Gold
has been correcting following last summer’s powerful bull-breakout
upleg. Since peaking, gold has inexorably drifted lower in a
well-defined downtrend. Traders are wondering when this necessary
and healthy sentiment-rebalancing selloff will bottom, paving the
way for gold’s next upleg. But this correction still has a ways to
run, according to speculators’ gold-futures positioning which
dominates gold’s price action.
Gold
has enjoyed a strong 2019, still up 15.0% year-to-date as of the
middle of this week. Unfortunately its gains have been overshadowed
by a bigger stock-market surge, driven by extreme Fed easing.
This central bank shifted its rate outlook from hiking to cutting,
made 3 rate cuts in just 3.0 months, and birthed its massive 4th
quantitative-easing campaign to monetize Treasuries! That’s
incredible in just a half-year.
The
resulting stock-market euphoria from the hyper-easy Fed squelched
traders’ interest in gold. Yet it still enjoyed a strong surge
after breaking out to its first
new bull-market
highs in 3.0 years in late June. Over the next 2.5 months it
blasted 14.3% higher, a major move compressed into such a short span
of time. That climaxed a bigger 32.4% upleg that unfolded over 12.6
months, the largest of this secular bull so far.
That
upleg peaked at $1554 in early September, a 6.4-year secular high
for gold. Gold greed was getting excessive then, threatening to
morph into euphoria. Most analysts and traders expected big
additional gains continuing in the foreseeable future. But critical
data revealed the opposite, that a correction was necessary.
I warned our newsletter subscribers as September dawned, two trading
days before gold topped.
I
wrote, “Gold is overextended, due for a healthy bull-market
correction over the near-term. Its technicals are way too
overbought, and its sentiment way too greedy. Too many buyers have
flooded in too quickly, exhausting gold’s near-term upside
potential. My best guess is a 6%-to-12% gold selloff, which the
major gold stocks will leverage like usual by 2x to 3x.” That
contrarian outlook was generally scoffed at back then.
But
I was soon proven right in being short-term bearish on gold. It
indeed began correcting, and that total selloff extended to 6.4%
over 2.8 months as of Thanksgiving Eve. Gold’s technical action
since then has carved a parallel series of lower highs and lower
lows, a textbook downtrend. And the same data that led me to
forecast an imminent correction back when it seemed crazy argues
that more downside is still coming.
Decades of gold cycles have proven that this metal has one
overwhelmingly-dominant short-term price driver. That is how
speculators are trading gold futures! Usually nothing else
matters over time horizons measured in low-single-digit months. The
unique nature of the gold-futures market lets the guys trading in it
punch way above their weights in influencing gold’s technical
behavior. Several key factors explain this.
Gold-futures trading allows extreme levels of leverage that would be
absurd in the stock markets. This week for example, traders are
only required to keep $4,500 cash in their accounts for each
gold-futures contract they hold. Yet these each control 100 troy
ounces of gold that is worth $147,500 at this week’s $1475
prevailing gold levels. That enables radical leverage up to
32.8x, supercharging these traders’ capital!
Gold-futures traders don’t have to run minimum-margin and
maximum-leverage, but that’s the main allure of that entire market.
At 10x, 20x, or 30x, every dollar they deploy in gold futures has
10x, 20x, or 30x the impact on gold’s price as a dollar invested
outright! So gold-futures speculators’ trading has a
wildly-disproportional impact on prevailing gold prices. This
is even further exacerbated by a couple more things.
The
risks inherent in running 10x, 20x, or 30x leverage are enormous.
Traders amplifying their bets that much will suffer total 100%
losses if gold merely moves 10%, 5% or 3.3% against their
positions! That in turn forces these speculators to have an
ultra-short-term focus. All they can care about is what gold is
likely to do in the coming hours, days, and maybe weeks on the
outside. Months and years may as well be eternity.
So
gold-futures trading is by necessity almost entirely driven by
current momentum. These guys pile into buying when gold is
rallying, then exit en masse when it is falling fueling cascading
selling. Bearing such extreme risks, closely following the herd is
necessary for survival. And specs’ gold-price influence is even
more amplified because that gold-futures price happens to be gold’s
world reference one everyone else keys off.
Investors around the globe make buying and selling decisions based
on what the US gold-futures price is doing. When the gold-futures
specs are bidding it higher, investors often join in boosting gold’s
upside. Then when the former sell, the latter usually follow
intensifying gold’s downside. The entire gold realm’s psychology
is driven by how the gold-futures price is faring, and thus how
speculators are trading those contracts.
So
it’s exceedingly important to follow gold futures if you have
or want any capital deployed in gold itself, its leading GLD SPDR
Gold Shares gold ETF, or the gold miners’ stocks. If you don’t stay
abreast of specs’ collective gold-futures trading, you’ll never be
able to buy relatively low then sell relatively high by gaming
gold’s endless uplegs and corrections. Now futures are strongly
arguing gold’s correction isn’t over yet.
