Technical Trouble

Last week we thought that a small show of relative strength in gold stocks might finally represent a meaningful signal – but it has now turned out it was just another trap, at least in the short term. There are several things worth noting about the recent action in gold. For one thing, it is so far technically very weak. Gold didn't even make it back to the previously broken area of support in the $1525-$1550 range before turning lower again. In the process a new short term resistance level has been created. In addition, the about-turn in gold stocks was so large that they have once again outpaced and led gold to the downside.

While gold ended Wednesday's session about $70 above its intra-day crash low of mid April, GDX and HUI ended the day right at their equivalent lows. The HUI-gold ratio has in the process declined to yet another low for the move.  As we have said before, gold stocks have been leading gold lower since the beginning of the current bear phase. There can probably be no turnaround that sticks until they really begin to gain in relative strength.


It should also be noted that gold fell on what were ostensibly bullish news, while stocks rose on the exact same news (sharply weaker European and US  economic data; weak GDP in Europe, declining industrial production, capacity utilization and a very weak Empire State survey in the US). Bloomberg e.g. wrote “Stocks rise on stimulus bets as manufacturing falls”. Frankly, it makes little sense for stocks to rise and gold to decline on this news cocktail, but that is precisely the problem: it is a sign of weakness when a market fails to rise when it receives what are theoretically bullish news.

Below are charts illustrating the situation:



Cash gold, daily. The red lines indicate the 'old' support (now resistance) zone. The blue line is the new near term resistance level – click to enlarge.



The HUI – back at its April lows. One potentially slightly positive factor is a developing price/RSI/MACD divergence – click to enlarge.



The HUI-gold ratio plunges to a new low at 0.18. This is usually unadulterated bad news for gold and silver – click to enlarge.



It appears increasingly likely that gold will indeed 'test' its recent crash lows after all. One problem with this is that it is happening so quickly. It would have been far better if a longer period of time had passed prior to the market retesting these levels. One has to allow for the possibility that the test will fail, which would obviously constitute bad news as well. One can see why when looking at a long term chart of gold's bull market. On a log chart, the crash low has tested a long term trend line. If this trend line were to break, one would have to expect further declines  – this is to say, the likelihood that we are witnessing a close cousin to the 1975-1976 mid cycle correction would vastly increase.







A long term log chart showing the trend line that connects three major correction lows – click to enlarge.



Reportedly the decline on Wednesday involved quite heavy speculative selling. Contrary to widespread lore, we would argue that this should not be taken as a contrary signal – as we have pointed out in previous discussions of the CoT report, it is important for the market's health that the 'bedrock' speculative long position remain in place. So far it has done so, but if that were to change, it would also indicate that more downside is to come (this week's CoT data will be released on Friday, but will unfortunately not reflect the changes that have occurred on Wednesday). Generally speaking, it is not bullish when large speculator short positions increase.

Of course, in many ways gold's recent decline is quite bizarre. The effects of the global race to devalue money were starkly demonstrated this week at an art auction in New York. An abstract painting by New York artist Barnett Newman sold for $43.8 million on Tuesday.  A picture of the painting is below: as the NY Post remarks, the painting entitled “Onement VI” looks like “a canvas version of the video game Pong”.

We would like to take the opportunity to inform the buyer that he can order ten exactly similar looking paintings from us at half the price.  



'Onement VI' by Barnett Newman – apparently he was in his 'blue phase' when he produced this.

(Photo via Getty Images)



What this astonishing speculation in the art market mainly shows is that money is being rapidly debased. In that sense, we are quite surprised that gold isn't much stronger.


Fundamentals and Sentiment

Are there recent fundamental developments that might help explain gold's weakness? The answer is actually yes. Looking at the usual drivers of gold, one has to acknowledge that e.g. credit spreads are now at all time lows. In the short term, this is bearish, as it shows economic confidence is waxing. In the medium to long term it is however probably bullish, because confidence has clearly waxed way too much and is well on its way to represent double-plus overconfidence.

The same goes for faith in the central bank money monopoly and the bureaucrats administering it. In spite of the sheer overwhelming evidence that has accumulated in recent years that these people are not merely utterly clueless, but positively dangerous, faith in their ability to 'keep things under control' seems curiously unshaken. That is of course something that is bound to change rather dramatically, but there is no telling yet when that will happen.

Lastly, we would note that the recent CBO estimate that the fiscal deficit of the US government is set to shrink much faster than expected, should probably be considered a bearish datum for gold. However, we would point out to this that according to Charles Biederman of Trim Tabs, this is largely due to a one-off surge in tax revenues caused by people trying to beat the 'post fiscal cliff' tax increases. Biederman's views on this can be seen here. He argues that the  temporary spike in tax revenues has already given way to a marked slowdown again. However, the news from the almost always wrong CBO have been the market's focus.

