Precious Metals Sector Outlook for 2006...

By: Clive Maund | Thu, Dec 29, 2005
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Gold and silver ended up making handsome gains during 2005, and the good news is that 2006 promises to be better still. Both took off during the last four months of the year, to such an extent that a reaction set in towards mid-December, which has partially alleviated the short to medium-term overbought condition that had developed, although in a powerful bull market it should be noted that prices can run an overbought condition for a considerable time.

Our 5-year gold chart shows the entire bull market to date, and on this chart the 200-day moving average can be seen to have been rising steadily, indicating that, whatever intermediate reactions have occurred along the way, gold's long-term uptrend has been relentless. The situation for silver has been rather different as we can see on its 5-year chart. After a spectacular ramp in late 2003 and the first few months of 2004 resulted in an extremely overbought condition, silver stopped for a major breather, which continued until late August of this year, after which the advance resumed, with breakouts in various other currencies eventually being followed by a breakout above its April 04 US$ high, which only happened this month.

Gold and silver certainly look impressive on US$ charts, but it is when they are charted against a wide range of other important currencies that the potency of this bull market is unequivocally revealed. Even gold's most vehement detractors have no choice, when confronted with these charts, but to grudgingly acknowledge that the precious metals are in a powerful bull market.

The 5-year chart for gold in Euros reveals the roaring bull market that followed a successful breakout above the resistance in the Euro 3.50 area that has capped the price for several years.

It is a similar story with the Swiss Franc, where gold took off once it broke above the strong resistance towards SF 5.50, and is now in a powerful uptrend.

The strong advance in gold and silver came to an abrupt halt a couple of weeks ago, and was followed by a sharp reaction. This reversal occurred at a point where the metals had become extremely overbought, as signaled by short-term oscillators and their yawning gaps with their moving averages, and featured a "Reversal Day" in gold, during which it staged a "throwover" breakout above its upper channel line on its long-term chart, before closing at the low for the day - a clear warning that the rapid intermediate uptrend had exhausted itself, at least temporarily. The subsequent reaction, in both gold and silver, has halted - for now, at least - just above the 50-day moving average against many currencies.

Having made it absolutely clear even to the most stubborn skeptic that the precious metals are in a powerful bull market, we will now turn our attention to the outlook. There is an old and true expression in the market "Let the trend be your friend" and that is exactly what investors should do with regard to gold and silver and precious metals stocks. Looking again at the silver chart, the new uptrend looks to be still in its early stages - it is only in December that silver overcame the strong resistance in the $8 - $8.40 area towards its earlier highs. This is believed to be a development of great significance as the price has finally broken out from the giant trading range that developed following the May 04 high, although this move was presaged by breakouts by silver in other currencies, so that it became a matter of "if", not "when" it would break out against the US dollar. Here it should be noted that the bullish outlook will not be impaired by a reaction back below $8.40, although this is not considered likely. This positive outlook for silver implies that the recent accelerated rate of advance in gold is set to continue, even if the Reversal Day in gold a couple of weeks ago leads to further short to medium-term reaction. On the gold chart we can see that, despite the reaction of the past couple of weeks following the Reversal Day, gold is still towards the upper return line of its long-term uptrend channel, and with the 50-day moving average having opened up a fairly large gap with the 200-day, there is clearly room for further consolidation/reaction before further progress is made. The most positive scenario is an accelerating advance leading to a genuine breakout above the top line of the channel - this would lead to a spectacular advance, while the most conservative scenario would involve an intermediate reaction right back to the lower channel line before the long-term uptrend re-asserts itself. But an interesting point that should be made here is that the action in stocks is suggesting that they are not going to react by much if the metals continue to correct in the short to medium-term.

Now we will look at one of the most interesting charts of all, which is a 5-year chart of the HUI GoldBUGS index divided by the price of gold, or put more simply, STOCKS versus GOLD. Many precious metals stocks investors are painfully aware of the rotten relative performance of stocks compared to gold over the past couple of years, and don't need to see this chart to be reminded of this state of affairs. This is especially true of many US traded stocks such as Bema Gold, Golden Star and Miramar Mining, which have performed miserably. However, as some readers will have already observed, despite gold and silver reacting sharply towards mid-December, stocks hardly reacted at all, and now, as the metals have bounced back, stocks are romping ahead, with the HUI index moving ahead strongly to clear new highs, and finally breaking out of the big two-year trading range that it had been stuck in. This is the first time we have seen this kind of action in a very long time.

