Juniors Poised for Historic Bull Run

By: Eric Hommelberg
Thursday, 5 November 2009

On October 07 The Gold Report conducted an interview with me just after gold broke out to new news above $1030. During that interview I made the case for $1300 gold by spring next year and advocated to be invested in high quality juniors which are poised for a multi year bull run that could even surprise the staunchest junior investors. This piece is an update on that interview and shines a light on how to approach investing in junior gold mining shares.

Gold poised for correction? Not now!

On October 07 with gold prices just above $1030 The Gold Report asked me if I had one more final thought for the reader. I said:

Excerpt TGR Interview October 07, 2009

TGR: Any final thoughts you'd like to give our readers?

EH: Yes, most likely you'll be hearing bearish gold tunes in coming months from the traditional gold institutions, saying that gold's rise is not justified by its fundamentals and therefore bound to fall. They did so in 2003, they did so in 2005 and now they are at it again. The traditional gold institutions simply don't appreciate the fact that gold is money and how it has been manipulated over the years. Traditional gold institutions in 2005, with gold prices at $425, were saying that increased gold production would bring down gold prices; that certainly didn't boost their credibility. Still many analysts quote these very same institutions today for the very same argument— that increased gold production will bring down gold prices in the years ahead. GATA, on the other hand, said in 2001 that gold was going to $850 and that central bank selling wouldn't be an issue anymore within seven to ten years from then. We find ourselves right in the middle of that projection and gold is trading well above $850 and central bank sales have dried up completely. You are not going to hear these kind of predictions from the traditional gold institutions. No one has been right on the money more than GATA. It's therefore no wonder that GATA's credibility is rising fast. To give you an example here, the Chinese sovereign wealth fund, which manages over $200 billion, has held already three teleconference calls with GATA—they wanted to know what GATA knows. We all know now that China has been accumulating gold for years; we all know now that China wants a new world reserve currency. This, of course, won't happen overnight, but it's quite obvious that the U.S. dollar as a world reserve currency is not going to survive. Gold will continue to rise until something new has been put in place on the monetary front and I think we are years away from that. So what I'd say is. "Stick to it and stay the course. “

END.

Well, we are just one month further now and $50 closer to our $1300 target by spring next year, this despite the many calls for $680 gold that have been aired since then through the traditional bear channels.

Now does it come a surprise to see gold holding up so well after breaching the $1000 mark and marching into higher grounds?

No, of course not, when The Gold Report asked me about a potential pull back I said:

TGR: Given the recent run-ups, would you expect a pullback before the price rises again?

EH: I don't expect a sharp pullback; nothing like the correction last year. That's not going to happen. Since gold breached the $1,000 mark for the first time in March 2008, the $1,000 area had been a resistance area. It took about five attempts to slash the $1,000 mark. A long-time resistance area becomes a support level once that level has been breached to the upside. That's exactly what happened a few of weeks ago, when we saw our first weekly close above the $1,000 mark in history. Furthermore we had our highest monthly close ever as well and this marks the beginning of a new up leg. The charts leave no doubt; they point to gold prices of $1250+ within the next six months. When you analyze the long-term charts you'll notice a pattern of long consolidation phases followed by sharp up moves. The consolidation phases last for about 18 months, the sharp up moves last for about six months, whereby gold can appreciate by 50% or more. We saw it in 2005 when gold just finished an 18-month consolidation period and then it shot up within six months from $430 to $730. That move started with a commercial signal failure, today with record high commercial shorts outstanding we could be on the verge of a commercial signal failure again

END.

Here we are, gold shooting up by $40 in the face of all nay sayers just like it did in 2005. The odds of a massive commercial signal failure are increasing by the day. Certainly the Indian bombshell of buying 200 tons of IMF gold wasn’t exactly the kind of news the commercial short traders were waiting for. And yes, the FED not willing to defend the dollar won’t be giving much comfort either, and yes, the fact that more and more investors are demanding the real metal instead of paper gold substitutes like GLD (see also my entire interview with The Gold Report) is making things worse for the commercial short traders. So yes, we are on our way to $1300 gold which is consistent with previous patterns of consolidation phases followed by sharp up moves. The chart below which we’ve send out to our members on Oct 07 visualizes this pattern:

TA GOLD CHART – WEEKLY (Oct 07)



Now fast forward to today with gold clocking $1080. Is it overbought now? Time for a correction? Don’t think so!



