Gold Market Update
Originally published June 21st, 2008
Although gold has remained in the doldrums since the last update, there is plenty of evidence that another strong uptrend is solely a question of when, not if. On the 1-year chart we can see that the reactive phase in force from mid-March is taking the form of 3-arc Fan Correction that is now believed to be quite close to completion. These fan patterns typically start out with a steep, panicky selloff as intermediate traders realize that the game of over for the time being and hit the exits. This is normally followed by a significant bounce and then by a more measured decline that frequently wreaks the most damage because it drags on for alot longer, although that was not the case here. Then, after another bounce renewed decline sets in, but this time there is little selling pressure behind it, and this downleg frequently terminates only a little below the 2nd drop and sometimes at or above it, which is a sign of strength. This is what may well be happening with both gold and silver right now. Currently gold is trading between the 2nd and 3rd fanlines of the pattern that portends an eventual upside breakout. Although the fanlines and falling 50-day moving average are clearly shepherding the price lower, the strong underlying support and rising 200 and 300-day moving averages not far beneath are expected to result in the long-term uptrend reasserting itself in due course, leading to an upside breakout and a major new uptrend. We had earlier classified the reaction from March as a bullish Falling Wedge, and this interpretation remains valid as the Wedge exists simultaneously with the Fan Correction, the price having broken out upside from the Wedge in the middle of May, and then reacted back close to the top line of the Wedge, which happens to be the 2nd fanline at the same time.
From time to time it is useful to review the current situation in the context of the overall bullmarket to date. On the long-term chart going back to 1999 we can see Double Bottom of 1999 and 2001 and the ensuing bullmarket in its entirety. On this chart it is clear that gold is in a strong and steady long-term uptrend that shows no signs of ending at this point - on the contrary it appears to be accelerating. The reaction of the past several months is a perfectly normal correction following a powerful upleg resulting in an overbought condition and the key question remaining to be answered is how long the current period of consolidation will go on before another strong uptrend gets going. Fortunately there is a correlation evident from past performance that should serve as a useful guide going forward with respect to the maximum price/time correction that we can expect to see, and that is the relationship of the price with its 300-day moving average. As we can clearly see the price has on numerous occasions dropped back through its 200-day moving average as the bullmarket has progressed, but every time it has got very near to or contacted its 300-day moving average, it has correlated with a cycle low and been followed by renewed advance. Traders who are aware of this strong correlation have a powerful advantage, for on the one hand they will not be thrown by the price breaking below the 200-day moving average and on the other they will be aware that the present consolidation pattern could drag on for some time time yet and can plan accordingly, for as we can see, gold is still quite some way above its 300-day moving average, and a sizeable gap has opened up between the 200 and 300-day moving averages. However, it is important that we do not fall into the trap of assuming that this gap has to close before a major new uptrend develops, for if the bullmarket in gold and silver is accelerating the pattern in both gold and silver from mid-March could be a bullish Pennant, and that is what it looks like on the silver chart. If so then a major uptrend could begin anytime.
In the light of the above analysis the correct tactics going forward are considered to be to continue to accumulate gold, better gold stocks and ETF's on weakness over the short to medium-term. Gold is thought unlikely to drop below its late April lows in the $850 area, although it could dip further to the $830 area. The chance of it dropping back down towards its 300-day moving average, i.e. to the $800 is rated is very slim. If the pattern from mid-March is indeed a bull Pennant then we will soon see an upside breakout, with a buy signal being generated by the price breaking out above the 3rd fanline currently at about $900.
What about the danger of government intervention to cool commodity markets by limiting contract sizes and the possible negative impact on gold and silver prices as set out in the article of June 13th on the subject? There are several points to make regarding this. First of all, it could happen at any time - now or in 6 months or in a years' time, who knows? Secondly, traders may be able to circumvent it by trading on markets where the CFTC has no jurisdiction. Another important point is that as action to limit contract sizes would presumably apply in equal measure to short positions, it could have the unintended consequence of driving a huge spike in silver, in which there are massive accumulated short positions. While such intervention would therefore be expected to result in precipitous short-term declines in the prices of grains and other foodstuffs, the effect on gold and silver prices is not so easy to calculate. This kind of interference, while very possibly well intended and while it should provide temporary relief for the poor in respect to buying food, would probably lead to rationing, as the underlying reason for the powerful bull markets in commodities is real shortages, although admittedly the price rises have been exacerbated by speculation.
Special footnote June 21st - we appear to be on the doorstep of a breakout from the Fan pattern and strong advance by gold and silver, with VERY bullish action in many Precious Metals stocks on Friday, where dramatic one-day reversal patterns appeared. We will be looking at some of these stocks on the site early next week.