Briefly: the outlook for the precious metals market is very bearish for the following months and weeks
Welcome to this week's Gold Investment Update.
The most important analogies and long-term trends didn't change during the previous week and most of our previous extensive comments remain up-to-date. In fact, precious metals' huge decline confirmed many of the points that we've been making. It also made our short positions (opened on February 21st) very profitable. Of course, in today's analysis, we will update whatever needs to be updated or added. The parts that we didn't change (or changed only insignificantly) since last week will be put in italics.
Something major has just happened. Namely, crude oil plunged below $30 overnight as Saudi Arabia ramped up production following Friday's OPEC+ collapse. At the same time, treasury yields plunged to fresh record lows and the USD Index plunged once again, moving very close to its 2019 lows.
The current market expectations regarding the upcoming Fed meeting are very dovish.
The rates were just slashed by 0.5%, and yet - today - people are expecting the Fed to slash rates by either another 0.75% or (most people) another 1%.
Low crude oil price are generally positive for the US economy as this implies lower production costs. So, why would people expect the Fed to take VERY aggressive measures now?
Fear.
People's fear of the coronavirus as measured by the search interest in "coronavirus" has gone through the roof - it's over 5x as big as the interest in "ebola" was in 2014.
Crude oil just dropped over $10 overnight, the USD Index dropped over 1 index point (almost 5 index point drop in just a few weeks). People's expectations regarding interest rates have dropped extremely (since markets are forward-looking this is practically almost as important as if the rates were already lower) - almost 2% in just one month. Also, the stocks are plunging - the S&P 500 futures are down by about 17% from their recent high.
Isn't this excellent time to buy gold?
No. Everything that we wrote in the previous paragraph has already happened, which means that gold has already reacted to it. And in what way did it react? It just moved to its previous high. This week started with an attempt to move above it, and this move failed as gold reversed its course and at the moment of writing these words, it's only 0.18% higher. On the other hand, silver is over 2% lower and it's once again trading below $17.
Given all that happened in the last 2 weeks, and especially given what happened overnight gold "should be" trading MUCH ($100+) higher. Gold just failed to react to a series of very positive events, which tells us that it's about to move in the other direction. The technical confirmations - weakness in silver and mining stocks - are already present. Silver is already attempting to break lower, while miners have not yet started trading today. Still, they refused to rally close to their previous highs on Friday, even though gold was moving temporarily above its previous high. That's a clear underperformance sign and one that tells us that lower precious metals values are to be expected in the following months and weeks.
Plus, what can the Fed do on its next meeting? It already panicked and stimulated the economy based on something that might have been just a temporary fear-driven correction. People got scared even more and they now expect the Fed to deliver at least (!) a 0.75% cut. Some expect more, which means that - on average - if the Fed cuts the rates by 0.75%, it will likely still be viewed as hawkish. To some people that will be normal, and to some, it will be a hawkish surprise as they expect an even bigger cut.
The decline in crude oil is not a factor that supports interest rate slashing.
Regardless of the above rate discussion, based on how gold is reacting to the increased fear of coronavirus, it seems that people are starting to realize that gold will not save them from a virus. It might be very useful in case of an economic collapse, or a new World War. But in case of a virus? Not really. People's initial reaction to every shock might be to buy gold, but after the initial reaction, the logic comes into play, and it doesn't necessarily imply the need to protect oneself with gold against the virus. In fact, if the virus becomes even more widespread, then people would likely prefer to stay and home as much as possible, avoiding contact with others. This means that they will also prefer doing business and shopping online, without cash, or gold. There are many crises in which gold gleams strongly, but it doesn't seem that it's one of them.
In other news, the gold to silver ratio just hit the 100 level - something that we viewed as a very important target. It was suppose to indicate a market extreme, likely the major bottom. But does it? We'll move to that shortly.
Let's start with a quick reminder about the current situation with regard to the U.S. Presidential cycle and how is gold likely to react to further rate cuts and QE4.
Assets' Returns and Presidential Cycle
Average annual return of S&P (1948-2015, green line), gold (London P.M. Fix, 1972-2015, yellow line), silver (London Fix, 1972-2015, blue line), XAU Index (1984-2015, purple line) and HUI Index (1997-2015, red line) in presidential election cycles.
Gold's performance is more or less average in the election year, but in case of silver and mining stocks, we see something very different. Namely, the election year is the only year when - on average - they all decline.
So, does it mean that gold won't be affected by this specific cyclicality, but silver and miners will be? Not really. It seems that the above chart shows that silver and miners - on average - lead gold lower. They perform worst in the election year and the yellow metal is the worst choice in the following year - the first year of presidency.
Silver and miners have already been performing very poorly relative to gold if we look at the long-term charts. Did silver or miners exceed their 2016 highs? They are not even close, especially silver. So, it seems that the pattern that we should be seeing at this time of the U.S. Presidential cycle, is already here and it started a bit earlier.
This means two things: even more weakness in silver and miners that we saw, and gold catching up with the decline.
Now, since it's the election year, it's imperative for Donald Trump to get support from rising stock market prices and good economic indicators. So far it doesn't look like a good year for stock market investments. Of course, the Fed, not Trump makes monetary policy decisions, but the pressure from him might be enormous and the Fed might support easier monetary policy.
Even without that pressure, Fed might be "forced" by the market to provide more dovish policy. Naturally, the market can't make Fed do anything in the direct sense of the word, but the Fed knows what the market expects. And based on the recent slide, and Fed's surprise 0.5 cut, the market is now expecting a 0.75% - 1% (additional) rate cut.
This means that if the Fed really wants to impact the stock market, an even deeper rate cut would be necessary. The markets are forward looking, so whatever was likely to happen based the change in the interest rate level, has likely already happened. And stocks, gold, silver, and miners plunged anyway.
This means that if the Fed cuts rates by only additional 50 points, the market will view that as a hawkish surprise and could tumble further, even though theoretically such an interest rate cut should support the economy and benefit the stock market.
