Thomas
DeChastelain
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Bullion Charts and Commentary for May 22
posted May 22, 2004 at 09:04PM

Gold Short-Term Price Action

Commentary

Let us first dispense with the Prechtarian view of things. Any system of analysis that describes the best performing sector of the past three years as being in a "counter-trend" rally is of little practical use to traders. If the last three years was a bear-market rally, then the thought of a bull market should give one a case of the greed giggles.

Full story follows charts below...




Gold Three-Year Moving Average Study



Gold Daily



Gold Weekly



Gold Monthly



(Note: The annotation of "no technical divergence" should be shifted to the right. It refers to currenct stochastics action. Note that every secular change in trend for gold (bear to bull, bull to bear) was accompanied by divergent stochastics action. the lack of stochastics divergence, to me greatly mitigates the bearish crosses on the MACD and PPO, although it does suggest a stronger than normal correction)

Commentary

Let us first dispense with the Prechtarian view of things. Any system of analysis that describes the best performing sector of the past three years as being in a "counter-trend" rally is of little practical use to traders. If the last three years was a bear-market rally, then the thought of a bull market should give one a case of the greed giggles.

So we have three basic options of looking at the gold sector at this time.

1. Gold has just completed a routine correction in an ongoing bull market and is now resuming a new major leg up that will take gold and gold stocks to new highs

2. Gold completed its first major bull move in January and is in a corrective process which will retrace a portion of the entire move up. The recent northwards action constitutes a relief rally unwinding extremely oversold conditions.

3. Gold is entering a sustained bear market period.

All three merit discussion but to be upfront my personal view of the sector leans towards the first two with the edge going to the second option.

Sustained Bear Market?

If it were not the Triple Sell call of Dr. Kerns and the bear market call of McClellan I do not think the possibility of a sustained bear market would have occured to me. However both of these analysts have long records of success in calling the gold market, and one cannot simply put thier analysis as the rantings of idealogical perma bears.

Still, one of gold's attributes is it's inverse correlation to the USD. To say that gold is entering a period of sustained bear market activity is to say that the USD will either stabilize above recent lows or actually proceed on a bull market of its own.

A strong counter-trend rally is one thing...but a bull market?

Obviously this flies in the face of "fundamentals". We have Vietnam-type war spending combined with Reagan-era type fiscal policy. Debt is reaching levels that can only be appreciated by people used to dealing with astronomical phenomena. A deteriorating set of government books is only going to get worse and not better.

The deflationist argument is that there is not enough cash to support the amount of debt and credit in the system and that when the pyramid implodes there will be a rush to sell assets and raise cash. I see this as a temporary phenemona...and although it may effect people and businesses...it will not effect the Federal Government. As long as they have electricity to run the presses they can print the money needed to handle any debt obligations.

Now timing all of this is one thing, and always open to debate and interpretation, but in the "big picture positioning" sense there can be little doubt that at some point, the USD is going to circle the drain.

Under the Surface

The real chink in gold's armour is the disturbing weakness in overall demand. I refer you to recent World Gold Council Research and Statistics.

The bottom line is this...year over year comparing Q4 2003 with Q4 2002 supply increased by 2.89% and demand FELL by 10.6%. Can you imagine what would happen to oil prices if supply went up by 2% and demand dropped by 10%?

Now one can spin numbers all one wants, but these numbers are just another sign that the gold industry itself is still asleep at the switch, lulled into complacency by the soaring COMEX price action as well as exploding share prices.

Consider an environment where it rains continuously for three years and the forecast calls for more of the same. Would you expect "demand" for umbrellas to drop 10%? In an financial and geo-political sense it has been raining for three years. How can the demand for gold decrease?

First using the word "demand" is misleading. I believe it is more accurate to to use the term "amount sold". I don't think there is any problem with "demand". The demand IS there, growing but untapped. The problem is one of ACCESS to physical gold products.

The situation is really nothing short of abysmal. You can walk into any jewelry shop and plop down thousands of dollars on a watch that has a bit of gold in it. On the Home Shopping Network people spends hundreds of dollars at a time buying watered down 10K jewelry that is little better than the costume variety. People spend hundreds of dollars on bogus coin collections whose true value is equivalent to the change you have in your coffee can.

But 99.99 percent pure gold?

Quite frankly these statistics show that the gold industry has to do a complete re-think on how it packages, distributes and sells it's product to Middle America.

