GOLD BUGS – ON THE MOVE
Howard S. Katz
July 14, 2008.
Gold had a dynamic half year (from Aug. ’07 to March ’08), but was somewhat lackluster during the spring. An analysis of this quiet period is very revealing. It was a pause, probably in the middle of the bull move, and will carry another (approximately) 7 months and 55% into early 2009
First, we must always keep in mind that gold is moving up because of large-scale economic forces, the forces I call the commodity pendulum. In short, almost all commodities are in a massive, grand cycle up move which will almost certainly last from 1 to 2 decades. Too many gold bugs pay no attention to these larger forces, but they are so very helpful in allowing us to make our forecasts. Gold is the best way to play this commodity move because as a general rule gold acts like a well-behaved commodity index. Each individual commodity has its own peculiarities. And usually one must study an individual commodity for many years before one can comfortably trade it. Gold, on the other hand, is a predictable, well-behaved good. It is only rarely subject to sudden moves, and it obeys chart patterns well. With gold, you have your choice of buying ETFs or buying your selection of many individual gold stocks. It is like going to a large supermarket with a wide selection of goods versus a small, corner store with few choices. So let us begin our analysis with a look at the Commodity Research Bureau (CRB) index. (And do not listen to those unpleasant people who are telling you to call it the CCI.)
Now the above is an impressive chart. And if we look at the period March through June, it has the shape of a symmetric triangle. A symmetric triangle is one of the chart patterns defined by Edwards and Magee in Technical Analysis of Stock Trends.
Most analysts get so focused on the details that they take their eye off the big picture. They delve into complex mathematical techniques which do more to show off how smart they are than to make their clients money. The Edwards and Magee chart patterns are simple and accurate. They don’t work all the time, but they do work most of the time. And when you can put several pieces of information like this together, the odds are very much in your favor.
The most obvious thing which jumps off the chart and hits us in the face is that the CRB, as well as gold, crude oil and indeed most commodities, put on a very powerful move which started with the sub-prime crisis of last August and continued into this March. Then, with the exception of crude oil and the energies, all of these goods had a pause over the spring. Several observations:
- When a good has a nice bull move and then starts to go down, the most natural assumption is that this is caused by profit taking. The extent of the profit-taking decline is a good measure of the strength of the major term. If the decline is small, the major term is strong. And the decline in the CRB this spring was almost non-existent. The decline in gold was modest. And crude oil and the energies did not decline at all but kept plugging ahead.
- The “decline” in the CRB took the shape of a symmetric triangle. Edwards and Magee tell us that a symmetric triangle is more likely to continue in the direction it had been moving prior to the formation of the triangle (in this case up).
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This was confirmed by the fact that the triangle broke out to the upside. Further, a triangle gives a price objective as follows: You draw a line through the highest point in the triangle (in this case mid-March) and make it parallel to the bottom line of the triangle. Be sure to do this on a semi-log chart, not an arithmetic chart (which is what I have above because my computer skills are not the best). When the price hits that line, this is the minimum price objective.
Further, if we analyze the Commitment of Traders numbers, we find that the large traders have been turning from bullish to bearish. But this is a good definition of an intermediate reaction in an uptrend, a period in which traders turn from bullish to bearish. For example, if we examine large trader shorts in the U.S. dollar (a group of people who are usually wrong), then they fell from 24,506 contracts on March 11 down to 7,181 on-June 17. You can’t hardly get much lower than that. Even crude oil, which experienced a similar decline in bullish sentiment saw its net large traders decline from 113,307 contracts on March 11 to 7,066 on July 8..
The dollar, quite frankly, looks like a drunken prizefighter on his last legs waiting for the final punch. Bernanke was dragged kicking and screaming to say that he supports a strong dollar. But to say that one supports a strong dollar and to actually do something about it are two different things. All around the world, central banks are raising interest rates. If the Fed stays where it is, then its relative position to other currencies deteriorates, and the dollar will plunge.
Now let us look at the chart of gold itself to see if it is telling the same story.
In June, the weekly basis chart of gold had formed a large head and shoulders top but had not completed by breaking the neckline. It is important to remember that no technical pattern or indicator is perfect. For this reason, I always go in accord with the weight of the evidence. If you have one indicator with a 30% chance of error and can add another indicator with another 30% chance, then the odds that both will be wrong at the same time are .30 x .30 = .09. That is, by adding the second indicator you have reduced your chance of error from 30% to 9%. And if you can add a third indicator, also with a 30% chance of error, then your chances of being wrong are .30 x .30 x .30 = .027. Now you chance of error is 2.7%, which is to say your chance of being right is better than 97%.
Thus the break of neckline for the above head and shoulders bottom on June 30 was a welcome event. When we add in the very bullish action of crude oil, the weak behavior of the dollar and the very powerful action in the CRB index, the probability for a strong advance across the board is very high. When you throw in Bernanke’s blunder with the dollar, it is not hard at all to see what is going to happen.
A symmetrical triangle often divides a move into two parts. The advance in the CRB from Aug. ’07 to March ’08 was 45%. The advance in gold was 56%. In the Aug. ’07 to March ’08 period, the gold stocks lagged behind the metal. But on this move the stocks are keeping up. Gold has made up 63% of its March-April decline, but the XAU has made up 70% of the corresponding decline.
If you are a gold bug and you miss this opportunity, you will kick yourself for a long time. On the move. You will want to check out my newsletter, The One-handed Economist, to see which individual stocks I recommend to best take advantage of this opportunity. If America is to be saved, it is imperative that as many gold bugs as possible get rich so that they can have a bigger share in determining the future destiny of the nation and can help to change the policies which have brought us to this pass.
You will also want to check out my web site (www.thegoldbug.net), which is my commentary on political, social and economic events: no charge. The One-handed Economist costs $300 per year. Subscriptions are available via the website.
Opportunity, dear gold bug, is knocking. It is your job to let her in.
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