Briefly: in our opinion, full (100% of the regular position size) speculative long positions in gold are justified from the risk/reward point of view at the moment of publishing this Alert.
In Monday’s extensive analysis, I explained the foundations on which I’m basing a very bearish outlook for the precious metals sector for the following months, and if you haven’t read it yet, I encourage you to do so today.
In today’s analysis, I’ll provide a quick update on the short-term deviation from the above-mentioned bearish outlook, as it seems – based on what we saw so far this week – that we’re likely to see a corrective upswing, which might be particularly visible in gold.
The technical part of the update is going to be relatively brief, as practically nothing changed yesterday. What is notable about this “nothing” is that it means that gold’s and miners’ bearish momentum is no longer present. This opens the door for a corrective upswing.
It could be the case that what we saw this week is just a pause and the declines will resume shortly, but it seems relatively unlikely. Markets usually need to correct either by moving temporarily in the opposite direction, or by consolidating for some time. Two days is not enough time to cool down the emotions that accompanied the decline.
And the price move that we saw so far this week also doesn’t seem like enough. In fact, the stochastic indicator didn’t even manage to flash a buy signal yet – the rebound was so insignificant.
The RSI indicator provides a much more decisive signal at this time. Namely, it’s after a comeback above the 30 level, which is a confirmation of a buy signal.
There were four times in the recent history when we saw gold’s RSI below 30 and then back above it. I marked them with blue, vertical, dashed lines. In 3 out of 4 cases that was the buying opportunity, and in the remaining case, it was right before the buying opportunity.
Also, gold has just invalidated the tiny breakdown below the 61.8% Fibonacci retracement level, which is bullish on its own. Moreover, it happened right between the previous local high and low (the late-April high and low).
Approximately, the same thing triggered a counter-trend rally at the beginning of November 2012.
On the day of the bottom, gold rallied just a bit and the volume was relatively low. This happened right after a volatile decline took place on big volume; we saw exactly the same thing on Monday (June 21).
But how strong was the corrective upswing in 2012 before the yellow metal resumed its downtrend? Well, it corrected 61.8% of its previous decline and that would align with a rally to ~$1,860 while still preserving the medium-term downtrend.
My plan here is not to wait until gold rallies to its 61.8% retracement. Instead (if history repeats itself, that is) my plan will be to exit the long positions after the easy part of the rally, ideally after the first several days, with gold close to its 50% retracement. And why do I prefer that?
Bearish Objective Remains Intact
Well, first of all, because it’s the easy part of the rally that I want to focus on since the medium-term outlook is very bearish, and I view long positions now as the counter-trend positions. This means that I view them as relatively risky. Consequently, I would prefer to be back on the short side of the precious metals market, as soon as it’s no longer “very” likely that we’ll see a corrective upswing.
Second, back in 2012, gold miners didn’t present their best opportunity to re-enter short positions when gold topped, but actually after gold’s first wave higher.
The GDX ETF rallied the most during the easy part of gold’s rally, and it didn’t move to new highs later, even though gold did. Consequently, since the priority here is not to miss the huge downswing, it seems justified to exit long positions when the easy part of the rally is over.
Why? The HUI Index chart shows us how much there is to profit from.
The sizes of the declines that we saw in similar times (in 2008 and 2012) were truly astonishing.
“Ok, so how high might the GDX move during this correction?”
In my view, the GDX ETF could rally to about $37 or so. That’s where we see several resistance lines, also the one created by the upper border of a price gap. The April high and the 50-day moving average add to the strength of the resistance.
The rally to ~$37 could become the right shoulder of a short-term head-and-shoulders formation, with the April high being the left shoulder. The implications of this formation would be bearish as they would imply a quick slide to the March lows.
Meanwhile, the USD Index moved back below its 61.8% Fibonacci retracement, while the RSI indicator based on it moved back below 70.
