Briefly: in our opinion, full (300% of the regular position size) speculative short positions in mining stocks are justified from the risk/reward point of view at the moment of publishing this Alert.
Gold was likely to top at its triangle-vertex-based reversal and based on today’s (Jan. 8) pre-market slide it’s crystal clear that its exactly what happened.
History doesn’t have to repeat itself, right? Of course, it doesn’t have to, but it tends to happen very often to a considerable degree.
Things are so much different right now than they were last year, two years ago, in 2011, in 2008, in 1980 and in all the other years, and yet the same technical principles continue to work. Every now and then – when the history actually doesn’t repeat itself and some technical techniques don’t work – I read e-mails and comments about technical analysis not working anymore, or that things changed and that past price patterns cannot be used to make forecasts for the future anymore. What you see today and in the last couple of days clearly proves that technical analysis works and can be very useful. This time, knowing about the triangle-vertex-based reversal technique helped us not to buy (both: literally and figuratively) into the story about gold’s major breakout above its declining resistance line.
Yes, gold did break above it, but it was likely to reverse anyway, which meant that the breakout was likely to be invalidated. Without knowing about the reversal, one might have viewed the breakout as a game-changer, which it wasn’t. Instead, the breakout was invalidated in today’s pre-market trading.
Gold just failed yet another attempt to break above the 2011 highs.
Why do technical (chart-based) techniques work and why will they continue to work years from now, pretty much regardless of how the world situation will look like with regard to the political, economic and financial environment? Because nothing will make fear and greed disappear. These emotions make people want to buy high and sell low, which causes trends, and sometimes price bubbles, to form. The technical techniques are just ways to analyze how exactly the above tend to form.
Having said that, let’s take a look at what gold just did:
Figure 1 - COMEX Gold Futures
Gold declined and invalidated the breakout above the declining resistance line based on the August and November tops. It also broke below the rising short-term support line. The breakdown below the short-term support line should be confirmed before becoming bearish, but the invalidation of the breakout is already bearish.
Please note that silver was the first metal that indicated the reversal – it had its triangle-vertex-based reversal a few days too early, but overall, the indications were very useful.
Wouldn’t it be nice if silver had another clear triangle-vertex-based reversal in the relatively near future, in order to guide us? It does!
Figure 2 - COMEX Silver Futures
The white metal has its next triangle-vertex-based reversal in the second half of February, around Feb. 23. That’s when we might see the next reversal in the precious metals market. Based on today’s decline and the USD’s rally, it seems that the above-mentioned reversal will be a bottom (but it’s too early to say for sure).
And speaking of the USD Index…
Figure 3 - USD Index
In yesterday’s analysis, I wrote the following:
The above tells us that if the USD Index rallies more visibly here and breaks above the declining resistance line in a decisive manner, gold would be likely to truly plunge.
And that’s exactly what’s likely to happen! The USD Index is extremely oversold and just a little strength here will allow it to break above the steep resistance line.
I further added:
Figure - USD Index (ICE), USD, GOLD, GDX, and SPX Comparison
With the situation looking just like it did in early 2018, it seems that the USD index is bottoming, and the precious metals sector is topping.
The USD Index is slightly below the Fibonacci-extension-based target based on the size of the most recent corrective upswing and the declining dashed resistance line. The same situation in 2018 (also please note that cryptocurrencies are in a price bubble now just like they were in early 2018) meant that the final bottom was already in. The situation in the RSI indicator is similar as well.
As you can see, the USD Index has indeed rallied above the declining resistance line (regardless of whether we consider the line based on the intraday highs or the one based on the closing prices). Also, given today’s move above 90, the USDX is back above the declining dashed line from the above chart. Back in 2018 this comeback meant that the final bottom in the USD Index was in and the top in the PMs and miners was also in.
Figure 5 - VanEck Vectors Gold Miners ETF (GDX) and Slow Stochastic Oscillator (Slow STO) Comparison
Mining stocks didn’t do much yesterday (Jan. 7), but neither did gold – it is in today’s pre-market trading that the sizable decline is taking place.
The spike in volume in the GDX ETF that we saw recently continues to emphasize the similarity between the recent top, the November top, and the late-July top. The implications remain bearish. It seems that miners will soon decline in a more visible way. In fact, the GDX is already 2% lower in today’s trading on the London Stock Exchange.
