In the Extra Gold & Silver Trading Alert that I sent over the weekend, I explained why Friday’s upswing was most likely unsustainable. We didn’t have to wait long for the market to agree with me.
In today’s pre-market trading, gold, silver, and stocks are down substantially, while the USD Index is up. Let’s take a closer look.
Gold declined 1% so far today and while it didn’t erase the entire Friday’s rally, it declined most of it and – most importantly – it already invalidated Friday’s attempt to break above the 38.2% Fibonacci retracement.
In the case of the silver market, Friday’s rally is barely visible. The reversal appeared notable, but silver is already back down in today’s pre-market trading, so it seems that even the short-term trend remains down.
At the time of writing these words, the stock market (the S&P 500 futures) is already trading at new 2022 lows. Silver and mining stocks (especially junior miners) are closely linked to the performance of stocks in the short term, so it seems that when gold finally declines, silver and miners will be affected and decline even more. That’s very much in tune with my previous expectations.
On May 21, 2022 (based on May 20 close), I wrote the following:
If history rhymes – as it usually tends to – we’re likely to see higher stock market values in the next 1-3 days. That’s likely to support higher junior mining stock prices.
Also, let’s not forget about the forest while looking at the trees. Yesterday’s intraday low in the S&P 500 was 3810.32, which was just about 5 index points below my initial target for this short-term decline at the 38.2% Fibonacci retracement based on the entire 2020 – 2022 rally.
This means that the odds of a short-term rally in stocks have greatly increased.
That was the bottom, and we have indeed seen a short-term corrective upswing since then. However, this correction appears to be over – stocks have just moved to new lows. Given that they already corrected after first approaching the 38.2% Fibonacci retracement based on the 2020 – 2022 rally – they can now break through this level without looking back. This would be particularly bearish for silver and mining stocks (especially junior mining stocks).
On top of that, we see a soaring USD Index, which is about to move to (and likely above) its previous highs.
The key detail about the following rally is that it will mean the completion of a broad cup-and-handle pattern. This means that after the breakout, the USD Index would be likely to continue rallying in the medium run, and yes, this means that the following rally could be huge. This is in perfect tune with what I’ve been expecting to see for many months – including the beginning of 2021, when almost everyone was bearish on the U.S. currency.
What about junior miners?
On Friday, they rallied in a quite emotional manner, just as gold did. Unlike gold, however, they didn’t move to new short-term highs. They just corrected to their previous highs, and even though Friday’s rally was much bigger than what we saw in early April, these rallies ended at similar levels – close to previous highs. I marked it with red, dashed lines.
Friday’s rally changes nothing with regard to the medium-term trends, and the overnight price changes that I discussed above support the theory in which junior miners head much lower in the following weeks (and probably days).
On a side note, do you know what appears to be a currency but doesn’t pay any interest, and doesn’t have thousands of years of history to back up its use? Cryptos. Do you know what just broke to new lows? Also cryptos, and as the interest rates on fiat currencies continue to increase, the pressure to sell cryptos will also increase. Please keep in mind that I called the top in bitcoin when it moved to $50k – it was not 100% precise, but given that it’s currently worth less than half of that, it seems that it was a quite good exit point.
The Road to Recession
While I’ve been warning for months that unanchored inflation would force the Fed’s hand and rattle the financial markets, another dose of reality materialized on Jun. 10. To explain, investors assume that ‘peak’ inflation will solve all of the U.S.s’ economic problems. However, the pain involved in moving the metric from 8%+ to 2% will require much more demand destruction than investors realize.
To that point, with the Consumer Price Index (CPI) outperforming across the board, it was another reminder of the challenges that lie ahead. For context, the figures in the middle column were economists’ consensus estimates.
Please see below:
Source: Investing.com
In addition, the general stock market responded as expected on Jun. 10. However, the PMs rallied, and the GDXJ ETF outperformed. As a result, is the sharp divergence a cause for concern? Well, while the pair moved in the same direction on May 4, the implications of what I wrote on May 5 following the FOMC meeting are identical:
While hope is not a strategy, it was clearly a popular opinion on May 4.
Please see below:
To explain, the red line above tracks the one-minute movement of the S&P 500, while the gold line above tracks the one-minute movement of the GDXJ ETF. If you analyze the relationship, you can see that both sank at the outset of Powell’s presser and then rallied into the close. As a result, a little bullish sentiment combined with some short-covering were the perfect ingredients for a sharp daily rally.
However, not only did the pair’s medium-term fundamentals not follow suit, they actually worsened. Therefore, while sentiment rules the day in the short term, their medium-term outlooks couldn’t be more treacherous.
