Gold Stock Bull

It has been an interesting week for gold and gold stocks. After the HUI broke resistance on Friday of last week, we received our much needed confirmation by witnessing it rise 12 points (3.4%) to 365 on Tuesday. We jumped in by adding to our GDX position and picking up Jan07 call options of Yamana Gold (AUYAV.X).

In the following few days, the HUI proceeded to give back all of the recent gains, returning to 347 on Thursday and sitting around 338 on Friday. Speaking of 338, it is critical that the HUI hold above this support level. It represents not only the bottom line of the ascending triangle that created our buy signal, but it is also the 50-day moving average. Holding above 338 tells us the buy signal is still in place.

How Will A Recession Impact Gold & Gold Shares?

There has been much talk about a coming recession and the downward pressure it would exert on gold stocks. The question causing fear in the minds of many gold bugs is:

If the U.S. citizen has been the global engine buying up all the Chinese goods, then doesn’t it make sense that if a recession occurs in America, it would affect all commodities including precious metals?

It is important to remember that, unlike base metals, gold is viewed as a monetary asset. So while weakening economic activity will have a negative impact on base metals demand, it will not have the same impact on gold. Gold may have some short-term downside, as base metals give a weak tug on the gold price. But this is just guilt by association and once investors distinguish between gold and base metals, gold will quickly break loose from any association with industrial metals and rally. Because gold is a monetary asset, it will have a more direct correlation to inflation rates and currency fluctuations. Therefore, the predicted U.S. recession, with a declining US dollar, will have a positive impact on gold, even if base metals prices fall.

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It is said that a picture is worth 1000 words, so let me paint you a picture. This is a chart that shows how gold stocks have been doing lately. What does it tell you? Do you see a trend? Can you recognize a bull market?

The 15 stocks that comprise the Gold Bugs Index are: NEM, GFI, FCX, HL, BGO, CDE, MDG, GSS, GLG, IAG, GG, AEM, GOLD, KGC and HMY. Since September 2001 the index has increased about 267%. Can you say Gold Stock Bull?

Go on, get on board. What are you waiting for? All the conditions that gave rise to this bull market in gold still exist. In fact, they have become more severe. This bull still has legs and is far from tiring. It will not slow until conditions change for the better. Unfortunately, they are destined to get much worse.

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The mining industry is enjoying high prices, high profits and thus, high cash flows. What to do with all that extra cash?

Special dividends and share-buybacks to reward shareholders is one option. But with the expectation of even high prices on the horizon, many mining companies are looking to use this cash to increase their production potential. Developing new mines is another option, but the process takes several years, sometimes decades. An even better option, one that we are seeing gaining momentum as of late, is to expand production via purchasing other mining companies.

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