Without a 125 or even 150 point rate cut (yes, this means moving into a negative territory), it seems unlikely that the markets - including gold - will react in a meaningful way... Unless the Fed also comments on making the policy more dovish in general and markets start expecting even bigger cuts in the future. In short, the Fed would have to announce QE4 or NIRP to provide the real dovish kicker to the market. And while it might happen - especially the former - it might be too soon to expect it this month, as the Fed already cut the rates by 0.5%.
And what if the Fed launches QE4?
Well, let's see what the previous quantitative easing programs did.
Quoting from our explanation of the link between QE and gold:
"The effects of quantitative easing on the gold market depended on how it was perceived by investors. Initially, after the financial crisis of 2008, quantitative easing was positive for the price of gold. It was a new and unprecedented program, which undermined the investors' confidence and caused a fear of inflation or even hyperinflation. However, the U.S. economy recovered after some time and there was no inflation on the horizon. In consequence, the price of gold entered a decline in September 2011, just two months after the end of the QE2. As the confidence in the Fed and the U.S. economy was restored, the third round of the quantitative easing was welcomed by the investors. The increased confidence reduced risk premia and the bidding for tail risk insurance. Consequently, the stock market rose, while the price of gold declined."
QE1 was very bullish for the precious metals sector - the market was surprised, and the precious metals market was already after a huge decline.
QE2 was still bullish for the PMs and miners, but not as much as the first round.
QE3 started in the final part of 2012 and as it continued, PMs and miners declined profoundly. QE3 didn't prevent the decline.
Each round of the QE program was less bullish than the previous one. This trend doesn't suggest placing a lot of bullish faith in QE4 with regard to the precious metals market.
The most bullish QE was the one that was launched after gold had already declined severely for months. This is definitely not the case right now. What is the case right now is that gold just declined tens of dollars despite the dovish change in investors' expectations toward interest rates. This suggest than neither rate cuts, nor QE4 may be able to stop the decline that just started - at least not on their own and not until gold drops much further.
One more thing regarding the elections. Trump is the anti-establishment President. Perhaps the "establishment" actually wants the stock market to tumble this year, to make sure that the next U.S. President will be pro-establishment. Consequently, perhaps the stock market won't be saved until it drops much lower, and until the U.S. dollar is soaring much higher, proving that pro-lower-dollar-Trump was unable to get what he aimed for.
Rhodium Update
Moving on to the technical part of today's analysis, let's take a look at rhodium. Practically everything we wrote on it last week remains up-to-date as rhodium is testing its recent highs of about $11,000 - just like gold is.
Many people never heard of it and it's hardly a surprise. You know that palladium and platinum markets are tiny compared to silver, which in turn, is small compared to gold's market. Well, rhodium's market is about a tenth of the size of palladium or platinum. Rhodium isn't traded on exchanges and the market for coins and bars is very, very small. Rhodium is mined as a byproduct of platinum and nickel and its mainly used in autocatalysts. There are other applications as well (Swarovski jewelry is often rhodium-plated for instance).
The most interesting thing about rhodium is how much it rallied recently.
This month, without a major shift in its supply or demand, rhodium soared to its new all-time high above $10,000, greatly outperforming other precious metals and almost every other asset. It's not very far above its July 2008 high, so rhodium prices are very vulnerable to a sudden selloff. The situation will become bearish only after the breakout to new highs is invalidated, but given the parabolic nature of rhodium's rally, the move higher looks very unsustainable.
The drop that followed the 2008 top was extremely sharp so everyone invested in rhodium right now might want to consider moving their capital somewhere else.
The demand coming from Asia is big, but this doesn't justify the near-vertical price rally. This demand wasn't absent just a year ago and yet rhodium was not skyrocketing as it is right now. Rhodium seems to be in a price bubble that's likely to pop.
There are very interesting implications for the precious metals market in general as well. You see, the tiny and most volatile parts of a given market tend to behave very specifically. Juniors, for instance, tend to outperform senior mining stocks in the final parts of upswings. Rhodium, being the tiny part of the PM market, could be showing us that what we see in the precious metals marker right now, is a medium-term top.
That's the theory, but did this theory work in 2008, when rhodium topped?
You bet it did.
Rhodium topped in July, 2008 and that was when gold formed the final high before one of the sharpest and biggest plunges of the past decades. In case of silver and mining stocks, it was the beginning of THE sharpest decline of the recent decades.
There are very few analogies that could be more bearish than the one that rhodium is now featuring.
Actually, given the fact that volume on which the 2008 top formed and volume on which gold topped recently are relatively similar (gold volume spiked in both cases), the above analogy is confirmed. Additional confirmation comes from the fact that in both: 2008 and 2020, gold tried to rally to the previous highs, and failed to reach them. In 2008, rhodium soared during this second attempt, and this is exactly the case right now. The analogy is clear and extremely bearish.
The Big Picture View of the USD Index
(please click on the charts to enlarge them)
The 2014-2015 rally caused the USD Index to break above the declining very-long-term resistance line, which was verified as support three times. This is a textbook example of a breakout and we can't stress enough how important it is.
The most notable verification was the final one that we saw in 2018. Since the 2018 bottom, the USD Index is moving higher and the consolidation that it's been in for about a year now is just a pause after the very initial part of the likely massive rally that's coming.
If even the Fed and the U.S. President can't make the USD Index decline for long, just imagine how powerful the bulls really are here. The rally is likely to be huge and the short-term (here: several-month long) consolidation may already be over.
There are two cases on the above chart when the USD Index was just starting its massive rallies: in the early 1980s and in mid-90s. What happened in gold at that time?
Gold Performance When the USD Index Soars
These were the starting points of gold's most important declines of the past decades. The second example is much more in tune with the current situation as that's when gold was after years of prolonged consolidation. The early 1980s better compare to what happened after the 2011 top.
Please note that just as what we saw earlier this year, gold initially showed some strength - in February 1996 - by rallying a bit above the previous highs. The USD Index bottomed in April 1995, so there was almost a yearly delay in gold's reaction. But in the end, the USD - gold relationship worked as expected anyway.
