Gold vs. Gold Shares

by JDH on January 4, 2020

Friday January 3, 2020 was an interesting day.  The price of gold was up over $23, closing over $1,552, only slightly higher than the 2019 high hit on September 4.

Two items of interest:

First, there is obvious overhead resistance at around $1,560, so this could be a level where gold pauses for a correction.

Second, the Relative Strength Index is over 80, a very high level, which is typically a precursor to lower prices.  As you can see from the six month chart, gold is a good buy when the RSI is well below 50, and much less attractive at these levels.

Common sense would dictate that since the price of an ounce of gold has increased by $100 in the last month, or around 7%, a pause is in order.

Of course very few of us are out there buying ounces of gold; we tend to buy gold stocks, or gold ETFs.   My favorite is NUGT – Direxion Daily Gold Miners Bull 3x Shares NYSE + BATS, an ETF that uses call options and other strategies to attempt to get 3 times leverage over the underlying basket of gold shares it represents.

Interestingly, NUGT is nowhere near a new high.

When you compare this chart to the gold chart above, both with the same time frame, NUGT was tracking gold very closely over the summer, but due to leverage if fell more than gold in the fall (as is to be expected), but it has not accelerated as much as gold over the last few weeks.

Why not?

Obviously because the underlying gold stocks have not had the same acceleration, but again, why not?

Friday January 3, 2020 gives us a partial answer. Gold was up over $23, closing over $1,552, only slightly higher than the 2019 high hit on September 4.  On Friday NUGT was actually down 1.77%, and other than a tiny spike at the end of the day, it was down all day.

While gold is significantly higher than it was in July, NUGT closed Friday at the same price it traded on July 18, 2019.

Why?

The answer, I assume, is that investors in gold shares are not the same as investors in gold bullion.

Gold bullion is traditionally purchased as a store of value, and a hedge against uncertainty.  With all of the news headlines talking about WWIII, it’s not surprising that gold is up.

(As an aside, I can assure you we are not entering WWIII.  The news needs action and controversy to generate clicks.  The USA, using a drone to blow up some bad guy is not the same as committing thousands of soldiers to a ground war.  Yes, there may be some retaliatory terrorist attacks, but Iran has no money, and if they want to start a way the US will just use more drones to blow up their oil refineries, and then they are done.  This will all be over in a week or two, and we can get back to the important business of government, like phony impeachment hearings, but I digress).

Here’s a chart of the last 240 days of trading in gold (the red line) and NUGT (the blue line).  As expected, NUGT is much more volatile than gold, and there are periods where NUGT falls more than gold, and periods where the opposite is true.

Friday was an anomaly, with gold up and NUGT down.

Gold investors bought gold for security.

Gold share investors said “oh no, WWIII is starting, that hurts the stock market, which hurts all stocks, including gold stocks, so we should sell”.  And they did.

So what happens next?

If I’m correct and the “war” is over shortly, the price of gold will recede, and the stock market can go back to making new highs.

Gold stocks may increase slightly, carried along by a rising stock market, but if the price of gold drops, so will gold stocks.

So, it’s time to take profits on NUGT, and perhaps other gold stocks as well.

I’m going to take profits in half of my position in NUGT, and redeploy the cash elsewhere until the correction is over.  If there is no correction, fine, I’ve still got my shares, so I’m happy.

I will be placing sell orders on NUGT as follows:

10% of holdings at $34.80

20% of holdings at $36

20% of holdings at $40

30% of holdings at $44

My guess is that my sell orders at $40 and $44 won’t get filled, but that’s fine, I’ll either adjust or hold.

That’s the operative plan; let’s see what happens.

Happy new year; it’s off to an eventful start; more next week.