Thus, while the junior miners rallied by nearly 5% on Jun. 10, the GDXJ ETF is still lower now than it was then.
Remember, algorithms rule the day in the short term. Therefore, while the PMs sank at the open after the CPI was released, the quants found something they liked, and momentum took care of the rest. However, we’ve seen this movie several times, and faulty fundamentals have evaporated sentiment on numerous occasions. Thus, despite the daily optimism, the PMs’ medium-term fundamentals worsened once again on Jun. 10.
For example, the U.S. 10-Year Treasury yield closed at a new 2022 high of 3.15% on Jun. 10.
Please see below:
Second, the U.S. 10-Year breakeven inflation rate was relatively muted, ending the day at 2.76%.
As a result, the U.S. 10-Year real yield hit a new 2022 high of 0.39% on Jun. 10. Thus, it’s May 4 all over again. While inflationary optimism uplifted the PMs, real interest rates increased. Moreover, the Fed needs higher real yields to curb the pricing pressures. In addition, the USD Index rallied by nearly 1%. Therefore, while the algorithms don’t care, the reality is that the PMs’ medium-term fundamental outlooks worsened.
The Devil Is in the Details
While the headline CPI gains the most attention, the inflation components paint a more troubling portrait. For example, I've been warning since 2021 that rent inflation would keep the headline CPI elevated. Moreover, with the year-over-year (YoY) percentage change in the Shelter CPI hitting its highest level since 1991, the forecast proved prescient. For context, the Shelter CPI accounts for more than 30% of the headline CPI's movement.
Furthermore, the government's figure is still well below the percentage increases in private reports from Apartment List and Redfin.
Please see below:
Second, despite investors' freak-out about Walmart and Target's bloated inventories – and how demand destruction had unfolded – I noted previously how Ralf Lauren, Nordstrom, Foot Locker, Canada Goose, TJX Companies, and Macy's told different stories. Thus, it surprised the consensus that the Apparel CPI increased by ~0.67% month-over-month (MoM). As a result, clothing retailers had few problems raising prices in May.
Ignore the Past at Your Own Peril
Despite the S&P 500’s near 20% peak-to-trough decline, the problems confronting the financial markets have likely only just begun. Yet, with investors still in denial about how this story ends, uninformed analysis reigns supreme. For example:
Source: Bloomberg
And:
Source: Fortune
Even more interesting, former Fed Chairman Ben Bernanke said on Jun. 12 that “economists are very bad at predicting recessions; I think the Fed has a decent chance, a reasonable chance of what Jay Powell calls a ‘soft-ish landing.’” Moreover, he added that “with some luck, and if the supply side improves, the Fed can get inflation down without imposing the kind of costs we saw in the early ‘80s.”
However, Bernanke famously said in May 2007 – when he was the Fed Chair – "We believe the effect of the troubles in the subprime sector on the broader housing market will be limited and we do not expect significant spillovers from the subprime market to the rest of the economy or to the financial system.”
Yet, despite his assertion, we all know what happened next. Moreover, his monetary post-mortem looked like this:
Source: The New Yorker
Thus, while Bernanke opined that the housing crisis was “difficult to predict,” others beg to differ. Therefore, investors are making the same mistake this time around. To explain, I wrote on Jun. 1:
While 50 basis point rate hikes are likely to be done deals in June and July, a realization will only put the U.S. federal funds rate at 1.83%. With annualized inflation at 8%+, calming the price pressures with such little action is completely unrealistic. In fact, it’s never happened.
If you analyze the chart below, you can see that the U.S. federal funds rate (the green line) nearly always rises above the year-over-year (YoY) percentage change in the headline Consumer Price Index (the red line) to curb inflation. Therefore, investors are kidding themselves if they think the Fed is about to re-write history.
Furthermore, while the consensus either doesn't care or doesn't know history, unanchored inflation in the 1970s/1980s pushed the U.S. into recession four times over ~12 years (the vertical gray bars below). For context, if we exclude the COVID-19 pandemic, the U.S. has only entered a recession once in the last 20 years. Thus, putting a Band-Aid on a gunshot wound won't do much good.
Please see below:
Likewise, modern history sings a similar tune. For example, the Fed has never curbed inflation without the U.S. federal funds rate eclipsing the YoY CPI rate at some point. Therefore, if the Fed pauses at 1.83% and inflation falls to its 2% target, Powell and his crew would accomplish something that’s never been done.
To that point, notice how every inflation spike leads to a higher U.S. federal funds rate and then a recession. As such, do you really think this time is different?
