Gold Stocks Undervalued?

In a Seeking Alpha article, Bill Zielinski unveils the K-Ratio: the Barron's Gold Mining Index divided by the spot price of gold. According to his data, gold stocks are overvalued when the ratio is 1.9 or greater. When it's 1.15 or lower, gold stocks are undervalued and should have a good run. Right now, the ratio is actually below 1: 0.96, to be specific.

The latest weekly reading on the K-Ratio shows a very bullish reading of .96 (Barron’s Gold Mining Index of 1158.99 divided by the Handy and Harmon Gold Price of $1203.50). Since 1975, readings at or below 1.15 on the K-Ratio have resulted in gold stock gains 90% of the time over the next 12 months with an average gain of 40%. [Emphasis his.] Lending anecdotal support to a large rally in the gold stocks is the overwhelming number of bearish articles on gold by the mainstream press. From a fundamental perspective, of course, it does not hurt that logical minds are beginning to question the value of paper currencies of numerous sovereign nations.

Accumulation of high quality gold stocks such as Newmont (NEM), Randgold (GOLD), Goldcorp (GG), Kinross (KGC) and Yamana (AUY) seems warranted, especially on price pullbacks. Based on the technical and fundamental factors, the bull market in gold stocks has a long way to run.

The relative lack of follow-through on the bullion rally is a bit of a puzzle, and there is a risk that the gold shares are discounting future weakness in gold. That discounting seems to be based on seasonality factors, and a post-May drop hasn't shown up as of yet.

At any rate, it isn't much of a mania if the gold stocks aren't participating.