The gold chart that accompanies this article (courtesy www.stockcharts.com), shows the gold price bumping up against resistance at 440.
It is the level where sellers have stopped buyers twice before. The fundamentals favor a rally to the upside. Some of the reasons are: Reduced central bank selling, lower mine production, hedgers reducing their hedgebook commitments, gold rising in value versus a number of currencies besides the U.S. dollar, and steadily increasing demand from Chinese citizens, who are actively encouraged by their government to buy gold.
Nevertheless, some alarm bells went off Friday June 24th when the latest COT report showed Commercial Traders as having increased their net short position to 144,000 contracts. More and more traders are keeping a weary eye on these commercial traders, sometimes referred to as the 'smart money'.
It pays to remember that Commercials are created just like the rest of us. They are in the business of buying and selling gold, and they expect to make a profit. They, like us, prefer to 'buy low, and sell high'. To this end, as a group, they habitually increase their net short position as the price rises, and buy back their short positions during subsequent corrections.
It is the 'nature of the beast' that a bull market spends more time correcting than advancing.
It was Mark Twain who observed: "History never repeats, but it often rhymes."
The good news is that this presents us with many opportunities to trade. It behooves us, as successful traders and investors, to load up when the commercials are buying, and to take some profits when they are selling. The commercials, (made up of mining executives, bullion bank representatives, gold processors, refiners, jewelry dealers, etc.), are generally speaking, a 'small wave within the big wave." Just like the rest of us however, they are unable to pick the exact top or bottom. "No one knows the future, but God."
"Markets often rise higher than you think is possible and fall lower than you can possibly imagine." ...Jim Rogers (Adventure Capitalist)."
No doubt some traders are a bit spooked by the most recent COT (Commitment of Traders Report), which shows gold Commercials net short 144,000 contracts. Generally speaking, if one traded solely on COT report info, this would be the time to sell. The number of shorts here is well above the average for the past 12 months. However, when we look back to Oct 5, 2004, for a comparison, we find that on this date the commercials were also short a large number of contracts, 154,000 to be exact.
We note that gold was trading at 420 just then, and anyone who used COT data to sell gold the next trading day, missed out on a nice 2 month rally which took gold from 420 in October 2004 , to 455 in December. Meanwhile the HUI Index of unhedged gold mining stocks rose from 230 to 245.
The conclusion we draw from this is that the commercial traders, although a dominant force, are not perfect, and COT figures should be considered as part of the decision making process, AND NOT THE SOLE COMPONENT.
My Gold Direction Indicator (currently at 60 out of a possible 100), consists of a number of different components, including COT statistics.
In the final analysis, successful traders use a number of different tools, and then they buy when it seems like the price is going to drop forever, and sell into those frenzies, when it seems like the price is never going to stop rising. When selling into one of those rallies, it makes sense to "park" 10% - 20% of funds, while waiting patiently for that 'gut-wrenching' day, when it seems like the bull market is over. Then, as soon as your trading system says 'go', you can buy with confidence, instead of wringing your hands.
In comparing the current bull market in gold with the bull market of the 1970's, we can expect to experience 3 stages.
I am convinced we are currently in phase #1. Very early in the big move. Ironically, when we eventually find ourselves in phase #3, many traders will disregard their trading rules, and believe in the 'to the moon' mantra. When we reach this stage, it will be very important for traders and investors to have developed a set of trading rules and to stick to these rules, and thus 'TRADE LIKE THE PRO'S'
28 June 2005
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Peter Degraaf is an online stock trader, who has been active in precious metals since 1965.
He issues a weekly email alert.
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