What are your thoughts on the effects of substantially increased oil prices with respect to miners’ correction and specifically their correction low?
Precious metal miners will correct downwards when the stock market declines because they, too, are stocks. But it would seem precious metal miners will correct downwards to a lower point than previously anticipated, because of the significant increased cost of producing an ounce, (severely affecting their earnings per share), due to the high price of oil.
My take is that in order to estimate what could happen, it’s good to find a comparable period in history to use as the basis, and then to apply the differences between situations.
In our case, I think the link to 2008 would be most useful. Let’s dig in.
Gold, silver, mining stocks, the general stock market all fell together – for a while.
Then gold recovered strongly, while stocks continued to decline.
The rebound in silver and mining stocks was present and aligned with gold’s timing, but it was somewhat muted.
The important detail here is what I marked with a red rectangle. Namely, when stocks finally bottomed (a few months after gold did), mining stocks outperformed gold. Silver did not – at least not then.
The USD Index rallied pretty much just as long as the stock market declined. PMs bottomed before those two markets turned around. Miners (GDX) still declined from about $50 to about $15…
This is something that I think is the basis of what we are to expect in the following months.
Now, let’s add the currently unique circumstances to that:
1. Silver’s ongoing deficit and possible severe disruptions on the physical market.
2. War with Iran that can keep crude oil prices high for a long time, not just temporarily.
The first one suggests that silver could soar based on physical factors, not necessarily technical ones. Or – more likely – that it could recover sooner as bigger declines in silver prices could be used by investors and industrial users (plus governments) to stockpile the physical metal at favorable prices. Implication for us: we don’t short silver beyond the current hedge.
The second point is more interesting for the sake of today’s discussion. Back in 2008, crude oil soared above $100 and stayed there for several months. It started to decline only after the stock market had already declined visibly and when the USD Index started to rally.
The combination of declining economic activity and higher USD values affected the demand side of the oil market. The same is likely going to be the case in the future, however…
In the current case, we might at the same time continue to get supply disruptions in crude oil as the war with Iran continues and the Strait of Hormuz remains closed. Additionally, please note that the USD Index has already started to rally and crude oil is NOT declining despite that.
The pressure valve in the form of lower demand of crude oil might not work as well because supply will still be suppressed. This means that the pressure on the stock market – and mining stocks – would be even bigger than it was in 2008.
Why? Because of rising costs.
This would make cutting rates challenging for the Fed as it doesn’t want the inflationary spiral to get out of control.
What would that imply for gold, silver, and mining stocks?
For gold – not that much.
For silver – increased chance of a temporary decline to or below $50 due to correlation with stocks.
For mining stocks – even greater chance for much lower prices. Not just through correlation with stocks, but through direct impact on mining companies’ profitability.
This makes the current case for having short positions in mining stocks even stronger.
Head-and-Shoulders Verified
Technically, miners have just confirmed the completion of the head-and-shoulders top.