The USD's most recent long-term bottom formed in February 2018 and gold seems to have topped right now. This time, it's a bit more than a year of delay, but it's unreasonable to expect just one situation to be repeated to the letter given different economic and geopolitical environments. The situations are not likely to be identical, but they are likely to be similar - and they indeed are.
What happened after the February 1995 top? Gold declined and kept on declining until reaching the final bottom. Only after this bottom was reached, a new powerful bull market started.
Please note that the pace at which gold declined initially after the top - in the first few months - was nothing to call home about. However, after the initial few months, gold's decline visibly accelerated.
Let's compare the sizes of the rallies in the USDX and declines in gold. In the early 80s, the USDX has almost doubled in value, while gold's value was divided by the factor of 3. In the mid-90s, the USDX rallied by about 50% from its lows, while gold's value was divided by almost 1.7. Gold magnified what happened in the USD Index in both cases, if we take into account the starting and ending points of the price moves.
However, one can't forget that the price moves in USD and in gold started at different times - especially in the mid-90s! The USDX bottomed sooner, which means that when gold was topping, the USDX was already after a part of its rally. Consequently, when gold actually declined, it declined based on only part of the slide in the USDX.
So, in order to estimate the real leverage, it would be more appropriate to calculate it in the following way:
- Gold's weekly close at the first week of February 1996: $417.70
- USDX's weekly close at the first week of February 1996: 86.97
- Gold's weekly close at the third week of July 1999: $254.50
- USDX's weekly close at the third week of July 1999: 103.88
The USD Index gained 19.44%
Gold lost 39.07% (which means that it would need to gain 64.13% to get back to the $417.70).
Depending on how one looks at it, gold actually multiplied USD's moves 2-3 times during the mid-90 decline.
And in the early 1980s?
- Gold's weekly close at the third week of January 1980: $845
- USDX's weekly close at the third week of January 1980: 85.45
- Gold's weekly close at the third week of June 1982: $308.50
- USDX's weekly close at the third week of June 1982: 119.01
The USD Index gained 39.27%
Gold lost 63.49% (which means that it would need to gain 173.91% to get back to $845).
Depending on how one looks at it, gold actually multiplied USD's moves by 1.6 - 4.4 times during the early-80 decline.
This means that just because one is not using U.S. dollars as their primary currency, it doesn't result in being safe from gold's declines that are accompanied by USD's big upswings.
In other words, the USD Index is likely to soar, but - during its decline - gold is likely to drop even more than the USD is going to rally, thus falling in terms of many currencies, not just the U.S. dollar.
Please note that there were wars, conflicts and tensions between 1980 and 2000. And the key rule still applied. Huge rallies in the USD Index mean huge declines in gold. If not immediately, then eventually.
Having covered the most important factor for the USD Index and gold, let's take a look at the other - also important - factors influencing both of these markets.
More on the USD Index and Gold
The USD Index is moving up in a rising trend channel (all medium-term highs are higher than the preceding ones) that formed after the index ended a very sharp rally. This means that the price movement within the rising trend channel is actually a running correction, which is the most bullish type of correction out there. If a market declines a lot after rallying, it means that the bears are strong. If it declines a little, it means that bears are only moderately strong. If the price moves sideways instead of declining, it means that the bears are weak. And the USD Index didn't even manage to move sideways. The bears are so weak, and the bulls are so strong that the only thing that the USD Index managed to do despite Fed's very dovish turn and Trump's calls for lower USD, is to still rally, but at a slower pace.
The recent temporary breakdown below the rising blue support line was invalidated. That's a technical sign that a medium-term bottom is already in.
Interestingly, that's not the only medium-term running correction that we saw. What's particularly interesting is that this pattern took place between 2012 and 2014 and it was preceded by the same kind of decline and initial rebound as the current running correction.
The 2010 - 2011 slide was very big and sharp, and it included one big corrective upswing - the same was the case with the 2017 - 2018 decline. They also both took about a year. The initial rebound (late 2011 and mid-2018) was sharp in both cases and then the USD Index started to move back and forth with higher short-term highs and higher short-term lows. In other words, it entered a running correction.
The blue support lines are based on short-term lows and since these lows were formed at higher levels, the lines are ascending. We recently saw a small breakdown below this line that was just invalidated. And the same thing happened in early 2014. The small breakdown below the rising support line was invalidated.
Since there were so many similarities between these two cases, the odds are that the follow-up action will also be similar. And back in 2014, we saw the biggest short-term rally of the past 20+ years. Yes, it was bigger even than the 2008 rally. The USD Index soared by about 21 index points from the fakedown low.
The USDX formed the recent fakedown low at about 96. If it repeated its 2014 performance, it would rally to about 117 in less than a year. Before shrugging it off as impossible, please note that this is based on a real analogy - it already happened in the past.
Based on what we wrote previously in today's analysis, you already know that big rallies in the USD Index are likely to correspond to big declines in gold. The implications are, therefore, extremely bearish for the precious metals market in the following months.
Right now, the USD Index is after a very sharp decline and is once again trying to break below the above-mentioned blue support line and stay there. It did succeed in moving below this support line, but given this kind of volatility, its doubtful that it will manage to stay there for longer.
Also, it might seem that a decline this big would invalidate the analogy to 2008 or to the analogy to the 2014-2015 rally. But is it really the case? Absolutely not. Both huge rallies: the one that we saw in 2008, and the 2014-2015 one, were preceded by some sort of declines. The 2008 decline was sharper. We marked those declines with dashed lines and we copied them to the current situation.
As you can see, the current move lower is only a bit bigger than what we saw before the two above-mentioned, huge rallies. The difference between them is not significant enough to invalidate the analogy.
Given today's pre-market decline in the USD Index, we can say that it moved to its 38.2% Fibonacci retracement level based on the entire 2018 - 2020 rally. That's a natural support level (especially that it corresponds to the 95.36 June 2019 bottom) and one that could easily generate a rebound. At the moment of writing these words, the USD Index moved below this level and is not moving back up. In our view, the USD Index is likely to come back up and invalidate the breakdown below the 38.2% retracement and the June 2019 low, shortly - likely before or on Wednesday.
