Feb. 8, 2015 5:03 AM ET
Summary
- Gold may have already completed this bear market rally.
- Although it is possible to go a little higher, it is equally possible we have started our final descent.
- Should we break Friday's $1226 low, I expect us to reach at least $1184-1198 within the next week.
- Any new lows made into the summer months should mark the end of the bear market in gold.
For the traders we have had a number of nice opportunities to make money during price swings, but analysts should be the happier group as the gold (NYSEARCA:GLD) pattern has given us all a big clue this week as to future direction.
Last week my article gave a forecast for the next month, stating that I viewed the current rise as 'just another bear market rally', and that I expect slightly higher levels going into late February. The action we saw on Friday may have reduced the probability of new local highs, but I still expect a very tradable top around that time.
Before we look at the charts and get to this week's forecast, I want to reiterate that there are a number of fundamental factors in play that gold traders and investors should acknowledge as potential catalysts for price volatility, and monitor over the coming weeks. I see us as being very firmly in 'whipsaw country', and the possibilities for sharp swings up and down need to be borne in mind.
Are Equity Markets Weak?
Did you spot the chain of events in the latter stages of last week? US markets (NYSEARCA:SPY) had been rallying pretty weakly up until the point the ECB made an announcement that they were lifting the waiver that allows terminally diagnosed Greek bonds to be used as collateral for Central Bank financing.
The shock bad news, although seemingly unrelated to US markets, was just the excuse equity bears needed to take the market down and gold, which had been declining slightly until the news was made public, caught an immediate bid and rallied from $1256 up to $1268 within an hour or two.
On Friday we had the Non Farm Payrolls report to digest, and the roles were reversed.
Whether or not you believe in the validity of the data, the report showed further increases to job and average wage figures and is indicative of a strengthening US economy. The equity markets seemed to like it, immediately adopting a bullish breakout posture.
The US Dollar (DXY) rallied strongly, US Treasuries (NYSEARCA:TLT) added to losses incurred during the week, and the S&P500 started to move higher as the safe haven trade from the day before receded.
Faced with these headwinds, and the fact that strong economic data may imply a rate hike is coming sooner than previously thought, gold dropped hard from $1266 to $1228 and closed the week at $1233 for an overall loss of 3.89%.
The interesting thing about it all was the lack of bullish follow through in the S&P500, giving up all of its gains for the day by Friday's close. What fails to rally often falls instead, and I therefore remain unsure of broad market strength. If we do get a sustained pullback in the markets, we may see at least a relief rally in gold over the coming weeks.
Beware Greeks Bearing Gifts
I wonder how many political aides included this proverb in their memorandums prior to the lightening quick European tour conducted by new Greek Prime Minister Alexis Tsipras and his Finance Minister Yanis Varoufakis. Ostensibly the talks were designed to soothe tense relations between Greece and the bigger European countries, but I suspect all it has accomplished is a hardening of the battle lines.
It was shortly after concluding a meeting with Varoufakis in Frankfurt, that the European Central Bank announced it would no longer allow Greek banks to use government debt as collateral for lending. The following day Varoufakis was in Berlin to meet his German counterpart Wolfgang Schaeuble and the results were not positive:
"We had long and intensive discussions, but we were not in complete agreement," said Schaeuble, "we agreed to disagree."
Varoufakis: "We didn't reach an agreement. It was never on the cards that we would. We even didn't agree to disagree from where I'm standing."
The one positive thing to come out of this meeting was confirmation by both parties that a debt write-off had not been discussed, and that the Greek government would do "everything in our power to avoid any default." However, you have to wonder how long this situation can go on before Greece is left with no choice but to take drastic action.
Syriza campaigned on promises to reduce their debt burden and increase government spending in order to support economic growth. Since then they have softened their hard-line approach somewhat, but despite pledges to seek compromise with their Eurozone partners, it is clearly evident that they are miles apart in terms of the ideal resolution.
The Euro moved much lower in anticipation of Syriza being elected, but has since bounced a little with the news that compromise could be reached. Events this week may have steered it back on its southerly course, and on Friday the Euro lost 1.36%.
Should we see a further breakdown in relations between Greece and the Eurozone over the next 6 months to a year, the Euro should move substantially lower and help the US Dollar to continue higher. Any hints or rumors of potential action by Greece could result in big moves within short timeframes, and should be at least considered as a headwind for the gold price.
We may find that gold moves lower in USD as the Euro drops in anticipation of such an event. Markets don't wait for the bad news to happen; in fact most often the news is the signal for price to change direction - in this case sell the rumour, buy the news.
