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What Happens to Gold Once the USDX Finally Declines?

February 11, 2020, 6:17 AM Przemysław Radomski , CFA

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In yesterday's extensive Gold & Silver Trading Alert, we commented on myriads of factors, and we explained why the medium-term outlook for the precious metals market is bearish, but why it's not bearish in the very short term. The way gold, silver, and mining stocks behaved yesterday, confirms our yesterday's points.

On a short-term basis, the USD Index continues to look like it's going to correct any hour now, as no market can move in a straight line indefinitely.

USDX: A One-Way Elevator Ride?

The USD Index broke above its declining resistance line and moved to new yearly highs. The USD Index moved even a bit above it November 2019 high, but the breakout is not yet confirmed. Yesterday was the second day when the USDX closed above the November high, and we want to see three closes above a certain level in order to mark it as confirmed.

Given the RSI at above 70, we doubt that it will be confirmed. While the unconfirmed breakout is still a bullish factor, the odds are that the USDX will decline in the short run anyway.

If the USDX doesn't decline immediately, it's likely to rally to its 2019 high and correct from there. The short-term downside target area for the USD Index is between the January high of about 98 and the declining support line at about 97.5.

Please note that the sharp 2020 rally took place without any major change in the fundamentals on which the USDX usually moves. The Fed didn't change its course, and Trump continues to favor lower USD values. So why on Earth did the US currency move up at all? Because that is in tune with its long-term trend that we've been writing about for months. Bearish news was only able to trigger smaller or bigger - but still nothing more than just - corrections. Each time after it was hammered down, the USDX rose from the ashes like a mythical phoenix. Given a major upswing in the USDX around the corner, the medium-term outlook for the PMs is bearish in this timeframe.

On a short-term basis, the USDX is likely to correct and PMs might move up. They might challenge their recent highs but are not likely to move visibly above them - if they are reached at all. That's in perfect tune with what happened multiple times in the past after previous tops that formed on huge volume.

When would the USD Index be likely to form its next local top? Perhaps that's going to happen today. The rising red support line and the declining black support line cross today, thus creating a triangle-vertex-based reversal. Overbought condition, unconfirmed breakout, and reversal timing suggest that a USDX top is going to be formed shortly.

And what about the implications for the precious metals market? The PMs are likely to rally, but not very far. The analogy to the previous topping patterns that took place right after a huge-volume top shows what's likely in store for the following days.

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?

It Means This for Gold

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.

Summing up, while the very-short-term outlook for the precious metals market is bullish, the medium-term outlook remains bearish.

Thank you for reading.

Przemyslaw Radomski, CFA
Editor-in-chief, Gold & Silver Fund Manager

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Feb Market Overview

Gold Market Overview

Last month, we laid out our gold outlook for 2020. In the February edition of the Market Overview, we update our fundamental analysis to incorporate the latest data, in particular those about the US fiscal policy. As the bipartisan consensus is that deficits don't matter, the perspective for gold this year could be better than we previously thought. Second, we look beyond 2020 and sketch the fundamental trends that will likely shape the global economy and the gold market through the whole 2020s.

Moreover, we will analyze two important recent developments. The first one will be the 2019 repo crisis and the following Fed's intervention in this market. Second, the Riksbank has ended recently its experiment with negative interest rates. What does it all imply for the gold market? We invite you to read our Gold Market Overview and find out!

Read more in the latest Market Overview report.

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