Gold Seasonality Lessons
Having said that, let's take a look at the current seasonality in gold. In short, it's positive at face value, and it's neutral once one considers the likelihood of USD Index's upswing.
As a reminder, our True Seasonal gold charts are an improved version of the regular seasonality, as they additionally estimate also the Accuracy and they are based not only on the plain seasonality, but also on the way gold price tends to move around the options expiration dates (they don't take place at exactly the same day each month, so the regular seasonality ignores this effect).
The option expiration effect is not huge in case of the yellow metal; it's more significant in case of silver. Also, this effect is not very visible in case of yearly charts, such as the one that we present below, but it becomes more useful in case of the quarterly charts that we also feature from time to time (and which you can access on your own over here). You can read more details about this effect in this report (note: the pdf file is quite heavy, so it may take a while to load).
Gold formed its initial top in perfect tune with the overall True Seasonal tendency. Its most recent high seems to correspond to the temporary top that is visible on the above chart in early March. It usually doesn't exceed the initial high, and it did exceed it this time, but not significantly so. Compared to the seasonal tendencies, it might appear to be the show of strength, but it's actually the opposite. The thing that gold's reaction should be compared with, is what is going on in the world - and things have become very chaotic recently. Gold's reaction should have been much bigger than it was. This show's weakness of the precious metals sector and is a reason for one to expect lower precious metals prices in the following months.
Retracements, Reversals and Gold
There are many other things that need to be taken into account while analyzing the market other than just the USD Index and gold's seasonality. For instance, the analogy in terms of the previous long-term retracements within big declines. In particular, the declines that we saw in 2008 (please keep the rhodium analogy in mind) and between 2011 and 2015.
The markets have fractal nature, meaning that the price patterns that we see in one timeframe, can also apply on a different scale, with proportionate implications. For instance, silver's tendency to outperform gold at the end of a bigger move higher - it takes place on a small scale in case of local rallies, and it's more visible in case of more medium-term moves.
In case of gold's long-term chart, the Fibonacci retracements are the thing that likely applies on a different scale right now. In today's second fundamental point, we explained why certain patterns repeat themselves despite taking place at entirely different times and under different circumstances. The Fibonacci retracements are one of the patterns that keeps on emerging in many markets, including gold. The 61.8% Fibonacci retracement is the most classic one.
In both previous cases (the 2011-2015 and 2008 declines), gold declined initially after the top (March 17, 2008, September 6, 2011) and then corrected a bit more than 61.8% of the decline before forming the final short-term top (July 15, 2008, October 5, 2012) from which the biggest declines started. The 2016 decline was also preceded by a sharp rally and it was also characterized by a temporary move back up - slightly above the 61.8% Fibonacci retracement - before the main part of the slide.
Gold recently moved a bit (from the very long-term point of view it was indeed a bit) above the 61.8% Fibonacci retracement level, but this breakout was already invalidated - and in a clear way.
We're now seeing another attempt, but gold's move up is really weak compared to what it should have been, given the dramatic increase in fear of the coronavirus, given the huge shift in market's expectations toward interest rates, and given the oil-related events. The odds are that this attempt to break higher will also be invalidated shortly.
Please note that in 2011, the initial top, was then exceeded by about $8. Right now, we have a situation in which the second top was about $12 above the initial one. History does seem to be rhyming here...
Many people - especially those selling gold - will want to tell you that gold has been in a huge rally since late 2015. In reality, however, gold remains in a corrective mode after declining from 2011. And if you don't want to trust gold's classic retracement tool or self-similar patterns, maybe you'll trust silver or gold stocks.
Silver about $3 above its 2015 bottom. That's over $30 below the 2011 high. Big rally in the precious metals sector? What big rally? It's only gold that's been showing significant strength and taking a closer look reveals that it just corrected (!) 61.8% of the previous decline. It's relatively common for markets to retrace this amount before the previous trend resumes.
And gold miners? The HUI Index is about 400 index points below its 2011 high and only about 140 index points above the 2016 low.
That's a correction, not a new powerful rally. We will see one, but this is not the real deal just yet.
Price changes are one thing, but volume levels are another. Two weeks ago, the weekly volume was the highest one ever recorded. That's yet another very strong confirmation of the bearish outlook for gold for the following months.
Monthly price changes tell the same story.
Gold reversed in February, creating a crystal-clear shooting star candlestick. The monthly volume was big, meaning that this candlestick formation is valid. The shooting star is a bearish sign for the following weeks and/or months, especially that in 5 out of 5 previous times that we saw it, such moves lower followed.
The most interesting thing is that two of those five cases formed in 2008, which is yet another link between 2008 and 2020. One of the biggest and sharpest declines in the precious metals sector started with the formation that we just saw. The implications are very bearish - it seems that gold has already formed its final reversal for this medium-term rally.
Please note that March is far from being over and thus this month's upswing so far doesn't invalidate the implications of the February's clear reversal.
And speaking of major gold moves, please note how perfectly the long-term triangle-vertex-based reversals in gold worked.
Gold was very likely to reverse, and it did exactly that, just like we had written earlier.
Reversals should be confirmed by big volume, and the volume, on which gold reversed was truly epic, and that's a perfectly bearish confirmation. It was the biggest weekly gold volume EVER.
Well, until two weeks ago, when the record was broken. Gold once again reversed on record-breaking volume. This makes the previous signal even stronger.
We already wrote a lot today about gold and we will write even more, also about silver and miners. We will cover multiple signs that point to lower precious metals prices in the following weeks and months (not days, though). But, the record-breaking-volume reversals are alone enough to make the outlook bearish. That's how significant this reversal-volume combination is.
In addition to the above, the above chart shows the next medium-term target for gold - at about $1,400 level. This target is based on the mid-2013 high in weekly closing prices, the 38.2% Fibonacci retracement based on the 2015 - 2019 upswing, and the rising medium-term support line. Of course, that's just the initial target, gold is likely to decline more after pausing close to $1,400.
