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Gold Stocks vs. Oil Stocks
Article originally submitted to subscribers on 4th July
Oil Stocks are likely to
outperform Gold Stocks over the next 6-months which should provide further
support to the stock market.
A question I get asked a lot is where should
I be investing my money?
“I’m a believer in the Commodity Super-cycle
and in Peak Oil but gosh, just tell me what (and when) I should be buying!”
For us the question really boils down to
allocating between Precious Metals, Energy and Industrial Metals. In this
article I want to explore the Gold Stock vs. Oil Stock relationship to see how
we should position ourselves for the remainder of the year and what (if any)
inferences we can make on the general market.
Under normal financial conditions i.e. where
liquidity and carry trades don’t dominate, Oil stocks tend to benefit from
strong economic growth and Gold Stocks tend to benefit from a weak economy. That
is, Central banks pursue inflationary monetary policy in response to weak
economic conditions which is positive for Gold. Therefore, an analysis of Gold
Stocks vs. Oil Stocks should give us an indication as to whether economic growth
is strong or weak.
Chart 1 - Gold Stocks vs. Oil Stocks still consolidating
From late-2000 to 2003 Gold Stocks dominated Oil Stocks. This was the last
serious Bear market - the Nasdaq crashed over 80% and the Fed slashed interest
rates to 1% in order to stimulate the economy.
As monetary stimulus took hold in 2004 the
BRIC (Brazil, Russia, India, China) theme began to emerge, Oil Stocks (and the
Stock market in general) began a 2-year rally into late-2005 (the chart fell).
This was followed by some minor corrective
action (to mid-2006 – upper green line) and since then Oil Stocks have onbalance
outperformed Gold Stocks.
From a purely technical point of view, chart
1 indicates that Oil Stocks should continue to outperform Gold Stocks for the
remainder of the year until the ratio reaches support at 0.20.
As noted in a previous article called Good
Oil Stocks bad Oil, oil stocks are not directly correlated to the price of Crude
but tend to follow along with the general trend of the market. We suspect this
has to do with the fact that Oil companies are large components of the S&P500
and hence beneficiaries of the ton of money flowing into index trades.
We also noted in the above article that
periods of out performance by Crude vs. Oil Stocks are generally associated with
a weakening stock market. Following on that analysis, we note that the Amex Oil
Stock Index has just formed a double top pattern against Crude.
Chart 2 - Oil Stocks have formed a double
top against Crude Oil
So what does this mean?
It means that Oil Stocks (and by inference
the stock market in general) will remain soggy through the summer (Gold and Gold
Stocks should bounce back from oversold positions). However, based on the fact
that Oil Stocks will outperform Gold stocks over the next 6-9 months (chart 1),
it is unlikely we will see a significant correction in stocks this year.
Make no mistake, Gold stocks are in a
long-term secular bull market and MUST have a weighting in your portfolio.
However, and as impossible as it may seem, the growth theme looks like it has
further to go.
Here is further evidence that Gold Stocks
will under perform against Oil Stocks:
Chart 3 - Gold price pulling back from H&S
neckline vs. Crude Oil
Whilst the correlation between Crude Oil and Oil Stocks can be a little iffy,
the correlation between Gold Stocks and Gold Bullion is more dependable.
We have been watching the above Head and
Shoulders formation for a while to see whether Gold would break out against Oil.
What happens all too often with H&S patterns is that the breakout fails to
materialize and the price backs away from the neckline in a hurry!
That’s exactly what happened here and the
implication is that Crude will outperform Gold Bullion for the foreseeable
future and by correlation; Gold Stocks which are highly correlated with the Gold
Price will lag.
Crude Oil has recently completed a breakout
above a 9-month Head & Shoulders formation forecasting $80 Oil (price of oil
breaks out). And whilst Oil Stocks look extended, the above analysis indicates
there is more upside in store (chart 1). Therefore higher Oil prices should be
supportive of higher Oil Stock prices which should in turn should cause them to
outperform gold stocks.
For now we favour energy stocks over Gold
stocks and we are looking to put new money to work in the stocks of Oil and
Natural Gas Producers and Drillers who are basically printing money with energy
prices at these levels.
More commentary and stock picks follow for
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Greg Silberman CA(SA), CFA
I am an investor and newsletter writer specializing in Junior Mining and Energy
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This article is intended solely for
information purposes. The opinions are those of the author only. Please conduct
further research and consult your financial advisor before making any
investment/trading decision. No responsibility can be accepted for losses that
may result as a consequence of trading on the basis of this analysis.