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What Happens to Gold Once the USDX Finally Declines?

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

Briefly: in our opinion, full speculative long positions (150% of the regular position size) in silver is justified from the risk/reward point of view at the moment of publishing this Alert.

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.

And what about this week so far?

PMs in the Now

Yesterday, gold closed higher once again, while the performance of miners and silver was nothing to call home about. Miners tend to magnify gold's gains during the initial part of the rally, but they are likely to lag in the final part thereof. They are already lagging, suggesting that the days of this rally are numbered.

Silver not outperforming so far this week, is suggesting that we are close to the end of this corrective upswing, but that it has not yet ended.

Once miners lag and silver laps gold in a clear way, we'll get the clear sell-and-short sign. For now, it seems that the next move in the very short term is going to be up.

The GDX ETF broke below the rising medium-term support line and it verified this breakdown by moving back to it and then declining once again. This is a clear bearish sign for the short term.

The daily upswings are taking place on relatively low volume, while the daily downswings are taking place on relatively high volume. The difference is not huge, though - it's a subtle bearish confirmation.

If it wasn't for the likelihood of the USD Index to decline in the very near term, we would probably be entering short positions in the precious metals sector, and in particular, in the mining stocks as the above chart is very bearish.


Summing up, it seems that the precious metals market is about to form the final medium-term top, and start another major move lower. Based on the likelihood of seeing a short-term decline in the USD Index, we might see the final very short-term upswing in PMs and miners first, but it's not likely to take more than a few days. In fact, the rally and top might even form as early as today.

In our opinion, once silver hits $17.89, your profits from the long position should be automatically taken off the table. We will let you know manually once we want to open short positions in gold, silver, or mining stocks.

As always, we'll keep you - our subscribers - informed.

To summarize:

Trading capital (supplementary part of the portfolio; our opinion): Full speculative long position (150% of the full position) in silver is justified from the risk/reward perspective with the following stop-loss orders and binding exit profit-take price levels:

  • Silver futures: profit-take exit price: $17.89; stop-loss: $17.24; initial target price for the USLV ETN: $90.47; stop-loss for the USLV ETN: $82.95

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.

Thank you.

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

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