Gold's recent volatility has seen the correlation between gold stocks and the underlying metal fall out of whack, with gold stocks now pricing in a gold price closer to $1000, despite the metal's higher price.
The Australian miners of NCM and KCN have fallen considerably in 2011, and US listed NEM was flat for the year, despite gold's rise. The ratios of stock price to gold have reached new lows, and therefore the long stock short bullion trade is proposed.
My graph wouldn't seem to load, and I have written a more detailed trade note on this, which can be viewed here:
I'm guessing the fundamentals behind this move is the increased volatility of gold (and sudden realisation the price may not always rise) increasing the risk priced into gold miners, reducing their previously high PEs.
Anyone else support the trade or suggest why stock:gold ratios have fallen so low?
I don't know what your chart shows, but GDX vs. GLD is certainly at a three year extreme of GDX undervaluation.
My chart is essentially the same as yours, just made in excel. The data represents the stock price / bullion price to get a % value (ratio). I chose Newcrest (NCM.AX) and Kingsgate (KCN.AX) simply because a. I trade more Australian than US equities, and these two are Australia's two biggest gold miners and b. because whilst Newmont is experiencing the same effect, it is more pronounced this side of the Pacific.
The chart is suggesting a mean reversion trade supports going long gold stocks (ETF or individual) and shorting bullion against it. I agree that the gold price is likely to move sideways, as the break above the 3 year channel has been reigned in and there is significant support around the lower 1500s. The gold price shouldn't affect the profitability of this pairs trade though, as an increase in the stock price / bullion ratio will cause it to be profitable.
I haven't experimented with what an appropriate standard deviation from the moving average in order to generate a buy / sell signal would be, but the current ratios are likely to be sharp and low enough to generate the signal. All that's needed is gold stocks to price in gold closer to 1500, rather than 1000, a move that doesn't appear to be too unreasonable.