Yield Moves Matter
On Dec. 28, I warned that a spike in nominal and real yields could eventually derail the gold rally. And yesterday, after the U.S. 10-Year nominal yield hit its highest level in more than 10 months, I wrote:
Not far behind, the U.S. 10-Year real yield rose by 1 basis point (0.01%) on Jan. 5 (FRED data is delayed by one day, so after yesterday’s spike in nominal yields, the 10-year real yield is likely even higher).
For context, the U.S. 10-Year real yield bottomed at – 1.08% on Aug. 6, Aug. 31 and Jan. 4. However, after awakening from its slumber on Jan. 5, another rally in real yields will reduce gold’s relative attractiveness.
And 24 hours later?
Well, the situation is evolving rapidly.
Please see the chart below:
Figure 6 - 10-Year Breakeven Inflation Rate
Yesterday, the U.S. 10-Year breakeven inflation rate (which is the interest rate needed to avoid a negative real return) hit 2.09%. But as inflation expectations continue their ascension, they’re not keeping pace with nominal yields.
Please see below:
Figure 7 - 10-Year U.S. Treasury Yield
Yesterday, the U.S. 10-Year nominal yield traded at an intraday high of 1.085%. If we do a little math (and subtract the breakeven inflation rate from the nominal yield), it means that the real yield jumped to an intraday high of – 1.005%.
Moreover, considering the real yield was – 1.08% only four days ago, the current move is extremely significant. And if real yields continue their breakout, gold will likely face some near-term pressure. For context, the last time the real yield rose above – 1.00% (hitting – 0.98% on Dec. 14), gold futures ended the day at $1,832.10.
In addition, the recent breakout continues to steepen the yield curve. Yesterday the 2yr/10yr spread (which subtracts the two-year interest rate from the 10-year interest rate) hit its highest level (0.93%) since 2017.
Please see below:
Figure 8 – U.S. 2-10 Year Yield Curve
As always, there are a multitude of factors affecting gold prices and real yields are just one piece of the puzzle.
However, many aspects are also intertwined.
Yesterday’s U.S. dollar strength coincided with the rise in nominal (and real) yields. This occurs because higher interest rates make U.S. government (and corporate) bonds more attractive to foreign investors. Thus, foreign investors are more likely to sell their currency, buy U.S. dollars and use the proceeds to invest in U.S. Treasuries (at the now higher interest rates). As a result, the reallocation propels the U.S. dollar higher and provides a double-barreled blow to gold.
EUR/USD Stuck in Neverland
After flashing green for nine of the previous 11 trading days, yesterday, the EUR/USD finally faced reality.
The EUR/USD accounts for nearly 58% of the movement in the USD Index. Thus, the USDX’s rise (and gold’s subsequent fall) depends on the movement of the currency pair.
On Dec. 28, I wrote:
The Eurozone economy is in free-fall.
Remember, currencies trade on a relative basis. Thus, a less-bad U.S. economy is good news for the U.S. dollar.
Please see below:
Figure 9 - Alternative Indicators for 2020 from Germany, France, Italy and Spain
Across Europe’s largest economies – Germany, France, Italy and Spain – economic activity is rolling over (To explain the chart, alternative economic indicators are high-frequency data like credit card spending, indoor dining traffic, travel activity and location information.)
And underpinning the irrationality, the deceleration is happening as the euro is strengthening.
Make sense?
Fast forward to Jan. 7.
Eurozone retail sales plunged by 6.1% in November, hitting their lowest level since April. Furthermore, economists expected a decline of only 3.4% (the red box).
Figure 10 - Eurozone Retail Sales (Source: Bloomberg / Daniel Lacalle)
In addition, Europe’s Consumer Price Index (CPI) – which measures Eurozone inflation – fell by 0.30% in December (landing nowhere near the ECB’s target of a 2% increase).
Please see below:
Figure 11 - European Central Bank (ECB) Balance Sheet
If you follow the two visuals, you can see that the ECB’s printing press isn’t solving the problem. As a double-negative for the euro, the ECB’s balance sheet (the white line) continues its vertical ascension, while Eurozone CPI (the yellow bars at the bottom right) remain in negative territory.
