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Alessio Rastani: Why the gold bull run hasn't tarnished

by LLB Editor
6th Jun 13 4:20 am

Remember the trader who told the BBC that “Goldman Sachs rules the world”? This is his column

Our columnist Alessio Rastani is the self-proclaimed trader who shocked the world by declaring live on BBC News that he goes to bed “every night dreaming of the next recession” and that “Goldman Sachs, not the governments, rule the world”. He’s a controversial figure, not least because he’s a self-taught non-institutional trader with no FSA license. But he certainly isn’t shy about sharing his views. Do you agree with his words? (His words are his own, and in no way endorsed by LondonlovesBusiness.com)

Gone are the days we could strike gold with gold stocks. Since September last year, the stocks have been in an ugly downward trend and have lost an average of 45% of their value.  

Look around you and you’d find sentiment towards gold stocks has turned from mildly negative to extremely bearish (according to Commitments of Traders reports). This is usually a good contrary signal that a market is near or at a bottom.

Also, gold mining stocks are undervalued. They are trading at under half their P/E ratios (a key measure of valuation) in 2010.

Take a quick look at this important chart of the big gold stock fund (GDX):

June gold graph 1

Notice something interesting. As GDX makes a lower low, the LT Divergence indicator (© Leading Trader) makes a higher low. LT Divergence shows this to you by drawing the dashed red lines on the chart. This indicates that the force of the downward trend is weakening and a reversal is coming.

To understand divergence, compare it to a ship that is sailing full steam ahead. Now imagine the captain of the ship orders to turn left suddenly. When the wheel of the ship is turned to the left, does the ship immediately start turning?  No. The “rudders” underneath the ship start turning before the ship actually turns.

Now take a look at another important gold index that I keep my eye on:

June gold graph 2

This index has hit zero!  The only other time this has happened was back in 2008 at the height of the financial crisis (see above).

Gold stocks then rallied hard for the next several months. GDX was up 100% in two months and 200% by mid-2009.  Will it happen again?  Maybe, maybe not.

But one thing is certain. Right now gold stocks are heavily oversold.  

There are two reasons why I like gold stocks: (1) you get leverage which means you make bigger returns (more bang for your buck!) and (2) you get paid dividends! With physical gold you get to hold a nice shiny metal, but no income.

I recently asked brokers ETX Capital to add a few of my favourite gold stocks to their platform. For example, take a look at this chart of Eldorado Gold (EGO):

El Dorado (EGO) is down 50% since mid-September. It has “positive divergence” on its chart as shown by LT Divergence (see the upward red line). EGO also seems to be making a “double bottom” reversal pattern which is bullish for the stock.

June gold graph 3

Now I know what you may be thinking. What if gold and gold stocks take another plunge lower?  Sure, that could happen.  But consider the following…

Most people have totally the wrong idea of what proper investing is all about.

Investing is NOT about trying to “pick a bottom” in a market.  Instead we look at buying quality businesses or industries when they are undervalued, when the risks are low and when nobody (“the herd”) wants them.

Do we have a low risk opportunity. Yes. What is our risk? The recent lows. So we can place a hard stop-loss just under the previous lows (e.g. on EGO our stop would be just under $6.58).

What is our reward?  Unlimited. There’s plenty of upward potential (my target for EGO is $10-14 and for GDX at $40-55).

A lot of people also mistakenly believe that a rise in interest rates will destroy gold.

Wrong again.

Only positive real interest rates (RIR) will truly hurt gold in the long term.  

Real interest rates is calculated by deducting the inflation rate (2% in US) from the nominal interest rate from the bank (currently at 0.25%).  This means we have right now a negative RIR of -1.75%.

The fact that gold did not flush lower at the Fed Chairman Ben Bernanke’s statement last month stating that they may slow down or end QE (printing money) by December is bullish for gold in my view as I explained last month.

Also, inflation will be showing its ugly head in the near future – a bullish sign for gold. 

I am not waiting anymore to buy quality gold stocks… 

However, be warned: not all gold mining stocks are quality. Most are garbage!

Alessio Rastani gained fame and caused controversy last year by stating live on BBC news that he “dreams of another recession” and that “Goldman Sachs, not governments, rule

the world”. The YouTube clip has since been watched over two million times, and Alessio has subsequently been interviewed by figures such as Sir David Frost. His website is LeadingTrader.com.

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