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Was Consolidation in Mining Stocks a Sign of Strength?

November 8, 2013, 11:04 AM

Based on the November 8th, 2013 Premium Update. Visit our archives for more gold articles.

In our Wednesday’s free essay we discussed the situation in the Euro Index and mining stocks. We wrote that the long-term downtrend in the Euro Index remains in place and that the short-term uptrend might already be over. We emphasized that, based on the precious metals’ correlations with the currency markets, the implications of the bearish outlook for the Euro Index are also bearish for gold, silver and mining stocks.

This was further confirmed by the analysis of the miners themselves (not only had the HUI Index reached its declining medium-term resistance line, but the same had been the case with the gold-stocks-to-gold ratio). In today’s article, we will further elaborate on the mining stock sector and discuss whether this week’s consolidation is really a sign of strength.

Let’s start with the HUI Index chart – a proxy for gold stocks (charts courtesy of http://stockcharts.com.)

HUI Index chart - Gold Bugs, Mining stocks

From the long-term point of view, nothing’s changed in the past few days. The trend was down on Wednesday and the same is the case right now. We haven’t seen any breakout above the declining resistance line and we can expect big moves to the downside in the days or weeks ahead.

In last week’s Premium Update we mentioned that there were some bullish indications on the chart featuring junior mining stocks.

Toronto Stock Exchange Venture Index - proxy for the junior miners - CDNX

We wrote the following:

Although the juniors sector moved above the declining resistance line, we think that it’s still too early to say that the breakout has been truly confirmed – especially when we take into account the position of the RSI.

Please note that the last two times when the indicator reached these levels, major medium-term tops were formed. Therefore, we would need to see a verification of the breakout first to view it as an important medium-term signal. This would be the case in any other breakout as well, but in case of the above chart, waiting for a verification seems particularly justified because we have already seen a false breakout at the beginning of this year – one which was followed by a significant decline in the entire precious metals sector.

Since that time, juniors have declined and they look like they are about to invalidate the previous breakout, which would, naturally, have bearish medium-term consequences.

GDX ETF chart - Market Vectors Gold Miners

From the short-term point of view, it seems that we just saw or are still seeing a pause within a short-term decline (which could become a medium-term decline). The last time when miners rallied was on Wednesday and that move materialized on low volume, which was a bearish indication. Thursday’s decline took place on higher volume, which suggests that this is the real direction in which the market is heading.

One might ask if the consolidation is a sign of strength of the precious metals sector. To estimate that, let’s see what would’ve been likely to happen if there were no strong trends present. This is where True Seasonal patterns come into play.

True Seasonal pattern for HUI Index (Gold Bugs Index)

It turns out that miners “should have” rallied in the very first part of November, and all they managed to do was to pause after a decline. The most recent consolidation that we see on the GDX ETF chart is therefore a sign of weakness, not strength. Furthermore, it seems that the decline may continue shortly as True Seasonals indicate we are likely to see a decline in a few days. On a side note, the True Seasonals tool correctly predicted the rally in the stock market at the beginning of the month and the local top that has (most likely) just been formed. You can read more here.

Summing up, the outlook for mining stocks is similar to the outlook for gold and silver – it remains bearish for the short and medium term. We can’t rule out a few days of strength, but it doesn’t seem that a rally would be a sustainable development.

Thank you for reading. Have a great weekend and profitable week!

Przemyslaw Radomski, CFA

PS. In today's Premium Update we discuss the reasons for which we suggested adjusting the currently opened trading positions in gold, silver, and mining stocks. We also provide suggestions for long-term investors. Even though it looks like not much happened this week - it has. We encourage you to subscribe to the Premium Service and read more in today's Premium Update.

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