Gold had been ripe for the latest $100 advance for quite some time. But this near vertical price increase has many analysts calling gold overbought and predicting a correction in the short-term. So the question on the minds of many gold investors is this: Is gold really overbought and needing a correction or does this upleg have room to run and a likely target of $1,000 by year’s end?
The commercial short position is at an extreme level and this historically precludes a drop in the price of gold. Many analysts also believe the dollar to be oversold and are anticipating a rally in the coming weeks. Conventional wisdom supports the theory that nothing goes up (gold) or down (dollar) indefinitely, but are current conditions for gold really overbought and in need of correcting? Let’s take a look at the history of this gold bull and see what the chart tells us.
As you can see from the chart above, gold’s last major upleg came after a 9-month consolidation period and consisted of two huge (28%) spurts with a mini-consolidation in between. In total, the last upleg increased $280 or 62% over the course of about 8 months. The current upleg has similar characteristics including the fact that is was preceded by a 9-month consolidation and new lows for the dollar. However, the current run has only brought an increase of $100 or 15%. If the last gold upleg is an indication, the current upleg has plenty of room to run. In fact, gold would need to surpass $1,000 before any significant correction could be expected. The percentage price oscillator (PPO) also supports the view that gold has plenty of room to run before reaching historical overbought levels.
Even if we are due for a mini-consolidation as occurred last time, it would not be expected to last more than 2 months and fluctuate 5% in either direction throughout the consolidation period. But before this would occur, gold can be expected to climb towards the $825-$850 range. The consolidation would then be followed by a quick resumption of the bull’s charge to the $1,000 mark. Some have speculated that we are already in the midst of this mini-consolidation, as gold has been bouncing between $750 and $770 for the past two weeks, but we think it is too soon to call.
While the massive spec long position/commercial short position is worthy of concern, it is also worthwhile to point out that these exact conditions were the precursor to the last major upleg in the gold market. Commercial shorts have the deep pockets that typically allow them to get their way, but they were forced to cover back in September of 2005 and we expect they will need to start covering in this scenario as well. The weight of the sinking dollar and magnitude of investment dollars flowing into commodities may be too much for them to overcome. The covering of these short positions could very well be the fuel that helps propel gold to new highs in the coming months. We will be keeping a close eye on the unwinding and take it as a sign to increase our positions.
In summary, as quick and steep as the latest run in gold has been, there is no indication that a correction is coming. A short consolidation might ensue, but if history is any indication, this upleg will take gold to $850 and then towards $1,000 in the coming months. The upside potential significantly outweighs the downside risk at this moment. Those trying to time the market might want to wait for gold to dip back to the $730′s, but they risk missing out on a run towards $850. Our strategy will be to maintain our core positions and look to add on a breakout above $790 or dip to $730. Either way, we feel strongly that gold is on its way to new highs in the coming months and those with positions in quality miners will be rewarded with some serious upside leverage. We will also be looking for silver to catch up with gold and in all likelihood outperform gold in the next upleg. Accordingly, we hold positions in both silver miners and the actual metal.
I completely agree with your thoughts on gold perhaps only enduring a brief 5% correction on its way to $1,000.
$100 Oil and $1000 Gold will soon be joined at the hip.
There are two reasons I believe gold still has much further to move.
Reason one, is that there is a surpising degree of pessimism among gold bulls.
All this week on the CNBC & FOX business channels, gold bulls were talking about the “one sided” trade in the dollar, and how Oil may be in a bubble – both ready to correct,
and both being factors that would bring down gold.
The mood among gold bulls on the internet message boards and on some blogs is also a bit restrained.
While a dollar rally and a collapse in oil would certainly bring down gold – I don’t think it’s going to happen.
Everyone is focusing on this rally in gold and gold stocks as being driven by the Fed rate cuts and a weaker US Dollar.
And it was.
But, it was not the only reason gold is moving. And in my opinion – it is not even the “main” reason gold (and Oil) have been rallying to new highs.
Oil broke out much earlier than did gold and the PM’s. Many will say the move in oil was a geopolitical risk trade on Turkey, or even the US moving into Iran, but I think the move in Oil was more of a currency trade than a geopolitical one.
Oil trades much more freely than does gold.
There are no central banks dumping massive amounts of oil upon the market to cap it’s price, or to silence it’s voice on inflation.
The second reason, and the main reason that I believe gold is going higher – much higher, is the unfolding crisis in the US Financial system that gained momentum this week with Citibank falling 20% and Merrill Lynch’s CEO being forced to resign as a $5 Billion Dollar subprime derivative loss turned into nearly $10 Billion.
Because the financials and the DOW have rallied so far off the August lows – people have begun to believe the BS that the Fed, the Treasury and the Investment Banks are shoveling us.
But, this week – more cracks appeared.
First it was the subprime lenders. Then Countrywide, then Bear Stearns.
Now it’s Citibank and Merrill.
But, the largest shoe to drop may be Wall Streets “golden child” itself – Goldman Sachs.
Reports are now surfacing that a new accounting standard called “SFAS 157″ which forces banks to classify off the books assets into 3 catagories will show that Goldman has perhaps as much as $72 Billion in what is called “level III” assets.
Assets that they still hold at “mark to model” vs. mark to market valuations on their books.
And the reason this new accounting rule is so important, is because if those numbers are correct – Goldman holds $72 Billion of “Enron-esque” assets – and that is TWICE their capital base of $36 Billion.
I wrote a post about it here:
http://goldsilverstockcharts.wordpress.com/category/michael-ceruleans-gold-silver-commentary/
The next driver for gold may be this headline:
“Are Citibank, Goldman Sachs & Merrill Lynch – all bankrupt?”
SFAS 157 may take the market where it’s never been before.
Or, has it?
Can you say?
Enron, WorldCom, Global Crossing…
Michael Cerulean
Have you ever heard that Russian alchemists have found a way to manufacture gold from lead at a cost of 400-600$ an ounce? They have never done it before because the manufacturing cost was too high. However, at today’s gold prices they are making a killing! What do you think?
Gold is an element, it can not be created from lead – it is physically impossible to convert elements!