Suddenly, everyone wants to buy gold stocks. That means, the sector is due for a short-term shake out.
Let me explain…
Gold stocks have been on fire lately. The Gold Bugs Index (HUI) was trading at 200 at the end of February. It closed Friday above 262. That’s a 31% gain in just seven weeks.
And, as is often the case, price action has a way of changing investor sentiment.
Nobody wanted anything to do with the gold sector in late February. I know this because when we published a bullish essay on gold stocks on March 1, we got lots of feedback from readers threatening to cancel their free subscriptions.
Now, most of the feedback we get about gold and gold stocks is from readers wanting to know if they should chase the prices higher.
The short answer is “No.” For the long answer, take a look at this chart of the Gold Bugs Index…
The first thing to notice about this chart is how the recent rally is quite similar to the action during the same time last year. Indeed, March and April tend to be seasonally bullish for gold stocks.
But, that seasonal strength ends in May. The gold sector tends to decline through the summer and into the fall.
Notice also that all of the momentum indicators at the bottom of the chart have started to decline from overbought conditions. This too is similar to what happened about this time last year – just before HUI lost about 30% of its value.
Of course, that doesn’t mean we’ll see the same sort of decline this year as well. Even after the recent rally, gold stocks are still about as fundamentally cheap as they have ever been. And, the reasons for owning gold as an inflation hedge and as a store of value are as strong as ever.
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So, I still like the idea of owning gold stocks for the intermediate- and longer-term timeframes. I expect the sector will be even higher by the end of the year.
For the short-term, though, I’m skeptical. Investor sentiment towards gold stocks has gone from bearish to bullish too fast. This is happening just as we are entering a seasonally weak period for the sector.
Rather than chasing prices higher, traders will probably do better by being patient and waiting for the gold sector to work off its current overbought conditions. Chances are, we’ll get a better opportunity to buy the gold stocks a few months from now.
Best regards and good trading,
Jeff Clark