The Last Time Gold Stocks Were This Cheap, They Soared 145%

Earlier this month, I told DailyWealth readers gold stocks are just about the only commodity play I’m interested in right now.
 
I like gold stocks for two reasons…
 
First, gold has incredible buying support from institutional investors, central banks, and individual investors looking to exchange paper currency for “real money.”
 
Second, these stocks are incredibly cheap right now… They’re cheap according to the best value indicator we know. They’re cheap compared to bullion. The sector is still oversold. And another important metric just hit extreme levels of cheap…
 
#-ad_banner-#The last time we saw anything close to this, gold stocks exploded higher.
 
The price-to-earnings (P/E) ratio is a common way to compare companies. And generally, you want to buy a company when its cheap compared to its earnings… when the P/E ratio is low.
 
Now, when it comes to gold stocks, things are a little different. You often want to buy these companies just as they’re getting started mining. But at that stage, their earnings are tiny… which means their price-to-earnings ratios are huge.
 
So day to day, I don’t find it all that useful for evaluating individual gold stocks. But watching for extremes in the P/E ratio of a basket of gold stocks can highlight incredible buying opportunities. Let me show you what I’m talking about…
 
The chart below shows the P/E ratio for the Thomson Datastream’s gold miners index. This index follows all the major gold miners, including Agnico-Eagle, Barrick Gold, Goldcorp, Eldorado Gold, Newmont Mining, and Kinross, to name a few.
 
You can see that in 2008, the P/E of this index fell from 68 all the way to 17 in less than a year.


 
 The index’s value bottomed at 1,861 on that low and rose 145% by December 2010. Previous extreme lows preceded rallies of 22%, 75%, and 92% in 2004, 2007, and 2005, respectively.
 
Today, it’s at a 10-year low. That means we have a relatively safe trade. We shouldn’t see much more decline.
 
So the risk is in the gold price. If gold prices fall, earnings will fall, and prices will fall in line. But as I said earlier, gold is seeing tremendous buying support. And as long as the gold price stays stable, the cash flows from these companies should keep a floor under their values.
 
If gold prices go higher, we could see another triple-digit rally.
 
The easiest way to trade this is with the Market Vectors Gold Miners Fund. It rose 260% over the same period.
 
However you play it, recognize we’re at an extreme… And it’s time to buy.