The above chart also featured a triangle-vertex-based reversal in early April - about a month from now. It could be the case that gold declines to $1,400 at that time.
Since the triangle-vertex-based reversal technique worked so well recently, let's check what else it can tell us. The below charts feature the reversal points based on the very long-term triangles.
Gold reversed at the beginning of the year (top), then it reversed at the next reversal point (local bottom) and now it seems to have finally topped at the final triangle-vertex-based reversal point.
Today's top just several dollars above the previous 2020 high is quite in tune with the way the previous major tops formed.
The three very similar cases volume-wise and volatility-wise are the September 2008 top, the 2011 top, and the early 2018 top. How did gold perform immediately after the tops?
In all three cases, gold topped on huge volume, but the decline didn't proceed immediately. There was a delay in all cases and a re-test of the previous high. The delay took between several days and a few months.
Since a similar pattern followed the huge-volume tops, it seems that we might see a re-test of the recent high in the near future. Don't get us wrong - the true rally has most likely ended, but we might see a move close to the January high, a move to it, or even a move that takes gold very insignificantly above it. That's when people bought gold at the top in 2008, 2011, and 2018, and we don't want you to fall for this market trick. Knowing what happened then - huge declines in the price of gold - should prevent you from buying on hope for a breakout to new highs. Oh, and by huge declines, we mean the ones where gold declined by hundreds of dollars.
Let's take a look at gold's sister metal - silver. There are no upcoming long-term reversals for silver based on the triangle-vertex technique for silver, but there are other points worth keeping on one's mind.
Silver Shares Its Two Cents
The key analogy in silver (in addition to the situation being similar to mid-90s) continues to be the one between 2008 and the 2016 - now periods.
There is no meaningful link in case of time, or shape of the price moves, but if we consider the starting and ending points of the price moves that we saw in both cases, the link becomes obvious and very important. And as we explained in the opening part of today's analysis, price patterns tend to repeat themselves to a considerable extent. Sometimes directly, and sometimes proportionately.
The rallies that led to the 2008 and 2016 tops started at about $14 and we marked them both with orange ellipses. Then both rallies ended at about $21. Then they both declined to about $16. Then they both rallied by about $3. The 2008 top was a bit higher as it started from a bit higher level. And it was from these tops (the mid-2008 top and the early 2017 top) that silver started its final decline.
In 2008, silver kept on declining until it moved below $9. Right now, silver's medium-term downtrend is still underway. If it's not clear that silver remains in a downtrend, please note that the bottoms that are analogous to bottoms that gold recently reached, are the ones from late 2011 - at about $27. Silver topped close to $20.
The white metal hasn't completed the decline below $9 yet, and at the same time it didn't move above $19 - $21, which would invalidate the analogy. This means that the decline below $10, perhaps even below $9 is still underway.
Naturally, the implications for the following months are bearish.
Let's consider one more similarity in the case of silver. The 2012 and the 2018 - today performance are relatively similar, and we marked them with red rectangles. They both started with a clear reversal and a steady decline. Then silver bottomed in a multi-bottom fashion, and rallied. This time, silver moved above its initial high, but the size of the rally that took it to the local top (green line) was practically identical as the one that we saw in the second half of 2012.
The decline that silver started in late 2012 was the biggest decline in many years, but in its early part it was not clear that it's a decline at all. Similarly to what we see now, silver moved back and forth with lower highs and lower lows, but people were quite optimistic overall, especially that they had previously seen silver at much higher prices (at about $50 and at about $20, respectively).
The 2012 corrective upswings were actually the final chances to exit long positions and enter short ones. It wasn't easy to do it back then just as it was not easy to do recently. But you did exactly that and the reward - profits are already significant. Congratulations.
Meanwhile, silver's relationship with gold continues to support medium-term downtrend in the precious metals sector.
In early July 2019, the gold to silver ratio topped after breaking above the previous highs and now it's after the verification of this breakout. Despite the sharp pullback, the ratio moved back below the 2008 high only very briefly. It stabilized above the 2008 high shortly thereafter and now it's moving up once again.
It previously moved up relatively slowly, but it jumped to new highs last week.
Anything after a breakout is vulnerable to a quick correction to the previously broken levels. On the other hand, anything after a breakout that was already confirmed, is ready to move higher and the risk of another corrective decline is much lower.
The most important thing about the gold and silver ratio chart to keep in mind is that it's after a breakout above the 2008 high and this breakout was already verified. This means that the ratio is likely to rally further. It's not likely to decline based on being "high" relative to its historical average. That's not how breakouts work.
The breakout above the previous highs was verified by a pullback to them and now the ratio moved even higher, just as we've been expecting it to.
The true, long-term resistance in the gold to silver ratio is at about 100 level. This level was not yet reached, which means that as long as the trend remains intact (and it does remain intact), the 100 level will continue to be the likely target.
We've been writing the above for weeks, despite numerous calls for a lower gold to silver ratio. And our target of 100 was just hit today. It was only hit on an intraday basis, not in terms of the daily closing prices, but it's still notable.
We had been expecting the gold to silver ratio to hit this extreme close or at the very bottom and the end of the medium-term decline in the precious metals sector - similarly to what happened in 2008. Obviously, that's not what happened.
Instead, the ratio moved to 100 in the situation where gold rallied, likely based on its safe-haven status, and silver plunged based on its industrial uses.
Despite numerous similarities to 2008, the ratio didn't rally as much as it did back then. If the decline in the PMs is just starting - and that does appear to be the case - then the very strong long-term resistance of 100 might not be able to trigger a rebound.
It might also be the case that for some time gold declines faster than silver, which would make the ratio move back down from the 100 level. The 100 level could then be re-tested at the final bottom.
Or... which seems more realistic, silver and mining stocks could slide to the level that we originally expected them to while gold ultimately bottoms higher than at $890. Perhaps even higher than $1,000. With gold at $1,100 or so, and silver at about $9, the gold to silver ratio would be a bit over 120.