This likely means that we’ll see a quick pullback, as the USD Index seems to have rallied too far too fast. I previously wrote that it’s theoretically possible (and not that unlikely) that the USDX would rally even higher based on how big, medium-term rallies started in the past. However, the invalidation of the 61.8% retracement and the lost momentum confirmed by the RSI suggest that a breather here is more likely.
Having said that, let’s take a look at the markets from a more fundamental point of view.
More of the Same
With Jerome Powell, Chairman of the U.S. Federal Reserve (FED), testifying before Congress on Jun. 22, his prepared remarks signaled that the FED remains on autopilot. Despite saying that “job gains should pick up in coming months as vaccinations rise,” he added that “we at the FED will do everything we can to support the economy for as long as it takes to complete the recovery.”
And while Powell supported our thesis by saying that “labor demand is remarkably strong and over time we will find ourselves with low unemployment and wages going up across the spectrum,” when asked if inflation is transitory, he responded:
“[Perhaps] all of the overshoot in inflation comes from categories such as rising used car and trucks, airplane tickets, hotel prices that have been affected by the reopening of the economy. [And while] these effects have turned out to be larger than we expected, the incoming data are consistent with the view that these factors will wane over time.” For context, of course inflationary pressures will “wane over time.” That’s not up for debate. However, “when” is the key question.
But in a bid to remove any doubt, he added:
"We will not raise interest rates preemptively because we fear the possible onset of inflation. We will wait for evidence of actual inflation or other imbalances."
Thus, while investors clearly cheered the FED Chair’s dovish sentiment on Jun. 22, Powell (for better or worse) still remains out of touch with reality. Case in point: the Philadelphia FED released its Nonmanufacturing Business Outlook Survey on Jun. 22. And while “the full-time employment index fell 20 points to 4.3 in June after rising 17 points last month,” the report revealed that “both future activity indexes suggest that the respondents expect overall improvement in nonmanufacturing activity over the next six months.”
Please see below:
Source: Philadelphia FED
More importantly, though, with the inflation drama still unfolding, the report showed more of the same:
“After reaching its all-time high in May, the prices paid index mostly held steady in June at 49.0 Forty-nine percent of the firms reported increases, none reported decreases, and 33 percent of the firms reported stable input prices. Regarding prices for the firms’ own goods and services, the prices received index rose 12 points to 28.9 in June, its highest reading since June 2018.”
Please see below:
Source: Philadelphia FED
Similarly, the Richmond FED also released its Survey of Manufacturing Activity on Jun. 22. And while the report cited that “average growth rates of both prices paid and prices received by survey participants declined slightly but remained elevated in June,” employment was more optimistic, with the report revealing that “many manufacturers increased employment and wages in June and [expect] further increases in the next six months.”
Please see below:
Source: Richmond FED
What’s more, while the FED admitted its inflation error on Jun. 16 – as evidenced by the increase in its forecast for the headline Personal Consumption Expenditures (PCE) Index – Powell is now pretending that growth doesn’t exist. For context, the FED increased its 2021 real GDP growth estimate from 6.5% to 7.0% on Jun. 16, so Powell’s assertion on Jun. 22 that the economy "is still a ways off" is quite the contradiction.
Moreover, absent a severe spread of the Delta variant – which White House chief medical advisor Dr. Anthony Fauci said was “the greatest threat in the U.S. to our attempt to eliminate COVID-19” – U.S. economic growth should easily outperform its developed-market peers.
For example, many deflationists cite the slowdown in loan activity as a sign of a weak U.S. economy. However, with U.S. commercial banks releasing their deposit figures on Jun. 22, the argument is much more semblance than substance.
Please see below:
To explain, the green line above tracks deposits held by U.S. commercial banks, while the red line above tracks consumers’ revolving and credit card loans. If you analyze the right side of the chart, you can see that a material gap is present. However, with unprecedented fiscal policy (stimulus checks and enhanced unemployment benefits) flooding consumers’ bank accounts with dollars, why borrow money if you already have the cash to make the purchase?
