Golden Bull Buy Signals 3
Adam Hamilton April 16, 2004 3341 Words
Wow, what an exciting week for gold! While some found the sharp drops in gold and especially gold stocks ominous and disconcerting, gold contrarians everywhere are rejoicing over the recent days’ stunning developments.
How could such carnage be encouraging? The name of the great market game is to buy low and sell high. While most give ample lip service to this simple core truth of speculation, it is often only the contrarians who really attempt to walk the walk.
Contrarians live for extreme market weakness, for periods of time when fear’s icy fingers start clutching at the hearts of the popular investor psyche. As prices fall and doubts multiply exponentially, contrarians gleefully prepare to swoop in for the kill. At the very moment when the popular selling crescendo peaks, the contrarians are fighting the great thundering herd and buying with reckless abandon.
My fellow contrarians, take note this week as the Golden Bull Buy Signals are finally triggering again, exploding like firecrackers all around us! This is fantastic news, an extraordinary event that has not been witnessed in over a year. We are now entering the greatest potential buying opportunity in gold and gold stocks in at least thirteen months.
Do you remember the last time we were blessed with such an event? I sure do! It was late March of 2003, right after Washington invaded Iraq. Gold had plunged from nearly $380 to under $325 in only eight weeks, as popular consensus overwhelmingly assumed that the powerful gold rally of 2002 was nothing more than an anomalous product of pre-war jitters.
Gold stocks had traded essentially sideways for an excruciating ten months. The HUI had approached 148 in early June 2002, but had ground down to 114 by late March 2003. Sentiment was overwhelmingly negative. Between loud wailings of manipulation and rampant wave-theory theses of a resurgent Great Bear in gold destined for new multi-decade lows, not many wanted to throw long.
On March 21st, 2003 amidst this overwhelming pessimism, I published the ancestor of today’s essay, “Golden Bull Buy Signals 2”. In that fateful essay I presented many of the same arguments I am going to make this week. I concluded it with, “We have suffered through an anticipated sharp gold and gold-stock pullback, but these are normal in all bull markets and are nothing to fear. The coming investment and long speculation opportunities in both gold and gold stocks as this pullback ends will be simply awesome!”
Out of the very ashes of despair from those discouraging late March 2003 lows, gold and the HUI brilliantly blossomed for the rest of last year. The Ancient Metal of Kings easily defied its legions of naysayers who claimed it was toast without an impending war, running up 32% in about nine months and breaking the fabled $400 level.
The elite unhedged gold and silver stocks of the HUI leveraged these gold gains dramatically. Over the next eight months the HUI soared nearly 125%! Not surprisingly, the profits earned last year by contrarians willing to fight the crowd and buy low were absolutely enormous. We were thankfully blessed abundantly in 2003.
My bet to throw way long last March centered around two arguments. First, the pullback in gold and gold stocks early last year was anticipated in advance. Second, the gold and gold-stock markets had approached long-term bull-market support that simply would not decisively fail unless the bull market in gold had ended. For the first time in a year now, these powerful arguments have once again come into play today!
The recent 2004 weakness in gold and gold stocks was fully anticipated technically. Gloom-and-doom conspiracies aside, both gold and gold stocks had become technically overbought and both were due for normal healthy bull-market corrections or consolidations. All bull markets flow and ebb, advance and retreat, and gold is no exception to the great rhythms of the markets.
Proof on an anticipated correction you demand? Piece of cake! Gold itself essentially topped near $426 on January 9th, although this high was challenged but not decisively broken in late March. On that very day in early January I published “The Relative Dollar and Gold” essay. My conclusion at the time as gold topped, based purely on technical levels in the US Dollar Index and gold, was summarized in the following paragraph.
“For now though, the oversold dollar levels and overbought gold levels in Relativity terms are troubling. The US Dollar Index really looks like a major countertrend rally is imminent and due. And if a bear-market rally in the dollar launches, for any reason, odds are that gold is going to get hit over the short-term. Get ready!”
