The Longer the Base the Longer the Race
Many Ways to Play Gold
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As I've done a couple of times, I'm going to start my Wealth Advisory with a quick update on the ECRI Weekly Leading Index. I first wrote about it back in November of last year, and back then, my point was to alert you to the fact that the economy was, without a doubt, going to recover. Now, of course, most people are coming around to that view.
(This link will take you to the issue where I first discussed the Weekly Leading Index: http://www.cabot.net/Issues/CWA/Archives/2008/11/Stock-Market-is-not-the-Economy.aspx )
Interestingly, however, the Weekly Leading Index has continued to soar. As of last Friday, the Index's growth rate, which measures its rate of change during the past six months or so, stood at 21.3%. What does that mean? Well, ECRI has been tracking changes to the Index for decades, and that is the highest growth rate ... ever!
Granted, some of that is because of just how steep the previous economic drop was. This indicator has an outstanding track record, and it's telling you that the economy is going to roar ahead in the next six to nine months at a much stronger-than-expected rate; I personally wouldn't be surprised to see a couple of GDP quarters with growth over 6%. Even more encouraging, ECRI Managing Director Lakshman Achuthan said that he expects non-manufacturing employment to be positive by year-end.
Just to reiterate, I am not an economist, and don't pretend to be. But I read and listen to the news just like everyone else, and I continue to be struck by just how pessimistic the tone is--I have heard from far more people worried about another Lehman Brothers-type event than those worried about missing the economic upswing. Even people who admit that an economic recovery is starting believe a double-dip recession could occur. Or, failing that, they fear we'll be stuck in modest, sub-par growth for years.
While the Weekly Leading Index doesn't look years ahead, it says in no uncertain terms that the economy is going to look great in a few months. So get your head out of the sand and don't listen to all the worrywarts out there!
Now back to the market. As most of you know, I use charts on a daily basis, but I hesitate to call myself a technician. Technicians, or technical analysts, rely heavily--sometimes exclusively--on charts to find stocks to buy and tell them when to sell. And they usually look for certain patterns--triangles, coils, pennants, ascending structures, etc.--to foretell where a stock or market is heading.
To me, those types of patterns aren't overly reliable; sometimes they work, and sometimes they don't. Instead of trying to predict the future, I prefer to use charts to help with simple supply-and-demand analysis--I look at price and volume first, and everything else second.
With all that said, there is a tenet of technical analysis that is worth remembering: The longer the base the longer the race. (The corollary, by the way, is: The longer the top the longer the drop.) That's just a cute way of saying that if a stock, sector or the market as a whole consolidates in a range for a very long time, and then powerfully breaks out of that range on the upside, it's usually ready for a big run.
The most obvious example of this was the stock market itself back in 1982. For more than 16 years, the Dow Industrials were stuck below the 1,000 level. But when the market got going decisively in 1982, it ushered in a long-term bull market that didn't hit its zenith until 2000.
But most bases aren't going to last 16 years, and even if they did, who would notice them? So, when I look at long bases, I'm usually looking for stocks or groups that have gone nowhere for more than a year and have totally worn out the weak hands and the public's eye has moved elsewhere long ago. That way, when the buyers truly step in, there is no supply (no ready sellers), resulting in sharply higher prices.
These days, following the 2008 wipeout, there aren't many long-term bases to speak of; most stocks are buried well below their multi-year peaks. However, one group has recently broken out of an 18-month base, and I think it has lots of potential. I'm talking about gold and gold stocks.
(Editor's Note: Mike Cintolo, as Vice President of Investments for Cabot, will be holding an Internet seminar on Thursday, October 8, in which he'll discuss many of these types of technical rules of thumb, including how to spot big movers ahead of time. He'll also discuss his market outlook, favorite indicators, stocks and groups, highlighting his very best ideas, as well as taking questions from attendees. If you'd like to learn Mike's secrets of success, and find out his top picks, click below.)
Fundamentally, I've thought gold has had a great story for many months. After all, there are only so many billions of dollars that governments can spend and use for bailouts, and there's only so much money the world's various central banks can print, before investors begin putting their money into hard assets instead of paper currencies. Heck, I'm no deficit hawk, but projections of trillion-dollar deficits in the U.S. alone for the next few years do not spark confidence in the Greenback. Many other countries are in the same boat.
But gold prices really didn't budge much during last year's financial tsunami or during the first half of this year. Interestingly, gold stocks made a couple of breakout attempts (one in March, the other in May), but both failed relatively quickly. That only served to dampen spirits as investors moved elsewhere.
However, gold and gold stocks broke out in a very powerful way two weeks ago, and their action since then tells me the breakout will stick, and much higher prices are likely. While everyone focuses on the $1,000 per ounce gold level, I think the breakout has already occurred.
Just to give you an idea of how powerful the breakout has been, the smallest volume that the Market Vectors Gold Miners Fund (symbol GDX) traded in the first 10 trading days from its breakout was 68% above average. Volume on the breakout day was 221% above average, and the follow-through the next day was an amazing 298% greater than the norm. That's some real buying!
Interestingly, gold bullion had a similarly long base from May 2006 through August 2007. When the breakout came, it resulted in a 51% move into March 2009.
Given the long base and the big breakout, I think you can buy some gold. But how should you play it? There are three options.
One is to buy gold itself via the SPDR Gold Trust Fund (GLD). It will move with the price of gold each day. Chances are GLD will be a slower mover, especially if the overall stock market remains in a bullish mode. But it will also be safer and easier to hold, with less pronounced pullbacks.
If you want to own a faster-moving position in gold bullion, consider the PowerShares Double Gold Fund (DGP). Like many leveraged ETFs, it's not a great long-term (multi-year) investment, but if gold bullion is going to run, DGP will move twice as quickly on the upside.
The second option is to buy the aforementioned Market Vectors Gold Miners Fund (GDX), which owns a bunch of gold mining companies. If gold is going to rise, gold stocks should outperform the metal, and thus far, they have. However, be prepared for volatility.
Third, you can buy an individual stock, thinking that you can own the leader. Agnico-Eagle Mines (AEM), Goldcorp (GG), Iamgold (IAG) and Gold Fields (GFI) are four to consider. This path is riskier, as you'll be exposed to potential company-specific problems, but it also has benefits.
Whatever way you choose, I think getting some exposure to gold--hopefully on pullbacks--could produce some good-sized profits in the months ahead.
All the best,