Gold prices are notching all-time highs. Slightly lower interest rates over the past few weeks and a drop back in the US Dollar Index have been macro tailwinds. What's more, as I will detail later, seasonality will soon favor gold mining stocks. So, taking a long position in a leveraged product could be a way to pounce on the opportunity in the precious metals equity space.
I have a tactical buy rating on the Direxion Daily Gold Miners Index Bull 2X Shares ETF (NYSEARCA:NUGT). While gold miners have been a weak spot over the past year, conditions appear ripe for a continued short-run rally.
Gold Rallies to Fresh All-Time Highs
According to the issuer, the Direxion Daily Gold Miners Index Bull and Bear 2X Shares seek daily investment results, before fees and expenses, of either 200%, or 200% of the inverse (or opposite), of the performance of the NYSE Arca Gold Miners Index. There is no guarantee the funds will achieve their stated investment objectives. NUGT is of course the 2x long version.
As I always like to preface with leveraged ETFs, they are generally riskier than traditional ETFs which do not employ leverage. It's key to understand how daily compounding returns work since it can be a risk for investors holding a product like NUGT beyond a day.
Here is an illustration of how negative compounding returns occur in a leveraged ETF: Suppose an index starts at 100, and the leveraged product also begins at 100. If the index rises by 10% to 110, the 2x long product increases to 120. However, if a subsequent 10% drop happens, the index falls to 99 (a 1% loss from the initial value). In contrast, the 2x long product declines to $96 (0.8 x 120), reflecting a 4% total decrease. Additional disclosures on leveraged products are provided at the end of the article.
NUGT is a small ETF with just $587 million in assets under management as of March 6, 2024. The fund pays an above-market 1.95% trailing 12-month dividend yield, though share-price momentum has been poor over many timeframes, particularly since the middle of the second quarter of last year. That is due in part to negative compounding returns of the leverage the ETF employs, but also to broad weakness in gold mining stocks. NUGT carries a high 1.18% annual expense ratio.
That, along with the leverage, makes me inclined not to own the fund beyond a few weeks, but I like NUGT today based on improved near-term momentum. Risk ratings are unsurprisingly bad given poor returns and high volatility. The portfolio is also concentrated. Finally, liquidity is a bright spot given NUGT's high average daily trading volume of 2.8 million shares and a median 30-day bid/ask spread of just a single basis point.
NUGT's equity allocation is mixed across the style box. The plurality of the portfolio is considered mid-cap blend with slightly more value exposure than growth. With a price-to-earnings ratio of less than 17 and high long-term earnings growth, the valuation is somewhat appealing. But I must caution investors that valuation on a leveraged ETF is not all that useful since the fund should not be held for extended periods.
NUGT: Portfolio Breakdown and Valuation
NUGT: Long GDX and Leveraging Tools
GDX: 40% Weight in the Top 5 Holdings
Seasonally, NUGT's best month is on the doorstep. April has historically returned nearly 20% when averaging the past 10 years. Returns are then more lukewarm through early in the summer. August and October have been particularly weak, however.
NUGT: Bullish Trends Through April
The Technical Take
As with any leveraged ETF, I like to perform technical analysis on the primary non-leveraged product. In this case, let's inspect the VanEck Vectors Gold Miners ETF (GDX) for clues on where NUGT may go over the weeks ahead. Notice in the graph below that GDX held support nicely just under $26. That was the October 2023 low which the bulls successfully defended as the calendar flipped from February to March. A key downtrend resistance line is apparent between $31 and $32. I expect GDX to rise to that level, which would have bullish implications for the leveraged long gold miners ETF. The $32 and $33 area could prove problematic as that's where GDX met selling pressure in Q3 last year and at the end of 2023. If it busts through that, then the $36 spot could be in play.
With an improved RSI momentum oscillator reading and significant volume over recent days, higher prices could be in the cards. A bearish factor is a high amount of volume by price with GDX up to about $32. It's possible that overhead supply could pressure the rally.
Overall, with a major bounce off support, I see more bullish potential than bearish risk with GDX. Hence, long NUGT appears as a favorable tactical play, perhaps through April.
GDX: Bullish Bounce Off Key Support, Significant Momentum Improvement
The Bottom Line
I have a near-term buy rating on NUGT. Being a leveraged ETF, investors should not hold the fund for an extended period, but exposure through the first few weeks of the second quarter - a seasonally strong period - looks like a solid play.
1) The Lowdown on Leveraged and Inverse Exchange-Traded Products (FINRA).
2) Leveraged and Inverse ETFs: Specialized Products with Extra Risks for Buy-and-Hold Investors (SEC).
3) FINRA's Reminder on sales practices for Leveraged and Inverse ETFs (FINRA)
Mike Zaccardi, CFA, CMT
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Analyst’s Disclosure: I/we have a beneficial long position in the shares of GDX either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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