Gold Will Have to Bend at Some Point

We were too early to look for gold market weakness -- or we were wrong. 

We believe we jumped the gun for now, but the more we look at the analysis, the more bearish we get. If you are participating in the February bearish gold spread that we suggested a few weeks ago, we recognize the pain. But we also would point out that time is on our side. Even if gold doesn’t necessarily go down, the implied volatility built into the call options should begin to erode, leaving the position better off, assuming the rally pauses or at least slows down.

In a previous newsletter, we noted the massive net long position accumulated by gold speculators. At the risk of being repetitive, we wanted to point it out again. The gold market has a bit of a Wild West mentality; it doesn’t conform to rules or always trade within the lines. Nevertheless, historically, when speculators have become this aggressively long in the market, the bulk of the buying is already in the rear-view mirror. Further, the inclination is for the market to find some sort of top, to trade lower to sideways.

Where we went wrong in our previous analysis is seasonality. We opted to put more weight on recent price patterns than the traditional 30-year seasonal data. As a result, we were expecting a gold high to be posted in mid- or late September, as has been the case over the last five to 15 years on average. But the 30-year seasonal pattern suggests the annual peak is often in mid- to late-October rather than September. If we are using this data, the seasonal high is due imminently.

The hard part about working with trendlines is they move over time. While gold has pressed higher, we’ve seen the long-term trendline resistance shift from about $2,650 to just under $2,750. The last two monthly bars have been pressing against the trendline without reprieve. 

Yet, even a quick glance at the chart reveals the rarity of this rally. We have had nine consecutive green monthly bars (assuming October closes the month positive). Even more unusual, gold has closed positively in 12 of the last 13 months. I don’t believe this has ever happened before, or at least I couldn’t find another example of it. Healthy markets generally back and fill, while parabolic markets are accidents waiting to happen. 

Of course, the standard disclosure is always appropriate – Markets can stay irrational longer than any of us can stay solvent.

Another notable aspect of the monthly chart is the Relative Strength Index. In the last 20 years, gold has only been this overbought on three other occasions; each of those resulted in substantial corrections, and a few of them lasted years. Will this time be different? Probably not, but that doesn’t mean playing it will be easy.

We don’t do a lot in silver when it comes to both analysis and speculative strategies. This is because it’s a market more prone to despair than success. Although the price of silver has maintained an uptrend overall, the massive spikes lower, followed by spikes higher, tend to leave most traders frustrated on the sidelines. In short, stop-loss orders are likely to get hit, options are wildly expensive, and stress levels are elevated around the clock five days per week. With all of that said, we have serious doubts that silver can surpass a band of resistance from about $33.50 to $35.50. If it does, we start looking at the mid-$40.00s and even a retest of the all-time high near $50.00, but we aren’t willing to accept that fate just yet. 

Some of you might recall that I’ve casually mentioned that I didn’t believe we would see silver at $50.00 again in my lifetime. I mostly meant it, but even so, I wouldn’t want to be an aggressive bear. Silver is far less trader-friendly than gold, and I think we can all agree that gold can be a rough ride.

We can’t help but think the markets are front-running the election. If that is the case, today’s trends risk being exhausted.