Notice how the two went in opposite directions in 2020?
More importantly, weak CPI is a precursor to a weaker euro. Why so? Because since asset purchases fail to produce any real economic growth, the ECB will be forced to lower interest rates to stimulate the economy. As a result, the cocktail of paltry economic activity and lower bond yields leads to capital outflows as foreign (and domestic) investors reallocate money to other geographies (like the U.S.). Thus, capital will likely exit the Eurozone and lead to a lower EUR/USD.
For comparability, U.S. CPI rose by roughly 0.20% in November and has been positive since June (However, December’s data isn’t released until Jan. 13.)
Figure 12 - Consumer Price Index for All U.S. Urban Consumers
The bottom line?
Yesterday’s USD awakening could be a sign of things to come. Despite investors closing their eyes to the economic dichotomy, each fundamental hammer chips away at the euro, and in time, should propel the USD Index higher.
Letters to the Editor
Q: Thanks for such a detailed report. I really appreciate the read. I take your advice very seriously. Today I have decided to sell (when the ASX opens approximately 90% of my shares. Our market generally follows the U.S. market the next day. I did sell my gold shares a few months ago on your advice and made some decent coin. I have about $100,000 in various spec shares with an overall profit of about 20%. My thinking is that I sell my shares and keep the cash in a bank, then wait for the decline in gold and then buy some gold mining shares when appropriate. I’m considering buying the USDX but am not sure. My question would be if we are seeing a bottom or thereabouts in the USDX, would now be a time to buy.
Thanks by the way. Much appreciated
A: Congratulations on your gains and thank you as well for being our subscriber. I do think that the USD Index has already bottomed, and if it hasn’t, then the downside here is very limited. But I’ve already written about that earlier today and in the previous days. As for the question about whether it’s a good idea to buy the U.S. currency right now – I’m more convinced about the miners’ decline than I am about the USD’s rally. My point is – even if I’m wrong about the USD Index’s rally and it continues to tumble, then miners are not likely to rally far. They have already proven again and again to be relatively weak compared to gold, which is relatively weak to the signals coming from the USD Index. If I didn’t have the opportunity to short miners or purchase an inverse-trading investment/trading vehicle, I’d strongly consider going long in terms of the USD.
My other ideas (more about investment than trading, but which might still be useful to you) would be to go long companies specializing in AI (in 20 years this trend will likely seem as obvious as the growth of the Internet is right now) and in companies engaging in medical research / application of psychedelic and semi-psychedelic (MDMA) substances (greatly improving the efficiency of psychotherapies; likely immense social benefit plus investment opportunity that is similar to cannabis investments before they got popular). I might combine the above with a short position in stocks to hedge the overall exposure to the stock market, while keeping the sector-specific exposure. We might introduce investment newsletters dedicated to these markets in the future. Actually, if that’s something that all of you readers (and not just the individual who asked the question) would be interested in, please let me know – positive feedback would speed this up.
Still, based on all information that I have, I would short mining stocks and that’s exactly what I’m doing with my own capital.
I can’t make the decision for you (regarding the USD or anything else) and the above is just my opinion – not investment advice.
Q: With the Democrats gaining control of the Senate, the White House, and the House of Representatives, the game has changed…government spending will be out of control…we will move quickly towards socialism…you need to protect your assets. Making money is no longer the number one priority…protecting assets is the new number one priority,,,"
A: To be honest, government spending and various money-printing mechanisms have been out of control for many months. And – to a smaller extent – years, regardless of the political changes in the U.S. The critical moment was when the Fed announced that it will print as much as it takes. That’s likely why stocks and other assets moved so much. Indeed, protecting assets is very important, but in the short and medium term, it seems that the universally-hated USD will rally against almost all expectations and the prices of many assets might decline in response. This means that whatever one wanted to protect themselves with (precious metals would be the classic approach, while cryptocurrencies would be the new, barely-tested approach) might go down in value in the next several weeks or months. Consequently, while keeping some capital in physical gold and silver is a good idea (as you see below, our insurance capital is being invested for years), it doesn’t mean that as far as investments are concerned, one can’t (or shouldn’t) wait with purchases until their prices drop.
Overview of the Upcoming Decline
- As far as the current overview of the upcoming decline is concerned, I think it has already begun.
