Junior Bull Seasonals
The adventures of trading junior resource stocks are meant for only a select breed. Yet even these risk-craving traders struggle with a cornucopia of emotions when putting their capital to work in this realm. This sector is capable of violent swings in either direction, and it has proven to be quite difficult to navigate on an interim basis.
But even though this sector's interim movements are fleeting, there is no doubt about its structural integrity. This small sector is comprised of tiny companies seeking to leverage one of the largest secular commodities bulls in history. And astute investors who understand the importance and potential of these junior resource companies have made fortunes since the beginning of this bull.
Now astute investing in the junior realm is not an exact science. Unfortunately junior investors don't have the same tools as investors navigating the larger and broader markets. There aren't as many research houses performing detailed technical and fundamental analysis. And there aren't as many vehicles (indices, sub-sector indices, ETFs, technical indicators, etc…) available for traders to glean for their own use. In order to survive, and thrive, one needs to undertake diligent research, exhibit patience, and perhaps even get a little lucky.
With so little to pull from, investors in the junior realm would welcome any type of clue that would better hone the timing of their capital deployment. Wouldn't it be nice to increase the probabilities for success of making money on these stocks? Thankfully there is a metric that may potentially help in this area of timing, on both an interim and longer-term basis.
Before I get into this metric it is important to understand its source of data. And provocatively, a formal index that solely tracks junior resource stocks (with history) doesn't exist. Thankfully there is one that comes close, the S&P/TSX Venture Composite Index (CDNX). This index includes the top 500 stocks in the TSX Venture Exchange (TSX-V).
Canada's TSX-V is the world's premier destination for junior resource companies to raise capital in the equity markets. Of course assuming they meet the listing requirements, start-up companies from any industry can list on the TSX-V. But with its reputation as a resource-heavy exchange, and Canadian investors' affinity for resource stocks, the majority of the thousands of stocks listed in the TSX-V are natural-resources explorers, developers, and producers. Interestingly more mining stocks are listed on the TSX-V than the LSE, AIM, ASX, JSE, HKEx, NYSE, and NYSE Amex combined. And there is a huge contingent of oil and gas stocks.
As characteristic of any index, the CDNX (acronym for the former Canadian Venture Exchange, which traders still use to label this index) trades on a real-time basis with a daily closing price. And by tracking this close over time traders are able to view the overall directional tendencies of the junior resource-stock sector. Even more appealing is there is over 8 years of price history, which allows us to dissect the CDNX for longer-term analytical purposes.
There are many ways we can slice and dice this CDNX data, but one of the most fascinating is a complex technical read on seasonality. Seasonality is the tendency for a price to behave in a certain manner over the course of a calendar year. This metric is virtually never the primary driver of a price, but more of a tailwind that has peripheral influence.
In order for seasonality to be a viable metric, we must consider sample size and where we are within a secular cycle. Seasonality won't work if we only have say 2 or 3 years to pull from, as it would be difficult to filter out random noise. It also won't work as well if the data series crosses over a structural shift. Since prices behave differently across bulls and bears, it is usually not fruitful to compare price activity across two different secular market cycles.
Well with 8 full years of price history that happens to span nearly the entire secular commodities bull, CDNX seasonality is a well-established metric that traders shouldn't overlook. Even though chaos and disorder are thoughts often at the forefronts of our minds when contemplating juniors, the chart below shows that these stocks exhibit very distinct seasonal behavior.
Underlying this chart is an intricate spreadsheet with thousands of formulas. But the methodology and resulting dataset is quite clean and simple. For each calendar year, 2002 to 2009, the daily CDNX price is indexed to the first day of that year at 100. As the CDNX moves, its price is converted into an index number that reflects its rolling gains or losses off that starting number of 100. This is repeated each calendar year, with the individual years averaged to form the blue line you see below.
This fascinating chart reveals the CDNX's seasonal tendencies over the course of its secular bull. And right away we can see there are overtly weaker and stronger times of the year. From the beginning, at the outset of the average calendar year, the CDNX is in rally mode. And this impressive winter rallying caps off the strongest season for junior resource stocks.
But this rally that tends to run to the end of March is not one that begins in January, rather closer to the official seasonal commencement in mid-December. In fact, nearly half the gains (7.2%) of the average winter rally are realized over just the last few weeks of the calendar year.
It is important to realize that with 8 years of data, it is not simply one or two big Decembers responsible for this initial winter push higher. Though not every year in the last 8 has been up, junior speculators seem to consistently be buying around this time of year. To better comprehend this consistency I looked at the CDNX's last 15 trading days of each year, from 2002 to 2009, to make sure there were no big outliers juicing the data. Indeed, every single year returned gains over these last 15 days. Perhaps there is something to this seasonality thing!
By the time the average winter rally runs its course, about 3.5 months, the CDNX has run 14.7% higher. But when April rolls around the fun usually comes to a halt. For the remainder of the spring the CDNX tends to grind sideways, and by summertime it can't fight the despondency any longer.
