In my revised book, Trading Precious Metals, I review the fact that the newest generations are "once removed" from gold as a monetary standard. Therefore, it is no wonder why investors have been extremely slow in picking up gold as an inflation hedge. Sure, everyone has heard that gold was or is...or should be an inflation hedge. But the new breed of investors lacks the personal experience to fully grasp the relationship between gold and a deteriorating dollar.

Regardless of gold's divorce with monetary standards, it has maintained it resilience to the point where investor interest and participation has been renewed. Most notably, physical gold is represented as an Exchange Traded Fund (ETF). In this new paper form, gold can easily be added or removed from stock portfolios. The innovative approach makes gold available to everything from speculative accounts to retirement funds.

Undoubtedly, gold broke out of its wide trading range when it challenged 45600 resistance. We see a pattern of rising tops and bottoms since June. With the breakout above 46000, December gold futures is forming a classic triangle with resistance at 47500. This is where we are as of today.

Last week, I moved into long December gold at 47600 and 47100 for an average. Having taken advantage of the first leg up from 43000, we were hit by the volatility within the triangle. Now, prices are touching the upper constraint at 47500. This is viewed as a barrier to the anxiously awaited $500/ounce mark. Frankly, it seems amazing to me that gold took such a long and erratic road towards its correlation with oil and the dollar. With that delay behind us, many traders have expressed concern that a decline in oil surely represents a decline in gold.

If we consider gold to be an inflation hedge, crude oil is not the main concern. Instead, our focus should be on the U.S. Dollar and a more generalized inflationary view. Look at the relative prices of copper, silver, beef, pork, real estate, and energy. Who can possibly think that price levels are declining?

The problem is deception. The long followed Consumer Price Index has been totally distorted by subjective adjustment. While the CPI is used for indexing just about everything, its reflection of raw prices is amorphous, at best. When it comes to price levels, the "quality" of new and improved goods has nothing to do with reality.

Heck! If this were the 70's, gold would be above $1,000 and silver would be better than $100 for sure! But, we must reeducate the investing public in the link between hard assets and rocketing commodity prices.

Coming from me, any bullish sentiment for gold and silver is counter-indicated! After all, I was blasted for my first precious metals book, The New Precious Metals Market because I presented a bearish outlook for precious metals under the assumption of stable commodity prices. Every gold bug and silver bull wanted my head!

My logic has proven remarkably true to these markets. Under present circumstances where crude oil is above $50 per barrel, gold takes on new and renewed significance as an inflation hedge.

Coverage would not be complete if I left silver out of this week's analysis. We are holding December silver long from 71200. I shocked subscribers with this recommendation because most of my writing about silver has been bearish. I was concerned when I saw hefty additions to COMEX warehouse inventories in September with prices still rising. Normally, I do not like to buy into rising inventories. When prices held through producer sales, we had an indication of rising demand.

We see that silver has not made a definitive breakout above 77000 resistance. Since May, silver had been drifting lower until the breakout from September's consolidation flag. When the second such flag formed between 72000 and 75000, I was encouraged to think silver wants to make 80000 before the December contract expires.

When considering the lengthy technical trading range since February, a breakout above 77000 is certainly capable of propelling prices above $8. Thereafter, a lack of producer selling can finally take prices into the double digits. "Hurray!" screams the bulls. But, caution is in order. First, look at prior volatility. This is not a steady market, yet. Second, if crude oil plummets (contrary to popular belief), traders might decide to lighten up on precious metals.

The formations are more bullish now because we have a double consolidation with a new breakout close to our 77000 goal. The magic number calculates out at 77700 with a new upside of 81800.

My real surprise comes from copper. As subscribers know, I have failed at picking a top. This market just wants to keep on trekking higher. We are in uncharted waters with unprecedented new highs. Melt down those pennies! Buy Phelps Dodge and Freemont McMoRan!

Although it appeared December copper had peaked at 17000 resistance, the decline to test 15800 support was brief. Prices shot back up above resistance to make continuous new highs. Rumors that the rebuilding of New Orleans and other affected areas would suck down copper inventories manifested in more bullish activity. Frankly, I have nothing to say. My discussions with producers left me with the impression copper was pouring out of the mines. Well, it probably is! And buyers keep buying. Can copper make $2/lb. by year end? Judging by the chart, the answer is, "yes."

(October 6, 2005) There is a presumed inverse correlation between the dollar and crude oil that comes from the empiric deduction that the cheaper the dollar becomes, the more expensive oil should be when priced in dollars. Yet, we see declining dollar parity in conjunction with a deteriorating dollar. Further, despite the undeniable strength of the U.S. economy relative to Western Europe, the Eurocurrency continues to erase the advanced our Greenback made during the spring and summer.

From any charting perspective, crude oil is in a slide. Prices busted below 6300 support and there is potential for a test of 5800 support. Will wonders never cease? Still, the media continues to hammer at the "fact" that energy prices are high, will remain high, and go higher. In a Fox News interview with President Clinton, our former leader appeared unequivocal in his prediction of appreciably higher crude oil prices. He stated that crude could "come down a little," but overall demand from China, India, and the developing nations will run us out of capacity very soon.

I seem to be a lonely contrarian in my belief that we are on an unprecedented growth spurt in energy exploration and development. In combination with an accelerated conservation movement, my sense is that we will experience an oil glut in the not too distant future.

Last week's attempt at selling the November 67 call/65 put crude oil option strangle for $3 failed to fill. Whew! While I have been correctly bearish, I was not as bearish as today's action indicates! We would have been well in the money on the short 65 put. Our breakeven on an expiration basis would have been 6200. Yikes!

With 11 days until November crude options expire, we can sell the 64 call/58 put strangle for 120 or better. Imagine...The 64 call is just $1 above the 63 put breakeven that was in my previous recommendation! Talk about volatility, there is little wonder why 11 days gets you more than $1,200 for a strangle that is approximately $2.50 out of the money on either side of the trade. According to options analysis software, the strangle has a 70% probably of success.

In the meantime, the dollar's upward trek, in conjunction with crude oil's decline from the August high, was rudely interrupted by the sharp drop from 9000 to below 8860. According to the newswires, dollar weakness results from the underperformance of the yen relative to the Euro and some bearish comments from Trichet. This is typical newswire "fluff" for lack of substantiated reason for the dollar's sudden correction.

U.S. interest rate trends should be supporting the dollar as they have since September when the dollar index made an interim bottom around 8600. Notice that all three contracts, i.e., crude, the dollar index, and T-notes are properly correlated before going into today's session. Suddenly, we see crude drop with the dollar index. Interest rates have ticked down as seen on the December T-note chart.

The question is, "Which action should take precedence?" Technically, the upward consolidation appearing on the T-note chart can constitute a continuation patter. This suggests that the rally is temporary and December notes will test 109'00 support. If true, the dollar index should regain its footing. But, much depends upon crude oil's consistency in pursuing lower levels.

I still feel that the interest rate trend remains up. This is why I recommended shorting December T-notes last Thursday for Friday's open. In typical fashion, prices are rallying. However, if the pattern represents a continuation, a bust below 109'09 can set the stage for a further dip to 107'00.

Consider that the reference low made in March is just above 106'15. The head of the Dallas Federal Reserve branch, Fisher described inflation as a "virus that cannot be allowed to infect the blood supply." It was a metaphor for a continuation of "measured" increases in short-term rates. At some point, bump-ups in Fed Funds forces the yield curve to shift higher...even if it flattens like a pancake.

October 6, 2005

Philip Gotthelf
Commodity Futures Forecast
P.O. Box 566, Closter, New Jersey
201-784-1235

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