Gold Miners: Is GDX Back?

Summary

• Fed Chair Yellen's testimony before congress struck a dovish tone, which indicated that normalization will be a long process and an additional rate hike may not be warranted this year.
• Goldman Sachs's gold call from May has played out extremely well, and as forecast, the bank is now bullish on gold, expecting year-end prices to be above $1,250.
• Developments on the Korean Peninsula are turning increasingly dire as diplomacy appears to have failed, opening the door for a possible preemptive strike from the U.S. military.
• In addition to the increasingly favorable fundamental elements surrounding gold, gold mining stocks have strong underlying metrics, including extremely low short interest.
• The takeaway: What is good for gold is also favorable for gold miners, and it appears that numerous favorable elements are coming together that may propel GDX considerably higher.

The VanEck Vectors Gold Miners ETF (NYSEARCA:GDX) is having a good week for a change and is now up for a third consecutive day after bouncing off the $21 support level. As of 9:40 am on Wednesday, July 12th, GDX was trading at approximately $22.00, roughly 5% higher than the low hit just 2 days ago. However, an instrumental question remains as to whether there is more room for significant upside concerning the gold mining sector or if this is simply a short-term bump higher. Various fundamental and technical factors appear to be signaling that the precious metals sector may have more room for significant upside. This analysis explores the different elements that are likely to influence GDX's price going forward and could elevate its price meaningfully higher from current levels.

GDX at a Glance

GDX aims to replicate as closely as possible the price and yield performance of the NYSE Arca Gold Miners Index (GDMNTR), which is intended to track the overall performance of companies involved in the gold mining industry. The ETF has total net assets in the amount of $8 billion and has 51 holdings. Some of the fund's top holdings include Barrick Gold Corp. (ABX), Newmont Mining Corp. (NEM), Franco-Nevada Corp. (FNV), Newcrest Mining Ltd. (NCM), Goldcorp Inc. (GG), Agnico Eagle Mines Ltd. (AEM) as well as other gold mining companies.

Fed Chair Yellen's Testimony and its Importance for Gold Miners

The most important elements that can be interpreted from the Fed chair's testimony are that interest rates are not going to normalize as high and as fast as they have generally done in other recoveries, and there may not be another rate hike at all this year. These factors are undoubtedly bullish for gold, and thus, are extremely favorable for GDX going forward. To confirm the market's interpretation of Yellen's testimony, rates dropped, the dollar fell against other major currencies, and gold, silver as well as gold miners resumed their advance from recent lows. In addition, the chances of another rate hike this year deteriorated, according to the CME Group's FedWatch tool. The chance of rates staying at current levels through December moved up to 49%, as opposed to 40% 1 week ago and 41% just yesterday.

Goldman Bullish on Gold?

That's right, it seems Goldman Sachs, the "smartest guys on the Street," are now bullish on gold - which is, in fact, another positive element concerning the future performance of GDX. Goldman has often been skeptical of the yellow metal and has called for lower prices repeatedly in recent years. So, why is the investment bank now putting out favorable notes concerning gold?

Interestingly, Goldman Sachs pretty much nailed it in May when the bank put out a note outlining the likelihood of a better-than-expected jobs number that would cause markets to interpret the situation as if the Fed was more likely to raise rates and that this would cause gold to fall to around $1,200, which is exactly what happened. Furthermore, Goldman then said they viewed the $1,200 level as a buying opportunity and that their year-end target was $1,250 for gold. Furthermore, in late June, Goldman's asset strategist came out with another note outlining three specific reasons why gold may trade above the asset team's year-end target price of $1,250.

1. Lower returns in U.S. equities should support more defensive asset classes, thus gold.
2. Higher GDP from EMs should add purchasing power to EM economies that have a high propensity to consume gold.
3. Goldman Sachs expects gold mine supply to peak in 2017.

Undoubtedly, what is good for gold is also favorable for GDX. Goldman Sachs made a beautifully call on gold, and the trade has played out just as they noted back in May. It appears that there is no reason to believe that gold will not trade up to $1,250 and higher in the weeks and months going forward, and this type of move would certainly propel gold miners significantly higher.

