Gold-Stock Correction Matures – Adam Hamilton (12/07/2020)

The gold miners’ stocks have suffered a correction since early August, gutting traders’ enthusiasm for this contrarian sector.  This necessary and healthy selloff is maturing, after largely accomplishing its essential mission of rebalancing sentiment and technicals.  The universal greed and extreme overboughtness plaguing gold stocks as their last upleg peaked has been reversed, paving the way for their next bull upleg.

Since corrections are challenging to weather psychologically, most traders hate them.  But they are an integral part of secular bulls, which are ultimately an alternating series of uplegs followed by corrections.  By preventing sentiment and technicals from terminally overheating, these corrections greatly extend bull markets’ longevity.  Without rebalancing selloffs, bulls would rocket parabolic soon exhausting potential buying.

The overpowering greed fueled by extreme gains rapidly seduces in all traders interested in a sector.  So they rush to buy expending their capital firepower, pulling forward much future demand which slays bulls.  Corrections prevent those premature failures, bleeding off excess greed before it spirals out of control.  More importantly for traders, these periodic selloffs really multiply the potential gains available in bull markets.

Successful trading demands buying low then later selling high.  Correction bottomings are the best times to buy relatively-low within ongoing bulls, aggressively deploying capital.  The subsequent upleg toppings are the best times to sell relatively-high, locking in big gains.  Actively riding these upleg-correction cycles is way more profitable than buying and holding for an entire bull.  Corrections bring great opportunities!

So traders should embrace them rather than fretting about them.  Today’s maturing gold-stock correction is sure evident in this sector’s leading benchmarks, led by the popular GDX VanEck Vectors Gold Miners ETF.  GDX commands the lion’s share of capital deployed in major gold miners’ stocks via exchange-traded funds.  The wild ride its share price has been on this year reflects big sector uplegs and corrections.

Context and perspective are essential for understanding and trading markets, so this chart shows GDX’s price action over gold stocks’ entire secular bull market.  Overall between mid-January 2016 to early-August 2020, the major gold stocks soared 256.7% higher during this 4.5-year span.  That leveraged gold’s own parallel bull run by 2.9x, on the high side of major gold stocks’ normal range running from 2x to 3x.

But actively trading this bull’s uplegs and corrections was far more lucrative.  The gains won in GDX’s four individual uplegs added up to 396.6%.  Those were further amplified by the increased buying power from holding cash through corrections.  Traders selling relatively-high at upleg toppings were able to buy more shares of the same fundamentally-superior gold miners at correction bottomings, accelerating their overall gains.

This year’s roller-coaster gold-stock price action started with mid-March’s brutal stock panic, driven by governments imposing widespread economic lockdowns to slow the spread of COVID-19.  The major gold stocks literally crashed on that, with GDX plummeting 24.5% in a two-trading-day capitulation climax, as soaring US-dollar safe-haven demand hammered gold.  That left the major gold stocks radically oversold!

After GDX cratered 38.8% in just 0.6 months, a major new bull upleg was overdue.  So only two trading days after that stock panic’s nadir, we started aggressively buying and recommending great gold and silver miners in our subscription newsletters.  As April dawned I wrote an essay explaining the huge opportunities, “All this argues that a major new gold-stock upleg is getting underway, portending big gains coming!”

Indeed the gold stocks kept rocketing higher, ultimately catapulting GDX up 134.1% in just 4.8 months by early August!  Interestingly that wasn’t even exceptional by this bull’s standards.  Its first upleg back in the first half of 2016 saw even-bigger 151.2% GDX gains.  But gold stocks had run so far so fast by this past summer that they were extremely overbought.  That danger was readily evident in GDX’s technicals back then.

Prices soaring too far too fast generate unsustainable levels of greed, threatening to prematurely exhaust entire bull markets.  While that sentiment itself is ethereal and unmeasurable, the stretched technicals driving it are easy to quantify.  A great proxy for overboughtness and oversoldness is looking at prices relative to their trailing 200-day moving averages.  On August 5th, GDX closed at an extreme 1.448x its 200dma!

That was a flashing warning sign that gold stocks’ last mighty upleg was increasingly at risk of giving up its ghost.  And the necessary resulting correction to rebalance sentiment and technicals certainly didn’t tarry.  Over the next four trading days, GDX plunged 12.2% formally entering correction territory at a 10%+ selloff.  That sharp drop stopped us out of many of our gold-stock-upleg trades with enormous realized gains.

Like exact correction bottomings, exact upleg toppings are unpredictable and unknowable in real-time.  But extreme overboughtness and universal popular greed are big warnings that toppings are nearing.  So rather than selling gold-stock positions outright after riding uplegs to massive gains, it is prudent to stay deployed while ratcheting up the percentages on trailing stop losses.  These are fantastic trading tools.

Gold stocks are a crazy-volatile sector, making the big-and-fast gains possible which give the miners their allure.  Using trailing stops strips all emotion from sell decisions.  Following corrections after gold stocks have been beaten down, new trades can be added with loose trailing stops.  They increase odds traders won’t be prematurely whipsawed out of positions early in uplegs before they can mature into big gains.

