What Do Stocks and Bonds Tell Us About Gold’s Future Moves?

Gold prices fell last Tuesday for the first time in eight days and Wednesday gold fell below $1,600 an ounce as buyers stayed on the sidelines ahead of the meeting of the U.S. Federal Reserve which announced Wednesday a modest increase in its efforts to reduce borrowing costs for businesses and consumers. The Fed voted to extend its existing “Operation Twist” asset-purchase program through the end of the year. In plain English, the Fed will keep selling short-term bonds, and using that money to buy long-term bonds. It gets its name not from the Chubby Checker song but from the Fed trying to twist the yield curve.

The Fed has decided to play a game of wait-and-see.

Recent U.S. economic data has been as soft as the belly of the Pillsbury Doughboy and the Fed’s decision reflects that. There is growing concern that the economy is once again faltering into the summer months after the false start of a relatively strong winter. The Fed’s policy-making committee said in a statement that it expected the economy would continue to grow at a “moderate pace,” but it noted that “growth in employment has slowed in recent months,” even as inflation has declined.

We will now turn to today’s technical portion with the analysis of the S&P 500 Index chart and try to see whether Ben Bernanke’s speech had any influence on the general stock market (charts courtesy by http://stockcharts.com.)

In the long-term S&P 500 Index chart (if you are reading this essay onsunshineprofits.com, you may click the above chart to enlarge), we see that stock prices are still above the declining red support line but not above their 2011 highs. Stocks moved sharply lower after the latter level was reached and Ben Bernanke’s speech did not give markets what they were expecting. Actually, Fed’s chief speech could be interpreted in the following way: the economy is not yet weak enough for QE III and we want to see lower stock and commodity prices before we make another move. Lower stock prices appear more probable from here.

Let us now take a look at two ratio charts, that measure gold’s strength relative to other assets. We’ll begin with gold to bonds ratio chart.

Looking at the chart, we see that the situation has recently become a bit more bearish as the ratio is once again slightly below the rising gray line created by local bottoms seen over the past six years. This could be viewed as another breakdown which would likely indicate that another major decline is in the cards.

Now, let’s move on to the Dow to gold ratio chart.

In this chart, we see that the ratio is once again slightly above the declining red resistance line. It seems that the recent breakout has not been invalidated as gold prices moved lower, thus pushing the ratio higher. If gold continues to underperform stocks for some time (a few weeks), we could see a confirmation of the breakout and a powerful downswing in gold prices.

Summing up, the situation for the general stock market appears bearish from the medium-term point of view. The Fed wants to see lower prices of stocks and commodities and it seems that they will. The situation for gold is also rather bearish for the medium term as the gold to bonds and Dow to gold ratio charts suggest that another decline may be in the cards. More details including gold, silver and mining stocks analysis (with price targets) is available to our subscribers.

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Thank you for reading. Have a great and profitable week!

P. Radomski
Editor
www.SunshineProfits.com