To that point, if we compare U.S. commercial banks’ deposits to the U.S. federal debt, the connection is even clearer.
Please see below:
To explain, the green line above tracks deposits held in U.S. commercial banks, while the red line above tracks the U.S. federal debt. If you analyze the sharp move higher in 2020, it’s another sign that U.S. citizens don’t need to borrow money when the government is already writing the checks. For context, there is a slight lag because the U.S. federal debt references Q1 data and U.S. commercial banks’ deposits reference Q2 data.
Likewise, while rising U.S. nonfarm payrolls remain the key piece to solving the FED’s puzzle, the idea that monetary support is helping the real economy lacks credibility. To explain, the FED sold a record $792 billion worth of reverse repurchase agreements on Jun. 22. Moreover, when the FED buys $120 billion worth of bonds per month, the cash filters throughout the U.S. banking system and then financial institutions exchange that cash for Treasury securities on a daily basis, is QE really helping anyone?
Please see below:
Source: NY FED
For context, I wrote previously:
A reverse repurchase agreement (repo) occurs when an institution offloads cash to the FED in exchange for a Treasury security (on an overnight or short-term basis). And with U.S. financial institutions currently flooded with excess liquidity, they’re shipping cash to the FED at an alarming rate.
More importantly, though, after the $400 billion level was breached in December 2015, the FED’s rate-hike cycle began. On top of that, the liquidity drain is at extreme odds with the FED’s QE program. For example, the FED aims to purchase a combined $120 billion worth of Treasuries and mortgage-backed securities per month. However, with daily reverse repurchase agreements averaging $520 billion since May 21, the FED has essentially negated 4.33 months’ worth of QE in the last month alone.
To that point, the flood of reverse repurchase agreements signals that financial institutions have no use for the FED’s handouts. Think about it: if commercial banks could generate higher returns by originating loans for consumers and businesses, wouldn’t they? And with 74 counterparties participating on Jun. 22 – up from 46 on Jun. 7 – the FED’s liquidity circus is now on display every night.
If that wasn’t enough, I’ve highlighted on several occasions that gold exhibits a strong negative correlation with the U.S. 10-Year real yield (inflation-adjusted). And unsurprisingly, when the latter peaked in late 2018 and began its descent, it was off to the races for gold.
Please see below:
To explain, the gold line above tracks the London Bullion Market Association (LBMA) Gold Price, while the red line above tracks the inverted U.S. 10-Year real yield. For context, inverted means that the latter’s scale is flipped upside down and that a rising red line represents a falling U.S. 10-Year real yield, while a falling red line represents a rising U.S. 10-Year real yield.
More importantly, though, if you analyze the relationship, you can see that before the U.S. 10-Year real yield plunged, gold was trading below $1,250 (follow the arrow). Conversely, once the U.S. 10-Year real yield hit an all-time low of – 1.08% in 2020, gold was trading above $2,000.
Thus, what emotional gold investors fail to appreciate is that the yellow metal benefited from abnormally low interest rates. And with further strength dependent on another all-time low, the FED’s tightening cycle (which is already subtly underway) paints an ominous portrait of gold’s medium-term future.
To that point, with Morgan Stanley telling its clients that “We are past “Peak Fed” for the cycle and the market knows it,” overzealous gold investors ignore the difficult realities that lie ahead.
Please see below:
To explain, the blue line above tracks the U.S. 10-Year real yield and important fundamental developments are marked in red. If you analyze the “Peak Fed” labels near 2012 and 2020 and compare them with gold’s behavior on the first chart above, you can see how abnormally low U.S. 10-Year real yields coincided with abnormally high gold prices. As a result, with the former poised to move higher in the coming months, the yellow metal will likely head in the opposite direction.
What’s more, not only are the PMs dodging bullets from the bond market, but the USD Index has barely made its presence felt. For example, while the FED’s hawkish shift (even if Powell won’t admit it) is extremely bullish for the greenback, market participants – who are willing to give the FED the benefit of the doubt – still remain skeptical of the recent rally.