Gold-futures specs’ collective positioning is published weekly, in
the famous Commitments of Traders reports from the US Commodity
Futures Trading Commission. Released late Friday afternoons, these
are current to preceding Tuesday closes. While this data would be
even more valuable if published at a daily resolution, the weekly
read still flags when both gold uplegs and corrections are likely to
give up their ghosts.
This
chart looks at specs’ total gold-futures long and short contracts
during this secular gold bull, which was born back in mid-December
2015. Gold’s daily close in blue is superimposed over the weekly
spec total longs rendered in green and total shorts in red. Gold’s
price action is very highly correlated with this specific group of
traders’ gold-futures buying and selling. Their trading
dominates gold’s short-term price action.
The
primary reason I was confident bucking the crowd and predicting an
imminent gold correction back in early September’s greed is readily
evident here. Speculators’ total gold-futures long contracts soared
to 433.0k at the end of August, which was the second-highest ever
witnessed out of all 1078 CoT weeks since early 1999 at that
point! That 3.1-year high was merely 1.7% below July 2016’s
all-time record of 440.4k.
Because of the extreme risks inherent in gold-futures trading, only
a tiny fraction of traders will ever dare try it. And the capital
they wield is finite, actually relatively small compared to the
broader gold market. So once spec longs near all-time highs, odds
are high their buying firepower is about exhausted. Even
when gold prices get high and exciting, traders don’t rush to open
new futures accounts to chase those gains.
High
spec longs alone aren’t enough to kill gold uplegs, spec shorts must
also be considered. Gold-futures trading has two types of buying
and selling. Traders can buy to add new longs, or buy to cover and
close existing shorts. They can sell by dumping existing longs, or
selling to open new shorts. But the leveraged price impact on gold
is identical regardless of which side of the trade that
buying or selling comes on.
As
spec longs surged near records in late August, spec shorts
collapsed. They dropped to just 79.9k contracts, the lowest
levels seen in gold’s entire 3.7-year-old secular bull by that
point. Spec shorts have an effective floor, they never fall to
zero. There is always some contingent of futures traders betting
that gold is heading lower. Extremely-high spec longs and
extremely-low spec shorts are very short-term bearish.
When
speculators have bought all the longs and covered all the shorts
they are likely to, their buying firepower is exhausted. That
leaves room for nothing but selling, forcing gold lower.
Another way to digest this is to view total spec longs and shorts in
terms of their gold-bull-market trading ranges. As gold peaked in
early September, spec longs and shorts were running 96% and 8% up
into those respective bands.
The
most-bearish-possible near-term setup for gold is 100% longs
and 0% shorts, which that positioning was close to. The
most-bullish-possible is the opposite, 0% longs and 100% shorts,
since that reveals maxed selling potential leaving nothing but
buying likely. Speculators’ exceedingly-bullish gold-futures bets
showing buying exhaustion in late August and early September are the
sole reason gold peaked and corrected.
Again that necessary and healthy selloff to rebalance sentiment has
so far run 6.4% over 2.8 months as of last week. Many analysts and
traders believe that is enough, that gold’s next major upleg is
starting to get underway. Unfortunately specs’ gold-futures trading
since gold’s latest topping, and their collective positioning now,
strongly imply gold’s correction remains alive and well with
sizable downside still coming.
CoT
data is only offered at a weekly resolution. But taking specs’
total longs and shorts from Tuesdays nearest to gold’s
early-September peak and late-November correction-to-date low shows
how much selling they’ve done. Over that 12-CoT-week span they’ve
sold 46.8k long contracts, which is why gold is drifting lower.
Oddly that was partially offset by 14.6k contracts of short-covering
buying, netting total selling to 32.3k.
32.3k contracts of spec gold-futures selling over 12 CoT weeks as of
the latest CoT report is trivial, next to nothing really. There are
plenty of single CoT weeks that see spec longs or shorts swing by a
huge 20k+ contracts. Thus overall so far in gold’s correction there
has been no major spec gold-futures selling! That means it
is still coming, as gold corrections never end until specs’
aggregate bets are finally normalized.
This
secular gold bull has suffered two prior major corrections, both
driven by excessively-bullish spec gold-futures bets mean reverting
back to and through normal levels. During gold’s first correction
which was a brutal 17.3% largely in H2’16, specs dumped 190.3k
contracts between selling longs and adding new shorts. That was
5.9x the gold-futures selling seen so far in gold’s still-anemic
current correction!
This
bull’s second correction mostly came mid-2018, when gold fell
13.6%. That was fueled by an even-larger 227.2k contracts of total
spec selling. The only reason that correction was smaller is it
happened over a longer timeframe. That 227.2k was 7.0x as large as
the mere 32.3k seen so far in gold’s latest correction. This gold
bull’s two earlier corrections averaged 208.9k contracts of spec
gold-futures selling!
Now
we don’t necessarily have to get back to 200k again. Gold’s
decisive bull-market breakout this past summer radically improved
gold psychology. Speculators and investors alike are much more
likely to buy back in sooner now that they know gold’s long-stalled
secular bull is still kicking. But I can’t imagine a major
gold-bull correction without at least 100k contracts of spec
selling. And we’re only 1/3rd there so far!