Gold stocks topped a month earlier when the HUI closed near 257 on December 2nd. Nevertheless, that too was technically evident at the time. On December 5th I published “Trading the Gold-Stock Bull 3” where I incurred the undying wrath of the fanatical gold zealots by urging short-term caution. That essay concluded with the following two paragraphs.
“While the long-term secular gold bull that now challenges $400 almost certainly has many years left to run yet, with the best gains lying ahead still, speculators still need to expect normal healthy short-term pullbacks to higher lows after major rallies. With gold stocks shooting vertical and both of our gold-stock indicators now neutral, speculators ought to prepare and gird themselves for just such a correction.”
“The coming short-term buying opportunities at the next 200dma convergences ought to be breathtaking, so please make sure that you prudently protect your short-term gold-stock speculative capital so that you can fully participate at the next major interim lows in gold and gold stocks. Godspeed!”
I share these earlier comments that I made near the tops with you to prove an important point. Gold and gold stocks were simply overbought in technical terms, so normal healthy corrections were due in both. One did not need to be a central-bank insider nor need a crystal ball to anticipate a normal bull-market correction. Such events just happen periodically. They should not catch prudent contrarian students of the markets off guard.
And if the correction was anticipated, then perhaps so too is the subsequent bounce at major support equally inevitable! I mentioned holding out for “the coming short-term buying opportunities at the next 200dma convergences” in early December. This week, for the first time in over a year, the 200dma convergences have gloriously arrived!
The 200-day moving averages are incredibly important technical lines in any major bull or bear market. Periodic countertrend reversals in any primary trend, such as a correction in a bull market, almost always tend to end somewhere near the key 200dma of the market being studied.
Thus, if you are in a long-term bull market and a price retreats back near its 200dma during a correction or consolidation, then you know that it has reached its rock-bottom support zone in terms of this bull market. If the foundational fundamentals supporting this bull are still in place, then the correction ought to end near the 200dma as the primary uptrend once again reasserts itself.
Since these close 200dma convergences really don’t happen all that often, contrarian investors and speculators really need to pay attention when they do. 200dma convergences in gold and gold stocks have only been witnessed a few times in the past few years. Every single one has marked a phenomenally good buying opportunity, and odds are that today’s example will prove equally valuable when we look back from the future.
In order to analyze these wonderful 200dma convergences this week, we zoomed in to only the last eight months or so in our charts. This period of time highlights both the recent tops that were described as they happened above and as well as the subsequent anticipated correction/consolidation. If you want longer-term graphs for more strategic context, please check out the similar charts in “Trading the Gold-Stock Bull 4” which run back a few years each.
We’ll start with gold itself since its own bull market ultimately drives gold stocks, then we will move into the HUI. Behold the glorious reappearance of the Golden Bull Buy Signals!
Last March when gold converged with its 200dma, we were basically just eye-balling the distance between these two variables on the price chart, the blue gold line and its black 200dma. This worked fine thankfully, but it wasn’t very clean or precise. In order to make this crucial comparison more comparable and less likely to be misinterpreted due to graph skew, I developed the tool of Relative Gold.
Relative Gold, or rGold, is simply the gold price divided by its 200dma. An rGold reading of 1.05, for example, indicates that gold is trading at 1.05x, or 5% above, its 200dma. A reading of 1.00 means gold is trading right at its 200dma, and a reading under 1.00 means gold is trading under its 200dma. These daily rGold numbers are graphed above in red and are our primary tool for analyzing the gold interim top, consolidation, and 200dma convergence.
When gold topped in early January, its rGold reading was over 1.15, well above our 1.11 neutral zone determined through historical research. When rGold originally broke above 1.11 in early December, it was a warning sign that gold was getting stretched too far beyond its 200dma to be sustainable over the short term. So we ratcheted up our trailing stops in anticipation of a correction or consolidation, and indeed it came to pass.
Once gold topped in early January, it entered a normal correction or consolidation trend pipe, defined above by the blue lines. The difference between a correction and a consolidation is the swiftness and downslope of its trend. Corrections tend to be steep and sharp moves back down to a 200dma, while consolidations are lackadaisical sideways meanderings until a price’s 200dma rises to catch up with it. Gold’s behavior of recent months was more consolidation than correction.