Also, the only immaterial rebuttal is when inflation increased in 2011 and calmed down on its own. However, the headline CPI peaked at 3.81%, and that’s nothing like the current situation. Second, the S&P Goldman Sachs Commodity Index (S&P GSCI) declined by 25% from its 2011 peak.
As a result, while nearly 70 years of data show a “soft landing” has never happened, inflation is much worse now than during many of these historical periods. Furthermore, I have long warned that the idea of three rate hikes (25 basis point increments) cooling inflation was laughable. Again, this is not my opinion, it’s a historical fact. Therefore, with the CPI accelerating once again, the idea of the Fed re-writing history is ridiculous.
A Trip to Michigan
The University of Michigan released its Consumer Sentiment Index on Jun. 10. The report revealed:
“Consumer sentiment declined by 14% from May, continuing a downward trend over the last year and reaching its lowest recorded value, comparable to the trough reached in the middle of the 1980 recession. All components of the sentiment index fell this month.”
Please see below:
In addition:
“Consumers' assessments of their personal financial situation worsened by about 20%. Forty-six percent of consumers attributed their negative views to inflation, up from 38% in May; this share has only been exceeded once since 1981, during the Great Recession.”
More importantly, the Fed is conscious of keeping inflation expectations “anchored.” If not, consumers’ concerns can exacerbate the problem and become a self-fulfilling prophecy. Moreover, with Americans’ five to 10-year inflation expectations hitting a new 2022 high, the Fed’s problems run deep and a recession is likely inevitable.
The Bottom Line
While I warned that inflation would prove longer-lasting than many expected, the harsh realities are now evident. However, while the S&P 500 wobbled, the PMs attempted to put on brave faces. Moreover, some investors assume the Fed will chicken out and let inflation rage. However, I warned on numerous occasions that the prospect is the worst possible outcome for the U.S. economy.
In a nutshell: the Fed can raise interest rates now, crush demand, cause a recession, and put out inflation’s fire. Or, the Fed can turn dovish, watch inflation increase, and be confronted with a worse growth-inflation dynamic six to 12 months from now. Remember, growth is already slowing, so the longer the Fed waits, the more GDP and inflation diverge from one another. As a result, patience only makes a bad situation worse.
In conclusion, the PMs rallied on Jun. 10, as the algorithms managed to muster intraday rallies. However, with the USD Index and the U.S. 10-Year real yield increasing, the PMs’ medium-term fundamentals did not follow suit. Thus, these bearish realities should shift sentiment in the coming weeks and months.
Naturally, as always, I’ll keep you – my subscribers – informed.
Overview of the Upcoming Part of the Decline
- It seems to me that the short-term rally in the precious metals market is either over or very close to being over. It’s so close to being over that I think it’s already a good idea to be shorting junior mining stocks.
- We’re likely to (if not immediately, then soon) see another big slide, perhaps close to the 2021 lows ($1,650 - $1,700).
- If we see a situation where miners slide in a meaningful and volatile way while silver doesn’t (it just declines moderately), I plan to – once again – switch from short positions in miners to short positions in silver. At this time, it’s too early to say at what price levels this could take place and if we get this kind of opportunity at all – perhaps with gold prices close to $1,600.
- I plan to exit all remaining short positions once gold shows substantial strength relative to the USD Index while the latter is still rallying. This may be the case with gold close to $1,400. I expect silver to fall the hardest in the final part of the move. This moment (when gold performs very strongly against the rallying USD and miners are strong relative to gold after its substantial decline) is likely to be the best entry point for long-term investments, in my view. This can also happen with gold close to $1,400, but at the moment it’s too early to say with certainty.
- The above is based on the information available today, and it might change in the following days/weeks.
You will find my general overview of the outlook for gold on the chart below:
Please note that the above timing details are relatively broad and “for general overview only” – so that you know more or less what I think and how volatile I think the moves are likely to be – on an approximate basis. These time targets are not binding or clear enough for me to think that they should be used for purchasing options, warrants, or similar instruments.
Summary
Summing up, it seems to me that the short-term rally in the precious metals market is either over or close to being over. In fact, it’s so close to being over that I think it’s already a good idea to be shorting junior mining stocks. The profits that we already have in this short trade, are likely to increase substantially in my view.
I previously wrote that the profits from the previous long position (congratulations once again) were likely to further enhance the profits on this huge decline, and that’s exactly what happened. The profit potential with regard to the upcoming gargantuan decline remains huge.
As investors are starting to wake up to reality, the precious metals sector (particularly junior mining stocks) is declining sharply. Here are the key aspects of the reality that market participants have ignored:
- rising real interest rates,
- rising USD Index values.
