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Sunday, September 27, 2009

Gold: What's Next?

So, predictably, Gold was hammered ahead of the “G-20” (nice little acronym for a criminal ruling elite, isn’t it? – more like mafia family heads getting together if you ask me) meeting in Pittsburg, Pennsylvania this weekend. What didn’t help matters (for Gold bugs i.e.) was the fact that 24th September was the expiry day for options with a large amount of open interest near the $1000 level, which BTW, were in the money on the 24th morning prior to “the attack” at 10 a.m. EST. The big banks who wrote the contracts pummeled Gold in order to pocket the premium of whoever was complacent/stupid enough to hold them into expiry thinking that the banks were about to let go of an opportunity to pillage the little guy.

Since we are at a critical juncture in the Gold market with what appears to be a volcanic explosion building beneath the surface to take Gold once and forever past the $1000 level, I’ll try to figure out where we are and where we are headed so we Gold bugs can navigate the shark infested waters that is the Gold market with some confidence.

Where We Are

Take a look at the triangular consolidation pattern that has been developing since February this year (Fig 1). Price broke out of that pattern forcefully in the beginning few days of September sporting heavy volume in both GLD and GDX (a proxy for Gold stocks) combined with a large increase in Comex open interest which gives us confidence that it was not a false breakout. Price went on to make several daily closes above the $1000 mark, including two consecutive weekly closes. Absent manipulation, I think this would have been THE breakout above $1000 that everybody had been waiting for so long and price would have just tested the $1000 level on subsequent declining volume as seen in GLD, GDX and other major mining stocks such as NEM – only now that Gold has broken through $1000 on the downside it will retest lower levels of support. No big deal – this has been happening all throughout this bull market and yet they have not been able to stop it from rising. They can delay its rise, but they can’t stop it. The real key is the paper market’s link to the physical metal. As long as shorts have the fear of delivery, price will rise. If and when they don’t, the futures market will cease to matter (or exist) anyways. Your best protection in these heavily manipulated markets is to not be over-leveraged and be able to take a hit at least upto 200 DMA (during price uptrends).

What Next?

The price has now closed below the 20 DMA which means that the 50 DMA is likely to be tested next (See Fig 1). Now, the 50 DMA is of quite some significance during bull moves as the price usually more often than not bounces off of it (just take a look at previous uplegs during this Gold bull so you know what I mean). The price may also test the top trend line of the preceding triangular consolidation pattern. What is interesting is that both the 50 DMA ($966.19 right now) and this trend line level are in the $960-$966 area. Also there was a five week period during the preceding consolidation where the price was basically stuck at $950, so this is another significant level. Hence I believe that we may see price retrace to $950-$966 before the next upleg, and hopefully rocketing past $1000 for good, but remember that we’ll need to see expanding volume in both Gold and Gold stocks to confirm it’s the real deal as opposed to last time around. This retest to lower level will give a chance to the bullion banks to reduce their short positions somewhat in anticipation of controlling the next upleg (I’ll do a brief update on the COT situation shortly). Also, this will coincide nicely with the Gold Bugs Index (HUI) retesting the recent breakout at the multi month resistance line at around 375, which is also its 50 DMA! See, everything is lined up so perfectly and nicely! There are two more scenarios, although less probable IMHO, but nonetheless we should be aware of:

1. There is massive almost unlimited demand beneath the $986 level (tested on Friday) and therefore price starts to rocket beginning next week without retesting any lower level. Shorts have to cover on rising prices causing a price explosion. This is also possible in case of geopolitical dislocations (e.g. Iran etc.)

2. A mini panic is precipitated causing a sell-off in all “risk” assets such as stocks and commodities (apparently, in our upside down world, Gold is a “risk asset” while the dollar is a “safe haven” – LOL!) thus causing Gold to fall below the 50 DMA and test the 200 DMA. If it does, it’ll be a God-given opportunity to acquire Gold at bargain basement prices for the last time. Let me make this as clear as possible – if Gold tests the 200 DMA, IT NEEDS TO BE BOUGHT. I don’t care if you beg, borrow or steal – JUST BUY GOLD. Period.