This correction/consolidation in gold looked textbook perfect heading into March. Gold was retreating nicely and rGold had contracted down to 1.027. Our buy range for a long signal in rGold is 1.02, so the March lows were close but the 200dma convergence was not quite mature enough to trigger going long at the time. Following these early March lows, gold suddenly surged higher without triggering an rGold buy. It soon burst free from its consolidation downtrend, marked by the blue X above.
This late March gold spike was technically perplexing in several ways, and it caused a great deal of angst for contrarian speculators. First, gold failed to converge with its 200dma as closely as it ought to, so it didn’t yet look like the real start of a major upleg. Second, gold was rallying strongly but the US dollar remained stable, an odd event I discussed in “Euro Gold Challenges E350” in early April. Finally, gold stocks failed to confirm gold’s surge, a troubling divergence.
As I penned the current April issue of our monthly Zeal Intelligence newsletter for our subscribers on the evening of March 31st, gold was trading near $427 and the HUI was running 236. I had to decide then whether or not I believed that we should buy, assuming the March lows were the bottom and a new upleg was in place sans buy signals, or whether we should hold the course and wait. It was a tough call, one I agonized much over. The April issue of ZI chronicles the analysis and logic leading up to my decision, which was to hold the line and wait.
As mere mortals none of us can see the future like God, we can only speculate, but the markets just didn’t feel right at month end. Gold was challenging its upper Bollinger Band and threatening new highs, but the gold stocks refused to confirm. Since gold stocks are the primary vehicle speculators use to game gold, this indicated that something just wasn’t right. The short-term gold decoupling from the dollar was also odd and potentially not sustainable. It was a strange technical scene!
The answers to this vexing puzzle finally arrived this week. The US Dollar Index bear-market rally surged, potentially into a climax stage, and gold dropped sharply. Naturally this spooked many gold investors and speculators, but it did not need to. Contrarians have long been expecting a 200dma convergence by gold and it looks like it is finally here.
The chart above was created after the markets closed Wednesday evening and, as of then, rGold was running at 1.026. This is a hair lower than March’s 1.027 reading, but it is still not in the strong-buy zone under 1.02. The red X above marks the current position of rGold hovering just above the green buy line. While this particular Golden Bull Buy Signal has not yet triggered as I hammer out these words, I expect it will soon, perhaps even by the time you read this.
In order to get within 2% of its 200dma for the first time since last summer, gold does not need to fall much farther. A mere few dollars would do it, a small fluctuation for any trading day. And even if gold does not fall a little lower, the 200dma convergence can still happen. Gold would just have to trade sideways for a week or two and its rising 200dma would catch up with it from below. At the moment, a sub-1.02 rGold reading flagging a strong buy seems all but inevitable in the days and weeks ahead.
While the rGold buy signal has not quite managed to cross the finish line yet, the far more important Relative HUI buy signal did flash this week, for the first time in a year! The rHUI is computed the same way as the rGold, by dividing the HUI by its 200dma. It helps us precisely quantify where the HUI happens to be at any given time relative to its major 200-dma bull-market support. Feast your eyes on the best looking HUI chart in a year!
Unlike gold’s late March headfake that caused much consternation amongst contrarians, the correction/consolidation downtrend channel in the HUI could hardly be more perfect. As its lower support and upper resistance lines drawn above show, the HUI has been contracting rather nicely within this downtrend pipe. It is gradually migrating from overbought levels to oversold levels, the ideal time to buy in technical terms.
Back in early December, the HUI soared to 257 and stretched itself over 55% higher than its key 200dma support! In addition to being in an unsustainable parabolic spike, the vast technical gulf opened up between the HUI and its 200dma was a clear warning signal to contrarians to be on alert. We went neutral and raised our own trailing stops on gold stocks in late November when the rHUI broke above our 1.50 neutral line. In hindsight I am very thankful to see that this was the right decision to make.
