Market expects a large increase in profitability at the gold mines
After spending the months between March and August in a trading range of between US$1,220 and $1,300, the gold price broke out through the upper end of it in late August.
The strength since early July and the subsequent breakout can be attributed largely to a weak US dollar over the past few months.
That currency has in fact weakened throughout 2017; the US dollar index has lost almost 12% since January. This weakness has accelerated since July, which has contributed in no small part to the gains in the gold price.
That, together with rising geopolitical tensions between the US and North Korea, makes for a cocktail that is rather positive for safe-haven assets such as gold.
Technically, the breakout above $1,300 is very bullish for the metal. If one takes the higher of the $80 range that was in place from March to August, and projects that onto the point where the breakout occurred, it opens a target of $1,380.
Gold looks well on its way to that target level, which conveniently ties in with the highs from mid-2016.
For now it appears as if the gold price has the bit between its teeth and may run to $1,380 before it begins to consolidate. In the $1,380 area it would not be too surprising to see some profit-taking beginning to emerge and for the price to consolidate at that region.
A healthy consolidation below about $1,380 would be constructive to allow the price to re-set before another eventual leg higher to break through $1,380. Time will tell, and that analysis probably needs to be done later, once the price has begun to show the way.
Locally the JSE gold mining index has benefited from the rise in the gold price since July, with magnified gains. A firm rand (as a consequence of a weak US dollar) has, however, provided a headwind for locally listed gold mining shares. Nevertheless, the notion that SAlisted gold shares are a leveraged play on the gold price has proven to be correct recently.
The JSE gold mining index (J150) has gained 27% since the start of July. Over the same time the gold price has gained 10%. The leveraged nature of SA gold miners is clear to see from the recent trading action.
This relationship exists because of the marginal nature of gold mining shares. A 10% rise in the dollar gold price translates into a much larger gain in profitability in the gold mining companies. Gold shares typically gain when their profit margins widen. The way gold shares have been performing recently certainly suggests that the market is expecting a large increase in profitability at the gold mines this year.
Technically, the JSE gold mining index held lateral support at 1,170 in July and bounced off that level. The index has been range bound between 1,170 and 1,600 since December 2016. The pattern of rising lows and rising highs that has been evident on the gold price recently makes it look as if there is a trend of SA listed gold producers continuing to gain value.
A move to the upper boundary of the year-to-date trading range at 1,600 looks feasible. While this is the case, it seems the SA listed gold mining stocks remain a buy on dips for the foreseeable future.