Gold tends to be a safe-haven type of investment — something investors turn to when they don&r...
What's Next for Gold Stocks?
03/03/2014 9:00 am EST
After the protracted and severe decline in gold and gold stocks over the past two years, one should not expect a "V" shaped recovery back to new highs; after a move over nearly 30% in six weeks, a pause would not be unexpected, explains Adrian Day, money manager and editor of Global Analyst.
But having said that, we are quite bullish on gold and gold stocks for the rest of this year (and beyond), and, notwithstanding the possibility of a near-term pullback, would not be selling gold stocks any time soon.
The environment and supply/demand fundamentals remain positive for gold. Monetary policy, here and abroad, continues to be very accommodative, even if "tapering" keeps on track, which, in itself, is a major "if."
The major source of supply last year, and a major reason gold declined, was the ongoing selling from gold ETFs. This selling has abated over the past couple of months and turned into net buying, albeit modestly so, this year.
At minimum, it is difficult to envision another year with similar withdrawals. Equally, hedge funds, which largely exited their bullish bets on gold a year ago, are slowly returning.
As for the demand side, the other major factor last year was the sharp decline in buying in India, the erstwhile Number One consumer country. Two things hurt Indian gold sales.
First, government import restrictions and taxes hurt, as did the low rupee price that made gold—in rupee terms—expensive. An improving current account minimizes the need for these import restrictions, while the prospective new Prime Minister may want to ease restrictions to please his rural Hindu base.
In addition, an improving current account will lead to a stronger currency, making the price of gold for Indian buyers more attractive. At the same time, all signs are that Chinese buying will continue strong this year.
Two potential developments would hurt gold: a severe slowdown in the Chinese economy; and higher interest rates, particularly real rates. I do not see either development likely in the foreseeable future, but they are developments we should be watching.
Meanwhile, the powerful rally in gold stocks should be put in context. Gold stocks generally are a long way from being overvalued, selling, in fact, at their cheapest level relative to gold in 30 years.
On various valuation metrics (price to cash flow, price to ounces of reserves, and so on), the gold stocks are close to their lows for the entire bull market.
Having said that, many of the big names are at—or close to—technical levels where we could see a pullback. If holding weak companies, you might use these rallies to sell and put the money into something stronger. We are a long way from wanting to sell the gold stocks.
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