The HUI started correcting almost immediately off of those interim highs, but interestingly gold-stock players just did not believe it at first. Almost like clockwork once a month or so there were steep surges in the HUI, but each time these sharp rallies failed at new lower highs. This series of lower highs formed a resistance zone that provided further confirmation that a real HUI correction or consolidation was indeed underway.
These sharp, yet ultimately failed, rallies help illustrate an important point about psychology. When the HUI topped in early December the overwhelming majority of gold-stock players were very bullish. This is typical topping psychology. Any dissenting viewpoints or talk of a correction in early December was widely ridiculed. I know this firsthand as I was flamed, insulted, cursed, and yelled at when I went neutral in late November. Being a contrarian is seldom popular.
Yet, today, the number of bullish gold-stock players has fallen dramatically. While we don’t know if the bottom is here yet, it is probably getting darned close. The currently prevailing gold psychology reflects this. Unlike at the top, today it is possible to have a rational conversation between short-term gold bulls and short-term gold bears. In addition, the general gold-stock bearishness today near the 200dma is as high as I have seen it in a year.
This week’s sharp decline in the HUI naturally fed this growing bearishness like pouring gasoline on a wildfire. As you can see above, the blue HUI line plunged all the way back down to its 200dma! Our rHUI strong buy level is anything under 1.05, and as of this Wednesday the rHUI had plunged all the way down to 0.997! The primary Golden Bull Buy Signal in gold stocks has triggered as the HUI 200dma convergence is upon us!
Interestingly, a year ago gold stocks bottomed a week or two before gold. This makes intuitive sense as contrarian speculators try to anticipate a bottom in gold by buying relatively low-priced gold stocks ahead of it. This early demand for gold stocks helps stabilize or push up their prices even before gold itself bottoms and starts heading higher, which is the ultimate fundamental driver for gold-stock performance.
While this week proved to be very exciting, it is important to remember that the 200dmas do not have to hold as support. Gold and gold stocks could fall below their 200dmas before they bounce higher. Last year rGold bottomed at 0.978 and the rHUI bottomed at 0.903. Such levels are certainly possible again today too, although I don’t think they are highly probable. Last year was marred with tremendous uncertainty over the invasion of Iraq, and as far as I know Washington thankfully has its hands too full to launch any new preemptive wars in the weeks ahead.
In addition, 200dmas will decisively fail when a bull market is ending. Some folks think the bull market in gold is now over. If they are right, the 200dmas will not hold as support. Such transitions from major bull to bear or vice versa are usually marked by a change in underlying fundamentals. All gold players today need to carefully evaluate the fundamentals for themselves and decide if they believe this gold bull market still has solid fundamental foundations.
Personally, I do believe this gold bull still has years left to run yet for many fundamental reasons. Global gold demand exceeds its annual mined supply, central banks are printing paper money like there is no tomorrow, real interest rates are dismally low, nominal interest rates are destined to rise, the US equity markets still sport bubble-like overvaluations, a massive commodities bull is underway, and this gold-friendly list goes on and on.
If this gold bull indeed still commands solid fundamental foundations, then it should bounce somewhere near its 200-day moving averages. If you share my strong belief that the gold bull is not yet over, then there is no better technical moment to buy than near 200dma convergences such as we are witnessing today.
As far as detailed strategizing on exactly how to play these magnificent opportunities, including specific trade recommendations in stocks and options, I always save these for our paying subscribers which graciously feed the Zeal team and our families through their support. Without them, neither Zeal LLC nor these essays would even exist. Thank you so much if you are already one of these wonderful people!
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We publish the acclaimed monthly Zeal Intelligence newsletter for investors and the anytime Zeal Speculator e-mail alert/update service for speculators. I was trading this week on these excellent gold-stock tidings and published Zeal Speculator Alerts sharing this activity, the actual trades, and the reasons behind them for our subscribers. These free Web essays are only the tip of the iceberg!
Rejoice fellow gold contrarians, for our hour is at hand! The Golden Bull Buy Signals are finally arriving!
Adam Hamilton, CPA April 16, 2004 Subscribe at www.zealllc.com/subscribe.htm