Investors are starting 2019 with a variety of interesting options when it comes to adding stocks to their portfolios. Gold has not been on the radar for some years, but that might change.
A new gold rally?
The gold sector has under performed since 2011 and investors can be forgiven for giving the miners a wide berth. Most stocks in the industry have fallen significantly amid over-leveraged balance sheets and a steep decline in gold prices. The yellow metal topped out at US$1,900 per ounce in 2011 and hit a low near US$1,060 at the end of 2015. Since then, the market has traded in a range with the 2018 high near US$1,360 being the resistance point.
Head fakes have been common, only to be followed by steep pullbacks, so caution remains the name of the game.
In recent months, however, the sentiment has started to change. Gold has surged from an August low near US$1,170 per ounce to the current price of US$1,280. This is still well off the 2018 high, but analysts are starting to warm up on the yellow metal, with some predicting another 10% upside in the coming months.
What’s going on?
Gold normally catches a bid when traders and investors are concerned about financial or geopolitical risks. This is broadly referred to as the fear trade, or safe-haven buying. Funds rotate out of stocks and into gold until the real or perceived risks have passed.
In Europe, a no-deal Brexit is now considered a real possibility, which could drive a new surge in gold buying as the March deadline approaches. Italy’s financial woes continue to keep markets nervous, as well.
In Asia, China’s economy appears to be faltering due to the trade war with the United States. The two countries are in discussions to resolve their differences and have temporarily agreed to halt an increase to punitive tariffs, but a deal could be months, or years, away.
If economic conditions in Chine get worse, the entire global market could be headed for trouble.
What about interest rates?
Rising interest rates in the United States can also be negative for gold. One theory suggests that the increased yield on safe investments can lure funds out of the non-yielding precious metal. Higher rates in the United States can also lead to a rising value of the U.S. dollar compared to a basket of other major currencies. This makes gold, which is priced in U.S. dollars, more expensive for foreign buyers. The rising dollar is viewed as being largely responsible for the plunge in gold prices from April to August 2018.
Turmoil in the stock markets and concern over global economic growth might result in the U.S. Federal Reserve, putting its rate-hike program on pause for 2019. If the market gets the sense that this will be the case, gold could find additional support.
Should you buy gold stocks?
Gold miners have worked hard to streamline their operations and reduce debt in recent years. As a result, many have balance sheets that are in the best shape in a long time and management teams in the industry are more focused on delivering free cash flow.
The stock prices of the major players, however, continue to trade at depressed levels. For example, Barrick Gold (TSX:ABX)(NYSE:ABX) trades at $18.50 per share, compared to $29 in July 2016 when gold traded near US$1,360 per ounce. All things being equal, another US$80 per ounce jump in gold could send the stock significantly higher.
Barrick Gold’s merger with Randgold Resources (LON:RRS) is expected to close January 1, 2019. The deal creates a company that owns five of the top 10 mines on the planet and is the largest producer by volume. Management recently raised the dividend, indicating optimism at the senior level.
The gold market can turn on a dime, so investors probably shouldn’t back up the truck. However, the trend appears positive right now and 2019 could be the year gold stocks finally begin to shine.
Fool contributor Andrew Walker owns shares of Barrick Gold.