A New Bull Market in Gold Stocks Begins…

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It’s 29 February, the day that helps the earth get back on track every four years. Given the way the year started, the last thing investor’s want is an extra day!

So let’s take stock and see how things have gone over the first two months.

The ASX200 is down about 8%. Not great, but hardly a disaster.

Drilling down into the two largest sectors, you have the ASX200 financials index down a hefty 16%, while the ASX 200 materials index is only down 1.6%.

There you go. The focus of everyone’s bearish attention, the resource sector, has massively outperformed the market darling, the banking and financial sector.

It’s interesting how the very recent report on the Aussie housing market by London based US analyst Jonathon Tepper and Aussie hedge fund manager John Hempton attracts all the blame for the sell-off in the banks.

Talk about beating up on the messenger!

The point is this sector has been in trouble since the start of the year. In fact, it was in trouble last year when the world began to wake up to the macro problems surrounding China’s currency issues.

See for yourself. Here’s a chart of the ASX200 financials ex-property index over the past 12 months.

Source: BigCharts

After peaking in March/April 2015, the index (which the big four bank dominate) began to fall. It attempted to rebound in June and July, then crashed lower in August and made a new low in September.

When long winning sectors sell off heavily, they always attract buying support. Our short term memories trick us into believing it must be a buying opportunity. So over the next few months the sector worked its way higher. But since the start of the year, it’s all been downhill.

This has nothing to do with a couple of blokes talking about their bearish bets on Sydney and Aussie housing. The market told you long before these guys showed up that something was brewing for the banks.

Now, the bankers aren’t happy. They’re blaming the hedge funds for talking their book, and profiting from the negative sentiment. From the Financial Review:

Variant Perception’s report on shorting the Australian housing market hit a raw nerve inside the big banks. 

In my conversations with half a dozen senior bankers last week, all were adamant coverage of the dramatic predictions that property prices in parts of Sydney and Melbourne could fall 50 per cent delivered profit to the hedge funds.

This was because the publicity about the report pushed bank equities down last Wednesday, enabling the funds to cash out regardless of whether the doomsday scenario ever comes to fruition.

How dare they speak their mind!

This report will all blow over in the next few days. It will have exhausted the news cycle. But keep your eye on the financials index. The path of least resistance is down, new lows await in the months ahead.

Let’s have a look at the performance of US markets.

The S&P500 is down 4.7% so far this year, while the Dow is down 4.5%. The Utilities sector, considered ‘defensive’, is up 6.5%. The Transports, which measure the distribution of goods (and people) around the country, are down just 1.4%. So from a production and distribution of goods perspective, the US economy isn’t in that bad of a shape.

But the problem here, like in Australia, is with the financial sector.

The Banks are down 15.6% in 2016, while the broker/dealer sector is down 15.7%. Is this purely related to concern about oil related debt exposure, or something broader?

On the tech front, the Nasdaq100 is down 7.8%, semiconductor stocks are down 5.9%, while the biotech sector is down a hefty 24.7%.

That all sounds pretty grim. At the very least, it tells a story of slowing global growth and a realignment of investor expectations.

There is one bright spot though. Gold stocks.

So far this year, the gold stock index, known as the HUI index, is up a massive 45%. Granted, that performance comes after the index fell to its lowest point since 2002. Bear market rallies of such magnitude are not unusual.

But still, the 2016 rally has so far been impressive. The index recently hit its highest level since June 2015. Expect a correction from here. If it holds and rallies from around 135 points, the bull market is back on…

Source: BigCharts

What’s behind the strong recent performance? Well, for the answer, I’ll hand you over to our own Jim Rickards, who knows gold better than just about anyone I know of.

Is gold a commodity, an investment, or money?

The answer is…

Gold is a chameleon. It changes in response to the environment. Gold is making an important change right now.

At times, gold behaves like a commodity. The gold price tracks the ups and downs of commodity indices.

At other times, gold is viewed as a safe haven investment. It competes with stocks and bonds for investor attention.

And on occasion, gold assumes its role as the most stable long-term form of money the world has ever known.

A real chameleon changes colour based on the background on which it rests. When sitting on a dark green leaf, the chameleon appears dark green to hide from predators. When the chameleon hops from the leaf to a tree trunk, it will change from green to brown to maintain its defences.

Gold also changes its nature depending on the background.

Right now, gold is behaving more like money than a commodity or investment. It is competing with central bank fiat money for asset allocations by global investors. That’s a big deal because it shows that citizens around the world are starting to lose confidence in other forms of money such as dollars, yuan, yen, euros and sterling.

In other words, gold is starting to reflect a loss of confidence in central bankers and their one-dimensional policy of never ending money printing, whether in the form of Quantitative Easing or negative interest rates.

The sell-off in banks around the world and the rise of gold as money (again) is sending an important message. The year is only two months old, but you can expect more fireworks in 2016.

Greg Canavan,

For The Daily Reckoning

Greg Canavan
Greg Canavan is the Managing Editor of The Daily Reckoning and is the foremost authority for retail investors on value investing in Australia. He is a former head of Australasian Research for an Australian asset-management group and has been a regular guest on CNBC, Sky Business’s The Perrett Report and Lateline Business. Greg is also the editor of Crisis & Opportunity, an investment publication designed to help investors profit from companies and stocks that are undervalued on the market. To follow Greg's financial world view more closely you can subscribe to The Daily Reckoning for free here. If you’re already a Daily Reckoning subscriber, then we recommend you also join him on Google+. It's where he shares investment research, commentary and ideas that he can't always fit into his regular Daily Reckoning emails. For more on Greg go here.
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