Both of the aforementioned are the two most important fundamental drivers of the gold price. Since neither the USD Index nor real interest rates are likely to stop rising anytime soon (especially now that inflation has become highly political), the gold price is likely to fall sooner or later. Given the analogy to 2012 in gold, silver, and mining stocks, “sooner” is the more likely outcome.
After the final sell-off (that takes gold to about $1,350-$1,500), I expect the precious metals to rally significantly. The final part of the decline might take as little as 1-5 weeks, so it's important to stay alert to any changes.
As always, we'll keep you – our subscribers – informed.
To summarize:
Trading capital (supplementary part of the portfolio; our opinion): Full speculative short positions (300% of the full position) in junior mining stocks are justified from the risk to reward point of view with the following binding exit profit-take price levels:
Mining stocks (price levels for the GDXJ ETF): binding profit-take exit price: $27.32; stop-loss: none (the volatility is too big to justify a stop-loss order in case of this particular trade)
Alternatively, if one seeks leverage, we’re providing the binding profit-take levels for the JDST (2x leveraged). The binding profit-take level for the JDST: $19.87; stop-loss for the JDST: none (the volatility is too big to justify a SL order in case of this particular trade).
For-your-information targets (our opinion; we continue to think that mining stocks are the preferred way of taking advantage of the upcoming price move, but if for whatever reason one wants / has to use silver or gold for this trade, we are providing the details anyway.):
Silver futures downside profit-take exit price: $17.22
SLV profit-take exit price: $16.22
ZSL profit-take exit price: $41.87
Gold futures downside profit-take exit price: $1,706
HGD.TO – alternative (Canadian) 2x inverse leveraged gold stocks ETF – the upside profit-take exit price: $11.87
HZD.TO – alternative (Canadian) 2x inverse leveraged silver ETF – the upside profit-take exit price: $31.87
Long-term capital (core part of the portfolio; our opinion): No positions (in other words: cash)
Insurance capital (core part of the portfolio; our opinion): Full position
Whether you’ve already subscribed or not, we encourage you to find out how to make the most of our alerts and read our replies to the most common alert-and-gold-trading-related-questions.
Please note that we describe the situation for the day that the alert is posted in the trading section. In other words, if we are writing about a speculative position, it means that it is up-to-date on the day it was posted. We are also featuring the initial target prices to decide whether keeping a position on a given day is in tune with your approach (some moves are too small for medium-term traders, and some might appear too big for day-traders).
Additionally, you might want to read why our stop-loss orders are usually relatively far from the current price.
Please note that a full position doesn't mean using all of the capital for a given trade. You will find details on our thoughts on gold portfolio structuring in the Key Insights section on our website.
As a reminder - "initial target price" means exactly that - an "initial" one. It's not a price level at which we suggest closing positions. If this becomes the case (as it did in the previous trade), we will refer to these levels as levels of exit orders (exactly as we've done previously). Stop-loss levels, however, are naturally not "initial", but something that, in our opinion, might be entered as an order.
Since it is impossible to synchronize target prices and stop-loss levels for all the ETFs and ETNs with the main markets that we provide these levels for (gold, silver and mining stocks - the GDX ETF), the stop-loss levels and target prices for other ETNs and ETF (among other: UGL, GLL, AGQ, ZSL, NUGT, DUST, JNUG, JDST) are provided as supplementary, and not as "final". This means that if a stop-loss or a target level is reached for any of the "additional instruments" (GLL for instance), but not for the "main instrument" (gold in this case), we will view positions in both gold and GLL as still open and the stop-loss for GLL would have to be moved lower. On the other hand, if gold moves to a stop-loss level but GLL doesn't, then we will view both positions (in gold and GLL) as closed. In other words, since it's not possible to be 100% certain that each related instrument moves to a given level when the underlying instrument does, we can't provide levels that would be binding. The levels that we do provide are our best estimate of the levels that will correspond to the levels in the underlying assets, but it will be the underlying assets that one will need to focus on regarding the signs pointing to closing a given position or keeping it open. We might adjust the levels in the "additional instruments" without adjusting the levels in the "main instruments", which will simply mean that we have improved our estimation of these levels, not that we changed our outlook on the markets. We are already working on a tool that would update these levels daily for the most popular ETFs, ETNs and individual mining stocks.
Our preferred ways to invest in and to trade gold along with the reasoning can be found in the how to buy gold section. Furthermore, our preferred ETFs and ETNs can be found in our Gold & Silver ETF Ranking.
As a reminder, Gold & Silver Trading Alerts are posted before or on each trading day (we usually post them before the opening bell, but we don't promise doing that each day). If there's anything urgent, we will send you an additional small alert before posting the main one.
Thank you.
Przemyslaw K. Radomski, CFA
Founder, Editor-in-chief