This essay is based on the Premium Update posted on July 23rd, 2010. Visit our archives for more gold & silver articles.
The previous weeks have been characterized by a steady pattern - USD Index is either plunging or is consolidating and it's likely to plunge within several days. The general truth is that no trend moves in any direction in the form of a straight line. Yet, so far the dollar tries to prove this saying incorrect by moving lower over and over again.
Is this situation sustainable? What's behind it? What does it mean for gold, silver, and mining stock Investors and Traders? In the following part of this particular essay we will provide you with our thoughts on that particular matter.
Let's begin with the long-term USD Index chart (charts courtesy by http://stockcharts.com.)
The long-term USD Index chart at first glance indicates what may seem to be an end to the recent decline. Although it is possible that a short period of sideways movement will be seen, it is important to note that the declines that we've seen in 2009 took dollar much lower and they were separated by only small corrective upswings. Therefore, the significant downside remains.
Whereas we are presently still above the psychologically important 80 level, last year's decline dipped below 75. As many as six or eight bounces were followed by further declines before the eventual bottom was reached. Also, the current downtrend has only three sharp downward plunges. This is far less than the last sustained declining market period.
Presently the USD Index level is below the first Fibonacci retracement level and also clearly below the previous rising trend channel. The interesting fact here is that the USD Index managed to move below the retracement level without a moment pause, and is now testing it as resistance - not as support.
This, along with the likely rally coming for the euro in the following weeks will preclude any bullish sentiment at this time. Although a slight bounce and or some sideways movement may be seen in the near-term, further declines appear probable for the USD Index.
In this week's short-term USD Index chart, it appears that a local bottom has been reached very close to the vertical red line in the chart. As we have frequently mentioned in prior updates, at times these red lines are quite accurate in predicting local tops and bottoms. The recent bounce corresponded precisely with this cyclical turning point indicator.
It is important to note however, that what appears to be a new rally will likely result in only slightly higher levels. A likely target level is indicated by the blue circle and further points to what appears to be very little room for this rally. The upper border of the declining trend channel will likely provide resistance and keep any rally from gathering serious momentum. Thus, the upside potential taking these factors into consideration is only in the 2.5 -3% range.
With respect to gold, silver and mining stocks, it is possible that a small rally in the USD Index will coincide with a local top for gold, silver and mining stocks. After their (referring to both USD, and the precious metals sector) recent severe decline, they have been consolidating somewhat and if a local top is indeed to be formed, it should be seen very soon. Overall, however, the trend appears to be down in the short to medium-term. Please note that the plunge that materialized at the beginning of July took place at the same time in case of USD and in case of gold, silver and mining stocks.
Therefore, it seems that the consolidation period for both the Euro Index and USD Index will likely continue. The eventual trend for euro appears to be upwards while declines are expected to be seen for the dollar. Both indices appear at this time to be forming small, contra-trend moves.
So, what does it mean for gold, silver and mining stocks? Let's take a look at our correlation matrix to find out more.
The correlation matrix is a tool that we use to quantify observations made in other parts of our reports - at times it provides insight not visible directly on the charts or by analyzing the fundamental situation of the precious metals market. When two markets or indices move in a similar fashion, the correlation coefficient in the matrix table above will be high, that is above 0.50.
Gold, silver, mining stocks and the USD Index once again are showing some positive correlation. Weakness in the euro would therefore tend to drive precious metals higher. Conversely, a strong euro could result in lower precious metals prices.
Precious metals and the general stock market have some positive correlation but the levels are quite low. It appears that in recent weeks, the general stock market has been leading the precious metals sector to some extent, and the correlation values would not reflect that (they don't take into account the fact that one market may lead or lag another one - come to think of it, this is something that we might want to develop in the future).
Summing up, there are bearish indications for gold, silver and mining stocks due to the recent recovery and rally seen in the Euro Index (in other words - the downswing in the USD Index), and the fact that metals have been rallying rather poorly given recent upswing on the general stock market.
Before we finish this essay, we would like to provide you with the reply to one of the questions that we've received this week - it's about "the best indicator". Which of them is the most effective, reliable and thus profitable one? Is it the RSI, Stochastic, or maybe the MACD? The answer is that there is no single best indicator or even technique. There can be more or less useful indicators for particular stocks/indices/situations but their reliability can change over time.
Please note that even if you had the best indicator - say RSI - you will still need to optimize the number of days that it's based on (with MACD we would have 3 parameters). Please note that if you go for instance to http://stockcharts.com to create your own charts, you have a text box next to each indicator's name so that you can customize it. So, the consecutive question is - if the RSI is the best indicator - which parameters should be used? Maybe the RSI(14) is best than other indicators, but RSI(47) is much worse than any of them? And even if you have that information - how do you use that particular indicator? Do you use the overbought and oversold levels or do you buy when it crosses the 0 level, or when it changes direction, etc.?
Once you have your best indicator, it may turn out that it will be the best one for only a few weeks and after that time another indicator will outperform it. Another problem - how do you measure its performance? In other words, how do you estimate which indicator is better? One will be better for long-term Investors while other will do miracles for Day-Traders.
Therefore, the situation is complicated and selecting the single best indicator is impossible. The only thing that one can do here is to try to isolate particular ways to estimate indicators' performance (for example - biggest gain after 2 weeks - short term, 2 months - medium term, and 6 months - long term) and then check all important indicators with virtually all combinations of parameters for each term. Out of all combinations we can then select the ones that provide us with biggest profits. Of course these calculations would need to be repeated periodically in order to make sure that the best indicators are still living up to their respective titles. There are also several other important details that need to be considered, but we believe at this point we have already more than answered the initial question.
In case you were wondering if we are planning to implement a feature that would let you know which indicators/parameters are best for the precious metals sector (and individual mining stocks) with regard to particular time targets in mind and if we're planning to update these calculation periodically, then the answer is yes - we have been working on this since March, 2010. Yes, we are also working on estimating option's and future's expiration on the value of gold, silver and mining stocks. There is also an additional feature that we're working on, but we don't want to provide more details at this time. All of this and much more (yes, including a whole new website) will be available this fall.
We strongly encourage you to sign up today to our free mailing list - you will be notified about our new essays and about new features as they are implemented on our website. You will also get 7 days of free access to all our Premium sections as a bonus.
Thank you for reading. Have a great weekend and profitable week!
P. Radomski
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While last week's report was mostly about price targets (we have updated them) for gold, silver and mining stocks, and this is the case also this time, but the report that we have just completed includes also our initial thoughts about the possible time, when the current decline is likely to end. We further comment on the copper market, death cross and flag formations and what do they mean for precious metals Investors and Traders.
The 15 charts featured in this week's Premium Update include: Gold (also from the non-USD perspective), Silver, HUI Index, GDX ETF, our Correlation Matrix, USD and Euro Indices, and SPY ETF as a proxy for the general stock market, and many of the abovementioned charts include price/time targets. We also let you know what signal to look for in order to determine the entry point to add to the current speculative position.
We encourage you to Subscribe to the Premium Service today and read the full version of this week's analysis right away.
