I didn’t mean to be so negative about the economy in Saturday’s article as to cause a run on gold but that seems to be what happened!
Gold is currently trading at an astonishing $538 as Asia opens this morning and, sadly, this is a number that may panic the equity markets as high gold prices usually portend something is very wrong somewhere. I don’t believe that’s the case, I think we are just facing a new paradigm in commodities pricing (see last week’s “Gold Rush” article) that will take a long time to really correct itself.
In the short term, I still believe that the opening of the Dubai Gold Exchange (“Metallica Rules – 11/22) has caused the bulk of this recent spike, in great part because new commodity traders end up having rooms that look like this:
http://www.streettracksgoldshares.com/images/DSC_0061_800.jpg
Also, Saudi retail gold sales rose 27% during Q3, if US traders were getting that kind of data, they’d be buying with abandon too! Another factor pushing price is petrodollars – there sure are a lot of them floating around… If an Arabian Prince usually puts 10% of his assets into gold and his primary asset is oil, which has doubled in value, then he has to buy twice as much gold (at any price) just to maintain a virtual portfolio balance he is comfortable with.
Gold must be traded with great care as the International Poker game continues (same article) and the trend can reverse on a dime in the short-term but I think the long run for gold and most commodities is inevitable. One example of a reverse though is in the less precious nickle market, where supplies have risen 50% in the past 6 months (making N a nice short).
GG gave us a new entry point on Monday with a sell-off caused by profit taking and a slight pullback on the US exchanges. My take on this is that the Americans are not buying into this gold spike and keep selling it off in disbelief while every night, as we go to sleep, the Asians and the Arabs snap it right back up from us.
This makes the gold stocks very choppy and presents a nice opportunity for an option selling play.
GG has fallen back to $20.82. This company is the safest of all the miners as they are in a period of rapid production growth that has not been factored into the stock price (although it is up 40% this year). NEM is a great value play as well with prices up just 10% so far this year.
Due to gold’s extreme volatility these stocks take nauseating swings but generally end up higher at the year’s end.
On NEM, I like the Jan ’07 $45 for $10 (a $5.34 premium). It seems expensive until you sell the Jan ’06 $50 for $2.20 (a $2.54 premium) which returns 25% of your purchase price in the first month! There is a danger in selling the $50 though as it is very close to the mark and you may get caught a little short in a sudden spike in the stock.
A safer bet is the selling the $55 call for .80, returning 8% immediately and leaving you with a comfortable upside (or you could sell 1/2 of each for a blended return and risk). Like our Sears trade, the trick with this strategy is to be actively involved and buy out the calls whenever they drop 50% in value, then look to resell on the next upturn.
We should have plenty of notice of when to get out as gold will really have to go back below $500 for the leap to truly erode.
GG’s leaps are way too overpriced to buy, with the Jan ’07 $20s selling for $4.90, a ridiculous 25% premium vs. 10% on Newmont’s shares. The safer route with GG is to just own the stock and sell the calls like the Jan $22.50s for .55 (2%). I would buy the GG tomorrow and offer to sell that call for $1, it should hit it if gold stays over $530 for the day.
In a non-option trade, MRB has pulled back to $1.85 so we can get right back in for another ride to $2.10+ or you can just put this away until you hit 25%.
Remember, the key to this strategy is you have to have long-term faith in the price of gold (and your stock) rising while always hoping for a short-term downturn so you can buy out the suckers who bought current calls from you.
