Events and circumstances bode well for gold stocks

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by Adam Pankratz

Any rollercoaster enthusiast will tell you that the fright is part of the fun. To finish Kingda Ka, the world’s tallest rollercoaster, and not have had your cage rattled would miss the point. Investors in mining, and precious metals in particular, might tell you same thing: volatility is part of the game and, for some, the fun of it all. The recent white-knuckled COVID-19 shocks have rattled even the most thrill-seeking investor but it’s in these moments when the largest upswings can materialize.

Generally speaking, there seem to be two types of investors: gold bugs and gold humbugs. Humbugs will say that “even when gold works, it doesn’t work.” They will then point to gold’s overall long-term performance lag relative to stocks. They are not wrong. Even after the recent crash, since 1990 the Dow Jones has returned almost 775%, while gold, even after its recent run, provided just over a 350% return during the same period. Not bad, but still only half what investors would have got by sitting on the index.

Gold bugs have to concede the above, but can return that at the right moments – a treacherous thing to judge – gold can indeed be a winner and offers security few equities can match. After the 2008 crisis, from January 2009 until September 2011, the Dow returned approximately 36%, while those who had their money in gold saw returns of over 105%. Over the same period the S&P SPDR Gold Trust ETF returned 110%.

Many observers want to draw parallels between 2008 and 2020. While it is tempting to look to the most recent crash to make predictions about the next recovery, in this case such logic is risky. 2020 did not originate in the financial sector; the economy has simply been closed and is no real precedent for supply and demand both being shut down.

The Economist magazine recently noted that since 1960, across wealthy nations, there have been only 13 instances in which GDP fell by more than 5%. Such a small sample size makes drawing definitive conclusions extremely difficult and 2020 Q1 and Q2 COVID-19 GDP declines will likely far exceed anything previously experienced. It is also difficult to draw lessons from other large shocks in even more distant history as they tended to follow wars and took place in a far less interconnected economic time.

However, there are some similarities with 2008 – not the least of which is the enormous uncertainty COVID-19 has created and the unprecedented government stimulus unleashed across the globe. If gold is indeed a hedge against inflation and uncertainty, then get ready to watch gold and gold equities soar.

The future of gold – and silver to a lesser degree – will depend on the rapidity of economic recovery. Big questions remain as to whether governments can get macroeconomic policy right, while assuring their citizens that their jobs and cashflows are secure. Government stimulus was the correct move to stave off full economic collapse, but the future remains highly uncertain. Some estimates put the number of small businesses that will close due to COVID-19 at 50%, even with the government assistance. Ultimately the full extent of the COVID-19 crisis on business’ bottom lines is still largely unknown, other than that it will be severe; this makes gold and silver look all the more attractive.

Uncertainty, risk of inflation, and a sputtering economy have all traditionally pushed gold and precious metals higher. The current gold price of around US$1,700/oz says many investors still support the gold as a safe haven. Other than actual physical gold, investors have several options: gold majors, gold indexes, gold miner ETFs and gold juniors. So far, most seem to have plumped for large gold miners and gold indexes. The gold juniors have seen little action so far, but money is beginning to flow into that sector now too. Keen observers who follow the junior space should see upticks in investor interest in gold juniors as they look for somewhere to put their money to work.

Silver equities could also see a bump soon as the current gold to silver ratio sits well above 100 and anything above a ratio of 80 is generally considered buying territory by metals traders. Is silver as cheap as it seems? Only time will tell, but it could be an interesting bet to consider.

As with any rollercoaster, the current uncertainty and volatility will end. But when riding out precipitous drops and sharp turns it’s nice to have a safety harness until the movement stops and the stomach settles. Gold and other precious metals look like attractive security until this ride is over.

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