Briefly: in our opinion, full (250% of the regular size of the position) speculative short position in gold and mining stocks are justified from the risk/reward point of view at the moment of publishing this Alert. We are temporarily out of the silver market, but plan to get back in it shortly, perhaps later today.
Based on the situation in the USD Index, the analogy to what happened in mid-90s, and - most importantly from the short-term point of view - gold was supposed to decline similarly to how it had declined 8 years ago. Back in 2011, THE top formed right after the U.S. Labor Day and that started the multi-year decline. We saw yet another top in gold yesterday, and gold is indeed declining in today's pre-market trading, even without USD's help. The history is repeating, and the implications run deeper than 99% of investors think.
Let's take a look at what happened.
Gold, Tops and Seasonality
Gold moved higher yesterday, and this move took place on huge volume. If it wasn't for the very bearish seasonality, one might have viewed this upswing as bullish. Back in 2011 it was the first day after the U.S. Labor Day that marked THE top, and in order for the price to top, it has to rally first. So, the fact that gold moved higher yesterday is not particularly surprising. Now, if gold was soaring also today, this might be a bullish indication, but it's been declining so far today (about $10) even though the USD Index moved a bit lower. The seasonal effect appears to be kicking in just as we described it previously:
The key thing is that something special is often happening on the gold market around the U.S. Labor Day. In almost all cases, gold is either topping or already after a nearby top. In other words, it's perfectly set for a major decline in the following weeks, and sometimes, months.
6 out of the last 8 U.S. Labor Days were a great time to profit on yellow metal's medium-term price declines. There was only one bullish case (in 2018), and was one unclear (in 2015, when gold moved higher in the short run, but then declined anyway). Consequently, it appears that it's high time for gold to end its recent rally.
This analogy in terms of time as a building bridge to yet another analogy becomes obvious once you take a look at the RSI indicator in the upper part of the chart. It's currently above the 80 level. There was only one other case in the previous years when we saw something similar. It was at the 2011 top.
The 2011 top is usually just mentioned as the 2011 top, or THE top, as it was the most prominent high of the past decades, so there's no way to mistake it for a different high. Consequently, it's easy to forget when did exactly this top take place. The initial high took place on August 23, 2011, and the final (THE) top took place on September 6, 2011 (the first session after the U.S. Labor Day).
Interestingly, the August 13, 2019 session was very volatile overall, which might be similar (to a smaller extent, but still) to the initial August 2011 top.
To summarize, gold is after a sharp rally that took the RSI above 80, indicating extremely overbought conditions, and the only similar case from the recent past is the 2011 top. The 2011 decline started shortly after the U.S. Labor Day, and gold then erased over 61.8% of its most recent upswing - and very fast. It formed a temporary bottom a bit below the previous local high. Gold didn't move to its 50-day moving average at that time.
The 61.8% Fibonacci retracement of the most recent rally is at $1,318. The most recent local high is at about $1,350. The 50-day moving average is at about $1,315 right now. Consequently, applying the 2011 details to the current situation provides us with a short-term target at about $1,320.
This is where gold is likely to move next before bouncing. It's likely to then decline once again, but since no market moves up or down in a straight line, we're adjusting our exit target for the current short position to accommodate the above - we're moving them to $1,332, in order to maximize the chance of realizing the trade.
Before summarizing, please note that if we discount all the price moves surrounding the early September without looking exactly at this particular date, we get a picture in which gold might be topping right now or a one in which it has already topped.
Our gold seasonality charts show that the rally in the yellow metal might already be over. The accuracy of the prediction (i.e. the difference between the previous cases) is relatively big right now, so it's unclear whether the top is already in or not, but please note how the accuracy rises after the first part of September, along with lower predicted gold prices. This means that whenever the top forms (whether it formed yesterday, will it form on Tuesday right after the U.S. Labor Day, or anytime in between), gold is already likely to be much lower in mid-September.
Gold is extremely likely to roll over shortly and its recent hesitation to move higher after Monday's reversal confirms it.
The situation in the USD Index is very interesting right now.
The USD Index, Its Breather and Gold
The U.S. currency just rallied above the neck level of the medium-term inverse head-and-shoulders pattern, but it moved back below it in today's pre-market trading.
This means that the USDX could decline in the next few days, and confirm the breakout above the inverse head-and-shoulders pattern at its next attempt. The rising line provides support, which is currently at about 98.3. At the moment of writing these words, the USD index is trading at 98.77, so the downside is relatively limited.
However, what is more important is that gold is declining today even without USD's help. This means that gold's rally might already be over even though the USD didn't successfully break above the neck level just yet. Once USDX confirms its breakout, gold's decline is likely to accelerate.
Meanwhile, Gold Stocks and Silver...
Gold stocks moved higher initially, but gave away large part of their gains before the session was over. The HUI Index formed a daily reversal and unlike gold, it didn't form a new high in terms of the closing prices. In other words, gold miners have just once again underperformed gold.
And while gold stocks have been underperforming gold...
Silver outperformed it. The white metal soared and closed the day visibly above the 61.8% Fibonacci retracement level. If it wasn't specifically silver that did this, it would be bullish. But it was silver - the metal known for fake moves right before turnarounds, especially when gold miners lag. The problem is that during these final silver upswings, it's difficult to place the stop-loss order at such a level that would not be reached. Even though the moves are likely to be very brief (likely to be invalidated within days or weeks, not months), they can be very volatile. Consequently, we are now out of the silver market with a plan to re-enter it shortly - as soon as the situation clarifies.