If the goal is to promote the use of gold as a viable asset class for average citizens, then The World Gold Council's plan to promote gold jewelry is simply a waste of time and money. Can you imagine Dupont promoting plastic by advertising vases? It is laughable.

Indeed the entire gold community needs to suck back and rethink their strategies. First and foremost is their obsession with Comex trading pits. Look, the dollar can plunge and speculators can push the COMEX price of gold to great heights, and yet the goal of having gold as part of people's financial security will ultimately fail if people do not embrace the holding of physical bullion.

Trying to convert professional speculators who use highly leveraged instruments to buy paper futures, to suddenly have the same mentality as people who accumulate and hold physical bullion, is the ultimate act of trying to square the circle.

Trying to convince "average citizens" that the COMEX is the place to get your gold is simply a non-starter. And telling the average retail investor to get into the Comex pits to "fight the good fight" against powerful financial institutions is inviting lambs to the slaughter. The expertise, skill and finanical backing needed to thrive in this environment is simply way beyond the pale of your average mutual fund investor.

Now re-reading this I realize some people may interpret this as arguing the sustained bear market case. Not at all. As I said I feel the overall environment for gold is just too bullish for that to happen. In fact perma-bears have been flailing the decreasing "demand" figures for the whole three years that gold has been rocketing up, all to no avail.

The point I AM trying to make is that the battle to make Middle America embrace gold as a financial asset, and what happens on the COMEX have only the most tenuous correlation. Indeed victory in the former can only come by moving the sector's efforts to terrain in which the COMEX has no control over, and where the battle can be fought on favourable terms, not on the terms of the Empire.

Fix the problem of access and the COMEX will sort itself out in no time. But until that problem is fixed, the "fair advantage" will remain on the side of the commercials who can add to thier short postions with little worry.

Option 1 vs 2.

Many respected analysts (Maund, Aden Sisters, Roulston,Russell) are championing this option. This is on the strength of bounces off fib and weekly support trend lines. The oversold nature of the sector, as well the development of divergences on the daily scale give strong arguments that this bull action will have some legs.

I must admit that having been away while gold bottomed, I am a bit resistant to start chasing gold vehicles after the easy money has been made, and various indictors are starting to run into, or are soon to run into, short term resistance levels. As a contrarian, I find the ease with which so many people have returned to the bullish wagon a bit disconcerting. I would have preferred a more thorough cleansing.

Now that could be subjective, wishful thinking coming to the fore...when you are holding stock you want it to keep going up and up...when you are in cash on the sidelines, you want things just to keep going down and down, until the deals just get silly. Obviously 395 area is a huge congestion area...breaking through that with strength would have tremedously bullish implications. If this is the start of a major new bull leg then there should be plenty of opportunities to get in at good entry points.

However given that there are so many people that are arguing the option one scenario the devil's advocate in me wants to present the case for the more bearish scenario. There IS a case to be made that what we are seeing is just a tradable relief rally; and that the corrective process for the gold sector still has more to go. In short, that this correction is NOT just like the others.

The bearish crosses on the monthly MACD and PPO, are signals that, I feel, can be ignored only at grave risk to one's financial health. Note as well on the weekly chart how gold just plunged in one straight line to the support of the 65-week moving average. Conventional wisdom suggest that, at the least, some kind of retesting will be in order, if just to unload the short-term swing traders, and to test the convictions of the shorts.

As well one can point to the action of gold stocks themselves (Gold Major Index Charts and Ratios), where long term trend-lines on the HUI were broken and we have the 50ema trading below 200ema. Until that gets resolved I am inclined towards cautiousness here.

The highs made by the HUI met measured move targets from the triangle break-out. Triangles tend to proceed final legs of major moves, which implies multi-legged corrections to follow

As well, corrections that retrace a good portion of first-leg gains are universal in young bull markets. It happened in the tech sector and eventually it WILL happen to the gold sector.

Looking at the USD chart $USD Price Action Update one can see that it still closed above a short term trend-line. A move below this line, is to me, a necessary prerequisite for picking up some gold stocks for those who have not yet participated.

The oil price is a also huge wild card here. A sudden drop will certainly influence how trading will pan out in the short term.

I am loathe to give trading advice as too much depends on your current position, trading style and a host of other variables. One can pick up a basket of nice juniors for under $2, go do a Rip Van Winkle, and come back in a few years to find all is very well. Of course, for others what happens in the interim is of the utmost importance.

Good trading.

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