Yesterday was a big day in gold, which lost another 2% on top of a 3% loss the day before. I've received a fair number of messages and seen a lot of reporting on gold's falling about $80 in two days. What to do? Panic? Nah, this is just what gold does.
The trigger for the selloff was ostensibly the annoucement by the Federal Open Market Committee (FOMC), which made no policy adjustments but did acknowledge commodity inflation. In theory, the market perceives the FOMC as more hawkish and more likely to think about hiking interest rates, which would hurt gold.
But I have one good question about this logic: Have perceptions about the Fed really changed that much in 60 days? The FOMC was perceived as more dovish after its meeting on January 25, when it said it would keep rates low until 2014. The gold price in late January was about $1,640 an ounce. Now it is $1,640 an ounce. Interesting.
I wrote here last week that I had bought some more gold. Do I wish I had waited? Of course, but markets rarely cooperate with my optimum pricing needs. In fact, am going to try to buy a little more, depending on whether the yellow metal stabilizes. I will watch it carefully and set a protective stop at $1,590. (I don't want to see it below $1,600 an ounce again.)
I'm not panicking. Here's why:
- This is the way of a long-term bull market. Looking at the five-year chart below, this correction is a blip. I have drawn in a five-year trendline that comes in around $1,600. That's a good line in the sand and could serve as a stop point. My stop is at $1,590.
Bull Market Still Intact
- Gold falling $50 in one day -- or even $150 in two weeks -- is not as big a deal as it used to be. Just a few years ago, when the price was less than $1,000, a $50 move would have been much bigger, percentage wise. As the price climbs, the moves will be much bigger in dollar terms. This is a normal characteristic of an aggressive bull market, in which prices go up and increase in volatility.
- The Relative Strength Index (RSI) on the daily chart of gold futures has approached the mid-20s. Typically during this bull market, gold has bottomed when the RSI was in the low 20s. And it has usually done that within a week of reaching this level. So I think we are close. I've marked these areas with white lines and red circles on the chart below. These areas have been pretty consistent buy areas.
- I think gold is forming what chart technicians call a "reverse head and shoulders." Take a look at the chart below. I have drawn the head in the middle and the two shoulders with angles. We are working on that right shoulder. On Wednesday, we got down to $1,640. The last shoulder is at $1,600, which, as I said, would be a good stop point. I have circled areas of low RSI on this chart, as well. As you can see, they line up with the left shoulder and the head. (A head-and-shoulders pattern is bearish, but the reverse pattern is bullish. Imagine the person standing upside down.)
A feature of this chart is when a vicious selloff does not drive the price below the previous low. In this case, the previous low was around $1,525, so if the right shoulder holds at $1,600, my thesis will be correct.
Reverse Head and Shoulders?
On Wednesday, gold hit an RSI of 28 (very weak), but the price only got down to $1,640, rather than $1,550, as it did in the last selloff. I feel more confident, not less confident, in my thesis about this pattern. This is what traders call a "positive divergence," when weakness cannot push the price down past the previous low. This is what we need to watch for over the coming days.
These are all trading analysis methods I have been using since I first bought gold at $350 an ounce when the gold bull market started rolling. Could I be wrong? Of course -- that's why I have a stop. But I didn't really see enough from the Fed to think the game has changed. Seems like a lot of overreaction to me.
The Fed is still pumping liquidity into the system. We still have negative real interest rates (below the rate of inflation), so until something changes fundamentally, I'm sticking with what's worked for eight years. Watch what they do, not what they say.
(Disclosure: The author is long gold bullion, gold futures, and Newmont Mining Inc. (NYSE: NEM). Positions can change at any time.)