The
latest CoT week reported by the time this essay was published was
current to Tuesday November 26th. Because of the Thanksgiving
holiday, that wasn’t even released until this latest Monday
afternoon. Total spec longs and shorts ran 384.2k and 78.7k
contracts in that newest read. Both are very bearish for gold
prices over the near term. Those longs were still nearly in the
97th percentile out of all CoT weeks!
That
still leaves a heck of a lot more room for selling than for buying.
And those shorts were actually a fresh new gold-bull low!
Gold-futures speculators are unlikely to buy to cover many more
shorts, but have vast room to ramp their short selling again. Total
spec longs and shorts in this latest CoT week were way back to 78%
and 0% up into their gold-bull trading ranges. The most-bearish
possible is again 100% and 0%.
Rather dishearteningly for traders looking to redeploy aggressively
in gold and its miners’ stocks, this latest CoT in late November
showed spec longs and shorts nearly identical to levels right as
October dawned. That means the last 8 CoT weeks have seen no
net progress in normalizing specs’ excessively-bullish gold-futures
bets! The lion’s share of the gold-futures selling that is
inevitable remains yet to come.
Major gold-bull uplegs generate lots of greed, which takes time to
dissipate even after they roll over into corrections. Traders are
so excited about gold’s prospects after big surges that they ignore
downtrend technicals. They fervently believe gold is ready to start
rallying strongly again. So they stay deployed for weeks or even
months. Spec longs and shorts have stayed really high and low
continuously since late July.
But
eventually gold’s correction downtrend reaches a tipping point which
unleashes serious gold-futures selling. Ominously gold’s major
topping in mid-2016 after this bull’s maiden upleg was similar to
what we’ve seen recently. Gold surged strongly, on specs
aggressively buying longs and covering shorts. Their total longs
and shorts hovered near those resulting extremes for several
months after, big selling didn’t appear.
Yet
gold wasn’t out of the woods until it did, until specs’ lopsided
bets were normalized through big selling which is the only way.
Gold drifted lower nonthreateningly until it finally eventually
breached major
support, which happened to be $1300 back then. Because of their
extreme leverage and the huge resulting risks, gold-futures
speculators have to set tight stop losses. Once they start
tripping, it’s game over.
When
gold drifts low enough, gold-futures stops trigger. That unleashes
more automatic selling, which of course accelerates gold’s slide.
That in turn trips more stops, resulting in a vicious circle of
cascading selling. That’s when the lion’s share of gold
corrections arrive, crushing traders who didn’t heed the warning of
spec-gold-futures extremes. New gold uplegs can’t start until
specs’ gold-futures bets are normalized.
That
doesn’t mean selling so epic it pummels longs and shorts back to
that most-bullish-possible-for-gold 0% and 100%. In a
well-established secular gold bull with generally-improving
psychology, somewhere near 50% and 50% should prove adequate to
rebalance sentiment. But even those levels require far more selling
coming from last week’s 78% longs and 0% shorts. Make no mistake,
gold’s correction isn’t over yet.
If
you’re looking to redeploy into gold, GLD, gold stocks, or their own
leading GDX Gold
Miners’ ETF, it is imperative to closely watch specs’ collective
gold-futures positioning. That dominant driver of gold’s near-term
price action is what is going to give the green light for gold’s
next upleg. That’s why I carefully analyze every weekly CoT report
in our weekly and monthly newsletters, showing subscribers what’s
likely.
There are plenty of other indications gold’s correction remains
young too. At just 6.4% over 2.8 months at worst so far, it remains
small compared to this bull’s prior couple corrections averaging
15.5% selloffs over 6.0 months. And gold has yet to return to
its key 200-day-moving-average baseline, which is major technical
support in ongoing bulls. Last week at its latest low, gold
remained 4.0% above that key metric.
So
don’t jump the gun here and get excited for gold early, before this
necessary rebalancing has more fully run its course. Growing your
wealth in the markets requires buying low before later
selling high. The former is way more important, as lower entry
levels guarantee bigger gains later. Gold simply won’t be able to
bottom, yielding the lowest entry prices in gold stocks, until
specs’ gold-futures bets mean revert.
To
multiply your capital in the markets, you have to trade like a
contrarian. That means buying low when few others are willing, so
you can later sell high when few others can. In the first half of
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To
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informed about the spec gold-futures trading that drives gold. Our
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upleg after this correction largely passes.
The
bottom line is gold’s correction isn’t over yet. The only reason
its downtrend has proven modest so far is gold-futures speculators
have yet to do any major selling. Their longs have lingered at
very-high levels since gold’s latest interim high, while their
shorts ground along near bull-market lows. That means the lion’s
share of the necessary gold-futures selling to drive this correction
is still yet to come. Beware!
Gold-futures selling typically starts gradually after major gold
uplegs peak, then later eventually cascades into a steeper climax.
Residual greed persists for some time after toppings, and
gold-futures stop losses usually don’t start tripping en masse until
a few months later. Today the specs still have massive room to sell
but little room to buy more. This imbalance has to be rectified
before gold’s next major upleg starts marching. | 
