Traders place long-term bet in gold mining sector

Gold miners have emerged as one of the market’s strongest industries as of late, and one big investor is looking for a major producer to double in the next 11 months.

Gold miners, as measured by the NYSE Arca Gold BUGS Index, rallied 56 percent in 2016, compared with the S&P 500’s 9 percent gain. They’ve continued to outperform this year, delivering triple broader market’s performance since 2017 began.

Gold miners' move came as the U.S. dollar slid from its highest levels in more than a decade. (Gold is priced against the greenback, so tends to move in the opposite direction.) There’s an additional history of investors using the commodity as a hedge against inflation, which recent economic reports have shown accelerating in the U.S., Europe and Asia. 1

Goldcorp (NYSE: GG), a Vancouver-based company with mines from the Yukon to Argentina, drew one of yesterday’s largest options trades on a single-name stock in the entire market. It consisted of approximately 11,000 January 25 calls (options to buy a security) purchased for $0.69. A matching number of January 35 calls was sold for $0.14.

The so-called vertical spread uses income from selling the higher-strike contract to reduce the cost of the calls closer to the money. That cheaper expense creates the potential for greater leverage on a percentage basis. In this case, the net debit of $0.55 will inflate to $10 if GG closes at $35 or higher on expiration -- a return of more than 1,700 percent. GG slid 1.73 percent to $17.09 yesterday, so the stock would have to more than double in the next 11 months for the maximum profit to be achieved. If the stock does not move north the calls will expire worthless.

In addition to the broader macroeconomic factors noted above, analysts consider GG as a potential turnaround story as management looks to increase production and reserves while cutting costs.2 The stock rallied to its highest price since August last week on the heels of a better-than-expected quarterly report. Some chart watchers may also consider February’s price action as bullish now that the shares have broken above their 200-day moving average.

Total option volume was more than quadruple the daily average, with calls outnumbering puts by 2 to 1.

In summary, investors think GG still has room to run and are using options to position for a long-term rally.

1. Marketwatch: Inflation surges in January by most in four years, CPI shows. 2/15/17; RTT News: Eurozone Inflation at 4-year High, Core Figure Steady. 1/31/17; Bloomberg News: China's CPI and PPI Inflation Rising. 2/13/17.

2. Bank of America Merrill Lynch: Q4'16 adj. EPS beat; moving ahead with the 20-20-20 strategy. 2/15/17