Commitment of Traders Report
The COT data is included below:
| COMMERCIAL | LARGE SPEC | SMALL SPEC | |||
| LONG | SHORT | LONG | SHORT | LONG | SHORT |
| 117,174 | 320,447 | 229,006 | 43,991 | 44,670 | 26,412 |
| CHANGE | CHANGE | CHANGE | CHANGE | CHANGE | CHANGE |
| -152 | -3,039 | -9,401 | -5,491 | +939 | -84 |
We can see that the Commercial Trader Category took some profits on the move down into Tuesday last week, and reduced their long positions slightly. However, the ratio of short to long contracts remains at an extreme, and is exceptionally bearish for the price.
With the further drop we saw since Tuesday, we may find that the Commercials slightly reduce the number of short contracts as they take profits, and may even add to their long contracts in anticipation of an upcoming bounce.
The Large Speculator category reduced their long positions as the price dropped. They also reduced their short position, suggesting that profits were taken on hedges prior to this week's decline, and that they are/were anticipating a further price advance.
Overall, the report remains bearish for gold and at extreme levels with regards to the ratios of long to short contract in each category.
Admittedly in the past the Commercials have gotten their positioning wrong, but if I had the opinion that the bear market lows were in place already, I would be worried about this data.
Uptrend or Downtrend?
I have been reliably informed this week that gold is in an uptrend. Of course that depends on your perspective, and perspective is determined by the timeframe you choose to employ. Gold was in an uptrend Thursday, and on Friday it dropped like a stone.
A look at the chart of gold over the last 100 years shows that we are indeed in an uptrend. In fact the same case can be made when viewing a chart of the last 15 years. However, like many people I am trying to determine when the bear market lows will be concluded, so I limit my timeframe to the last 5 years or so in order to get a view of the current picture:
(click to enlarge)
The chart shows gold to be in a downtrend, which is defined as being a series of lower highs and lower lows. This can be clearly seen in the above chart, and until we make a higher high and get a higher low to match, I am not going to be 100% satisfied that we have embarked on a sustained long term uptrend.
This does not mean that I will ignore obvious bullish signs in the market, and indeed I will be buying gold at the pre-determined levels I have noted in previous articles. However, nothing will make me certain the bull has returned until we get that confirmation.
Trying to buy the exact low is a dangerous proposition; better to make sure the lows are in before you risk your capital!
Forecast For This Week
As I mentioned at the start of this week's article, the move lower we saw on Friday has reduced the probability of making a new local high during this rally. This does not mean it cannot happen, just that the chart pattern now favours the bears.
Two important things happened this week:
- The move lower overlapped wave A.
- Silver made a clearly impulsive move to the downside.
(click to enlarge)
Looking at the chart, the first thing to note is that we have a clear 3 wave move into the 1.00 fib extension ($18.50) projected from the first two waves, which often denotes a corrective ABC structure - corrective meaning that it is moving opposite to the real trend, which is in this case down.
The second thing to note is the mini 5-wave structure (highlighted in blue) that came from that 1.00 fib resistance level, which then led to a further move lower in impulsive fashion. Silver is now down 10% from those highs in a little more than 2 weeks.
A good interim target for this decline is $15.85, and any subsequent retrace that holds lower than the start of the move, but more ideally stays below $17.75, could well be the start of the last bear market decline into the summer months.
Long term investors should already be buying at these levels, but I am still of the opinion that lower lows will materialize, and you may well get a chance to buy silver at $12, possibly even $9 in May/June.
For gold the pattern is a little murkier. We have a bearish impulsive count to the downside in progress, but we did not complete our upside move as cleanly as I would have liked to see.
(click to enlarge)
I have left the blue target box in place, but the potential for us having topped in this bear market rally is evident, and we could therefore be starting our ultimate move into the bear market lows.
In an impulsive move higher, we should not have broken the $1255 level, let alone have overlapped the $1237 early December high. This is a warning to those looking for immediately higher prices - bear markets may end with a whimper, but bull markets don't start with non-impulsive overlapping waves.
A good interim target for this move lower is $1184-$1198, and the form of the subsequent bounce, should it come from there, will tell us if we are to make new local highs into the blue target box or not. Ideally we would need to hold Friday's low to give that a better chance.
If we do complete a 5-wave impulsive decline into the above support level, any subsequent rally that holds the $1308 January high, but more ideally $1275 would be a big clue that we are on the way to new lows.
The next lower target in this bear market decline is $1086, followed by $1025, and possibly as low as $897.
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