Looking at the 5-year STOCKS versus GOLD chart we can clearly see that stocks have just broken out of a 2-year downtrend against gold. We therefore appear to be entering a period in which stocks are set to outperform gold, and given the positive outlook for gold, this means that stocks are set to perform very well indeed. This certainly fits with the charts of many gold and silver stocks - large, medium and small, which are looking very bullish.

What all this means is that if you are not already positioned to take advantage of the large gains pending in this sector, you should get on with it and decide what to buy and buy it. As already pointed out above, a short to medium-term reaction in the metals is unlikely to put much of a dent in the prices of stocks, so downside is viewed as relatively limited.

Alright, now we will examine the issue of what to go for - large cap, mid cap, or small cap and exploration stocks. The good news here is that the short answer is "all of them", although this needs some qualification. Regarding the large-cap issues, the ones to go for are those that are showing good relative strength, such as Gold Fields (GFI), which was recommended on the site before it broke above key resistance at $15, our old favourite Glamis Gold (GLG), and, of course, Goldcorp (GG). Don't be put off by the fact that many of them look overbought right now, the upside is still BIG. A key advantage of these large cap issues is that many of them pay big fat dividends, which are very nice on top of large gains in the stock price.

Another group that is worth going for is the mid-caps. The US traded mid-caps such as Bema Gold (BGO), Golden Star (GSS) and Miramar Mining (MNG) were singled out for a terrible beating as the sector consolidated over the past couple of years, and yet, if we look at their long-term charts, they don't look at all bad, and given the pummeling they have taken, they are still at good prices, with plenty of upside. Amongst this group, Golden Star in particular looks most promising.

Finally, there are the small cap and exploration issues, which many investors are understandably very leery of after so many of them got ground into the dust over the past two years. However, the time to go for stocks like these is when nobody else wants them, but there is evidence, as now, that a new uptrend is beginning. Two key points need to made regarding this category of stocks. One is that, due to their risk factor and more unpredictable behaviour, they should form a relatively limited part of a portfolio for the average investor - for experienced speculative investors it is another matter. The other is that it is very important to be selective with these stocks. Many end up going nowhere and sometimes very promising chart patterns in these stocks turn sour, often due to skullduggery on the part of management. Over the past two years the writer has witnessed one of these stocks go bad, despite a very promising chart pattern, due to the management diluting stock in a "boiler room" type operation where they were printing additional stock like Greenie prints dollars. Another one kicked its investors in the teeth by hiving off its silver holdings into another company, thus erasing the principal reason for owning the stock. Still another "glossy brochured" its holdings, and took investors on sanitised guided tours of its mine, carefully obscuring reality from investors, but when the truth leaked out the stock tanked. You get the picture. Management incompetence in some small-cap mining and exploration stocks is legendary, and it is true to say that managers of some small mining stocks couldn't return with a profit from a day on a lemonade stand. However, this is not to detract from the many small companies which are well run. In considering the weighting of small-cap and exploration stocks in a portfolio, it is worth bearing in mind that this category of stocks tend to lag in a bull market uptrend - the large-cap issues tend to lead, which is what we are seeing now, then the baton is passed to the mid-cap issues, finally, as the uptrend enters its latter stages, the small-caps perform best, and because of their leverage and, frequently, shortage of stock, they can make amazing gains in a short period. Examples of small-cap issues that look very good are Excellon Resources (EXN.V), a small silver that has been recommended all year on the site, and was last recommended at C$0.19 before it started to break higher, Pinnacle Mines (PNL.V), which is just breaking out of a massive base, and Great Panther Resources (GPR.V), which has plenty more upside despite its sizeable gains in December.


 

Clive Maund

Author: Clive Maund

Clive Maund,
CliveMaund.com

The above represents the opinion and analysis of Mr. Maund, based on data available to him, at the time of writing. Mr. Maunds opinions are his own, and are not a recommendation or an offer to buy or sell securities. No responsibility can be accepted for losses that may result as a consequence of trading on the basis of this analysis.

Mr. Maund is an independent analyst who receives no compensation of any kind from any groups, individuals or corporations mentioned in his reports. As trading and investing in any financial markets may involve serious risk of loss, Mr. Maund recommends that you consult with a qualified investment advisor, one licensed by appropriate regulatory agencies in your legal jurisdiction and do your own due diligence and research when making any kind of a transaction with financial ramifications.

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