by James Brumley | January 27, 2014 11:33 am
Although the foreseeable future for gold prices and gold mining stocks is still unclear, one thing is certain: So far, 2014 has been much better for gold stocks than 2013 was.
Since the end of last year, the SPDR Gold Shares (GLD) ETF has gained more than 5%. The Market Vectors Gold Miners ETF (GDX) is up 12% year-to-date. Even the junior gold miners, using the Market Vectors Junior Gold Miners ETF (GDXJ) as a proxy, are up more than 16% since the end of 2013.
That’s a far cry from the 27% loss GLD suffered last year, or the average 54% loss suffered by gold mining stocks, or the 62% bleeding endured by junior miners.
It all begs one question: Is this year going to be one of recovery for gold prices and all of the metal’s associated trading instruments?
Anything’s possible, but…
First and foremost, know that the rebound gold futures saw at $1,180 per ounce around the turn of the new year comes as no surprise. That’s where the bulls drew a line in the sand in June 2013 (halting the monster-sized meltdown), and it’s the level the market used as a pushoff point back in mid-2010 to put the big rally back into high gear.
Thus, it makes sense that the market took a stand there a few weeks ago.
Yet, just because the bulls are putting up a fight at a particular level doesn’t mean the bears won’t keep trying to push gold prices beneath it. In fact, the matter might be out of their hands.
While the rampant speculation surrounding exchange-traded funds like GLD and GDXJ has taken on a life of its own, that speculation’s underpinnings are still gold’s usual suspects: inflation, the value of the U.S. dollar and bond yields. While the reprieve from the selloff jives with the recent action on those three fronts, bond yields, the greenback and inflation are in no position to sustain the current uptrend from the world’s favorite commodity.
The inverse correlation between the risk-free yield on 10-year Treasuries and gold futures became crystal clear beginning in 2007. Although gold had been modestly rising in value up until that point, when 10-year yields peaked at 5.1% in mid-2007 and began to fall back to multiyear lows of 1.5% in mid-2012, that’s when gold prices started to soar. All told, gold futures rallied 133% as 10-year Treasury yields fell during that five-year stretch.
As such, it comes as no surprise that the commodity’s demise began right as yields began to reverse.
Yes, the yield trend seems to be hitting a wall at the 3% mark, having been unable to move above that line despite a couple of tries since August. There’s little doubt that consumers — and perhaps the Federal Reserve as well — are starting to expect and even demand higher interest rates. Plus, the long-term uptrend is still intact. A move above the cap at 3% could be quite catalytic — against gold prices.
Ditto for the U.S. dollar.
Although the sawbuck has been a little bit lethargic since the middle of 2013, it’s been broadly increasing in value since early 2011, when gold started to struggle. A couple weeks of higher highs and higher lows for the U.S. Dollar Index (which looks likely, technically speaking) may well be what pulls gold below the key $1180 mark, especially if 10-year Treasury yields break above 3%.
The one thing that could overcome an increasing value of the U.S. dollar and rising treasury yields is rampant inflation. Gold, being a hedge against inflation, could become a hot commodity again if inflation looks like it’s rearing its ugly head.
Problem: With the inflation rate looking like it’s stabilizing at a fairly tepid 1.5%, that doesn’t seem like a plausible threat right now.
In other words, the GLD, GDX and GDXJ might have gotten off to a great start in 2014, but it doesn’t look like there’s not a lot of life left in this uptrend.
As for gold mining stocks, they’re in a slightly different situation. As long as gold prices remain above the miners’ total cost of digging it up, gold mining stocks at least have something to offer investors — a steady stream of positive earnings. Unfortunately, gold’s current price is just a hair above the typical breakeven level for gold miners.
Although the “all in” mining costs can vary widely from one gold miner to the next, the average right now is somewhere around the $1,200 per ounce mark. That’s not much less than current gold prices around $1,264. And that’s more than the price of $1,180 per ounce that has thus far been a major line in the sand.
Translation: Some miners are already losing money just by remaining operational, and a whole slew more are on the fringe. If the support level at $1,180 breaks, another big swath of the industry will find themselves digging up gold unprofitably.
And that situation is only a 7% dip away.
As nice as it would be for gold prices to truly be on the mend, this year’s uptick isn’t anything we haven’t seen before. Indeed, gold could even tack on a little more upside, and still not shake itself out of its bigger downtrend.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities.
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