Everyone in the mining sector, literally everyone, is worried about a correction.
Fair enough. After five long and dark years, the last thing any of us are is overconfident. So when we look at this year’s sharp gains in gold and miners, instead of being happy we just feel anxious about what will happen next.
There are a couple points that pertain here.
Gold already started correcting following the Fed’s fear-provoking announcement that it might raise rates in mid-June. This was not actually a surprise, as the decision still remains dependent on data (which has been the stance all along), but the market had convinced itself a raise was essentially off the table.
The suggestion that a raise was possible sent gold down 2% and lifted the US dollar 0.8% in short order.
Sounds dramatic. And it is, to those of us acutely tuned to gold’s gyrations. But try to keep it in context.
Gold’s correction is minor so far. Gold miners corrected more, but the change is still within trend:
SGDM – Sprott Gold Miners ETF
Is there more downside ahead? Likely yes. Gold is seasonally weak in June. This year’s meeting carries more weight than most. Now that the Fed has re-affirmed its commitment to raising rates as long as Q2 data points to stronger growth, inflation, and employment, the markets are starting to price in the real potential for a raise.
That will weigh on gold until June 15. How much? Hard to say, but it may test its mid-February low of US$1,205 per oz.
A fall back near US$1,200 would create anxiety among mining folks, but it would actually only represent a 7% correction from the May 3 peak of US$1,294 per oz. Given that gold gained as much as 20% to start the year, a 7% correction would just be part of the process.
Miners might give up more. As you can see from the charts above, gold gained only moderately from mid-February and has retreated to similar levels. Miners, on the other hand, just kept on climbing, and are still well ahead of their mid-February levels.
That’s leverage for you! While everyone loves leverage to the upside, remember that leverage bites both ways. If gold spends the next few weeks correcting a couple percent, I would expect the SGDM to lose multiples more. Stock specifics matters with miners, but when gold falls they all fall with it.
How explorers and developers react will vary more. Explorers with good momentum can override a commodity price correction (or even a commodity price that has lagged for years). Developers and new producers can too, because the investment story there is bigger picture. These companies are positioning to profit, either on their own or through a takeover, in the coming bull market. That story remains intact if gold corrects for a few weeks, at least among all the investors who see brighter days beyond.
I still do not know what Janet Yellen and team will do on June 15. They want to raise rates, so if data between now and then shows GDP growth improvement, suggests inflation, and maintains the Fed-painted picture of a healthy employment scene, raise they will.
Given how obsessed the markets are with Janet Yellen, the lead-up to June 15 might be more significant than the event itself. If data suggests support for a hike, the market will price it in and then some. If the data is mixed, bets will be too and the reaction will play out with the announcement.
Either way, this is all happening within a setting that is not going to change dramatically in the space of a few weeks – and to me that setting says gold is set to go.
There is an argument for why the US economy is slowing, instead of speeding up. I could argue that market valuations are stretched, earnings are declining, inventory-to-sales ratios are up, and bankruptcies are rising.
There is immense uncertainty over what the markets will do. Investors are increasingly aware that the markets could turn down significantly and continued sideways action feeds that concern. If momentum starts to shift away from the market because of uncertainty, sideways could easily become down.
Gold offers a panacea to both concerns: as a safe haven it offers security and as one of few sectors to have missed the bull market it offers value.
Courtesy: Sprott US Media
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