Why It's Time to Buy GDX Put Options

We recommended GDX put options to our Weekend Player subscribers this weekend

Oct 25, 2018 at 11:57 AM
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After spending the first half of this year extending the range-bound price action that characterized its trading in 2017, the VanEck Vectors Gold Miners ETF (GDX) made a fast break below the "lower rail" of its sideways channel around $21 in early August. The commodity fund's rapid bearish momentum had it slicing through former support at its 160-week moving average at $21.91, and GDX has since found itself below a number of new layers of technical resistance. Among the overhead price points of immediate concern, relative to Friday's close at $20.01, are:

  • $20.92 = 10% year-to-date loss
  • $20.74 = 20% return from 2018 low
  • $20.51 = Aug. 10 pre-gap low
  • $20.39 = Oct. 15 high
  • $20.31 = 20-week moving average

And that's not to mention the accumulation, in less than two weeks' time, of 40,348 call contracts at the GDX November 20.50 call, which has now assumed front-month status. Total open interest at this strike now exceeds 45,200 contracts, representing a formidable source of likely options-related resistance for GDX in the weeks ahead (in addition to, more immediately, 27,644 contracts at the weekly 10/26 21-strike call expiring at the end of this week).

Then there's our accompanying chart, which displays the day-to-day fund flows in 2018 that have yielded net inflows of $2.72 billion for the GDX, and which requires a couple of years' worth of historical context to explain its worthiness as "Exhibit A" in the case for this week's recommended put trade.

During calendar year 2016, GDX netted roughly $4 billion in inflows, and a full-year gain of 52% -- on balance, a win-win situation for all involved. But closer inspection shows that the exchange-traded fund (ETF) was up 131% through its mid-August peak, with just over $1 billion in annual net inflows accounted for through that time frame. That means "late to the game" bandwagon traders poured nearly $3 billion in net inflows into the GDX coffers during the remainder of 2016 -- a time frame that saw the fund take a 34% whacking from those late-summer highs.

Those latecomers appear to have thrown in the towel as GDX went nowhere in 2017. Last year, as the ETF chopped its way to a gain of 11% (compared to the S&P advance of 19%), net outflows of almost exactly $3 billion were booked, per etf.com.

Now, with GDX down 14% since the start of the year, the relatively massive $2.72 billion in GDX inflows for 2018 are obviously not chasing performance -- this seems to be "true believer" money. (Note, per the "GDX 2018 Flows" breakdown on the accompanying chart, that the biggest "chunk" of inflows occurred during the same May-August period where GDX fell roughly 17%.)

This raises a couple of questions -- primarily, why do we have "GDX believers," while big money has flowed out of the SPDR Gold Shares (GLD) this year (to the tune of $3.37 billion)? And aren't they in for a whacking just like that administered to the "chasers" in 2016? Perhaps even a bigger smackdown, because (unlike the chasers) these GDX faithful are liable to be more patient for a while.

Our view is that "wrong-way" GDX players are loading up on the ETF on expectations of a bullish scenario that will seriously disappoint, with the eventual capitulation by this group accelerating GDX's fledgling technical breakdown below multiple layers of resistance. Our recommended put option will triple in value (based on Friday's closing prices) on a renewed GDX pullback to the low 16s (just above $15.90, which is half the August 2016 high).

gdx ytd flows sm 1021

Subscribers to Schaeffer's Weekend Player options recommendation service received this GDX commentary on Sunday, October 21, along with a detailed options trade recommendation -- including complete entry and exit parameters -- straight from Bernie's trading desk. Learn more about why Weekend Player is one of our most popular options trading services.

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