Coming out of this sideways grind the CDNX enters into its weakest season of the year, the summer doldrums. And as you can see in this chart, the old adage "sell in May and go away" definitely applies to junior resource stocks. Summer is usually the seasonally-weakest time of the year across the entire financial markets. With professional traders and retail investors alike going on vacation and losing interest in the markets, volume and volatility tails off, which typically portends a retreat.
At Zeal we do extensive research on these summer doldrums in order to get an edge on timing our newsletter trades. And this summer malaise permeates the markets of many of the commodities we follow. Gold for instance is a major commodity that is notorious for slipping into a summer season of weakness. And this is especially important for the CDNX since gold juniors are probably the largest group in the entire TSX-V.
These CDNX summer doldrums tend to last through about mid-August, carving out a tight downtrend that usually wipes the gains from the first part of the year. But just when junior traders are ready to capitulate and lose all enthusiasm for these speculative plays, one of the CDNX's best seasonal buying opportunities emerges.
Mid-August typically marks the bottom of the CDNX's weakest season. But by the end of that month into September it rallies back up through resistance, etching the beginnings of what is usually a strong autumn rally. Traders who are able to overcome the general disenchantment with junior resource stocks can use this seasonal tell to hold their noses and start buying. And with an average autumn rally that returns 9.5% to the end of November, these traders are usually rewarded for their diligence.
The CDNX's early-autumn rallying offers several entry points into junior resource stocks before things really start to heat up toward the end of October. And there actually isn't much respite between the autumn and winter rallies. Only in the early part of December does there tend to be a slight pullback, opening a short window to get in before the CDNX commences its strongest rally.
So overall what are traders to do with this CDNX bull seasonality information? First, as mentioned, you shouldn't rely on this picture as a primary technical driver for trading junior resource stocks. Seasonals should always be treated as tailwinds to confirm your primary trading tools. But with 8 years of history this seasonality data has become a very strong tailwind. And I believe it comes in real handy as a roadmap that offers higher-probability-for-success entry and exit points.
If CDNX seasonals continue to play out as they have in the past, investors should deploy their investments and speculations in late summer and early autumn. After riding strong autumn and winter rallies, those shorter-term traders should then plan on exiting their positions in the spring and waiting out the summer before redeploying.
So now that you are equipped with some technical support as to when to buy, the next task is to figure out what to buy. And this is of course the million-dollar-question, which juniors will perform with (and optimally positively leverage) the CDNX? As any trader knows who has been active in this sector, or should know if he is just getting into this sector, juniors are super-risky. And the cold hard truth is many will fail.
But even with this risk, as long as the commodities bulls persist junior resource stocks will be attractive speculations. As the demand for these commodities continues to rise, it becomes even more critical to renew the reserves that are extracted and consumed each year. And since the larger producers are usually incapable of organically growing their own reserves, the resources these juniors bring to market will remain invaluable to the supply chain. Those juniors that are successful in finding and developing the next-generation oil, gas, or mineral deposits will thrive and more than offset the risk inherent in this sector.
Over the years many of the CDNX's best performers have been the junior gold stocks, likely the most populous group on the entire exchange. Gold is not just any commodity, but a precious metal with countless fundamental merits. Those entrepreneurial geologists and managers that form junior gold companies understand this yellow metal's huge potential.
At Zeal we believe the explorers focused on gold will continue to be the best performers. In both our weekly and monthly subscription newsletters we have open positions in junior gold stocks that should thrive as investors take a renewed interest in this tiny sector. And with seasonality now swinging into our favor, we plan on recommending more high-potential juniors to ride the autumn and winter rallies. Subscribe today to find out which ones we choose in the coming months!
With the summer doldrums coming to an end it is not too early to prepare your shopping list of juniors to buy. And if you don't have the bandwidth to take on the daunting task of sifting through the hundreds of junior gold stocks, and are curious about the pool we choose from for our newsletter recommendations, consider our acclaimed research reports.
Our two latest reports happen to profile our 24 favorite junior gold stocks. These high-potential 12 early-stagers and 12 advanced-stagers ought to soar once investors again get excited about junior resource stocks. These juniors are exploring and developing gold deposits that will likely be the next-generation gold mines! Purchase these detailed fundamental reports today to start building your shopping list!
The bottom line is junior resource stocks, as measured by the CDNX, exhibit strong seasonal tendencies that can help guide traders with their entry and exit points. This seasonal analysis helps us to better understand what might be coming, and if history repeats itself greatly increases our probabilities for success.
And as these CDNX seasonals do suggest, we are quickly approaching an inflection point where traders may want to consider stepping back into the junior realm. If you can fight the cloud of fear that currently hangs over this sector and start deploying capital into high-potential stocks, the seasonals tell us your rewards may be great.
August 6, 2010
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