Let’s look at a few of more indicators which will provide us with some extra clues:

1. The Golden Cross Situation

Gold already put in a “Golden Cross” (50 DMA rising above the 200 DMA) sometime in the middle of February this year (See Fig 1). Of course, as with any technical indicator, nothing is 100% guaranteed, but the golden cross usually signals a sustained phase of price rise. We see that Gold has not made any major highs since the cross occurred, but we also note that it has remained well supported (flat is more like it). The fact that the Golden cross is still in place and all three moving averages (20, 50 and 200) are now steeply rising should give us confidence that a major bull run is about to ensue.

2. The Gold-Oil Ratio

Historically, the Gold-Oil ratio has been about 15, which is where it is now – all hunky-dory, as Benny Boy would like us to believe, only, IT’S NOT. The ratio rose steeply during the depth of the crisis at the end of last year and beginning of this year reaching a peak of 26.43 in March. The ratio has now undergone a “green shits” correction – BUT - since we are in a MASSIVE deflationary depression (in terms of Gold i.e., not fiat money) we can expect this ratio to be in a bull run throughout this crisis reaching new peaks, probably into three digits. There is now a massive bullish divergence between price and MACD on this chart signaling that the ratio is about to resume its uptrend – in a MAJOR WAY. This might mean three things (in dollar terms i.e.):

1. Gold will fall less than oil

2. Gold will rise more than oil

3. Gold will rise and oil will fall

My money is on the third outcome, and at some point on the second (when the helicopters really get going), but we shall see. The right strategy in March was to sell Gold (not necessarily short) and buy crude; now it’s time to buy Gold again.

3. The Gold-SPX Ratio

As expected, this ratio is also in a bull market reaching a peak of 1.39 in March and correcting thereafter. This ratio also looks ready to resume its uptrend as evidenced by the bullish divergence between price and MACD. In fact, being long Gold is a very nice way to be short the stock market, since stocks will fall (and have been falling) more in Gold than in nominal terms. A look at the Gold-denominated SPX chart since 2000 will convince you of this, as also of the fact that we have been in a deflationary depression since the tech crash. Those looking for S&P 200 will be sadly disappointed as the Government devalues the fiat scale we use to measure stock values thus propping up the stock market nominally, or at least not letting it fall too dramatically.

4. The US Dollar Situation

We are consistently hammered over the head with the “fact” that a drop in USD (what is meant is the dollar index or DXY really – a flawed and misleading indicator since it only measures relative rates of currency debasement) causes rise in Gold prices. “Gold prices closed below $1,000 an ounce for the first time in nearly two weeks on selling triggered by a dollar rebound” the Wall Street Journal noted recently, and “Gold ticked higher on Thursday, supported by recent dollar weakness” chimed in Reuters helpfully. Oh! I get it - Gold rises WHEN Dollar falls…right…ummm…so what the hell is this then?

It is clear that that’s NOT what always happens. Sometimes Gold is positively correlated with USD, other times inversely, and sometimes not at all. What should be clear to everybody though is the fact that a rising Gold price ITSELF represents “the drop” in USD (if you mean the purchasing power i.e. – the DXY really means NOTHING if that is what you are measuring). Gold is not volatile, the value of the dollar in which it is denominated is. In fact, as this crisis deepens and capital accelerates its flow down Exter’s liquidity pyramid, I expect more and more occurrences of USD/DXY (since USD is still the reserve currency of the world) moving higher together with Gold.

It is only and only a bull market in real money i.e. Gold – the correlations with equities or USD – real or imagined - will keep changing, reversing or completely falling by the wayside according to whatever favors Gold at the moment as this bull fully expresses itself in due course of time.

As for those of you who are still debating whether we are in a bull market in Gold, I just have one question to ask of you:

“Who will you entrust your life savings to?”