Another chart I would like to bring to your attention here is the relative gold chart which leaves no doubt at all. There’s still plenty of upside potential from current levels before extreme overbought territories will be reached. If gold would reach the same overbought extremes as it did on the 2005 and 2007 run up then gold should clock $1285 which again is very consistent with my $1300 prediction by spring next year.

Relative Gold chart

The relative Gold Chart (rGold) is gold divided by its own 200 dma. It has proven to be a reliable indicator in spotting major bottoms for gold ever since the gold bull market began in April 2001.

Since the gold bull market began in April 2001 gold made two major tops in which it exceeded its own 200 dma by more than 30%. (rGold value > 1.3). This happened in May 2006 and in March 2008.

On the downside gold has made some major bottoms in which it dropped below its own 200 dma by 5 - 10% (rGold value 0.90 - 0.95).

The rGold range of 0.90 - 0.95 has proven to be a reliable BUY indicator indeed over the last 7 years.



The relative gold chart leaves no doubt, gold has plenty of upward potential before reaching extreme overbought territories.. The relative gold chart would reach previous peaks (2006/2008) if gold would reach $1285 which is indeed consistent with my earlier projection of $1300 by spring next year..

Now with $1300 gold in mind for spring next year and gold prices headed to $5000 or more the years ahead (see my piece ‘Gold - Last Time to Buy gold below $1000?’, what could it mean for the junior mining companies? Well, the answer is “A Lot!” In Part II of this article I will be making the investment case for junior mining companies which could stun even the most staunch gold bull out there. Fiction or real possibilities? Well, read on and judge yourself.

Junior Mining Companies Poised for Historic Bull Run

It has been quite a year for the junior mining companies. Investors declared the junior sector for being dead by end of 2008, institutions willing to finance ongoing exploration projects were hard to find and hedge funds adopted a new fancy game which was to short juniors into oblivion. During fall of last year most juniors didn’t see any up tick in their stock quote at all since shares for sale were hitting the few willing investors left like a tsunami never ever witnessed before in the universe of junior mining companies. Many juniors were priced at bankruptcy levels, levels not seen since the gold bull market began in 2001. The inevitable result was panic, a real panic which drove most investors (and gold letter writers) out of the juniors pushing management of most juniors into a mental state of severe depression.

It became quite obvious during that time that many juniors couldn’t survive this dark winter without diluting themselves into worthless penny stocks if they could raise money in the first place at all.

I always maintained the view, even during this extreme depressed period of time, that the high quality juniors would come out as winners eventually. There’s no doubt in my mind that within a few years from now valuations for the better juniors will stun most investors, the better juniors will be priced at levels not imaginable today.. The pendulum always swings from one side to the other, in other words, from overvaluation to undervaluation and back etc…

In February 2009 I published the CDNX/GOLD ratio chart below. It’s a chart which represents the performance of the junior sector against gold. I suggested that we found ourselves in a window of buy opportunities never witnessed before. The reason was simple since never ever in history the junior sector had been so depressed as in late 2008. Now investing is a quite simple game, you buy shares when prices are low (extreme undervaluation) and sell them when prices are high (extreme overvaluation). Sounds simple right? But in order to act on this simple thesis you have to ignore the mass mainstream opinion since the mass is wrong on the market for more than 90% of the time. The reason for that is shockingly simple, it’s just a law of nature, you’ll never witness a major low when the mass is buying like crazy and vice versa. All major lows in financial history have been characterized by extreme panic selling, it’s just a matter of waiting patiently until selling panic has reached its climax and for momentum to be faded away necessary to push stocks further down.

Now who will tell you when downward momentum has faded away and panic has reached its climax? Well, nobody will tell you, especially not the mainstream financial media but the charts will do.

What charts?

When it comes to the junior sector I’m interested in how the juniors perform against gold. Look, the juniors sector could improve by let’s say 20% and you’ll say ‘Great”!’. But if this 20% gain has been achieved against a 50% rise in the gold price then quite obviously juniors were not the place to be from an investment point of view.