But late in uplegs when GDX stretches far above its baseline 200dma, downside risks greatly multiply.  So as prevailing greed and overboughtness mount after major uplegs, trailing stops should be tightened to lock in more of the unrealized gains when the selling inevitably arrives.  Brokers automatically exit those very-profitable positions when the tighter percentage losses are hit, preventing traders from dithering.

But trading corrections is never easy, as they are cunning.  These rebalancing selloffs are punctuated by some of the sharpest rallies seen in bull markets.  Those deceive traders into staying deployed which maximizes their losses.  These blistering countertrend surges convince people that either corrections are over or milder high consolidations are instead happening.  GDX bounced back to surge 9.9% into mid-August.

But a mere 12.2% correction over just four trading days is far from enough to accomplish its essential work of rebalancing sentiment and technicals.  GDX remained stretched far above its 200dma, and the popular enthusiasm for gold stocks stayed high.  Serious downside risks remained, so I was thankful to be sitting in cash after realizing those huge gains.  The odds for a deeper and longer correction were high.

In early September I wrote another essay analyzing why gold stocks were still in correction mode.  It concluded “with gold stocks remaining very overbought technically, and greed still elevated after an insufficient selloff, a resurgent correction is likely.”  I even gave a target for it, “That could easily extend to 25% in GDX, another 20% lower from this week’s levels.”  Traders gave me lots of flak for that contrarian warning.

The upleg-correction cycles in bull markets act like big pendulums, swinging to one extreme before soon reversing right back to the opposite one.  Overboughtness and greed soon mean revert through neutral to oversoldness and despair.  The biggest mistake traders make at extremes is assuming they can persist indefinitely.  Rather than look for the inevitable mean reversion, they extrapolate the present into the future.

Their greed blinds them to essential longer-term perspective, convincing them big gains will reaccelerate so they should hold their positions and add more.  That psychology creates a conundrum for businesses like mine helping people understand and successfully trade market cycles.  After being stopped out in a major upleg topping, sitting in cash is the wisest place to be.  But that irritates the greedy, so they stop listening.

The only trades I added in our newsletters during gold stocks’ correction were put options on sector ETFs and inverse-leveraged gold-stock ETFs.  These trades rally during selloffs when gold-stock prices fall.  Our subscribers had rapidly multiplied their wealth in the preceding upleg ending in early August.  In our weekly and monthly newsletters, we had realized 17 and 9 stock trades averaging +81.3% and +83.6% gains!

Those were absolute during that last gold-stock-upleg span, with trades mostly added between mid-March to mid-April and largely stopped out from late July to late August.  Those gains annualized to outstanding +303.9% and +334.9% averages!  That’s a heck of a run by any standard.  Yet almost every day during gold stocks’ correction, subscribers e-mailed me frustrated or even angry I wasn’t going long gold stocks.

Gold uplegs and corrections are the tide on which the gold-stock boats float, as the fortunes in the yellow metal overwhelmingly drive the profitability and hence stock prices of the miners.  This whole sector rises during gold uplegs, and all the gold stocks fall during gold corrections.  So adding new gold-stock trades early in corrections before any signs of bottoming is a fool’s errand.  That all but guarantees big losses fast.

Over the next month into early October, the gold stocks and thus GDX kept grinding sideways to lower on balance.  But new correction lows were few and far between, and gold-stock prices hovered fairly close to their early-August highs.  So the gold-stock-correction-is-still-underway thesis wasn’t very popular.  During such times in the newsletter business, subscribers’ interest wanes so they tune out markets and renew less.

Trading success doesn’t come from tickling people’s ears, but from heeding key indicators reflecting upleg-correction cycles.  The outlook is never bullish all the time, there are seasons to buy and seasons to sell.  Like professional poker players, it only makes sense to bet big when odds for success are way in our favor.  Though GDX remained relatively high, its peaks and valleys were forming a definite downtrend.

Heading into late October when GDX remained around $40, down even less from its early-August peak than in that initial sharp selloff, I wrote another essay “Gold Stocks Still Correcting”.  GDX remained way above its 200dma, which is bull-market corrections’ strongest support zone.  I warned “major gold stocks per GDX have yet to revisit oversold levels and eradicate early August’s universal greed” so “more selling is coming.”

GDX indeed soon slumped to a new correction low in late October, extending its total selloff to 17.9% in 2.8 months.  But that was still really mild by the standards of the three previous corrections in this gold-stock bull.  GDX averaged far-more-severe 36.5% selloffs over 8.0 months!  And GDX remained up at 1.058x its 200dma.  The previous correction bottoms came well under this key baseline averaging just 0.754x it.

But I argued then that this current GDX correction didn’t need to plunge that deeply to finish its necessary work.  Two of those earlier corrections were dragged way lower than they should’ve been due to anomalous unique events.  Mid-March’s COVID-19 stock panic was one.  So in late October I stuck with my original targets of a 25% GDX selloff and sub-200dma slump.  That was again sorely tested in early November.