Please see below:
To explain, the black line above tracks Citigroup’s USD Positioning Alert Indicator (PAIN). For context, the index gauges whether or not positioning is crowded in the currency market. If you analyze the right side of the chart, you can see that U.S. dollar sentiment has fallen off of a cliff. However, with all signs pointing to a September taper, a violent short-covering rally could catch many investors off guard.
As further evidence, when the FED delivered its taper announcement in December 2013, the USD Index recorded (with a delay) one of its sharpest rallies ever.
Please see below:
To explain, the green line above tracks the USD Index. If you analyze the left side of the chart, you can see that after the FED revealed its hand, the USD Index found a bottom and surged roughly six months later. Thus, with a similar announcement likely in the fall, the PMs could be confronted with even more negativity.
And no, Basel 3 is not likely to be a game-changer for the gold market in the near term – I discussed that on June 2.
In conclusion, while the gold, silver, and mining stocks remain ripe for a short-term rally (no market moves in a straight line and PMs are no exception), their medium-term outlook remains extremely treacherous. And though Powell calmed investors’ nerves on Jun. 22 and market participants remain loyal followers, it’s important to remember that he is far from omniscient. After a significant about-face regarding the future trajectory of the headline PCE Index – a forecast that he made only three months ago – his confidence game is all about sentiment. Thus, while investors will give him the benefit of the doubt until the bitter end, the recent behavior of the bond market, the USD Index and the precious metals signal that the winds of change have already begun to blow.
Overview of the Upcoming Part of the Decline
- The corrective upswing seems to be over, and gold seems to have started its big decline – one similar to what we saw in 2008 and 2012-2013. We’re likely to see a short-term bounce, though.
- After miners slide in a meaningful and volatile way, but silver doesn’t (and it just declines moderately), I plan to switch from short positions in miners to short positions in silver. At this time, it’s too early to say at what price levels this would take place – perhaps with gold close to $1,600. I plan to exit those short positions when gold shows substantial strength relative to the USD Index, while the latter is still rallying. This might take place with gold close to $1,350 - $1,500 and the entire decline (from above $1,900 to about $1,475) would be likely to take place within 6-20 weeks, and I would expect silver to fall the hardest in the final part of the move. This moment (when gold performs very strongly against the rallying USD and miners are strong relative to gold – after gold has already declined substantially) is likely to be the best entry point for long-term investments, in my view. This might also happen with gold close to $1,475, but it’s too early to say with certainty at this time.
- As a confirmation for the above, I will use the (upcoming or perhaps we have already seen it?) top in the general stock market as the starting point for the three-month countdown. The reason is that after the 1929 top, gold miners declined for about three months after the general stock market started to slide. We also saw some confirmations of this theory based on the analogy to 2008. All in all, the precious metals sector would be likely to bottom about three months after the general stock market tops.
- The above is based on the information available today, and it might change in the following days/weeks.
Please note that the above timing details are relatively broad and “for general overview only” – so that you know more or less what I think and how volatile I think the moves are likely to be – on an approximate basis. These time targets are not binding or clear enough for me to think that they should be used for purchasing options, warrants or similar instruments.
Summary
To summarize, while the medium-term trend in the precious metals market remains down, it seems that we’re about to see a counter-trend rally shortly. In my opinion, gold is likely to be its main benefactor, and I plan to keep the long position intact only for the easy part of the rally. It could be over within a week, and I expect the big downswing to be resumed within the next 1-3 weeks.
After the sell-off (that takes gold to about $1,350 - $1,500), I expect the precious metals to rally significantly. The final part of the decline might take as little as 1-5 weeks, so it's important to stay alert to any changes.
Most importantly, please stay healthy and safe. We made a lot of money last March and this March, and it seems that we’re about to make much more on the upcoming decline, but you have to be healthy to enjoy the results.
As always, we'll keep you - our subscribers - informed.
