More to Come in the Gold Market Pullback?

Much like the certainty of death and taxes, the pullback in the gold market was inevitable and it might not be over yet. One could sense something was amiss by the recent weakness in gold stocks which seem to have plateaued after a steep run up since the beginning of the year. Since early February the HUI gold bugs index has dropped almost 15% – one quarter of which occurred today.

That being said, gold has performed better than anticipated in the face of a stronger U.S. dollar which often – but not always – has an inverse correlation with dollar strength. Trump’s address to Congress, which generally received positive reviews, was long on rhetoric but short on actual facts which is hardly unusual for the new man in the oval office. In any event, there could well be trouble ahead.

A record increase in defense spending is high on his priority list which he’s proposing to fund with cuts in other areas, the largest (37%) being the State Department. Add into the mix his proposed infrastructure program, security wall with Mexico, border taxation/tariff initiatives, and you have a recipe for political conflict and inertia which is certain to roil markets.

Nonetheless Trump’s address did wonders for this week’s stock market with the DOW rising over 300 points on Wednesday, breaking out to yet another new high. The market gave up some of yesterday’s gains today with the DOW off almost 113 points.

I sometimes wonder if the kind of individual investor-based sentiment that drove markets in the past actually exists any more. Everything in today’s market seems so mechanical, driven by algorithms and proprietary trading systems, among others. It’s safe to say there’s no real “value investing” in the marketplace these days when you see money losing ($550 million last year) Snapchat close 44% above its IPO price. When this market finally begins to unravel I expect it will be a sight to behold.

Back to gold stocks and some of the ones I follow including McEwen Mining (TSX/NYSE – MUX)  and Golden Star Resources (TSX-GSC/NYSE-GSS) which were both hit hard today, the former down more than 8% and the latter almost 12%. These are both intermediate-sized gold producers, with McEwen’s trading activity likely reflecting its earnings report earlier this week which showed lower gold output and higher production costs going forward. In the market’s eyes, this would tend to negate the prospect for higher gold prices.

Golden Star on the other hand has the earmarks of a classic turnaround situation, with two producing gold mines in Ghana West Africa which they are transforming into high grade, low cost, non-refractory producers. (The mining of refractory ores, which makes gold recovery difficult, has been a key drag on the company’s performance in the past).

In recent years, gold companies have focused on reducing production costs which they failed to do during the last run up in gold prices – much to the detriment of their shareholders. It’s unlikely they’ll make the same mistake this time.  A little patience might yield significant rewards for gold mining shareholders in the coming years.

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