Gold stock ETFs completed another dreadful week with the largest gold mining ETFs - GDX and GDXJ - off over 5%. This pushed both ETFs into negative double digit territory for 2012. GDX, the large cap gold miners focused ETF, is now off 24% over the last 12 months. The junior gold miners ETF, GDXJ, is blazing a trail that could end up at a 50% loss as the fund is now down 42% in the last year. Adding insult to injury GLD and IAU, the leading physical gold ETFs, have gained over 7.9% during the same time period. Here's the gold stock ETF performance grid from GoldETFs.biz.
The disconnect between gold stocks and the price of gold is showcasing the perils of an indirect investment approach to the yellow metal. While physical gold has had its challenges over the last year, it has been close to the breakdown in valuation of gold stocks. Take a look at the 12 month chart from stockcharts.com of the two gold mining ETFs, GDX and GDXJ, versus GLD. As one friend told me recently, this is an "epic fail" by gold stocks.
Give Up Or Load Up?
So is it time to give up or load up on gold stocks? It seems to me that the answer is dependent on two factors. First, what direction will gold prices head? Second, will gold stocks reward investors in a bull phase?
In the short term, gold prices seem to be stuck in a rut. A slide in February lead to a bounce in early April and since then GLD has continued to muddle below the 150 day moving average. Here's the GLD chart illustrating the recent highs, lows and muddling.
A strong catalyst needs to occur for a material move and the EU crisis could fit the bill. A deterioration of the EU would benefit the U.S. dollar in the short term and negatively impact the price of gold at the same time. Gold stock ETFs would likely continue their accentuated move downward. Here's the 2012 performance chart from stockcharts.com illustrating the recent downside of GDX and GDXJ versus GLD.
Chances Are ...
Of course, gold prices could rebound due to demand from those shedding Euro exposure and awash in too many U.S. dollars. If that were to happen, the chances that gold stocks would outperform gold prices are not very convincing. After all, just months ago GDX lagged GLD as it shot upward to begin the year. Then as GLD lost momentum, GDX proceeded to plummet along with the "more volatile" GDXJ. This was the worst of both worlds for gold stock investors.
Going back to 2006, a relationship between GDX and GLD was identifiable. However that relationship seemed to breakdown in 2008 and never fully recovered. The disconnect began to go to new lengths in 2011 and has continued forward. Take a look at the long term chart of GLD and GDX and notice the aforementioned inflection points.
A gold focused investor is best served in a physical gold ETF due to the certainty of returns relative to gold prices. In contrast, indirect gold investing through gold stocks carries too much risk and reward uncertainty to be a dependable gold alternative.
Gold stock ETF products shouldn't be given up on by all investors however. Gold stocks are a great addition for speculative or tactical sleeves of a portfolio. Their volatility presents opportunities for nimble investors to capture significant directional moves. They just can't be trusted as proxies for gold.
So if you are looking for the next trade, gold stock ETFs are a intriguing option - long or short. But for those that believe in gold over the long term, there's nothing like the real thing.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.