Why the Gold Bull Market Is Set to Continue

It was another harsh day for the Aussie market yesterday. The ASX 200 finished down 30 points to 5,790, the lowest level since October last year. While today will be a better one, thanks to a strong rally on Wall Street overnight, it’s interesting to see where the weakness is coming from.

Nearly all sectors have pulled back over the past few days. However, it’s the financials where the real weakness has been. That’s if you ignore the NBN-led value destruction going on in the telco sector (at multi-year lows) and the havoc that rising bond yields have wreaked on property trusts and utilities.

The financial sector has been on the nose for some time now. But the price action over the past few days, as you can see in the chart below, has seen the sector break through support and fall to the lowest level since late 2016. Unless prices recover quickly, there is a risk that the banks will suffer further heavy falls. The chart doesn’t look pretty.

Financial x Property Trust 27-03-18

Source: Optuma

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What’s causing this bear market in the banks? Well, the Royal Commission isn’t helping. The banks’ reputation for fair play is only marginally above the Australian cricket team right now. And that’s saying something.

More importantly though, I think it’s the threat of competition that is hurting the banks. Despite interest rates remaining low, we are in low growth territory for the sector. And on top of this, smaller and more technologically nimble companies (‘fintech’) are coming in and taking business from the majors.

Put it all together and it equates to declining profitability for the sector. And declining profitability (by which I mean falling return on equity) means lower share prices.

This is a big problem if you’re invested in index funds or standard super fund managers that hug the index. It means a large chunk of your investments are potentially tied up in a low return sector. The ‘financials’ account for around 30% of the ASX 200 index.

Add in the telcos, property trusts and utilities, and that’s around 45% of the index in a bear market. You can’t blame that on Trump. These sectors have managed to have a shocker during a relatively strong global economic expansion!

But now the potential for Trump’s trade wars threatens to bring other sectors down. There’s a decent amount of risk present right now in global markets, and investors are nowhere near accurately pricing that risk. 

Gold stocks represent good value

This is why I think gold represents a special opportunity for a small part of your portfolio right now. Aussie gold stocks have outperformed strongly during the market’s recent convulsions. They are a great hedge in times of increasing economic uncertainty like we’re in now.

The chart below shows the Aussie gold sector. It rallied strongly in 2016 after enduring a long bear market. It then corrected sharply before slowly making its way higher in 2017.

Gold Index XGD (ASX) 27-03-18

Source: Optuma

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Although hard to see on the chart, the recent performance doesn’t accurately reflect how strong most gold stocks have been. That’s because Newcrest Mining [ASX:NCM] dominates the chart, and it has run into mine specific problems in recent weeks. Without that, the sector would be at 12 month-plus highs.

In my view, the bull market conditions are set to continue for gold. The Aussie dollar gold price is approaching $1,750 an ounce, the highest price since mid-2016 and enough to fatten most well run gold miners’ margins.

It might take a few more months — or longer — but in my view gold will break out to new highs in Aussie dollars before the year is out. That means a price above US$1,820 an ounce.

To do that though, the US dollar gold price needs to break out to new highs. One area I keep a close eye on to see if that is likely is the positioning in the futures market. If too many futures traders are punting on a higher price, chances are you won’t see it.

On the other hand, if positioning is low or evenly balanced, you know there is buying potential demand there to push prices higher. Look at the graphic below. It shows the ‘net long’ position of gold futures traders has been declining for months. It hasn’t declined to a point where you would normally expect to see a strong rally, but with the spectre of a trade war looming, perhaps that’s too much to ask for.

Thomson Reuters 27-03-18

Source: Thomson Reuters

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The bottom line is that positioning in the futures market supports the prospect of a rally in gold. Make sure that you’re positioned for it as well. To read my report on a special way to play the gold bull, click here.


Greg Canavan,
Editor, Crisis & Opportunity

Greg Canavan is a Feature Editor at Money Morning and Head of Research at Fat Tail Investment Research.

He likes to promote a seemingly weird investment philosophy based on the old adage that ‘ignorance is bliss’.

That is, investing in the Information Age means you have all the information you need at your fingertips. But how useful is this information? Much of it is noise and serves to confuse, rather than inform, investors.

And, through the process of confirmation bias, you tend to read what you already agree with. As a result, you often only think you know that you know what is going on. But, the fact is, you really don’t know. No one does. The world is far too complex to understand.

When you accept this, your newfound ignorance becomes a formidable investment weapon. That’s because you’re not a slave to your emotions and biases.

Greg puts this philosophy into action as the Editor of Crisis & Opportunity. As the name suggests, Greg sees opportunity in a crisis. To find the opportunities, he uses a process called the ‘Fusion Method’, which combines traditional valuation techniques with charting analysis.

Read correctly, a chart contains all the information you need. It contains no opinions or emotion. Combine that with traditional stock analysis and you have a robust stock-selection strategy.

With Greg’s help, you can implement a long-term wealth-building strategy into your financial planning, be better prepared for the financial challenges ahead, and stop making the basic, costly mistakes that most private investors do every time they buy a stock.

To find out more about Greg’s investing style and his financial worldview, take out a free subscription to Money Morning here.

And to discover more about Greg’s ‘ignorance is bliss’ investment strategy and the Fusion Method of investing, take out a 30-day trial to his value investing service Crisis & Opportunity here.

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Money Morning Australia