Gold, Silver, HUI Technicals
Adam Hamilton, April 18th, 2008
Gold, Silver, HUI Technicals
After an exceptionally turbulent month in the precious-metals complex, many traders are trying to make sense out of all the chaos. Did the recent violent retreats in gold, silver, and the HUI gold-stock index likely mark the ends of their respective uplegs? Or do these strong uplegs probably remain intact?
Obviously this question is crucial as the prudent tactical trading strategy going forward varies radically based on its answer. If these PM uplegs have given up their ghosts, then it makes sense for traders to unload their remaining long positions and maybe even get short. But if these PM uplegs persist, then the gains to come will still be reaped on the long side.
As mere mortals, none of us can see the future. So only time will solve this conundrum with certainty. But as speculators, we have to game the probabilities now before the outcome is clear. Technical analysis, analyzing the PM price charts, is one tool that can help put all the recent volatility into perspective. Seeing a lot of trading days' results in context offers a valuable read on the odds going forward.
Often technical analysis is viewed with suspicion, like some form of superstitious divination. But it does have great merits. Charts offer perspectives on trends that are not apparent by just watching one trading day at a time. Market prices are the aggregate result of all buying and selling decisions for an asset, regardless of the motives behind them. So theoretically, charted prices reflect all available information.
But even if you still think technical analysis is like slaughtering chickens and "interpreting" the resulting bloody mess, realize that the majority of traders believe it is valid and useful. In the financial markets, often popular belief becomes reality. If a significant fraction of the capital trading any asset believes a certain chart level is important, and it enters or exits the asset accordingly, it becomes a self-fulfilling prophecy.
To make a crass analogy, if a suicide bomber kills you it really doesn't matter whether you share his faith or not. Your own beliefs are irrelevant. If he is willing to act on his beliefs in a way that affects you, then you better learn about his beliefs. Technical analysis is similar. If many market participants believe in trend lines, and their trades affect the prices of your trades, then you have to pay attention to charts.
Thus these gold, silver, and HUI technical charts offer insights valuable to all traders. They are all upleg-to-date charts, running from a month before the mid-August births of these uplegs to today. Prices, moving averages, and standard-deviation bands are tied to the right axes. Relative prices, or prices as multiples of their 200-day moving averages, are rendered in red on the left axes.
Gold drives the entire PM complex, it is the key to everything. Ultimately the gold stocks and even silver and the silver stocks follow gold in the end. They are effectively gold sentiment plays that amplify gold's own volatility. If gold heads higher, sooner or later silver and PM stocks will follow. If gold gets weaker, silver and PM stocks usually mirror this behavior right away. So we'll start with gold.
Gold bottomed in mid-August right at its 200-day moving average. Then it started surging higher in the magnificent uptrend rendered above. It remained within this trend channel, carving higher highs and higher lows, until late February. Then it started heading above its upper resistance line on its way to a new all-time high. By mid-March, gold had rallied an impressive 54% in just 7 months!
PM traders were pretty excited about this, as gold closed slightly above $1000 for the first time ever. But soon after, the metal started plunging. In just 3 trading days it lost 9.3%! It bounced at its uptrend's support line initially and rallied, but on April 1st gold plunged again. That day alone it shed 3.8%, its biggest daily loss in nearly two years. These steep retreats have wrought considerable sentiment damage.
The 3-day plunge ending March 20th drove gold under its 50dma. The precipitating event was the Fed's less-than-expected rate cut. This month's issue of our Zeal Intelligence newsletter discusses this episode in depth. And then the subsequent April 1st plunge drove gold below its uptrend support line. Together these ominous technical tidings have led many traders to conclude that this gold upleg has to be finished.
It is certainly true that gold's uptrend was broken, but not necessarily its upleg. A trend is an ever-evolving beast, a human attempt to shoehorn a price progression into a linear path. Thus trends constantly adjust as new price data streams in. An uptrend drawn 6 months into an upleg can change significantly from an uptrend drawn 3 months in. Since they are constantly in flux, broken uptrends rarely bother me.
As the silver and HUI charts below illustrate, uplegs don't need to stay in a neat uptrend. They usually don't prove so accommodating. So gold's upleg, its major bull-market move higher, can certainly remain intact even if its path higher is chaotic. Uplegs are driven by sentiment, they are born in extreme fear and die in extreme greed. And there are plenty of clues above indicating we haven't seen serious greed yet.
Leading into its high in mid-March, gold did not shoot parabolic. It only rallied 2.2% total over the 10 trading days leading to its peak. At upleg tops, greed and enthusiasm tend to wax ecstatic which drives a climaxing vertical surge. At the top of gold's last major upleg in May 2006, for example, this metal soared 13.6% across that upleg's final 10 trading days! Without similar euphoria now, a major top is pretty unlikely.
Relative gold, gold divided by its 200dma, also reflects this lack of upleg-ending euphoria. Note above that gold only hit 1.296x its 200dma in mid-March. This isn't much higher than the 1.273x seen in late January or the 1.222x seen in early November. At its May 2006 top, gold soared to 1.389x its 200dma. And much higher levels (up to 1.670x) were seen in the last Stage Two uplegs of the 1970s.
Without similar stretches over its 200dma today to reflect widespread greed, the odds that this latest Stage Two (driven by global investment demand) upleg is over are not high. At +54% so far, it is even still modest by Stage Two standards. We saw +108% and +94% uplegs at this stage in the 1970s bull, and the upleg that ended in May 2006 ultimately witnessed gains exceeding 73%! Today's upleg isn't anywhere close yet.
But if the sharp retreat over the past month is not an upleg-ending correction, then what else could it be? A mid-upleg pullback. Periodically during in-progress uplegs, greed gets a bit excessive but nowhere near upleg-ending levels. So a sentiment rebalance is necessary. This can happen via a high consolidation like that witnessed in gold last November and December. Or it can be via a sharp pullback to scare traders.
For all the sound and fury of gold's plunge, it merely hit a 49-day low in early April. As recently as January, this gold pullback low had never before been witnessed in history. So it is not like gold ever got low despite its sharp pullback. It could simply be consolidating high to build a base for its next surge in this upleg. In late November analysts swore gold was correcting too, but look at its surge since then!
Another interesting gold technical is its 200dma. In its entire 293% run higher since April 2001, gold has never spent much time under its 200dma. In fact, anytime gold is driven under its 200dma due to excessive fear it quickly rebounds back. In any ongoing secular bull, the 200dma forms some of the most important support. Today gold's 200dma is already above $800 and still continues to rise.
So as long as gold consolidates high, its 200dma is catching up with its price. Since this 200dma is the most likely sustained downside target even in a full-blown upleg-ending correction, gold's downside risk from here seems minimal compared to its upside potential. All kinds of factors remain very bullish for gold, from exploding inflationary expectations to massively negative real interest rates in the US.
