PM Summer Doldrums 2
Source: Adam Hamilton, Zeal Research (6/18/10)
"There is a fantastic silver lining to this summer-doldrums cloud."
These doldrums exist because strong seasonal forces affect gold demand. While gold's newly mined supply flows to the markets at an essentially constant rate throughout the year, this metal experiences wild fluctuations in demand. And unfortunately none of the usual demand spurts coincide with summer.
Asian gold buying ramps up in autumn, as cash flows from the recent harvests peak. Farmers invest once they know how big their profits are. Indian demand, the world's largest gold consumer, surges during its autumn festival season. Most Indian weddings happen then, with big gold buying for brides' dowries, as Indians believe getting married around these festivals brings good luck and happiness to marriages.
Around Christmas and the end-of-year bonus season, Western gold buying peaks. Christmas is naturally the biggest time of the year for the gold-jewelry business. And similar to Asian farmers buying gold after their harvests, we Westerners have the best idea of how much surplus income we've earned that year near year-end. This leads to Western gold-investment buying. And then in January and February, Chinese New Year gold buying flares up in China. My latest essay on gold seasonals delves into these gold demand spikes in more depth.
Note that none of these seasonal surges in gold demand around the world happen in the summer. This time of year is devoid of income-cycle and cultural incentives to drive above-average capital flows into gold. On top of this, investment in general really tends to slow down in summer as people concentrate on vacations and enjoying the sun instead of the financial markets. The result is the summer doldrums.
Gold tends to drift listlessly sideways during these summer months, like a great tall ship trapped in the oceans' doldrums. There generally isn't much selling pressure, but there isn't much marginal buying interest either. And as goes gold, so go silver and the precious-metals stocks. These are derivative plays on gold, so when gold isn't doing anything exciting they tend to drift lower as traders get frustrated and walk away.
In the financial markets, summer effectively runs from Memorial Day to Labor Day. Thus calendar June, July, and August are the summer months for trading purposes. While PM-stock speculators and investors are never happy to hear about the summer doldrums this time of year, the technical histories of today's PM bull markets are crystal clear on the reality of the doldrums' dampening impact.
The charts in this essay illuminate these doldrums in gold, silver and the flagship HUI gold stock index across their respective secular bulls. In order to make each year perfectly comparable with all others despite wildly different price levels, I indexed every summer individually. The final trading day in May each year is set at 100, and then all other prices are figured relative to this common base. If gold goes from 100 to 105 for example, that means it rallied 5% whether it started at $400 or $1,000.
All past years' individual summer indexes are rendered in yellow. While your eye can't follow each year individually, taken together they define a typical center-mass trend. The summers' indexes from 2000 to 2009 are then averaged together in the red line, illustrating the core directional tendencies. And finally this year's indexed data is rendered in blue. Every PM-stock trader needs to understand these doldrums.
Over this secular gold bull's past decade, this metal has never had an exciting summer performance. Not once! The center-mass trend of all its summer trading action over this long span is clearly down. While there are some outlying years like 2008 and 2005 to the upside, these anomalous rallies quickly rolled over and failed. On average between 2000 and 2009, gold drifted sideways in a flat-to-lower fashion.
And despite today's excellent gold prices, in indexed terms this metal has essentially spent the initial weeks of summer drifting sideways just as expected. Gold closed near $1215 on the last trading day of May 2010. Since then it has lazily meandered between $1206 on the low side and $1242 on the high side. Even at its peak gold was only up 2.3% since the end of May, which remains near the center of its typical summer-doldrums trading range.
Now this precedent doesn't mean gold can't rally sharply in the summer, far from it. Anything is possible in the financial markets. With the right incentive (read "crisis"), gold investment demand could soar even in the lazy summer months. But speculating and investing are ultimately probabilities games. Traders only want to add trades when their odds for success are high. And for an entire decade, the odds haven't favored gold rallying in June, July, and August. This doesn't bode well for summer 2010.
Each time I've written about this phenomenon in the past, I get deluged with hostile feedback. Highlighting a period of poor seasonal performance doesn't exactly win fans among PM-stock traders. The most common argument I hear is "What about X event? If X happens, gold will soar." And usually I agree; if X comes to pass, then gold investment demand would indeed probably surge.
