won’t be won in the popular ETFs like GDX and GDXJ, as they are far-overdiversified and burdened with way too many under-performing gold miners. So it’s much more prudent to deploy capital in the best individual gold miners with superior fundamentals. Their gains will handily trounce the ETFs, further amplifying the already-huge upside potential of this sector as a whole.
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The bottom line is gold stocks are just entering their seasonally-strongest period of the year. Their big winter rally is fueled by gold’s own, which is driven first by outsized demand from holiday jewelry buying and later new-year investment buying. So both the metal and its miners’ stocks have strong tendencies to rally between late October and late February in bull-market years. It’s the best calendar span to own gold stocks.
And this year’s coming winter rally looks exceptionally bullish because the seasonal tailwinds won’t be overpowered by bearish sentiment, technicals, or fundamentals. All of these primary drivers are bullish today and closely aligned with the strong seasonals, making for a powerful united force to propel gold stocks dramatically higher. Speculators and investors alike should be fully deployed for the coming months.
Adam Hamilton, CPA