Briefly: in our opinion, full (250% of the regular size of the position) speculative short position in silver, and mining stocks is justified from the risk/reward perspective at the moment of publishing this Alert. We are temporarily out of the gold market.
Gold prices spiked yesterday as the Sino-U.S. trade war ratcheted up a notch or two. The USD Index contributed to the shiny metal's allure and the bulls are eyeing new hurdles to overcome. Can the tensions propel it higher still, and if so - how much would that change?
And so it happened - gold moved visibly higher as the USD Index corrected the recent breakout above the inverse head-and-shoulders pattern. At the same time, we saw the decline that was likely to happen based on the invalidation of the breakout above the previous 2019 high. Let's take a closer look, starting with the latter.
Limited Downside of the USD Index
In yesterday's analysis, we commented on the above chart in the following way:
The situation on the USD Index suggests that gold might really show some strength. The USD invalidated the breakout above the previous highs, which doesn't change the bullish outlook for the medium term, but could pose a challenge in the very near term. It is possible that the USD will make another attempt to move higher, as it did in late May, but it's also possible that it will decline to the combination of the rising support line and the previously broken neck level of the inverse head-and-shoulders pattern. This could correspond to gold's attempt to break above $1,500, or it could result in gold moving to the late April 2013 high of $1,487.
The USD Index moved almost right to the combination of the neck level of the previously completed inverse head-and-shoulders pattern and the rising support line. This means that the bottom was likely either reached or it's very close to being reached. The mid-July consolidation took several days, so it might be the case that despite the target being (almost) reached, we'll see at least a few back-and-forth trading days before the USD rallies once again.
The important thing is that gold didn't soar to $1,500 even though the USD Index provided support for this move. Silver didn't even move to new highs.
Meantime in the PMs
Gold moved to new highs in a visible way, silver didn't, and miners moved higher, but not to as big an extent as gold. In fact, gold miners moved back to the rising support line that they just verified as resistance. Please note that when we saw something similar in mid-July with regard to the previous rising support line - we marked it with blue - it was the monthly top. As far as the short-term is concerned, the above suggests that the top may be in or about to be in later this week.
Given yesterday's momentum in gold and the fact that the USD Index might move a bit lower before bottoming, it might be the case that the yellow metal moves a bit higher - to the late April 2013 high of $1,487 - before it tops. As yesterday's intraday high was $1,481.80, it seems that the upside is quite limited.
What does this all change from the medium-term point of view? Nothing. Let's take a look at two of the important long-term charts for details. Practically everything that we wrote about the gold to silver ratio and the ratio between gold stocks and gold, remains up-to-date:
Two Views of the Medium-Term
The gold to silver ratio had soared recently and it corrected its huge upswing in the last couple of weeks. How should one interpret this decline? The interpretation relates to the support and resistance levels that we have on the above chart. One thing is that the breakout above the rising red resistance line was invalidated, which is bearish for the ratio. However, the ratio didn't move below its 2008 high nor the rising long-term support line that we marked with blue. This means that the breakout above the previous highs was not invalidated and that the uptrend remains intact. This - combined with the rising support line remaining unbroken - means that the trend remains up, despite the invalidation of the breakout above the rising red line. The latter is simply not as important as the combination of two other - just as strong - long-term levels. It's a simple trading rule that the greater number of equally or more important signals or support/resistance lines, the more important the outlook confirmation.
Please note that it was the first time that the red resistance line was broken, so its strength is only theoretical. The rising blue support line is something that already worked multiple times, so its strength is already proven. All in all, the trend remains up and the implications for the precious metals market remain bearish, because the ratio tends to move in the opposite way to the individual PM prices.
After moving to the rising support line, the gold to silver ratio jumped back above 90, confirming that the recent decline was nothing more than a pullback within an important uptrend.
There are two main take-aways from the long-term chart featuring the gold stocks to gold ratio.
The first is that the long-term trend remains down. There was a small attempt to break above the declining resistance line that's created based on the 2011 and 2016 highs, but it was not successful. It's not clear on the above chart, but the breakout was invalidated and right now the ratio is back at the declining line once again. Since the breakout was already invalidated, it's very likely that the ratio will now move lower.
Before moving to the second major thing that we see on the above chart, let's consider the way in which the ratio moved since early 2016. It first soared in a volatile manner, then it declined in a rather regular way and we now saw a sharp rally above the 200-day moving average (marked with red). When was the previous time when we saw something like that? It was right after the 2008 rebound. The ratio soared in a volatile manner, then it declined in a rather regular way (until mid-2012) and then we saw a sharp rally above the 200-day moving average (marked with red). We recently commented on the situation in silver being very similar to what we saw at the late-2012 top and the shape analogy in gold stocks to gold ratio serves as a perfect confirmation. It's perfect because of two reasons. One, the ratio is based on entirely different dataset than silver (so we're definitely not looking at the same thing only from different angles). Two, because this analogy is confirmed by one more, very important, development.