Regarding market sentiment, we refrain from posting the usual charts this time around, as not much has changed (all the survey data continue to show extreme pessimism). However, we wanted to briefly discuss the media reaction to the recent decline, specifically interviews with fund managers and traders on CNBC. Not surprisingly, they are to a man bearish. Illustrating how extreme sentiment actually is, one fund manager is predicting a decline to $500 – a bit like a reverse version of Glassman's 'Dow 36,000'.

CNBC's headline was “Gold is Toast! Why It Could Drop to $500: Pro.

The 'pro' (one Michael Novogratz) then promptly proceeded make a number of spurious arguments. For instance, he argued (paraphrasing) 'that gold was a bubble just like the Nikkei and the Nasdaq, and one can see that when overlaying their charts'. Poppycock. If one wants to compare 'bubbles', one must begin with a major low point from whence their respective  rallies began, and align the charts with this starting point. Gold has risen 7.4 times from its 2000 low to its 2011 high – certainly a respectable advance. However, the Nikkei rose almost 40 times from 1969 to 1989, and the Nasdaq rose by 100 times from its 1974 low to its 2000 high. Now that's a bubble, and in terms of its magnitude it is not even in the same universe with the recent gold bull market.

Novogratz also mentioned that while prices of other things (such as stocks) generally 'rise on supply and demand', gold prices instead rose on 'I don't know what'. We are happy to inform him that all prices are formed as a result of supply and demand, including that of gold. Gold's price is not determined by a mysterious 'I don't know what' – we actually know quite well how its price forms (as an aside to this, for readers who are interested in the finer details of value and price theory and how they hang together, we would recommend reading Murray Rothbard's 'Man, Economy and State'. It contains a step-by-step, logically deduced explanation of these matters that is in our opinion unsurpassed in its clarity.)

However, Novogratz did make one argument that has merit. He noted that the gold price has been falling in spite of a veritable flood of news that should normally have been bullish for it (such as 'QE3+4', Japan's monetary experiment, a plethora of rate cuts, etc.). It is indeed concerning when a market fails to rise on what are widely held to be good news for it (see also above).

CNBC also interviewed a few floor traders, who were unanimously bearish as well. The downside target prices given ranged from Novogratz' $500 to a fairly tame $1,250 by the most bullish commentator. We're a bit surprised that we have never before heard from any of the people CNBC interviewed. We do not recall any of them saying one should buy gold at anytime from 2000-2011. This makes it a bit doubtful that one can rely on their downside projections.

Of course, another very good reason for gold's recent weakness is the current strength of the US dollar. The dollar and gold traditionally move inversely to each other, although not all the time. Still, it is a good bet that recent dollar strength has created problems for gold. Its show of strength was lately exacerbated by euro weakness. A chart of the dollar index indicates however that it is encountering a level of strong resistance. Moreover, the commitments of traders report for DXY futures shows that small speculators remain close to record net long, while large speculators have pulled back a bit on their large net long exposure. While this only represents an extremely small slice of the total dollar market, it still offers what we believe to be significant information regarding trader sentiment toward the dollar.



The dollar runs into resistance amid price and momentum divergences. Wednesday's long-tailed daily candle also looks slightly negative – click to enlarge.



Positioning of traders in DXY futures: small speculators are near record net long, large speculators are pulling back a little – click to enlarge.




We remain long term positive on gold, as the decisive fundamental data points – brisk money supply growth and negative real interest rates – continue to favor it as an investment asset. However, one needs to keep in mind that no-one can see the future with certainty, and these underpinnings may change (not that it would seem terribly likely at this stage).

At the same time, we cannot simply ignore the market's technical condition. Price charts can also not guarantee a specific future outcome, but in this particular instance we have a number of negative signals to consider. As noted above, it is especially the fact that gold stocks continue to lead to the downside that gives cause for concern, at least based on recent experience (this could change in a heartbeat, but the situation as of Wednesday is what it is).

Sentiment continues to be so negative that one would think it will eventually produce a reversal, but the problem is of course that this extreme negative sentiment has been evident for many months already, and the market has kept weakening anyway. It seems likely that in today's money-printing distorted world, what should be considered a noteworthy sentiment extreme has shifted. After all, we can observe the same thing in the stock and junk bond markets (only the other way around: record high bullish sentiment has so far failed to dent a relentless climb).

A few small positives are present in the form of price and momentum indicator divergences in both gold stocks and the dollar, but the same caveat applies: such divergences have not been very useful in recent months. In any case, there is no firm evidence yet that the cyclical bear market is over. A rise in the HUI above the 300/320 level and in gold above the $1525 level would decisively change the picture for the better.



