Volatility is rife in the gold sector at the moment and it's hard for investors to know which direction the yellow metal is headed. After a fantastic rally in the share prices of many gold stocks over the past three months, gold stocks are again being hammered.
Of course much of the action in stock prices is directly related to movements in the gold price. This week the gold price suffered its largest single-day drop in three months to leave the price of gold hovering around US$1,330 an ounce. However despite this week's fall, gold is still up around 10% this calendar year, making up some of last year's ground when it lost nearly 30%.
As a 'safe haven', gold appears to be being pulled in opposing directions at the moment. The recent tension between Ukraine and Russia had been providing support to the gold price, however the US Federal Reserve's commentary that the US economy is improving and monetary support can be eased has taken the wind out of the sails of gold bulls who had been using the precious metal as a hedge against inflation linked to the easy monetary policy of the Fed.
Leverage is key
The mixed emotion amongst traders in gold has in turn played havoc with gold stocks which have until recently been enjoying a superb run. This was highlighted by a recent Australian Financial Review article that reported how fund manager Paradice Investment Management took advantage of last year's jitters to grab substantial stakes in gold miners Saracen Mineral Holdings Limited (ASX: SAR) and Perseus Mining Limited (ASX: PRU). These two stocks are both up over 80% since the start of 2014.
Paradice's stock purchases appear well timed to coincide with a bottoming in the gold price. Given the significant leverage miners enjoy to a higher gold price – due to the high fixed cost nature of their operations – gold stocks have zoomed higher. Other gold stocks to have done well this year are Northern Star Resources Ltd (ASX: NST) which is up 50%, while both Newcrest Mining Limited (ASX: NCM) and Alacer Gold Corp – CDI (ASX: AQG) have risen nearly 40%.
Foolish takeaway
Thursday's action has certainly taken the shine off gold stocks with many of the miners listed above sinking over 7% on the day. The question for investors now is will the gold price head higher again allowing gold mining stocks to continue to shine, or are further falls in the price to come? It's a difficult question to answer but risk adverse investors will likely want to keep holding gold stocks for their defensive characteristics, as it's unlikely the global economy is entering a period of sustained calm.