This brings us to the second major point that we would like to make about the above chart. It's not the ratio itself, but the RSI based on it that's particularly interesting. It's value just soared above 70 and it now moved back below it. It may sound like something insignificant, but it is very significant. There were only three times when that happened in the last decade. Now, at the 2016 top and at the late-2012 top. Both the 2012 and 2016 events very important for the entire precious metals sector and you can see how huge rallies followed in gold right on the above chart (gold's in the background, marked with orange).
Did you note how the late-2012 top popped up once again? That's yet another sign suggesting that we are in a very similar situation to what we saw back then. That was right before the biggest decline in the precious metals sector in many years. We continue to think that the final bottom in the precious metals sector is still ahead and that we will see gold below $1,000 before the next powerful rally starts. The current combination of factors resembling the late-2012 top is a great way to start this final washout.
Summing up, the medium-term outlook in gold, silver, and mining stocks remains down, but it could be the case that gold moves higher in the very short run, attempting to rally to $1,500 (or more precisely, to the late April 2013 high of $1,487). Consequently, we are temporarily out of the gold with the plan to re-enter short positions in it at higher prices. We are not closing the positions in silver and mining stocks, as they are likely to be affected by the trade-war scare to a smaller extent.
As always, we'll keep you - our subscribers - informed.
Trading capital (supplementary part of the portfolio; our opinion): Full short position (250% of the full position) in silver, and mining stocks are justified from the risk/reward perspective with the following stop-loss orders and exit profit-take price levels:
- Silver: profit-take exit price: $13.81; stop-loss: $16.83; initial target price for the DSLV ETN: $39.08; stop-loss for the DSLV ETN $22.57
- Mining stocks (price levels for the GDX ETF): profit-take exit price: $17.61; stop-loss: $29.27; initial target price for the DUST ETF: $32.28; stop-loss for the DUST ETF $6.88
In case one wants to bet on junior mining stocks' prices (we do not suggest doing so - we think senior mining stocks are more predictable in the case of short-term trades - if one wants to do it anyway, we provide the details), here are the stop-loss details and target prices:
- GDXJ ETF: profit-take exit price: $23.71; stop-loss: $43.47
- JDST ETF: profit-take exit price: $73.32 stop-loss: $13.87
Long-term capital (core part of the portfolio; our opinion): No positions (in other words: cash)
Insurance capital (core part of the portfolio; our opinion): Full position
Whether you already subscribed or not, we encourage you to find out how to make the most of our alerts and read our replies to the most common alert-and-gold-trading-related-questions.
Please note that the in the trading section we describe the situation for the day that the alert is posted. In other words, it we are writing about a speculative position, it means that it is up-to-date on the day it was posted. We are also featuring the initial target prices, so that you can decide whether keeping a position on a given day is something that is in tune with your approach (some moves are too small for medium-term traders and some might appear too big for day-traders).
Plus, you might want to read why our stop-loss orders are usually relatively far from the current price.
Please note that a full position doesn't mean using all of the capital for a given trade. You will find details on our thoughts on gold portfolio structuring in the Key Insights section on our website.
As a reminder - "initial target price" means exactly that - an "initial" one, it's not a price level at which we suggest closing positions. If this becomes the case (like it did in the previous trade) we will refer to these levels as levels of exit orders (exactly as we've done previously). Stop-loss levels, however, are naturally not "initial", but something that, in our opinion, might be entered as an order.
Since it is impossible to synchronize target prices and stop-loss levels for all the ETFs and ETNs with the main markets that we provide these levels for (gold, silver and mining stocks - the GDX ETF), the stop-loss levels and target prices for other ETNs and ETF (among other: UGLD, DGLD, USLV, DSLV, NUGT, DUST, JNUG, JDST) are provided as supplementary, and not as "final". This means that if a stop-loss or a target level is reached for any of the "additional instruments" (DGLD for instance), but not for the "main instrument" (gold in this case), we will view positions in both gold and DGLD as still open and the stop-loss for DGLD would have to be moved lower. On the other hand, if gold moves to a stop-loss level but DGLD doesn't, then we will view both positions (in gold and DGLD) as closed. In other words, since it's not possible to be 100% certain that each related instrument moves to a given level when the underlying instrument does, we can't provide levels that would be binding. The levels that we do provide are our best estimate of the levels that will correspond to the levels in the underlying assets, but it will be the underlying assets that one will need to focus on regarding the signs pointing to closing a given position or keeping it open. We might adjust the levels in the "additional instruments" without adjusting the levels in the "main instruments", which will simply mean that we have improved our estimation of these levels, not that we changed our outlook on the markets. We are already working on a tool that would update these levels on a daily basis for the most popular ETFs, ETNs and individual mining stocks.
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 & Silver Trading Alerts are posted before or on each trading day (we usually post them before the opening bell, but we don't promise doing that each day). If there's anything urgent, we will send you an additional small alert before posting the main one.
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Przemyslaw Radomski, CFA
Editor-in-chief, Gold & Silver Fund Manager