Golden Headaches and Fun

By: | Wed, Oct 11, 2006
Print Email

The following is an extract of the current Canadian Financial Letters

Golden headaches inducing moves, at least for the nervous types; here is probably the best way to describe what is happening right now in the gold market. We would like to add our views to the pool of comments.

To us, gold is still deeply entrenched in the 580-640 US$ range. We do not consider the blip to 565 US$ as significant. This trading range has been going on for almost six months. The longer it will go, the more significant a move outside that range should be, according to technical analysis.

Let's discuss which side of the range will be crushed. First a statement of fact: you cannot go broke with commodities in your portfolio unless you play the leverage game very poorly. A lot of people are inclined to forget that simple fact. In the late nineteenth century, "bucket shops" were prospering on people's credulity and attraction to easy money from a 1 or 2 bucks bet. Nowadays, people get lured in not so "free" commodity trading accounts for as low as a few hundred bucks.

We believe that this phenomenon is at the heart of the actual volatility seen in the gold market. Many new-found market experts, after discovering the beauty of leverage, are now experiencing its horror. Until the process is done, we should expect more volatility and more pressure on the sell side since these experts are busy playing the game on the long side only, giving a blast in the process to hedge funds and professionals alike, all busy short selling those suckers thin on margins.

The next significant move (50 US$ plus) outside the range should likely be down since these new-found gold bulls are busy creating support at the 580 US$ range. They got badly beaten up last week doing so when the market made its blip move to 565.

Financial resources are limited however and so is margin money. At some point, we are therefore willing to suggest a 60 % chance of a down significant move in the next 6 months. In fact, nothing would surprise us less than to see gold crumble as low as to the 480 US$ area. It would make sense when you look at the monthly chart.

The other obvious scenario would be to see gold raise over 640 US$. We feel that there is a 20 % likelihood of such an event in the next 6 months. We do not tend to give much weight to that scenario for one simple reason. Gold has nowhere to go on the up side short term but back to the 700-730 US$ level designing, in the process, a nice double top which would be very bearish.

If such an event is nonetheless to occur, we think that this gold market could take even more time to resume its primary uptrend to new heights. A double top formation at the 700-730 US$ level would create a serious psychological hurdle to overcome from a technical analysis perspective. Since gold players tend to be of the nervous type to start with, we can only smile at the vision of a weekly chart with a nice double top.

Finally, gold could stay in its actual trading range for at least another six months. We tend to give that scenario a 20 % chance of occurrence. But with volatility ever present in every financial market we doubt that gold will stay in its actual trading range for much longer.

No matter which scenario will play out in the next six months, here is what we plan to do: add to our long position, whatever the price of the moment, in accordance with the financial resources available. Sound simple enough to us.

Now, here is a primer for you. Let's assume that you are really committed to play the gold game with a long term perspective, something measured in years that is. Let's also assume, for a moment, that a 20 % correction is something that you care about as much as you care about the next movie on the Swiss Robinson Family. These are two big assumptions for most people, but let's assume them anyway.

Then how do you add to a gold position without getting bored to death in the process? Here is how we do it.

First, we never sell any part of our position. Selling is something that we cannot even start to conceive today. Yes, we know that at some point, it will be time to sell gold but we can't envision such a time, it is simply to far away from us.

Second, we do not try to time the market with technical analysis tools. Yes, we sometimes see trading ranges, flags, trends, breakouts, support and others patterns painted on the charts but we do not trust them with our money nor do we trust our own pattern recognition skills enough to subject hard earned money on them.

We use technical analysis only as we use a map: to know where we are, hopefully finding the right spot on the chart. We also do happen to look at momentum indicators and candlestick charts but just for entertainment purposes, never to time a market entry. In short, we must confess, we passionately dislike market timing tools.

Third, we stick to our own analysis in spite of what media or what well intentioned (or not) analysts may write... or what our mother may think of the gold market.

So far, all boring stuff. Here is where the fun part of our strategy to add on a position kicks in. When we have the resources at hand to add to our position, we wait like the owl in the bushes. We patiently wait for something to happen; not something of any real significance, just something that helps fulfill our needs for some fun in the market without bad consequences for our portfolio.

We wait for a down opening in New York, which is the key to our add-in strategy. Last week gave us a few of these weak openings. Usually, with that hard earned cash tightly in our hands, ready to go buy a few bars and coins, we watch the gold market all around the clock like a true financier. Our daily ritual starts in Tokyo before going to bed, hoping for a smooth hourly down trend to develop during the night. When we wake-up, we look with anticipation to see if Tokyo and then London were kind enough to give us that hourly downtrend that we dreamed about.

And then, we watch anxiously for the New York opening. Sometimes our expectations come true and there is an "attack" on gold. The price plummets 3, 5 and even 10 bucks in a matter of minutes or hours; we get slightly excited. One more step and we could in fact open our hands and let that cash go for some yellow goodies.

Last but not least, we watch for an acceleration of the hourly down trend at around noon, NY time. When this last piece of the puzzle falls into place, we rush smiling to the cashier and buy our gold.

This little ritual may sound weird to some of you but it allows us to buy our goodies at the actual market price and sometimes a dollar or two under. In other words, we save 5 to 10 bucks per ounce on the deal and it gives ourselves a little "trading" fun in the process.

What is even funnier is that everyone could do it and the price of gold would not bulge a dime on the actual market. Try it the next time you plan on adding to your physical gold position. It will probably cost you less efforts and money than trying to time your entry; and who knows, you may even enjoy playing the financier.



All Images, XHTML Renderings, and Source Code Copyright ©