But the problem is wild exogenous events seldom become reality. While the threat of Xs always exists, the reality is they almost never hit as feared. Last summer for example, fears of a California bankruptcy and double-dip recession dragging the stock markets back down to panic lows were ubiquitous. Potential Xs were everywhere, yet gold did nothing. In the summer of 2008, the bond markets were seizing up as Fannie and Freddie stocks were plummeting. Gold had every reason to soar as Xs loomed everywhere. Yet the best it could muster was a short-lived rally in July that soon collapsed.
The cold hard truth is nasty potential Xs existed in every summer from 2000 to 2009 without fail. Still gold steadfastly refused to surge higher every summer. Worst-case scenarios always exist and are always feared by excitable PM-stock traders. Any potential wild exogenous events today like a Europe implosion are both highly unlikely to come to pass and equally unlikely to drive a huge summer gold spike.
You don't have to like this, I certainly don't either. Our goal in speculating and investing is to buy low and sell high, not irrationally expect any asset to rally 12 months a year every year from now until the end of time. The charts don't lie. Any intellectually honest PM-stock trader who takes the time to study summer trading action over this entire bull will have to admit it isn't very impressive. This lethargic flat-to-lower gold price action in June, July and August drives the PM summer doldrums.
Silver is a leveraged derivative play on gold. When gold is strong long enough to generate excitement, traders rush into silver and drive big gains that amplify gold's own. But when gold is weak or even drifting sideways, excitement for PMs fades rapidly. Traders sell silver in the absence of a gold-strength catalyst to drive further buying, and it falls faster than gold. So with gold tending to drift sideways during the summer, silver faces a stiff sentiment headwind that it can seldom overcome.
Silver's summer action isn't as tight as gold's over the past decade. The yellow lines showing individual indexed years have much broader deviations, reflecting silver's well-deserved reputation for wild volatility. Yet on balance, silver's summer tendency is still clearly weak. Its center-mass trend encompassing the most yellow indexed lines is down. Even more telling, its red index average drifts down about 5% by the end of summer. If silver follows precedent this year, odds favor it trading in the mid-$17s by late August.
Unlike gold, silver did have several years with upside outlying rallies during the summer. The most recent was 2008, when silver followed gold's spike higher in early July. But soon after that in August that year, that anomalous strength quickly collapsed into anomalous weakness. 2008 ended up being silver's weakest summer of its entire secular bull as the bond-panic-driven U.S. dollar spike hammered gold.
The other silver upside outliers were 2003 and 2004. In 2003 the general stock markets, which have a huge influence on silver traders' psychology, were advancing out of their recent bear-market lows much like we saw in the summer of 2009. As a highly speculative metal, traders are much more likely to buy silver when the stock markets are strong and risk trades are in vogue. And in 2004, silver had just weathered what was essentially a crash in April and was simply mean reverting higher in a recovery.
Silver was only strong in 3 summers out of 10, and one time (2008) it collapsed right after and another (2004) it was recovering from a brutal 33% plunge in April. So that leaves just a single summer out of 10 (2003) when silver rallied a bit and held on in relatively normal conditions. If you want a high-probability-for-success silver trade, bull-to-date odds running 10% or so for a significant summer rally certainly isn't it. As long as gold drifts listlessly, it is really hard for silver to catch a bid.
Most importantly of all, and the reason I wrote this essay, is the precious-metals stocks. The HUI gold-stock index hit 492 in mid-May but has generally been drifting sideways to lower ever since despite the persistent strong gold prices. Over the 5 weeks since that interim high, the HUI has merely averaged 457 on close despite gold averaging $1217. Gold stocks remain radically undervalued relative to gold, yet they haven't been rallying.
This lack of PM-stock performance is causing tremendous frustration amongst PM-stock traders. I've been warning our subscribers about the PM summer doldrums for months, trying to prepare them psychologically for this listless PM-stock season. They are ready. But to those traders out there not enjoying the fruits of our research, all I can do is shrug and say "hey, it's summer man." You just can't expect too much from PM stocks while gold drifts in the doldrums.
