A Silver Lining for This Gold ETF

Low oil prices are a possible tailwind for gold miners

by Bryan Sapp

Published on Mar 18, 2020 at 1:06 PM
Updated on Mar 18, 2020 at 1:18 PM

Historically, gold and mining names have been considered safe havens for market participants, but the recent waterfall selloff in equities took no prisoners. While gold remains near positive territory for 2020, miners weren’t spared, shedding about 16% of their value so far this year. Despite rallying over $9 off the lows seen on Monday, VanEck Vectors Gold Miners ETF (GDX) still has a lot of work to do.

Is the market getting this wrong? Generally, the answer to that question is an emphatic “No, the market is never wrong.” However, given the current market environment and flight to liquidity, many stocks and exchange traded funds (ETFs) have seen dramatic overreactions to the downside.

Last Friday, GDX plummeted lower by over 14.8% in just one trading session, its worst session in over 10 years, and the third-largest daily plunge on GDX ever. This dramatic selloff came on the heels of a larger broad-based decline of nearly 50 percent from the Feb. 24 highs of $31.84. Yes, you read that right – nearly a 50% decline in a “safety” macro ETF in a matter of three weeks.

Nobody knows for sure, but the action on Friday sure felt like a large fund getting blown out of its position and panic selling to preserve capital. The daily volume of over 195 million shares traded Friday was the largest ever for the ETF - this could be offering a great opportunity on the long side after this capitulation.

On Sunday, March 15, Fed Chairman Jerome Powell announced another rate cut, effectively bringing the Federal Funds Rate to 0%. Additionally on Tuesday, Treasury Secretary Steve Mnuchin introduced another round of measures to stave off the negative effects of COVID19 – an $850 billion stimulus package, tax deferments for citizens and businesses, and also the potential of paying a fixed amount of money to every American.

The fiscal and monetary measures currently being taken rival those seen during the housing crisis of 2008/2009, a time when owning gold and miners was extremely lucrative. Higher government spending and stimulus generally equates to higher prices in metals, and conversely a lower U.S. Dollar. Should this trend continue, further quantitative easing and government stimulus should push prices in these sectors even higher.  

The “cherry on top” for currently owning miners is low oil and fuel prices. Mining companies have huge operating costs, with fuel being their biggest expense. The current average price for a gallon of diesel is $2.25, a massive drop from the $2.90/gallon average seen just last May. This big drop in operating expenses, coupled with gold prices near multi-year highs, could really boost profitability margins for these companies moving forward. 

GDX Big Declines Chart

Per the table above, we had Schaeffer's Senior Quantitative Analyst Rocky White break down how GDX performs after its 10 biggest single-day declines since 2006. As you can see, two weeks after a sharp decline, GDX averaged a gain of 3.2%. Going further out to eight weeks, GDX was up on average by 6.5%, but it is worth noting that only three, or 38%, of the eight returns were positive.

Miners have seen a massive rally just this week alone, so it’s most prudent to wait for a shallow pullback from here before entering a position. A retreat to the $22-$23 area would be good place to get long, with this current thesis. Historically, the $20 level has been a key pivot point for GDX, so a break back below there would signal that it’s time to exit the position and take your loss. However, given the macro tailwinds and current market environment, this 10-15% risk is met with potential future upside of many multiples of that. 


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