If the rally in the gold to silver ratio is similar to the one that we saw in 2008, the 118 level or so could really be in the cards. This means that the combination of the above-mentioned price levels would not be out of the question.
At this time it's too early to say what combination of price levels will be seen at the final bottom, but we can say that the way gold reacted recently and how it relates to everything else in the world, makes gold likely to decline in the following months. Silver is likely to fall as well and its unlikely that a local top in the gold to silver ratio will prevent further declines.
Before moving to mining stocks, let's take a look at the little metals (the market sizes are really tiny) that made many headlines recently - platinum and palladium.
A Few Words on Palladium and Platinum
Previously, we provided you with extended analysis of palladium and platinum, and while we don't want to repeat our fundamental analysis of these markets each week, we will provide you with a technical update.
Let's look more into palladium's and platinum's technical situation.
Palladium soared recently and the weekly volume that accompanied these moves was exceptional. While the price move itself might or might not indicate anything special for the major parts of the precious metals market: gold, silver, and mining stocks, the volume reading does.
In 10 out of 12 previous cases when palladium rallied on a weekly basis and it happened on big volume, the implications were bearish for gold in the short run (not necessarily in the immediate term).
Given the pace at which palladium has been moving higher, RSI well above 70 and the big volume, the current situation is similar to what we saw in early 2019. Gold, silver, and mining stocks declined after the huge-volume week in palladium. After the daily volume spike in palladium, gold moved higher on the next day and then it started a short-term decline.
The problem here is that the volume was really "once again" huge. The problem stems from the sharpness of the recent rally and its parabolic nature. In these movements, it's easy to tell that the situation is extreme, but it's hard to tell when the move is really ending. The valuations are already ridiculous from the very short-term point of view and the volume was already extreme. However, how can one know that the valuations won't get more extreme in the next few days, or the volume doesn't become even bigger?
So, while palladium seems to be topping here, it's unclear if it has indeed topped or that it will soar some more before finally sliding. The top is very likely close in terms of time, but it's not that clear in terms of price.
(Please note that since we first wrote the above, palladium declined significantly. But then it moved up to new highs - just like we warned.)
The implications here are bearish for the next week or two, but they are rather neutral for today and tomorrow.
And what can palladium's performance tell us if we compare it to the one of gold?
There was only one situation when palladium became more expensive than gold and the gold to palladium ratio fell below 1. Once that happened, the ratio then corrected for a few months and then declined to new lows. The same thing happened in the past months. The previous time when we saw that was... early 1999.
The oversold status of the ratio - with RSI below 30 - suggests weakness in gold in the medium term. We marked similar cases on the above chart. And yes - the late-2012 top was also confirmed by this indication.
Having said that, let's move to platinum.
Platinum invalidated the breakout above its short-term declining resistance line, which was a bearish sign for the short term. And indeed, platinum declined last week, along with the rest of the precious metals sector, just like we've been expecting it to.
This also tells us that the medium-term top in gold is quite likely in, or that it will not be breached significantly. The reason is that platinum often outperforms close to the tops. No wonder, its market is not as small as the one of rhodium, but it's still very small compared to gold's market. The invalidation of previous breakout suggests that the outperformance - and the rally in the precious metals sector - are over.
Speaking of platinum's relative strength, let's see how the platinum to gold ratio is performing.
We previously wrote:
There have been a few unsuccessful attempts to break above the long-term downtrend, and since they all failed, it doesn't seem that this year's attempt would be any different.
The breakout wasn't any different. The history repeated itself, and the breakout was invalidated. The top in the precious metals market seems to be in as the ratio just moved to new multi-year lows.
Having said that, let's take a look at the situation in the mining stocks, starting with miners' flagship analogy.
Turning to Gold Miners
In case of gold stocks, we see that history is repeating with an almost exact 20-year delay. This might sound crazy... Until you see the chart revealing how precise it is, and how well it fits to what happened now and in 2012 as well.
(as a reminder, clicking on the chart will expand it)
Let's start with something relatively more familiar - the Fibonacci retracements. Back in 2012, the HUI Index retraced almost 61.8% of the preceding rally before the decline continued. That was one of the reasons that we thought that the 2019 rally won't get much above this retracement, if at all. Indeed, the August breakout above this retracement was very short-lived. The current move higher took the HUI just a little above the August high and this move was already invalidated as gold miners declined this year.
The most recent attempt was invalidated. The implications are very bearish. Currently, the HUI is making another attempt to break higher, but given today's pre-market plunge in the main stock indices, it seems very doubtful that this move higher in miners will be sustainable.
The important thing is that this is not the only time when this retracement stopped a sizable, yet counter-trend rally before a big decline.
The 1999 top formed almost exactly at the 61.8% Fibonacci retracement. That's one similarity between what happened recently and in 2012.
The second similarity is what's so exciting about this discovery. The length of the rally. All yellow rectangles on the above chart are identical. The 1998 - 1999, 2015 - 2016, and 2018 - 2019 rallies are identical in terms of time. Most importantly, the 1998 - 1999 and the 2018 - August 2019 upswings were almost identical in terms of both: time and price. And that's in addition to both rallies ending at the same Fibonacci retracement.
Let's re-state it again. Both rallies took practically the same amount of time, and the rallies were almost alike in terms of size - percentagewise.
The current move up is just a little above the August high and the breakout is not confirmed, which is why we don't yet view the current prices as the end of the rally. It's more of a double-top at this time. The rally seems to have ended in August and the only thing we see right now is a re-test of the same Fibonacci retracement.
The times of the year when the rally started and ended about 20 years ago are almost identical as well. The 1998 rally started right after the middle of the year and the same thing happened in 2018. The rally ended in the second part of 1999 and the same was / is the case right now. The month is not the same, but it's close nonetheless.
