In What Direction Will the Stock Market Head and How Could It Influence Gold and Silver?

By: Przemyslaw Radomski | Tue, Aug 14, 2012
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People put too much store in central bankers and hang on their every word as if they are prophets with a direct line to the divine. It seems that no one does this more than gold investors. In the past gold has shown itself to be super sensitive to monetary policy announcements and investors hope that any indication of further easing would give gold a joy ride.

We have had enough evidence that central bankers are no super heroes able to leap tall buildings at a single bound and save the economy. There are plenty who contend that if the Fed had not stimulated the economy with zero percent interest rates, two rounds of quantitative easing and the so called "operation twist", the economic fiasco would have been much worse and the recession much deeper, perhaps even a depression. They go even further and say that the Fed has not done enough, and if only it had printed more money, we would be out of the woods by now.

The Austrian economists, on the other hand, counter that there is no free lunch and the tab will be paid later. The short-term pain of a deep recession would have been more salutary to the economy and would have eventually built a more robust sustainable recovery, they say. They argue that the Fed's actions simply delay, or numb the pain. So far, even with all the quantitative easing, we have not seen much of a recovery as the employment report released on Friday confirms. In the best case scenario the U.S. economy is stagnant. At the worst case scenario it is going down the hill. That the economy is a mess is the one thing that Barack Obama and his Republican challenger, Mitt Romney, agree on.

We believe that interest rates cannot stay low forever. The Fed's interest rate was bought down from 5.25% in August 2007 to 0.25% in December 2008. When interest rates finally rise, the prophets of doom and gloom will have plenty to rant about.

Just what did QE do for gold? One could argue--plenty. On November 24th, 2008, which is the day that QE1 was announced, the price of gold was $819.50. It rose to $1,113.30 by March 31st 2010, which is when QE1 ended. This was a hefty increase of $293.80. The price of gold rose from $1,337.60 on November 3rd 2010, the day QE2 was announced, to $1,502.50 on June 30th 2011, which is when QE2 ended. This was a sizeable increase of $164.90, but smaller than in the first round. Does the smaller increase in the second round suggest that investors are becoming less sensitive to such measures by the Fed? Has gold lost its "safe haven" status and become a "risk on" asset?

Without any clear signs of the next round of QE, we will search the stock market for clues regarding gold and silver. We will start with the S&P 500 Index long-term chart (charts courtesy by http://stockcharts.com.)

S&P 500 Index long-term chart

In the chart (if you are reading this essay on sunshineprofits.com, you may click the above chart to enlarge), we see that stocks have rallied recently and approached but not yet moved above the level of the previous 2012 high. It seems that once the S&P moves above the $1,425 level and verifies this move, the picture will be bullish here once again. For now, we continue to view the outlook as mixed with a resistance line around 1.5% above Thursday's closing price level and RSI levels neither overbought nor oversold at this time.

Let us now move on to the financial sector.

$XBD (Broker/Dealer Index - AMEX) INDX

In the Broker Dealer Index chart (a proxy for the financial sector), we saw a bit of a rally for the financials last week, but their underperformance over the past five months remains clearly evident. The small rally seen last week does little to atone for the declines seen in two-thirds of the weeks since the mid to late-March high. In short, there is really no good signal for the stock indices in general here.

To better see what possible effects could higher stock prices have on the precious metals market, should a rally in the S&P 500 emerge, let's take a look at our own tool intended for measuring intermarket correlations.

Correlation Matrix

The Correlation Matrix is a tool which we have developed to analyze the impact of the currency markets and the general stock market upon the precious metals sector.

Both gold and silver are positively correlated with the S&P 500 Index in the short and early medium term. Hence the possible rally in the stock market could help these two metals reach higher prices in this time horizon.

Yet one cannot forget that the currency markets are strongly and negatively correlated with precious metals at this time. If the medium-term rally in the USD Index continues, the downward pressure on precious metals prices will remain in place as well. Note that the metals' reaction may be delayed by a day or a few of them in response to strong moves in the USD Index, because the nature of the relationship is medium-term, not a short-term one.

Summing up, the overall picture for stocks is best described as mixed or unclear at this time. A short-term rally has been seen recently but an important resistance line is in place and the strength of the rally will be determined when this previous 2012 high price level is tested. It simply seems best to wait and see before commenting further here. Should such a rally in the stock market emerge, gold and silver could benefit from it in the short and medium term, as suggested by the Correlation Matrix. For now, this bullish factor is not in place. One should still bear in mind that such a scenario would be thwarted by a strong rally in the USD, as the correlation between these two metals and the dollar is still strong.

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Thank you for reading. Have a great and profitable week!

 


 

Przemyslaw Radomski

Author: Przemyslaw Radomski

Przemyslaw Radomski, CFA
Founder, Editor-in-chief
Gold & Silver Investment & Trading Website - SunshineProfits.com

Przemyslaw Radomski

Przemyslaw Radomski, CFA (PR) is a precious metals investor and analyst who takes advantage of the emotionality on the markets, and invites you to do the same.

His company, Sunshine Profits, publishes analytical software that anyone can use in order to get an accurate and unbiased view on the current situation.

Recognizing that predicting market behavior with 100% accuracy is a problem that may never be solved, PR has changed the world of trading and investing by enabling individuals to get easy access to the level of analysis that was once available only to institutions.

High quality and profitability of analytical tools available at www.SunshineProfits.com are results of time, thorough research and testing on PR's own capital.

PR believes that the greatest potential is currently in the precious metals sector. For that reason it is his main point of interest to help you make the most of that potential.

As a CFA charterholder, Przemyslaw Radomski shares the highest standards for professional excellence and ethics for the ultimate benefit of society.

Sunshine Profits enables anyone to forecast market changes with a level of accuracy that was once only available to closed-door institutions. It provides free trial access to its best investment tools (including lists of best gold stocks and best silver stocks), proprietary gold & silver indicators, buy & sell signals, weekly newsletter, and more. Seeing is believing.

Disclaimer: All essays, research and information found above represent analyses and opinions of Przemyslaw Radomski, CFA and Sunshine Profits' associates only. As such, it may prove wrong and be a subject to change without notice. Opinions and analyses were based on data available to authors of respective essays at the time of writing. Although the information provided above is based on careful research and sources that are believed to be accurate, Przemyslaw Radomski, CFA and his associates do not guarantee the accuracy or thoroughness of the data or information reported. The opinions published above are neither an offer nor a recommendation to purchase or sell any securities. Mr. Radomski is not a Registered Securities Advisor. By reading Przemyslaw Radomski's, CFA reports you fully agree that he will not be held responsible or liable for any decisions you make regarding any information provided in these reports. Investing, trading and speculation in any financial markets may involve high risk of loss. Przemyslaw Radomski, CFA, Sunshine Profits' employees and affiliates as well as members of their families may have a short or long position in any securities, including those mentioned in any of the reports or essays, and may make additional purchases and/or sales of those securities without notice.

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