Just like its primary driver gold, the center-mass trend of every HUI summer of its entire secular bull is definitely down. On top of this, much like silver the average of these 10 indexed years also tends to drift lower in the summer months. This lack of summer performance is pretty amazing when you consider that the HUI has skyrocketed 1331% higher at best in this bull since late 2000. Obviously from this chart, almost none of these epic PM-stock gains accrued over the lethargic summer months.
Like silver, the HUI did witness a couple upside outliers. It started rallying sharply in July 2003 and didn't look back. That was the kind of summer every PM-stock trader fervently hopes for, but alas it was an anomaly that hasn't even come close to being repeated ever since. 2005 saw a bump in August, but that soon collapsed back into the center-mass downtrend before summer ended a few weeks later.
The odds just don't favor PM stocks doing anything too exciting during the summer months. Sure, 2010 could be different and see a rip-roaring gold-stock rally. But I sure wouldn't bet on it. Between 2000 and 2009, the HUI generally drifted lower between 5% and 10% above its May close to 10% to 15% below it. Translated into this year's HUI levels, this is a high-probability potential summer range between 385 to 500 or so. And unfortunately the probabilities greatly favor the lower end of this range.
If you are a fellow PM-stock enthusiast like me, the dreary prospect of the PM summer doldrums as we enter summer 2010 feels like a big wet blanket. I feel your pain, I'm not thrilled with these weak PM summer tendencies either. But a decade's worth of summer data from today's secular bull forms a powerful precedent. It isn't wise to ignore it. We may buck the trend and see a nice PM-stock rally before the end of August this year, but the probabilities are wildly against it.
This isn't all bad though; there is a fantastic silver lining to this summer-doldrums cloud. As speculators and investors, our goal is to buy low and sell high. And thanks to these gold doldrums, late summer is the best time of the year to buy low in PM stocks. Traders who don't understand these doldrums get more and more discouraged as summer grinds on. As many give up and sell by August, PM stocks typically fall to their lowest relative levels of any given year.
So at Zeal rather than worrying about PM stocks' usual summer grind, we carefully build our shopping list for the best buying opportunity of the year in late summer. We figure out which specific gold stocks and silver stocks we'd like to own through endless fundamental research. And then we prepare to buy them when PM-stock sentiment waxes the most bearish and discouraged at its usual late-summer ebb.
Just this week, we finished a deep 3-month project fundamentally researching early-stage junior gold stocks. We started with a universe of over 400 publicly traded junior gold stocks listing in the US and Canada. We then looked into every one and gradually whittled this huge list down to our dozen favorites. We profiled each of these high-potential junior golds in a comprehensive new 25-page report just published.
Interestingly, high-potential juniors can often buck the weak summer trend for a couple key reasons. First, as relatively unknown juniors with fantastic projects become more widely known, new investors buy regardless of what gold and the HUI are doing. Second, summer is the drilling season in the northern hemisphere when new gold discoveries are made. Juniors spinning drills that happen to report great gold intercepts often catch a bid even if the broader PM-stock sector is flagging.
So whether you are prudently building your high-priority buy list for the late-summer sector lows, or eager to learn about incredible juniors that aren't widely followed yet, now is a great time to digest our new junior golds reports. At just $95 ($75 for Zeal subscribers) for the fruits of hundreds of hours of our elite world-class research into junior golds, it is a crazy bargain. Buy your copy todayand learn about these amazing juniors before everyone else does!
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The bottom line is summer isn't a great time for precious metals. Led by gold, the entire PM complex tends to drift sideways to lower in the summer doldrums in June, July, and August. This listless price action is driven by the combination of no seasonal gold-demand surges and the general lack of investor interest that plagues all markets in the summer months. Sun, sand, and surf simply provide too much competition for traders' attention this time of year.
While frustrating for traders not psychologically prepared for these PM summer doldrums, they create great opportunities for those who are. As summer wears on and PM stocks grind lower, frustration mounts and discouraged traders dump PM stocks. This leads to the best seasonal buying opportunity of the year in late summer, right before the huge autumn gold-buying season begins. So relax, enjoy this summer and start building your PM-stock buy list.
Adam Hamilton, CPA
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