Based on the way in which the previous bear market in gold stocks ended, it seems that we have about a year of lower prices ahead of us and the HUI Index will decline at or a bit below the 80 level. That's in perfect tune with the upper one of the price target areas that we've been featuring on the above chart for some time now. The key of the additional trading techniques pointing to the 80 level or its proximity as the downside target are the early 1999, and 2011 tops as well as the early 2002 bottom, and the long-term declining support line based on the 2008 and 2016 lows.
The implications extend beyond just the final target - the analogy can tell us something important about the likely corrective upswings that we'll see along the way. Some of them will be relatively small, but there will also be those that are visible even from the long-term point of view, such as the one that we saw in early 2000.
How to detect them? Let's get back to the basics. When does a price rally, even though it remains in a downtrend? When it gets too low, too soon - at least in many cases. The key follow-up question is "too low compared to what?". And that's where the analogy to the 1999 - 2000 decline comes into play.
The purple line is the line that connects the start and the end of the 1999 - 2000 decline. The green line marks the start and the end of the 2012 - 2013 decline and the black one is based on the 2008 decline. There are two rules that we can detect based on these analogies.
First, the time after which we saw corrections during longer declines is similar to the times when the quicker decline ended. The end of the black line (early 2000) is also when we - approximately - saw the first big corrective upswing during the decline. Applying the same technique to the current top provides us with mid-June 2020 as the likely bottoming target date. Naturally, it's likely to be just a short-term bottom that would be followed by a corrective upswing and then even lower prices.
Second, the chance of a corrective upswing and the chance that such upswing would be significant increases dramatically when price moves visibly below the dashed line. There are 3 dashed lines to choose from - each based on a different decline - so the question is which one should be used. It seems that the middle one is appropriate as it was most useful in 2000. The 2012-2013 decline took place mostly above the dashed line that connected its starting and ending point and it didn't have profound corrective upswings until it ended. What we saw 20 years ago, however, was very different. The price declined sharply initially, but then corrected a few times and the more price moved below the declining green dashed line, the bigger the corrective upswing was.
So, if the HUI moves visibly below the declining green dashed line, it will suggest that the miners got too low too fast and are likely to bounce back up sooner rather than later.
As far as the short term is concerned, last week, we wrote that it's likely that it will remain unbroken, or that any breakout will be only temporary.
It turned out that the breakout was extremely temporary and miners moved to new yearly lows shortly thereafter.
There's one more analogy that we would like to share with you. Please take a look at the price action in the two red rectangles. They are identical in terms of time and the current one is a bit smaller in terms of relative price movement.
They are very similar in terms of shape and - most likely - in terms of when they happened.
In 2015 and very early 2016, we saw the final part of the medium-term decline and the initial part of the short-term rebound. The decline was sharp at first, then miners consolidated, then they corrected, then they declined once again moving very temporarily to new lows and after invalidating this breakdown, they shot up with vengeance. And the reversal took place at the beginning of the year.
In 2019 and very early 2020, we saw a mirror image of the above.
We saw the final part of the medium-term upswing and the initial part of the short-term decline. The rally was sharp at first, then miners consolidated, then they corrected, then they rallied once again moving very temporarily to new highs, and after they invalidated this breakout, they plunged with vengeance. And the reversal took place at the beginning of the year.
This similarity provides us with a few extra hints that other techniques didn't.
It suggests that miners are unlikely to correct before they move even lower - likely to the price extreme that started the upswing (mid-2019 lows), but not at the nearest price extreme (late-2019 lows). At that price, we can expect a visible rebound, but it might not be anything to call home about - similar to the consolidation that we saw in March 2016.
The mid-2019 lows are a very good target also based on other reasons:
- Several 2017 and 2018 highs formed there (approximately)
- That's where (approximately) the declining support line based on the previous highs is located
- That's where (approximately) the rising support line based on the previous lows is located
Moreover, the two above-mentioned support lines cross close to the end of March, meaning that this is when the reversal could take place.
Please note that the end of March in case of the GDX fits very well the triangle-vertex-based reversal in gold that is scheduled for early April. Miners could simply bottom a bit sooner than gold.
Silver Stocks in Focus
"Silver stocks reached their new yearly high on relatively strong volume" sounded very bullish, didn't it?
The problem was - as we had explained in the previous Alerts - that reaching the new yearly high meant that silver miners were barely able to correct 38.2% of the decline from the 2016 high. And that's compared to the decline alone. Comparing the recent rally to the one that we saw in 2016, we see that this year's upswing is barely one fifth of the previous upswing (about 50% vs about 250%). That's very weak performance - silver miners don't really want to move higher, they are forced to move higher as gold and silver are increasing, but the size of the move emphasizes that it's not the "true" direction in which the market is really moving.
The volume is also not as bullish as it seems to be at the first sight. Conversely, huge volume during SIL's (ETF for silver stocks) daily upswing that is clear on a stand-alone basis (not a part of a series of big-volume days) is a very bearish and quite precise indication for the short term. Ever since this ETF started trading, we saw this signal 16 times and only 3 cases were followed by upswings.
The volume-based sell signal already worked once this year, and we just saw it again as the volume spiked during the previous week's rally and - most visibly - during the decline that took place 2 weeks ago.
At this time silver stocks provide indications with regard to both medium- and short-term. And they are bearish in both cases.
2008 - Now Link
Finally, we would like to discuss the link between 2008 and now as it became much stronger based on the recent developments.
We already had gold reversing on huge volume, and we saw it decline very strongly in the first week after the top. We already had another attempt to break above that high and we saw it fail. We also saw rhodium at about $10,000. We already saw silver and miners plunging much more severely than gold did.
All these factors make the current situation similar to how it was in 2008, at the beginning of one of the biggest declines in the precious metals sector of the past decades.
But the very specific confirmation came from the link between gold and the stock market. Stocks plunged along with gold, silver, and mining stocks. That's exactly what was taking place in 2008. The drop in 2008 was very sharp, and silver and miners were hit particularly hard. We expect this to be the case this time as well.
