The precious metals correction is here. Gold and silver are down 4% and 30%, respectively. Gold and silver stocks, as should be expected, are down even more.
But here’s the thing, precious metals stocks have been hit much harder than they should have been.
Right now is the best time to buy gold stocks in more than two years as a result. And they’re poised to make another run of 30% in the next few months. Here’s why.
Time to buy gold stocks
At the risk of stating the obvious, the relationship between gold and gold stocks has always been a strong one. Only during liquidity crunches or the height of speculative booms has the relationship reached extreme divergences.
Since the market bottomed in March 2009, however, gold and gold stocks have run very closely together. In the last 26 months gold is up 60% and gold stocks, as tracked by the Market Vectors Gold Miners ETF (NYSE: GDX, Stock Forum), are up a mere 67%.
That’s pretty poor performance considering the leverage gold stocks have historically had to the price of gold. But it’s also creating the best opportunity to buy gold stocks in two years.
The chart below shows what I mean:
The chart shows the relative performance of GDX to gold prices.
When gold prices rise and gold stocks don’t immediately follow, the ratio rises. When gold prices fall or stay flat and gold stocks have “caught up,” the ratio falls.
Right now, the ratio is at its highest point since April 2009. That means it’s time to buy gold stocks.
Gold vs. gold stocks: Tale of the tape
Gold stocks have been walking up stairs over the past two years. They move up suddenly, flatten out or correct, then jump again, and over and over again. It’s typical action for any bull market.
Because of this activity, the most of the money made in gold stocks came during a few brief periods in the last two years.
The table below shows that the majority of the upswing in gold stocks came at a time when the Gold/GDX ratio was at an extreme high like it is now:
The table shows the biggest moves in gold stocks over the past two years relative to gold prices.
These moves accounted for allof the gains in gold stocks in the past year.
Most importantly, each one of those moves came in the months immediately following the point at which the Gold/GDX ratio reached the same level it right now.
Buying gold stocks is the contrarian move once again
That’s why right now is the best time to buy gold stocks in the past two years.
Warren Buffett said, “In the short run, the market is a voting machine but in the long run it is a weighing machine.”
Right now the market is voting against gold.
Gold stock valuations are indicative of the market’s declining confidence in gold. The growing fear in the markets is sending “hot money” out of gold. And the thousands of newly-minted gold bugs are running for the exits right along with them.
Despite the downswing, the current correction and any further correction will only strengthen the fundamentals for gold.
The long-run outlook for the dollar isn’t any stronger. The Fed has signaled it’s not going to raise interest rates anytime soon. And if the markets turn sour, the Fed has laid the public relations groundwork to launch QE3 (although it will surely have a new name by that time).
Finally, the recent “safe haven” rush into treasury bonds has pushed interest rates and down and real interest rates even further into negative territory.
Although there’s no way to tell exactly when the current correction will bottom out, if history is a reasonable guide, it will show once again that the window to buy gold stocks is open right now.