Gold Stocks Appear to Be Putting in a Bottom

By: Michael Swanson | Wed, Apr 2, 2008
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The correction in gold stocks that began a month ago appears to be coming to an end. Let's look at the action that led me to think gold stocks have put in a potential bottom.

First the daily stochastics for the XAU/gold and HUI/gold ratios became oversold a few days ago. On 3/19/08 I wrote that I was going to be waiting for these ratios to get oversold before I bought. This is what I said then:

"The XAU/gold and HUI/gold ratios are still excellent ratios to watch to time entry points in gold stocks. Above is a plot of the HUI/gold ratio. During gold and gold stocks corrections gold stocks tend to fall faster than gold during the bulk of the correction but towards its end they start to fall at the same rate as the metal or even less. You can see when this happens by watching the relative performance of gold stocks versus the metal. We have gotten near lows when the HUI/gold and XAU/gold ratio's daily stochastics have gotten oversold by falling below 20. I expect this to happen again within the next three weeks and once it does I will look to buy some gold stocks."

Well we got there last week. I hesitated to buy just on that one signal, because normally the gold stocks rally and then retest their lows before going higher. We got that retest this Tuesday morning as gold fell down below $900 an ounce and all of the way down to $870 an ounce. While this happened the XAU and HUI fell at a slower rate than the metal did. Unlike gold, most gold stocks did not go through their March lows. Although the HUI did so briefly, the XAU did not. All together the gold stocks were showing excellent signs of relative strength yesterday. Newmont for example was down only 50 cents on a day in which gold was down over $30. This is normally what you see at the end of a gold and gold stocks correction.

Secondly this happened on what I consider to be major support for gold stocks.

The HUI and XAU fell down to their 150-day moving averages yesterday and bounced off of them. Normally in intermediate-term bull rallies you get one or two pullbacks a year in a sector down to its 150-day moving average. Gold stocks tend to have more than two pullbacks a year due to their volatility. But this pullback created a positive divergence between the XAU/gld and HUI/gld ratios right on this long-term support level.

We should now see a quick snap back rally in the HUI back up to the 460 area - which is the HUI's 50-day moving average and the point of its 20-day upper bollinger band. If this is a true bottom we'll then likely see a short 1-3 week period of consolidation and a rally through the March highs. The 445-450 area should mark the bottom of such a consolidation pattern.

If this isn't a real bottom then the HUI will come back down to the 420 level after rallying to 460.

If somehow we don't get a rally from here then the next major support area on the HUI is 400, the HUI's 200-day moving average. I would consider it the maximum gold stocks would fall. That is a roughly 5% drop from here and I don't think its going to happen. When you want to buy dips in a bull market you just have to buy when the risk becomes limited. We are at that point now for gold stocks.

I think yesterday's bottoming potential is real, because I see no signs of the bear market in the dollar coming to an end. What is more over the past week there has been a large amount of short covering on the part of commercial traders.

I also think that there are some select junior mining stocks that make good investments right now. In fact if I am right on the next move up money will begin to rotate in the Canadian small caps, which haven't yet participated in this gold bull run.

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Michael Swanson

Author: Michael Swanson

Michael Swanson,

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