- During the final part of the slide (which could end within the next 1-10 weeks or so), I expect silver to decline more than miners. That would align with how the markets initially reacted to the COVID-19 threat.
- The impact of all the new rounds of money printing in the U.S. and Europe on the precious metals prices is incredibly positive in the long run, which does not make the short-term decline improbable. Markets can and will get ahead of themselves and decline afterward – sometimes very profoundly – before continuing with their upward climb.
- The plan is to exit the current short positions in miners after they decline far and fast, but at the same time, silver drops just “significantly” (we expect this to happen in 1 – 5 weeks ). In other words, the decline in silver should be severe, but the decline in the miners should look “ridiculous”. That’s what we did in March when we bought practically right at the bottom . It is a soft, but simultaneously broad instruction, so additional confirmations are necessary.
- I expect this confirmation to come from gold, reaching about $1,700 - $1,750 . If – at the same time – gold moves to about $1,700 - $1,750 and miners are already after a ridiculously big drop (say, to $31 - $32 in the GDX ETF – or lower), we will probably exit the short positions in the miners and at the same time enter short positions in silver. However, it could also be the case that we’ll wait for a rebound before re-entering short position in silver – it’s too early to say at this time. It’s also possible that we’ll enter very quick long positions between those short positions.
- The precious metals market's final bottom is likely to take shape when gold shows significant strength relative to the USD Index . It could take the form of a gold’s rally or a bullish reversal, despite the ongoing USD Index rally.
Summary
Summing up, the outlook for gold and the rest of the precious metals market is bearish for at least the next few weeks. After topping at its triangle-vertex-based reversal, gold moved sharply lower and it just invalidated the breakout above its declining resistance line, while breaking below the rising support line. All this happened as the USD Index rallied visibly above its declining resistance lines and invalidated the breakdown below the 2020 lows. This creates a strongly bearish combination for the precious metals market.
The USD Index and cryptocurrencies suggest that we’re seeing the repeat of early 2018, when the USD Index bottomed. Given the current correlations between PMs and the USD Index, the rally in the USDX is likely to have very bearish implications for the precious metals market.
The USD Index’s reversal yesterday suggests that PMs and miners are about to get a bearish push, and we might get exactly the same thing from the general stock market.
Despite a recent decline, it seems that the USD Index is going to move higher in the following months and weeks, in turn causing gold to decline. At some point gold is likely to stop responding to dollar’s bearish indications, and based on the above analysis, it seems that this is already taking place.
Naturally, everyone's trading is their responsibility. But in our opinion, if there ever was a time to either enter a short position in the miners or increase its size if it was not already sizable, it's now. We made money on the March decline, and on the March rebound, with another massive slide already underway.
After the sell-off (that takes gold to about $1,700 or lower), we expect the precious metals to rally significantly. The final 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 on the March decline and the subsequent rebound (its initial part) price moves (and we'll likely earn much more in the following weeks and months), but you have to be healthy to enjoy the results.
As always, we'll keep you - our subscribers - informed.
To summarize:
Trading capital (supplementary part of the portfolio; our opinion): Full speculative short positions (300% of the full position) in mining stocks is justified from the risk to reward point of view with the following binding exit profit-take price levels:
Senior mining stocks (price levels for the GDX ETF): binding profit-take exit price: $32.02; stop-loss: none (the volatility is too big to justify a SL order in case of this particular trade); binding profit-take level for the DUST ETF: $28.73; stop-loss for the DUST ETF: none (the volatility is too big to justify a SL order in case of this particular trade)
Junior mining stocks (price levels for the GDXJ ETF): binding profit-take exit price: $42.72; stop-loss: none (the volatility is too big to justify a SL order in case of this particular trade); binding profit-take level for the JDST ETF: $21.22; stop-loss for the JDST ETF: none (the volatility is too big to justify a SL order in case of this particular trade)
For-your-information targets (our opinion; we continue to think that mining stocks are the preferred way of taking advantage of the upcoming price move, but if for whatever reason one wants / has to use silver or gold for this trade, we are providing the details anyway. In our view, silver has greater potential than gold does):
Silver futures downside profit-take exit price: unclear at this time - initially, it might be a good idea to exit, when gold moves to $1,703.
Gold futures downside profit-take exit price: $1,703
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
