Bad News … At Least in the Short Term

Unfortunately the HUI index violated the previously highlighted gap support in Tuesday's trading, which killed the 'island reversal' idea (it did however revive the idea that all upside gaps in the index tend to eventually be closed). It was especially worrisome that this happened with gold relatively stable, i.e., the HUI-gold ratio once again went into the 'wrong' direction. Per ample experience that is a sign that gold is set to decline further in the short term (we are always open to surprises on that front, but those are rare).


Gold itself is conspicuous by its utter failure to profit from recent weakness in the US dollar. This is a bearish sign as well. So at present bulls are reduced to hoping that the long term statistics on extreme oversold conditions in the gold sector are going to pan out for the 8th time since 1969. Since those have in all previous cases but one involved additional weakness in the short term, all is not lost. However, in fairly typical bear market fashion, the index has again declined after almost touching its sharply declining 50 day moving average from below. So it is once again uncertain whether the recent back and forth is actually part of a bottoming process or not.







HUI, daily – there goeth the gap…but the recent MACD buy signal still lives – click to enlarge.



HUI-gold ratio
HUI-gold ratio- moving in the wrong direction again – click to enlarge.



Gold vs. Dollar
The dollar (green line) suffered quite a swoon in recent days, and yet gold hasn't done anything. Usually, this is not a good sign – click to enlarge.



It is of course possible that what we are witnessing is just another example of the recent totally absurd 'fear of the Fed', as though it would ever do anything except keep printing more money. The committee members might one day stop printing just to see what happens. Then, after they've seen that, they will start again. Once one goes down the path of monetary inflation there is usually no getting off again, unless one is willing to suffer the very consequences one sought to avert in the first place.

Another, more disturbing possibility, is that  everybody is waiting for John Paulson to sell. His gold-related fund just lost another 13% in May alone. Considering what happened to bank stocks about 5 seconds after he sold them (they started rising, ultimately gaining between 100 to 200%, depending on the stock), this would seem to be a reasonable tactic. The problem is only that there are by now barely any outside investors left in his gold fund, so he can afford to be stubborn – and he probably doesn't want to sell out of another group of stocks after it has become extremely oversold.


A Few Words on Mining Costs

We came across this interesting little quote yesterday:


“Joy Global Inc, the largest maker of underground mining equipment, cut its full-year profit and sales forecasts and said it sees no immediate recovery in orders as commodity producers reduce spending amid surplus supply.”


It is reasonable to assume that Joy Global's pricing power is somewhat diminished under the circumstances. The same is probably true of other providers of inputs that are relevant for the mining industry. In Vancouver, countless juniors and explorers are said to be close to being wiped off the board as they can no longer even afford the costs of remaining listed. It is a good bet they're not hiring any geologists right now. Labor cost pressures in the industry should be easing accordingly. We know that steel and lumber prices have been under pressure lately, but prices for chemicals remain quite elevated (unfortunately we were unable to hunt up a chart of sodium cyanide prices, so we don't have a price history. If anyone knows anything about that, don't hesitate to contact us). The prices of industrial tires (relevant to open pit mines) continue to slowly but surely head lower:



Prices of truck tires are back at 2010 levels – it's not much of a decline yet, but at least they are no longer rising.



Energy prices,especially crude oil, have remained inexplicably and stubbornly high (what makes it inexplicable is that inventories are rising at breakneck speed), but even so, they haven't really gone anywhere in the past two years.



WTICCrude oil – firm, but not really trending up – click to enlarge.



The mantra that 'mining costs keep going up' has become so entrenched by now that one wonders if it isn't a contrary indicator of sorts. Is there anyone out there who hasn't yet heard about it?

Consider though that although there is a good bit of monetary inflation, there is not much evidence of price pressures in the official price measures (flawed as they are). Moreover, economic activity is nothing to write home about almost everywhere one looks. Emerging markets of all sorts are slowing down quite noticeably, Europe is mired in recession, Japan has so far nothing to show for Abe-san's mad-cap flight forward (except growth in GDP data that turns out to be a complete statistical mirage when looked at closely). Overnight we learned that Japan's core machine orders plunged by 8.8% in April and machine tool orders plunged by 7.4% in May (they dropped almost 24% in April, so things are getting 'better'). Granted, these are extremely volatile data, but we fail to detect any signs of a vibrant economy in Japan regardless of which data are published. The Nikkei's rally is also increasingly beginning to look like it may have been just another flash in the pan (although we're open-minded as to that – it may well head higher again). Australia has been suffering a manufacturing recession that has done its very best to become a vivid descriptor of 'eternity' by now, and the rest of its bubble economy looks set to be following suit.

The point is, there is actually not much reason to believe that mining input cost inflation will remain as unrelenting as it has been over the past several years. In fact, the recent sharp decline in the gold price as well as the decline in 'inflation expectations' both hint at a reversal of price pressures.

Conversely, should price pressures be fixing to reignite, then one should expect the price of gold to head higher well before they do.



Still no joy in gold-land. In the short term, one will have to wait and see if the recent lows will hold – the possibility that the pattern of recent weeks is a bottoming pattern can not be completely written off yet. Cost pressures meanwhile may be close to reverting from their role as a negative driver of gold stock valuations – although the evidence is still fairly spotty at this stage.



Charts by: Economagic, StockCharts




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5 Responses to “Gold and Gold Stocks Update”

  • jimmyjames:

    Jason- I doubt you can have one without the other for any length of time-
    Sorta like DOW theory-

    • JasonEmery:

      Over the last two years, gold stocks (xau and hui) have lost half their value to gold. (stockcharts symbol $hui:gld)

      I believe the reason for this is because they are not making any money. Ignore any mention of the term ‘cash cost’, or similar. That is for suckers, widows, and orphans.

      Look at the trailing PE ratios for the HUI components. Nem is at 10:1, which seems reasonable for a company in a capital intensive industry. But many of them have PE’s in the 20:1 area. These stocks are not undervalued. Yeah, I expect gold to go higher. I also expect the cost to mine it to skyrocket as well, along with the cost to do every other activity under the sun.

      I’m own some gold/silver stocks too, but it is going to take more than higher metal prices. Gold has to go up faster than the cost to mine it. At some point it will, but probably not right away. Maybe next year or late this year.

  • JasonEmery:

    Gold stocks outperformed the metal the 2nd half of May, but that has now reversed itself in June. When second quarter earnings come out, in late July, it could get uglier, if that’s possible. Bottom appears to be in for gold, though.

  • SavvyGuy:

    HUI seems to be forming the right shoulder of a bullish inverted H&S pattern.

    • jimmyjames:

      Thanks for the update-

      Gold and the miners had a fairly strong divergence to markets today- but we’ve seen that fizzle out more times than not-
      Who would think with so much bearishness against a single market that it could continue to fall further- especially since it is and has been so far away from public radar-
      Just when you think you know what you’re doing- gold shows you that you don’t-
      Misery loves company- so- still fearfully adding to miners here-

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