In 2008, the temporary rallies were particularly visible in case of gold, not that much in case of silver, mining stocks, or the general stock market. Gold declined particularly hard only after the USD Index started its powerful rally. It seems that we are in an exactly the same situation right now. And it seems that the USD Index is very close to forming a bottom, or that it has already formed one.
The 2008 decline in the PMs ended only after a substantial (about 20%) rally in the USD Index. The USDX will first need to break above the running correction pattern and then it can really start its big upswing. The upside potential for the USD Index remains huge and the same goes for the downside potential in case of the precious metals sector, especially in case of silver and mining stocks.
Let's keep in mind that it was not only the 2008 drop that was sharp - it was also the case with the post-bottom rebound, so if there ever was a time, when one needed to stay alert and updated on how things are developing in the precious metals market - it's right now.
Q&A
We received quite a few interesting questions recently, so we'll take this opportunity to reply to them over here:
Q: Hi, it would be great if you can also explain the implications to the PM's in the event that the stock market will go further down and not only test the previous low but break down.
A: The implications remain unchanged. Up to a certain point, the PMs would be likely to decline along with the stock market and along with the rallying USD Index - just like they did in 2008. At some point, when the emotions get extreme, people hate gold, silver and miners, and desperately want to stay in cash, the extreme buying opportunity for the precious metals market will emerge. This might be before the stock bottom, and before the USDX tops. In this case, gold would stop reacting to the increasing USD values.
Q: (...) there was a surprise rate cut on 1/22/08 from 4.25 to 3.5 and gold was @ 914.10 @ end of that week and topped week of 3/21/08 @ 1018.7
there was another surprise rate cut on 10/8/20 from 2 to 1.5 and gold bottomed the week of 10/24/08 @ 645.2 and then ZOOM....
gold declined on the 2nd rate cut but it was the bearish time of the year for gold...
in your opinion, will we look for something similar here as 3/21 approaches?
A: In my view, what was likely to happen based on the surprise (panic in this case would be a better word) rate cut, has already happened. The market reacted because it was surprised. And... it will not be that easy for the Fed to surprise the market again, as the expectations are already very low for the rates. As of the moment of writing these words, 95.6% of people expect the rates to be slashed by a full 1%. There's not much room for further decreases here, unless the Fed wants to go ahead with negative rates, and this seems very unjustified at this time. Especially that crude oil prices just declined so substantially.
The Fed might want to surprise the market with something extra, like QE4... And we already discussed it. It's not likely to change much. There might be something else that the Fed might come up with that would shock the market, but even if something like that is going to be introduced, please note that it doesn't have to be introduced this month. Throwing everything at the market that the Fed has right at the start of the decline would be premature, especially that the economic indicators don't show damage substantial enough to really warrant such a move.
Even in 2008, when the stock market decline was much more severe, the Fed didn't move to the QE until the final part of the year. It seems unlikely that the Fed would be so much quicker this time.
Q: Is there still another stimulus tool(s) yet to be deployed?
There's still commentary that the interest rate cut by the fed could be followed by fiscal policies such as a tax cut to stimulate the economy and counter the effects of the coronavirus.
That would be an obvious boost for gold.
A: We already commented on the interest rate cuts and possible other monetary tools. With regard to the fiscal policy and gold, it's not clear if tax cuts would translate into higher gold prices.
In 2000s, President Bush created a twin deficit and significantly deteriorated the fiscal position of the country, which erased the investors' faith in the greenback. When the U.S. dollar plunged, gold started its huge rally, confirming that it may be a hedge against irresponsible fiscal policies.
However, the US dollar is unlikely to drop much further here, and gold seems to be relatively reluctant to rally further. Unless the tax cuts are ridiculously big, their effect is unlikely to be bigger than the effect of the rate cuts. And the rate cuts - precisely, the expectation of further rate cuts - failed to get gold well above the previous highs.
Q: Why don't you send Alerts to sell PM short positions when there is a high chance that there will be an interest cut by the Feds?
A: Because if there is a high chance that there will be an interest rate cut by the Fed means that this move - because it is widely expected - is already in the price. Gold didn't move up based on the interest rate cut, but based on people's changed expectations toward the next moves regarding interest rates. Only the surprises in Fed's moves can greatly change market's response. At this time, the market is already expecting another huge rate cut. We are letting you know our thoughts on that matter in advance, without waiting for the final days or hours before the rate decision is made.
Summary
Summing up, the 2020 top in the precious metals market is most likely in. Gold declined on record-breaking volume, while silver and miners plunged to new yearly lows - and it happened even before the USD's rally resumed. During the rebound silver and mining stocks continued to show weakness. The outlook for the following months is extremely bearish, especially that even gold failed to really react to what happened recently. Both: dramatic increase in the fear of coronavirus, crude oil turmoil, and an extreme shift in market's expectations regarding interest rates, should have caused gold to soared, and the only thing that it was able to do, was to test its recent highs.
The outlook for the precious metals sector is very bearish for the following months, even though the gold to silver ratio already moved to 100 earlier today.
The profits on our big short position in the precious metals market are already sizable (not in gold, but they are huge in case of the silver position and sizable in case of the one in the mining stocks), and they are likely to become enormous in the following weeks.
As always, we'll keep you - our subscribers - informed.
To summarize:
Short-term outlook for the precious metals sector (our opinion on the next 2 months): Bearish
Medium-term outlook for the precious metals sector (our opinion on the period between 2 and 6 months from now): Very bearish
Long-term outlook for the precious metals sector (our opinion on the period between 6 and 24 months from now): Very bearish in the first half of the period, then neutral to bullish
Very long-term outlook for the precious metals sector (our opinion on the period starting 2 years from now): Bullish
Our preferred ways to invest in and to trade gold along with the reasoning can be found in the how to buy gold section. Additionally, our preferred ETFs and ETNs can be found in our Gold & Silver ETF Ranking.
As a reminder, Gold Investment Updates are posted approximately once per week. We are usually posting them on Monday, but we can't promise that it will be the case each week.
Thank you.
Sincerely,
Przemyslaw Radomski, CFA
Editor-in-chief, Gold & Silver Fund Manager