North Korean Issue

North Korea is still testing nuclear missiles, and they upped the ante over the fourth of July holiday by testing an ICBM, which could, in theory, reach parts of the U.S. The bottom line is that this could lead to a preemptive strike by the U.S. military, as it has been expressed numerous times by Donald Trump and top military brass that this type of reckless behavior is completely unacceptable. Diplomacy appears to have failed, and although it may seem crazy, it is completely in the realm of reality that a U.S. military strike can occur as soon as August. This would indisputably create chaos in the region and would send gold and thus gold miners surging much higher. After all, Trump had no problem striking the Syrian government with numerous Tomahawk missiles and has said that a major conflict with North Korea is very possible.

Key Statistics and Fundamentals Concerning Gold Miners and GDX

The following 5 companies listed in the table make up roughly 40% of GDX's total holdings. The underlying companies have relatively favorable forward P/E ratios which are generally under 30, and have strong profitability potential as is illustrated by their profit margins. Perhaps even more impressive is the robust yoy quarterly revenue and earnings growth concerning these names. Finally, these companies have extremely low short % of float, as "smart money" investors appear to no longer be betting against this sector. To put things in perspective, many of the underlying companies had double-digit short interest (20% or more in many cases) before this sector bottomed in late 2015-early 2016. However, now short interest is down to roughly 1-2% in many of the names.

Company	Forward P/E	Quarterly revenue growth yoy	Quarterly earnings growth yoy	Profit margin	Short % of float
ABX	22	3.30%	N/A	16.4	1.50%
NEM	28.47	13.50%	N/A	N/A	1.60%
FNV	66	30%	52%	21.20%	2%
NCM	28.52	16.90%	130.90%	12.32%	N/A
GG	26.58	N/A	112.50%	7.30%	2%

Click to enlarge

(Source: MSNMoney)

Technical Overview

The GDX 1-year chart shows a bounce from the $21 level, which appear to be major support, a level from which it has now rebounded from 3 times in a 4-month period. Moreover, time-tested technical indicators such as the RSI, CCI and full stochastic are all suggesting that momentum may be turning positive and that this force could propel GDX notably higher from current levels. In addition, the chart seems to be illustrating that GDX has made a triple bottom and that the subsiding upside range may be coming to an end as the fund prepares to break out above the 50-day and 200-day moving averages.

(Source: StockCharts)

The Takeaway

It seems that a series of favorable elements are coming together for GDX and gold miners in general. There is robust revenue and earnings growth amongst the companies that make up GDX. Furthermore, these stocks don’t appear to be expensive and are not trading at outrageous multiples. In addition, there is very little short interest amongst the companies in GDX, indicating that investors are not looking for significant downside and may instead be expecting these stocks to surge in the near future.

Moreover, the fundamentals surrounding gold appear extremely favorable, as the Fed has indicated that rates will normalize less aggressively than in prior normalization cycles and there may not be another rate hike this year at all. Furthermore, Goldman Sachs is now constructive on gold, indicating that prices could end the year above $1,250.

Also, there is always the North Korean wildcard that acts as a bit of a put in the gold market. It is not clear how the North Korean situation will play out, however, a preemptive U.S. strike is not out of the question, as diplomacy has failed to yield any results. In addition, Donald Trump has repeatedly said he will not stand by idly while North Korea develops the capability to bring a nuclear strike to the U.S.'s homeland.

Gold, silver and gold miners may have bottomed in recent days. In fact, numerous technical indicators are suggesting that the bottom is in. Now there are substantial fundamental factors lining up that appear to be confirming that higher prices are ahead for gold and thus for the gold mining stocks and GDX.

Our end-of-year price target for gold is $1,325 and our end-of-year price target for GDX is $32.

Analyst’s Disclosure: I am/we are long GDX NEM. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

We are also long call options regarding GDX, GDXJ and various miners.