Stocks are hitting new highs on a daily basis, but let’s face facts: Valuations are getting stretched, and stretched thin. Many analysts and individual investors are beginning to question just how much longer stocks can continue to rise unabated. That’s why it’s more important than ever to uncover new areas of opportunity that offer significant upside with limited downside. Gold stocks — especially the large caps — look like that opportunity.
The Federal Reserve in June hiked rates for the third time in less than a year but have since taken a much more dovish stance. Economic numbers have been less than robust for the most part, with the Atlanta Fed now forecasting GDP of just 2.5% versus predictions of 3% just a month ago.
This should put a damper in any strength in the U.S. dollar — a certain tailwind for gold, which is priced in U.S. dollars, and the companies that mine the yellow metal.
Gold stocks have finally bottomed after a long, bruising selloff. The ideal way to buy gold miners at low prices is to use technical analysis to identify major support levels. We can then use a particular type of options trade that allows us to buy at lower levels while getting paid now.
Here’s how to do it.
Gold Stocks to Buy: Barrick Gold (ABX)
Click to Enlarge After stalling out at the $20.50 level in the first quarter, shares of Barrick Gold Corp (USA) (NYSE:ABX) fell nearly 25% before finding definitive support at the $15.50 level.
Earnings are due July 26 with expectations for 21 cents versus just 14 cents a year ago. The current price-to-earnings ratio is just north of 13, which should serve to mute any significant downside.
The Trade: Buy ABX Sep $13 puts and sell ABX Sep $15 puts for a 28-cent net credit. Maximum gain is $28 per spread with maximum risk of $172 per spread. Return on risk is 16.27%. The short $15 put strike price is positioned below the $15.50 support area and provides a 7% downside cushion to the $16.13 closing price of ABX.
Gold Stocks to Buy: Newmont Mining (NEM)
Click to Enlarge Newmont Mining Corp (NYSE:NEM) dropped 15% from the late January highs at $38 before holding support on three separate occasions at the $32 price level.
Earnings are due July 25, with a consensus forecast of 28 cents per share. Newmont also has exposure to oil and copper production as well, which should also benefit from a weaker-dollar environment.
The Trade: Buy NEM Sep $29 puts and sell NEM Sep $31 puts for a 25-cent net credit. Maximum gain is $25 per spread with maximum risk of $175 per spread. Return on risk is 12.5%. The short $32 put strike price is positioned below the $33 support area and provides a 8.5% downside cushion to the $33.88 closing price of NEM.
Gold Stocks to Buy: Market Vectors Gold Miners ETF (GDX)
Click to Enlarge The Market Vectors Gold Miners ETF (NYSEARCA:GDX) is a basket off the major gold miners. Barrick and Newmont comprise roughly 20% of the ETF.
GDX dropped nearly 18% from the February highs of $25.71 before finding solid footing at the $21 level. The diversification of the ETF over an individual name is also a plus.
The Trade: Buy GDX Sep $19 puts and sell GDX Sep $20.50 puts for a 22-cent net credit. Maximum gain is $22 per spread with maximum risk of $128 per spread. Return on risk is 17.18%. The short $20.50 put strike price is positioned below the $21 support area and provides a 7.46% downside cushion to the $22.18 closing price of GDX.
As of this writing, Tim Biggam did not hold a position in any of the aforementioned securities. Anyone interested in finding out more about option-based strategies or for a free trial of the Delta Desk Research Report can email Tim at timbiggam@gmail.com.
