The current economic conditions are, in substance, very similar to that of the Great Depression. I have recently highlighted some of these similarities in a video presentation . The pattern that is being followed suggests that the next big event will be an acceleration of the increase in the price of gold, as well as a significant rally in gold stocks despite economic decline.
During the Great Depression, there was a significant decline in economic activity. This economic decline was a key driver of a higher real price of gold. That is, the price of gold increased significantly compared to that of other commodities. This created favourable conditions for gold mines and boosted their profits significantly.
The current debt-crisis should continue to put pressure on economic activity worldwide. Future production and consumption are being held ransom by the huge debt obligations (whether debts get settled or defaulted on). During such conditions, the monetary demand for gold increases while the demand for commodities is badly affected.
Despite pressure on the demand for other commodities, their price should still increase (due to monetary inflation); it is just that the price of gold should increase faster. This is essentially why the real price of gold increases.
Below is a 5 year gold chart (from fxstreet.com):
The drop in price at the end of September was just a re-test of the upward sloping resistance line. According to my fractal analysis, the crossing of this line starts a new phase in the gold bull market where prices are expected to trade in a more bullish channel. This period is similar to that of August/September 1979 to January 1980. More detail of this comparison with the gold chart of the 1970s, can be found in my Gold Fractal Report. The current debt-crisis should continue to boost gold over the next couple of years.
In order to achieve maximum benefit from the expected rally in gold stocks, it is important to choose the right type of gold stocks.
Despite the likelihood that most gold stocks will rise during the next couple of months and more, some, for example, perform better when the going is good and vice-versa. See, the following chart (from finance.yahoo.com):
It illustrates how the South African gold (SA) stocks underperformed the HUI significantly, since 2001. Those who would have invested in the South African gold stocks in 2001, would have missed out on the big gains made by the non-South African HUI stocks. This is another example of how some stocks perform better or worse, depending on the conditions.
My current research, however, favours South African gold stocks over other gold stocks, for this next rally. The current and coming conditions are an ideal set-up for these stocks. Again, it is important to ask which South African gold stocks. My analysis (fundamental and fractal analysis) of the economic conditions, as well as the expected levels of the ZAR gold price and energy cost, which affects SA gold mines, helps me to choose the ideal ZAR gold stocks for a particular time.
Currently, I favour the ones that do well when the going is good. Below, is a chart (from finance.yahoo.com) that compares the price of Anglogold (NYSE:AU) with that of DRDGold (DROOY):
DRDGold, is a good example of a gold stock that performs well when the going is good for SA gold stocks in general. On the chart I have highlighted (with yellow) the last period of ideal conditions for SA gold mines; during which, DRDgold significantly outperformed Anglogold. Since then (about May 2002), conditions have not been that great for the SA gold mines, therefore, Anglogold has mostly outperformed DRDgold. It appears we are currently entering a period where DRDgold is likely to outperform Anglogold.
The HUI is set to spike and break out at the all-time high level soon. Below is a long-term chart (from finance.yahoo.com) of the HUI:
The 500 area has now been successfully tested and HUI looks set to rally over the next 4 months (at least). We could see the 800 level reached as a minimum.
Disclosure: I am long gold, DROOY, AU and GFI. I receive no compensation to write about any stocks mentioned