Over the last 10 years,
gold bulls have had a fantastic run as gold rose more than 475% to its August
2011 highs. Even after the recent collapse in gold prices the metal is still
up more than 350% in the last decade; the simple strategy of “buy the dip” has
yielded enormous profits.
Gold bulls have been able
to make gains for years by merely buying gold whenever the price dropped as
the next rally would result in new highs before a great deal of time had
passed. This however raises the question of “what happens when gold does not
make new highs?” The answer is that those who have been employing this
strategy lose money; gold dips and the perma-bulls
buy, gold dips again so the perma-bulls buy again,
gold continues on a downward trend and the once profitable strategy of “buy
the dip” soon eats away at the profits that it once generated.
The difference between
being bullish and a being a perma-bull is that a perma-bull will always buy the dip. This
difference makes being a perma-bull a reckless,
dangerous, and unprofessional trading strategy, and
the result is potentially devastating to a portfolio. We have no issue with
one using a bullish or bearish strategy, provided that it comes with a plan B
in case they are wrong. The problem with being a perma-bull
is that they do not have a plan B or a contingency plan, and believe that
they cannot be wrong.
Over the bull run of the
last decade we have seen numerous commentators state
that gold will rally to $2000, $5000, or $23,647.17 per ounce, but we have
not had these claims accompanied with an exit strategy if they were wrong.
Mention of a price fall would usually be followed by a “buy the dips”
statement. This sort of strategy is fine as long as a stop were in place, a
pre-determined point at which market action discredits the original thinking
and one exits the position.
However, if you are
buying gold to stash under the mattress or in the basement next to the canned
food and guns in case of Armageddon, then this will likely not apply to you.
In this article we are of course only referring to professional investment
and trading operations.
To gold bugs we therefore
pose the question, at what price level are you going to stop out of your
losing positions? The answer to which should only be numerical, such as “We
will exit all positions if gold trades below $1200” or “We will reduce our
exposure by 50% at $1300 and to zero at $1000”. What matters is that one has
an exit strategy in place; there must be a defined level where the market
action discredits one’s original stance and they close their positions to
prevent catastrophic losses. Simply stating something along the lines of “gold
is going to $23,467.17, so I won’t have to stop out” is a foolish move, and
as the saying goes “a fool and his money are soon parted”.
The first rule of trading
is to manage risk; running a position without a stop is not managing risk.
With this in mind we do not take a position without a pre-determined stop
level in mind.
Last year we opened many
bullish positions on fold as employment data deteriorated. We believed that
the Fed would launch QE3 to aid economic recovery, and as a result gold would
rally. However, we took these positions with the knowledge that we may be
wrong, and therefore put in place an exit strategy; if gold failed to break
$1800 as a result of QE3 then our original view would be wrong and we should
exit our long positions and re-evaluate.
Gold failed to break
$1800; consequently we exited our positions as per our strategy, taking the
loss in December. As we reassessed the market we took some time on the side
lines with most of our portfolio in cash. We concluded that there was a high
chance that the bull market for gold was over and that gold prices held
significant downside. Thus our trading strategy for 2013 has been bearish,
taking gold from the short side and to target mining stocks.
We had set a target of
300 for the HUI, which was achieved last Friday. So far the change in strategy has served us well; our portfolio is up over 28% on
the year whilst even some of the most highly regarded names in the industry
are down by more than 30% already.
Our overall view that the
gold bull market is well and truly over is made clear by the fact that the
gold mining sector, as measured by the HUI, has halved in value.
This means that gold
stocks would have to more than double to return to those levels, given their
performance in recent times, we find this highly unlikely. We do not write
this article to persuade other readers to our point of view on the market,
but simply to stress that one must always be humble in the face of the
markets.
One must admit that there
is a possibility that they will be wrong from time to time, and should
therefore have a contingency plan for such situations. It is vital that
professional investors and traders have a plan B and know when to pull out of
a position. Despite 10 years of good times, we must accept that the gold
market is currently changing, and we should therefore adjust our views and
portfolios accordingly.
To date SK OptionTrader has had a total return of 506%, with an annualized return of 63.36%. On average one
of our trades generates a profit of 30.69% and 86.67% of our trades
are winners.
In 2013 alone we are up over 28% and have not
had a losing trade. If you want to find out what it
is that we are doing right now and how we are adapting to the currently
changing markets, simply sign up via either of the buttons below and you will
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