So by charting the junior sector against gold itself one could get a clue of juniors out performing or under performing gold. The ideal situation would be of course an environment where gold is on the rise while the junior/gold ratio is on the rise as well, then a tremendous leverage could be achieved by investing in the better juniors.

Now in order to chart the juniors against gold one should look at the CDNX index vs gold since the CDNX (although not ideal) represents most junior mining companies. In order to identify the major turning points one should filter out all the daily/weekly noise and concentrate on the monthly chart only.

Now finally let’s have a peek at the monthly CDNX/GOLD ratio chart I published in Feb 2009:

CDNX/Gold ratio chart FEB 2009



This chart clearly demonstrated the extreme depressed levels juniors reached in late 2008 and the extreme upward potential for juniors for years to come.

Now fast forward to Sept 2009 and see how this chart unfolded itself over the last 7 months.

CDNX/GOLD ratio chart NOV 2009



This chart clearly demonstrates a major bottom has been put in place indeed in Dec 2008. Now what does that mean for coming years?

Well, the key issue here are major turning points. The gold market began in 2001 and in early 2004 the junior sector had gone ahead of itself too far too fast. Yes, they became overbought against gold as shown in chart above. It was a time when most juniors were trading above the $1 mark (vs pennies today), it was a time when juniors hitting good drill results easily doubled in value.. We have never experienced such valuations ever since. So the period 2001 - early 2004 was a good period to be in juniors. Looking back the year of 2004 proved to be a major turning point. Despite the rise of gold prices juniors had a hard time to catch up with gold. After mid 2007 juniors started to decline in value against gold with a anti climax being reached in Dec 2008. So we had a cycle here from undervaluation to overvaluation from 2001 to 2004, then the cycle took us back from overvaluation to (extreme) undervaluation from 2004 to 2008 and now we are almost one year underway in a new up-leg which could lead us to new overvaluations within a couple of years from now. Overvaluations that will stun even the staunchest gold bull out there.

Yes, I’m aware that the juniors were not the place to be over the last 5 years since they are beaten up to levels not seen since the beginning of the bull market in 2001. But as the CDNX/Gold chart above demonstrates the bottom has been clearly put in place in December 2008. From there onwards the only way seems to be up for years to come. Remember the seventies, investing in juniors could have made you millionaires by investing a mere $1000 into the best performing juniors. The thing is like today that the junior sector didn’t wake up until the final years of the gold bull market. The first 6 years of the seventies bull market didn’t affect the juniors that much but things started to heat up dramatically from 1976 onwards. Any company with a name ‘gold’ in it saw its share price appreciating upon exploding gold prices. Juniors priced at pennies in 1975 went ballistic going into 1980. A good example concerns Lion Mines which went up from 7 cents in 1975 to $380 in 1980, or what about Warf Resources which went up from 40 cents to $560, or Steep Rock from 93 cents to $440. These are no misprints, a $50 investment in Lion Mines would have yielded a profit of $380.000, not bad I guess…

Now you may wonder how come such astronomical returns are possible? The reason is quite simple, the junior market is so small that even a tiny inflow of money would have tremendous consequences for the average junior share prices.. Today, of all invested money less than 1% is invested gold and its shares and even a much smaller share in junior mining companies. Once the juniors start rising by multiples of 100% on a year to year base (as happened since December 2008) in the face of gold prices heading into new record high territories then people want to be part of that action and money starts flowing en masse into the junior sector. Even if a tiny percentage of all investment capital decides to chase the junior stocks all heck will break loose. It would be like trying guiding the Niagara waterfalls through a garden hose, needless to say some tightness will be encountered here and there…

Does it mean to go out now and buy all companies which have a name ‘Gold’ in it? No, of course not, there will be big winners in the end but unfortunately many juniors won’t be going anywhere as well. The thing is that discovery of economic viable gold deposits is the key which will really launch a junior company. Now despite the fact over 2000 juniors are trying to convince investors they will be successful, only one out of every 2000 projects will ever make it to a mine. To make things even worse, during last decade only a very few world class gold discoveries have been made so by just randomly throwing money at juniors you will most likely end up going nowhere..

Comments are welcome at:
ehommelber@golddrivers.com

Stay tuned,
Eric Hommelberg

http://news.goldseek.com/EricHommelberg/1257436800.php