Charts by: StockCharts, BarCharts, Sentimentrader




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11 Responses to “Gold – An Update”

  • ManAboutDallas:

    There is a chart making the rounds in the past few hours that compares this decline in gold to the intermediate decline from 1975-1976, that bottomed with gold at about $105 in September of 1976; the parallels are unmistakable and, if truly similar, indicate a final bottom for this decline within the next week to 10 days. We shall see, shan’t we ?

    One source :

  • worldend666:

    And maybe we think too hard. Perhaps being a speculative over leveraged market, the sheer force of deleveraging is just balancing out the recent greed which surfaced after gold rose above 1000$?

  • JasonEmery:

    mann said, “What is going on, defies logic, so maybe logic is wrong.”

    I agree. Imagine a situation where someone has assets and liabilities, and a bit of a cash flow problem. They tighten the belt a bit (austerity?) but it doesn’t seem to work, for a variety of reasons. At some point, they make the decision to max out all available credit and live as high a life style as is possible, for as long as possible.

    I think this is where we are. But since the dollar is the World’s Reserve Currency, no one dare be the first to foreclose, since the dollar is backing their own fiat currency too. So we’re in completely uncharted waters here, and it’s hard to say what is the logical short term outcome.

  • What is going on, defies logic, so maybe logic is wrong. Because the Fed is acquiring assets in exchange for Fed money, maybe this has the reverse effect, since most of the people and entities that have the assets already have most of the consumer goods they will ever need. The rest of the population is broke. So are the older people who saved their cash and no longer have any income to spend. There is something to what happened to Japan under similar actions that bears investigation.

    I don’t own enough gold, so a lower price would be welcome to me. Just because the stock market is going higher doesn’t mean last months or even last years price was a bargain. If one uses CPI, gold might be valued as little as $500 an OZ. I suspect the floor will be above the old all time high in the $800 range. What I note it the gold/silver exchange ratio, which is now over 60 times, indication of a credit crunch or an oncoming depression.

    • Andrew Judd:

      It is your logic that is wrong. QE is fairly benign. It would be different if the fed was buying houses which remained in the market. Instead it buys assets which are **removed** from the market. Unlike buying houses that remain in the market, the feds actions do not make much difference other than altering interest rates and getting investors to reorganise their investments to seek higher yield..

  • APM:

    Somewhat it all fits, if we were to assume that the bull market in gold has not even started yet and that so far gold has been mostly traded as just another commodity – possibly the “best” commodity – for most buyers and speculators that have been long the yellow metal so far. With the commodity bull market possibly coming to an end or even having already ended in 2008 – which would fit the observations of Kondratieff about the long cycles in modern economic systems – gold might be set to disappoint a lot of buyers and speculators in the short to medium term.

    As J.P. Morgan once said, gold is money and nothing else. It could be argued that very few of the buyers and speculators that are currently long gold bought it for that reason. Anyone who is calculating gold speculation profits in fiat currencies – USD or whatever – belongs to the latter group. The investors who bought gold because it is money – no matter what happens to the economic system – and who do not think it terms of the value of their gold holdings in terms of fiat currency are still a tiny minority.

    A scenario where gold declines to USD 1,000 or USD 700 or even USD 500, devastating the portfolios of small and big speculators, before the bull market in gold starts would also fit with the observation that small investors and speculators are consistently wrong and late in their investments.

    Maybe we have to wait for the COT SMALL SPEC category to be heavily short gold before giving the all clear signal that the bull market in gold is going to start.

    This is a real “gold bug” wet dream. Gold collapsing in terms of fiat currencies allowing to buy more metal at depressed prices.


  • JasonEmery:

    I’ll stick my neck out and call a bottom right here, 5/16/2013. Gld may be putting in a higher low right this minute. Most gold indexes have nice reversal candles today, at least so far.

    • jimmyjames:

      I’ll stick my neck out and call a bottom right here, 5/16/2013.


      I’ll hold you to that call Jason-
      Who knew that worldwide competitive currency devaluations would be bearish for gold-obviously CNBC et al has a firm grip on the pulse of the gold market-
      Gold miners would probably find a way to lose money even if gold was going the other way–geezzzuz what a bunch of incompetent morons-

      • JasonEmery:

        Gld almost back to the April low, so my call is looking shaky. Could easily go either way Monday morning. Just have to wait and see. Sitting right on support.

    • rodney:

      A brave call Jason. I’m concerned that you might follow that call with a long trade. Be careful: volatility and downside momentum are still strong. Usually volatility will drop significantly before a durable rally.

      Wait for it to close this week. Chances are it will once again close below the 200 week MA, and that would be a bad sign.

    • rodney:

      4 hours left in this week, and if it closes like this, it’s not only below the 200 wma, but a very large bearish candle will be printed on the weekly chart

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