After the early June breakdown, gold market participants have pretty much fought to a standstill, leaving spot prices hovering around the $1,200 level. With the current resurgence in the equity markets, gold aficionados are left wondering whether gold mining shares may be a more profitable investment route than bullion when the market resumes trending.
If the past is the future's prologue, we may be able to read the market's entrails for guidance. At HAI (www.HardAssetsInvestor.com), we use a simple indicator to measure the relative strength of gold stocks to bullion: the GLD/GDX ratio. GLD, of course, is the SPDR Gold Shares Trust (NYSE Arca: GLD), a grantor trust that holds physical metal, while GDX is the Market Vectors Gold Miners ETF (NYSE Arca: GDX), a portfolio tracking 32 producers comprising the NYSE Arca Gold Miners Index.
The ratio is simply the multiple by which the bullion proxy trades to the mining share benchmark. The ratio started life at 1.75, when the GDX exchange-traded fund was launched in May 2006, and reached an apex of 4.41 in the midst of the October 2008 financial market meltdown.
The ratio is a bellwether of equity market strength. More properly, it measures relative weakness, since the multiple rises as stock market woes mount.
Presently, the ratio's bumping against its 200-day moving average at 2.35. If gold stocks improve relative to bullion, we ought to see the ratio decline. If stock market troubles resume, however, we might see the ratio hold steady or rise.
Why the equivocation? Because the correlation of gold mining shares to the general stock market isn't particularly strong. Since inception, GDX's coefficient to the Standard & Poor's 500 Composite is only 39 percent.