Prior to the US elections a month ago, traders universally assumed the pollsters were right so Democrats would win control of the presidency and both chambers of Congress.  They figured that meant another huge pandemic-stimulus-spending bill would be passed early next year after the inaugurations.  But that blue-wave sweep didn’t come to pass, with Republicans holding the Senate and gaining many House seats.

Just a couple days after the voting, traders realized no second CARES Act was coming from the still-split Congress.  So oddly they assumed the Fed would have to step in and really expand quantitative-easing money printing.  That unsubstantiated hope ignited huge buying in almost everything on November 5th, catapulting gold and GDX 2.5% and 7.2% higher!  Again traders were convinced this correction was over.

GDX had not only blasted 12.9% higher in just six trading days since its latest low, but it was breaking out above both the upper resistance of its correction downtrend and its 50-day moving average.  So surely a new upleg must be underway, right?  But I again argued the contrarian case in our newsletters, that this gold-stock correction still hadn’t run its course and more selling was coming.  So we continued to hold cash.

Finally as stock markets soared in the wake of the elections on central-bank money printing and hopes for more QE, the selloffs in both gold and its miners’ stocks really accelerated.  Across 12 trading days mostly in mid-November, GDX plunged 19.3% on gold itself falling 9.1%.  That heavy gold-stock selling climaxed on the usually-quiet Thanksgiving week, when GDX dropped 6.9% that Monday and Tuesday alone!

In the week or so leading into that capitulation, the tenor of my incoming e-mails really changed.  Instead of previous months’ leading question of why wasn’t I buying gold stocks, people were worrying they were going to fall much lower.  The residual greed enabled by this sector’s high consolidation from early August to mid-September had faded, giving way to mounting fear.  That’s the psychology necessary for bottomings!

By November 24th GDX’s total correction had extended to 24.9% over 3.6 months, right in line with my original 25% target from early September.  Even better, it had blasted GDX well under its 200dma which is again the strongest support zone in bull-market corrections.  GDX closed that day at just 0.945x that key metric, which is oversold.  Early August’s extreme greed and overboughtness had finally fully reversed!

That was enough evidence that the necessary sentiment and technical rebalancing had probably been accomplished.  So that very GDX-low day, I started layering in new fundamentally-superior gold-stock trades in our newsletters to ride the next bull upleg.  That campaign grew to include more new trades early this week.  Thanks to its latest correction, this sector is unloved and back down to relatively-low levels.

Just like upleg toppings, exact correction bottomings are impossible to discern in real-time.  Gold stocks could definitely still head even lower extending GDX’s correction.  Or they could grind sideways consolidating low.  But after a 24.9% selloff over 3.6 months forcing this gold-stock benchmark well under its 200dma and killing greed, odds are the great majority of downside risk is behind us.  Upside potential outweighs it.

The prudent way to game a probable correction bottoming is to gradually redeploy your capital over time in fundamentally-superior gold stocks.  The idea is to add new trades straddling the likely actual absolute low.  The earlier ones could grind lower before the next upleg really starts, while the later ones could get added after it is underway.  But layering in new trades over time lowers risks and ups odds of catching a bottom.

Buying low and selling high can only be accomplished if there is plenty of uncertainty when those trades are being executed.  By the time major correction bottomings or upleg toppings are readily apparent to all well after the fact, the best gains have already been won.  Even if this latest gold-stock correction doesn’t prove over yet, it has definitely really matured and accomplished its mission.  Thus we can game its bottoming.

At Zeal we walk the contrarian walk, buying low when few others are willing before later selling high when few others can.  We overcome popular greed and fear by diligently studying market cycles.  We trade on time-tested indicators derived from technical, sentimental, and fundamental research.  That’s why all 1178 stock trades recommended in our newsletters since 2001 averaged hefty +24.0% annualized realized gains!

To multiply your wealth trading high-potential gold stocks, you need to stay informed about what’s going on in this sector.  Staying subscribed to our popular and affordable weekly and monthly newsletters is a great way.  They draw on my vast experience, knowledge, wisdom, and ongoing research to explain what’s going on in the markets, why, and how to trade them with specific stocks.  Subscribe today and take advantage of our 20%-off sale!  There’s no better time than around a correction-bottoming buying opportunity.

The bottom line is recent months’ necessary and healthy gold-stock correction is maturing.  The leading GDX gold-stock benchmark has finally fallen far enough and long enough to reverse greed to fear, with last summer’s universal bullishness vanishing.  And the heavy selling finally forced this sector back down to oversold levels, with GDX hammered well under its 200dma which is relatively-low within ongoing bulls.

All this greatly increases the odds that the lion’s share of this correction’s essential work is now behind us.  While this total selloff could still deepen, waning downside risks are increasingly being outweighed by big upside potential in this gold-stock bull’s next upleg.  So we can start gaming this correction’s bottoming by gradually layering in new positions in fundamentally-superior gold stocks, now trading at relatively-low prices.

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