Gold's reversal from $1130 to $1200 combined with sharp rebounds in the gold
miners has given precious metals bulls some hope that the bottom may be in.
A few weeks ago we noted that the sector was extremely oversold and a snapback
rally could begin. Gold has been the tell for the bear market and a real bull
market throughout the precious metals complex may not begin until Gold's bear
has ended. In this editorial we dig deeper into some things to watch as they
pertain to Gold.
First we will focus on Gold's volatility. The chart below shows Gold and two
volatility indicators: the CBOE volatility index and average true range. Peaks
in daily volatility have coincided with important peaks and troughs in the
Gold price. Volatility declined from summer 2013 through summer 2014 before
perking up as Gold declined from $1255 to $1130. Yet both volatility indicators
are not close to extremes. Volatility does not necessarily need to reach an
extreme to signal a bottom. However, the two biggest volatility spikes were
at the 2008 bottom and 2011 peak. A sharp decline in Gold below $1100 towards
major support combined with a spike in volatility could signal a major turning
point.
I'm also focusing on the COT as its an excellent sentiment indicator. By some
metrics (objective and anecdotal) Gold's bear market has reached extreme territory.
However, the COT is presently not at an extreme. We plot (as a percentage of
open interest) the net speculative position and the gross short position. If
these readings can exceed the 2013 extremes then they would be at 13-year extremes.
A spike in the gross short position, while negative in the short-term provides
future fuel (short covering) for a very strong rebound off the bottom.
Meanwhile, let's not forget Gold's relative strength. We shared the importance in
a recent missive. We noted Gold's relative strength tends to perk up
before Gold itself bottoms. The chart below plots Gold against a foreign
currency basket (the inverse of the US$ index) and Gold against the S&P
500. Gold is holding up well against foreign currencies but is coming to
an inflection point. I don't think its going to breakout yet but I could
be wrong. Meanwhile, Gold continues to be very weak against the stock market.
Gold has been the tell for the bear market and my work leads me to believe
the bottom is ahead and not behind us. Last week we noted the likelihood of
a test of major support near $1000/oz rather than a bottom at an arbitrary
level. In addition, Gold has yet to have a volatility spike on par with the
spikes at the 2008 bottom and 2011 top. Moreover, current positioning in the
futures market remains below the extremes seen in 2013. Finally, Gold has more
work to do on the relative strength front before it can sustain a recovery.
All this being said, it is important to keep an open mind to various possibilities.
Silver and the mining stocks are totally bombed out and we should pay close
attention if they retest their lows. The weeks and months ahead figure to be
enticing and exciting for precious metals traders and investors. Expect quite
a bit of day to day volatility as we see forced liquidation and occasional
short covering. Be patient but be disciplined. As winter beckons we could be
looking at a lifetime buying opportunity. I am working hard to prepare subscribers.
Good Luck!
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