By John Winston
January 18, 2010
A lot of investment focus for outlook 2010 is geared toward inflation based assets such as gold and oil. What a change from the turn of the last decade when the rage was totally based on paper assets such as stocks, bonds and yes folks, even the US Dollar. Indeed the age of the Dot.Com stocks was the zenith of the paper world.
Right around the time the NASDAQ was peaking at the 5000 area, gold was bottoming at the 250 dollar area and crude oil at the around the 18 dollar per barrel price. How times have changed.
Today the question is not whether gold is a good investment but rather if the correction from December is complete and higher prices are forthcoming?
The chart above of the gold ETF (GLD) shows us the uptrend that the precious metal has been in. It is only investment that has made a post crash 2008 high and it certainly has a lot going for it as we enter this year. Inflation fears, currency crisis, debt default, physical supply, and a fundamental loss of faith in government and the financial systems has brought gold followers and analysts from being shunned at social events to at least tolerated today.
A look at the chart shows that gold is in a long term uptrend and is very reflective of the fundamental developments that are transpiring worldwide. But what about the short term outlook of gold? Has the lows of December provided the next buy opportunity here or is there lower price still lurking in the upcoming month or two? While we are long term bulls, there are a few things on the chart that has our short term attention. Let’s look at a few of the issues.
First off, the arrows on the chart highlight something pretty important when it comes to a volume spike. And that is when they occur the potential for good sized corrections are at their most likely to take place. The past few years and the arrows on the chart confirm that. But more importantly is that when they occur at or near the top of the upper channel line in conjunction with MACD and Money Flow indicators turning down, price has always retreated to the bottom of the channel line before initiating a new sustainable bull market run. Now while that may seem a long way from here, historical precedence argues that it is the most likely course.
The red moving average is the same as the 200 day moving average only it is measured in weeks. Notice how often over the past three years that price has pulled back at or very close to that average. The fact that it is now resting at the same area as the lower channel adds weight to the potential of a correction in gold to reach that area. The fact is that markets do not go long periods of time without testing that all important average. The chance that 2010 will not test the 200 day average is not very high.
How about the money flow indicator at the bottom of the chart? Notice that there has not been ONE PRICE BOTTOM during the last three years that did not have the Money Flow Indicator touching the lower price line at the 20 area when gold’s bottom occurred. This is yet another indicator that has me cautious of calling the all clear for gold over the short term.
How about our MACD indicator? While this indicator has not been as concise at trend picking, we can see that the times MACD was in a downtrend, gold for the most part followed it down. Currently this indicator is on the verge of turning down as well.
While I don’t use technical indicators as my buy and sell tactics, I do like to look at them as coincidental indicators when I am suspect of trend direction. The fact that they are not in bullish mode adds to the concern whether gold has really made a significant bottom. Finally, if we look at all of the major pullbacks in the past few years, we can see that pullbacks usually do not have one straight line down for 4 weeks and then a resumption of the trend. In fact, the shortest ones lasted in the 8 week timeframe and others were much longer.
Since the beginning of the month and year, a nice two week rally has unfolded in Gold running gold up from 1075 to the 1160 area at its peak. As we close out the week, we can see that gold and the 50 day moving average (the blue average line on the chart) are both at the same place in price. For GLD that price is the 110.80 area.
So where does this leave us on the short term?
While we have re-iterated we are long term bullish on gold, our analysis of the conditions on the chart above leaves us in a NEUTRAL position as it relates to the short term. Here’s what we are looking at.
From a short term basis, gold has reached a decision making area. With the exception of November, which was a blow off month for gold, price usually begins a sideways pull back from mid month to end just in time for options expiration and such. Therefore should gold fail to exceed last week’s high in the metal and the ETF, odds will favor that an end of month short term low could develop. From a price perspective, GLD has a gap in price at the 107area and two short term support points (see blue arrows) at 105 and 100. We would expect a pullback to one of those areas depending on the strength and/or weakness that gold exhibits over the next few weeks.
Also on the short term decision plate is how the 10 and 39 day averages are situation right where price and the 50 day average reside as well. This merging of price with the 3 moving averages confirms our neutral stance over the short term. From here we will look to see which way price breaks and will look for a low risk entry when time such an opportunity.
From a medium term perspective and a historic seasonal basis, gold should be closer to the end of this current rally leg than its beginning. Price has more often than not been in its upper range come February over the history of gold. With a 540 dollar rally over the past 14 months, it should stand to reason that the potential for a deeper correction than what we’ve seen is a possibility. If one studies the chart, there is usually a mid-winter sell off in gold. In strong years the rally can extend into the spring but it is not the norm. The point is we should expect a correction at or near this time of year. Rather than guess at its beginnings, we will look to see breaks of the support areas we listed above as increasing the odds of such an event.
With the 200 day average right near 100, a pullback in 2010 towards this area might provide a good set-up entry from a medium term perspective. This has been a solid buying area the past few years with the exception of the 2008 crash. It is a rare year that gold or any market for that matter does not visit this key average. Medium term investors should have cash ready to put to work if such an occasion were to develop. However, there are important considerations and technical work that needs to be done at the time of each test of key support area and one should not just purchase at that price blindly.
When we think about it, there are really only 4-5 good swing trades per year. When price patterns, support areas, technical timing indicators and sentiment all line up, it is then that low risk entries are presented to us. Even a short term trader will notice that the above chart of daily gold only required one or two trades per month for maximum efficiency and profit.
Investors on the other hand who are not worried about the weekly blips but are concerned with the yearly trends should be trimming down their positions this time of year and reducing their exposure, not increasing it in a normal year. Unfortunately, things are anything but normal these days. Regardless of that fact history shows that the best performance from the end of winter into the June timeframe is crude oil.
One look at the seasonal chart below shows that the best time of the year to own crude oil is to plan purchases in mid to late February when the seasonal tendencies of crude produces the best rallies usually. Interestingly enough this is when gold usually takes a back seat to oil in the same timeframe. If an inflation investor is your modus operandi for 2010, a portfolio rebalancing in February might be an interesting tactic to execute. If inflation is a problem, oil will follow gold higher. Indeed, history suggests it outperforms it in the spring.
Over the past week oil has once again closed lower on weakness. The seasonal chart below shows us that is exactly what we should be expecting during this time of the year.
The key now will be putting together a low risk entry in the same manner we described earlier in the article as it relates to gold.
When we place the seasonal chart close to the oil chart we can see the inconsistencies with the seasonal at first glance. However, the most important factor was the late February low was correct in forecasting a great entry price for crude. The seasonal called for a pullback from April to June which did not occur in 2009. However the seasonal shows that the second best time to buy crude is the July time frame on the seasonal. Look how July provided the second best time to buy crude on its chart.
Now we are in a timeframe where crude should become its weakest and if history is with us, should provide a great opportunity mid winter. Here’s where one wants to look at the extent of the coming pullback. We know crude should be weak. There are three key price areas that have produced lows since July. These are the areas that should be watched for a potential winter low.
In summary barring another crash of epic deflationary proportions as a few advocates have surmised, the gold and oil market should continue to provide a bull market status. Those heavy in gold might want to consider a trimming of some of the great gains, and shifting a bit into crude oil come mid winter.
At Commodity Trader our focus and emphasis is always on waiting patiently for low risk set-ups in the metals and the oil markets. Come by and visit our site and check out what we’re specifically recommending.
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