Taking into account both yesterday and today's overnight rallies, the last few months created an upswing that's practically just as big as the one that we saw in mid-2012, right before the turnaround and a move to new lows.
Can silver's breakout be trusted this time? Well, it definitely can be trusted, but it shouldn't. The history is rich in examples that show how silver outperformed right before severe declines and the earlier-featured chart below proves it.
Those that do not specialize in the precious metals market, will often view silver's strong performance in the short run as something profoundly bullish. And if this means that silver is outperforming gold (just as it did recently), this is a sell sign in disguise. It's not intuitive and it's against some rules that apply to other markets, but that's just how the precious metals market works. If you ever feel that silver is about to take off as it's been outperforming gold on a short-term basis, rallying vertically etc., or you read an analysis or watch a video that claims so, please take a look at the above chart and count how many times per year - on average - gold and silver topped right after silver's short-term strength. This will help you put silver's rally into proper perspective.
Moreover, the key factors that have been behind the very bearish outlook for the precious metals sector remain up-to-date - silver's upswing didn't change them
Key Factors to Keep in Mind
- The USD Index broke above the very long-term resistance line and verified the breakout above it. Its huge upswing is already underway.
- The USD's long-term upswing is an extremely important and bearish factor for gold. There were only two similar cases in the past few decades, when USD Index was starting profound, long-term bull markets, and they were both accompanied by huge declines in gold and the rest of the precious metals market
- Out of these two similar cases, only one is very similar - the case when gold topped in February 1996. The similarity extends beyond gold's about a yearly delay in reaction to the USD's rally. Also the shape of gold price moves prior to the 1996 high and what we saw in the last couple of years is very similar, which confirm the analysis of the gold-USD link and the above-mentioned implications of USD Index's long-term breakout.
- The similarity between now and 1996 extends to silver and mining stocks - in other words, it goes beyond USD, gold-USD link, and gold itself. The white metal and its miners appear to be in a similar position as well, and the implications are particularly bearish for the miners. After their 1996 top, they erased more than 2/3rds of their prices.
- Many investors got excited by the gold-is-soaring theme in the last few months, but looking beyond the short-term moves, reveals that most of the precious metals sector didn't show substantial strength that would be really visible from the long-term perspective. Gold doesn't appear to be starting a new bull market here, but rather to be an exception from the rule.
- Gold's True Seasonality around the US Labor Day points to a big decline shortly. Moreover, it was the very first session after the 2011 U.S. Labor Day that marked THE top for gold
Very important, but not as critical factors:
- Long-term technical signs for silver, i.a. the analogy in terms of price to what we saw in 2008, shows that silver could slide even below $10.
- Silver's very long-term cycles point to a major reversal taking place right now and since the most recent move was up, the implications are bearish (this is also silver's technical sign, but it's so important that it deserves its own point)
- Long-term technical signs for gold stocks point to this not being a new gold bull market beginning. Among others, it's their long-term underperformance relative to gold that hint this is rather a corrective upswing within a bear market that is not over yet.
- Record-breaking weekly volume in gold is a strong sign pointing to lower gold prices
- Extreme volume reading in the SIL ETF (proxy for silver stocks) is an effective indication that lower values of silver miners are to be expected
- Silver's short-term outperformance of gold, and gold stocks' short-term underperformance of gold both confirm that the precious metals sector is topping here
- Gold topped almost right at its cyclical turning point, which makes the trend reversal more likely
- Copper broke below its head-and-shoulders pattern and confirmed the breakdown. The last time we saw something similar was in April 2013, when the entire precious metals sector was on the verge of plunging lower.
Moreover, please note that while there may be a recession threat, it doesn't mean that gold has to rally immediately. Both: recession and gold's multi-year rally could be many months away - comparing what happened to bond yields in the 90s confirms that.
All in all, the odds are that we'll see a turnaround shortly and that the precious metals market will decline in tune with the multiple factors that have been hinting at it.
Summing up, silver's outperformance and mining stocks' weakness point to lower precious metals prices in the near term and it seems that we just saw another very important short-term confirmation - weekly reversal in gold. The similarity to what happened in mid-90s remains intact, and the USD strength serves as a very strong headwind for the yellow metal. This, along with all the other medium-term factors outlined in the previous Alerts continue to point to much lower gold and silver prices in the following months. Let's keep in mind that due to gold's tendency to decline in the period following the U.S. Labor Day, it seems that we will not have to wait too long for much lower gold prices. In fact, a move to about $1,330 in gold appears quite likely in the next few weeks.
We are temporarily out of the silver market, but plan to get back in it shortly, perhaps later today.
As always, we'll keep you - our subscribers - informed.
Trading capital (supplementary part of the portfolio; our opinion): Full speculative short position (250% of the full position) in gold, silver, and mining stocks is justified from the risk/reward perspective with the following stop-loss orders and exit profit-take price levels:
- Gold: profit-take exit price: $1,332; stop-loss: $1,603; initial target price for the DGLD ETN: $39.87; stop-loss for the DGLD ETN: $23.37
- Silver: temporarily out of the market - we plan to re-enter the market as soon as it's clear that the short-term rally in silver is over, perhaps even later today.
- Mining stocks (price levels for the GDX ETF): profit-take exit price: $17.61; stop-loss: $33.37; initial target price for the DUST ETF: $32.28; stop-loss for the DUST ETF $5.78
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: $48.42
- JDST ETF: profit-take exit price: $73.32 stop-loss: $9.67
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
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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.
Przemyslaw Radomski, CFA
Editor-in-chief, Gold & Silver Fund Manager