By the way, we’re currently providing you with a possibility to extend your subscription by a year, two years or even three years with a special 20% discount. This discount can be applied right away, without the need to wait for your next renewal – if you choose to secure your premium access and complete the payment upfront. The boring time in the PMs is definitely over and the time to pay close attention to the market is here. Naturally, it’s your capital, and the choice is up to you, but it seems that it might be a good idea to secure more premium access now, while saving 20% at the same time. Our support team will be happy to assist you in the above-described upgrade at preferential terms – if you’d like to proceed, please contact us.
To summarize:
Trading capital (supplementary part of the portfolio; our opinion): Full speculative long positions (100% of the full position) in gold are justified from the risk to reward point of view with the following binding exit profit-take price levels:
Gold: binding profit-take exit price: $1,836; stop-loss: none
Alternatively, if one seeks leverage, we’re providing the binding profit-take levels for the UGL. The binding profit-take level for the UGL: $61.48; stop-loss for the UGL: none
Long-term capital (core part of the portfolio; our opinion): No positions (in other words: cash
Insurance capital (core part of the portfolio; our opinion): Full position
Whether you already subscribed or not, we encourage you to find out how to make the most of our alerts and read our replies to the most common alert-and-gold-trading-related-questions.
Please note that we describe the situation for the day that the alert is posted in the trading section. In other words, if we are writing about a speculative position, it means that it is up-to-date on the day it was posted. We are also featuring the initial target prices to decide whether keeping a position on a given day is in tune with your approach (some moves are too small for medium-term traders, and some might appear too big for day-traders).
Additionally, you might want to read why our stop-loss orders are usually relatively far from the current price.
Please note that a full position doesn't mean using all of the capital for a given trade. You will find details on our thoughts on gold portfolio structuring in the Key Insights section on our website.
As a reminder - "initial target price" means exactly that - an "initial" one. It's not a price level at which we suggest closing positions. If this becomes the case (like it did in the previous trade), we will refer to these levels as levels of exit orders (exactly as we've done previously). Stop-loss levels, however, are naturally not "initial", but something that, in our opinion, might be entered as an order.
Since it is impossible to synchronize target prices and stop-loss levels for all the ETFs and ETNs with the main markets that we provide these levels for (gold, silver and mining stocks - the GDX ETF), the stop-loss levels and target prices for other ETNs and ETF (among other: UGL, GLL, AGQ, ZSL, NUGT, DUST, JNUG, JDST) are provided as supplementary, and not as "final". This means that if a stop-loss or a target level is reached for any of the "additional instruments" (GLL for instance), but not for the "main instrument" (gold in this case), we will view positions in both gold and GLL as still open and the stop-loss for GLL would have to be moved lower. On the other hand, if gold moves to a stop-loss level but GLL doesn't, then we will view both positions (in gold and GLL) as closed. In other words, since it's not possible to be 100% certain that each related instrument moves to a given level when the underlying instrument does, we can't provide levels that would be binding. The levels that we do provide are our best estimate of the levels that will correspond to the levels in the underlying assets, but it will be the underlying assets that one will need to focus on regarding the signs pointing to closing a given position or keeping it open. We might adjust the levels in the "additional instruments" without adjusting the levels in the "main instruments", which will simply mean that we have improved our estimation of these levels, not that we changed our outlook on the markets. We are already working on a tool that would update these levels daily for the most popular ETFs, ETNs and individual mining stocks.
Our preferred ways to invest in and to trade gold along with the reasoning can be found in the how to buy gold section. Furthermore, our preferred ETFs and ETNs can be found in our Gold & Silver ETF Ranking.
As a reminder, Gold & Silver Trading Alerts are posted before or on each trading day (we usually post them before the opening bell, but we don't promise doing that each day). If there's anything urgent, we will send you an additional small alert before posting the main one.
Thank you.
Przemyslaw Radomski, CFA
Founder, Editor-in-chief
