No Summer Doldrums for Gold Prices

I am often asked at this time whether it is a good idea to be in the precious metals market during the summer period known as the "Summer Doldrums", in which demand for gold dries up temporarily while farmers in India plant crops and wait for the monsoon rains. When they harvest in the early September, demand for gold picks up again as they are anxious to convert their profits into gold.

After looking at the seasonal effects on gold, one might think it prudent to wait through the summer in hopes of entering the market at lower prices.

However, after considering important fundamental factors such as the increase in the money supply, it is clear that it is not a good idea to wait until summer's end to enter a market that rather sooner than later is heading higher. Naturally, there will be pullbacks along the way, but the potential cost of being completely out of the market is too steep.

The technical side of the market helps us estimate the most probable direction and range of the next move. This week we begin with gold. (charts courtesy of StockCharts.com)

Gold

In the June 6th Premium Update I included a chart for my subscribers that featured non-USD gold. Several weeks have passed since then and I believe an update on this topic will be helpful, especially for those who cover their living expenses in currencies other than the dolar.

This chart features the gold to the UDN ratio. The latter is the symbol for PowerShares DB US Dollar Index Bearish Fund, which moves in the exact opposite direction of the USD Index. Since the USD Index is a weighted average of the dollar's currency exchange rates with world's most important currencies, we may use the gold:UDN ratio to estimate the value of gold prices in "other currencies".

The June downleg in the precious metals is visible also in other currencies, but the price reversed very quickly once it briefly broke below the multi-month support level (ratio below 35) and touched its 200-day moving average. The very temporary breakdown and rapid comeback above the support level is a bullish development.

This means that the buying pressure was very strong indicating potent demand that will prevent gold from going much lower right now. Additionally, since the breakout above the previous highs (corresponds to the above-mentioned 35 level) has been verified twice and took several months, it seems that we are now ready to advance further. (In the USD the price of gold did not break through its previous highs earlier this year.)

We need to zoom in to see more details.

Using the GLD ETF as a proxy, medium-term gold looks bullish. The local bottom that I predicted in past updates has materialized, and both visible indicators (Relative Strength Index and the Stochastic Indicator) suggest higher prices are likely. The Stochastic Indicator has put in a bottom and the RSI is at levels that do not suggest a plunge. Therefore, anyone holding gold right now should sleep rather well.

The cup-and-handle formation, to which I referred several times in the past , seems to be completed, and the handle, which formed during June, is now clearly visible. Ideally, I would like to see the volume shaped similarly to the way price shaped during the mid-Feb to June time frame, as this would perfectly confirm this bullish formation. But this is not the case. The volume was much higher in the middle of the February top than it was at the beginning of June.

Still, the lowest values of volume were in mid-April during the bottoming process, and the volume declined during the "handle" phase, so I decided to include this formation in my analysis. Volume is not ideally confirming this bullish formation, but it is also not invalidating it

Summing up, gold is likely to take a small pause here, which will also correspond to the summer doldrums, but based on the current charts, it seems that this move will be insignificant, so I do not plan to trade it for myself.

Silver

The silver market appears to have bottomed as well. We saw the pattern in the Stochastic indicator, which is usually visible during bottoms, and we touched the support level on high volume. The silver chart confirms the points raised earlier - the most probable direction for price to go is up.

Correlations

As I indicated a week earlier, the correlation between USD Index and the precious metals market has weakened recently and for the past few weeks they have been trading somewhat independently from each other.

Since I first wrote about it, the correlation has become even weaker. Although that is a short period of time on which to base any conclusions, it might tell us that uncertainty about the short-term outcome in the USD market does not automatically need to translate into uncertainty in the gold market.

The precious metals sector is still in a favorably technical and fundamental situation and it does not "require" the dollar to plunge in order to move higher.

Summary

Summing up, the historical tendencies favoring the summer doldrum scenario may not play out this year, as many significant developments, such as the tremendous increase in the money supply, suggest higher prices ahead. The traditional negative correlation between the dollar and precious metals has become barely visible in the past two weeks, but that does not seem to matter much, as gold, silver, and mining stocks are likely to rise even without significant influence from the USD Index.

Still, we may experience a pause in rise of gold prices.

Disclosure: I own gold and silver

Comments

[cameroni:]

I always appreciate your analysis Przemyslaw, and my own sense of the gold market is similar to yours. I do see a price rise in the fall now as well after a short relaxation period.

Quarterly earnings reports will likely reduce the strength of a generally rising trend in gold if only for the period now. They will likely come in higher than expected. 3rd quarter will be a different story though, particularly if we see new stimulus measures to offset the real declines in employment, assets, GDP and lack of real lending. In general though, consumption is still off and so profits will be on a decline even factoring in seasonality.

Stimulus will be the key but if the dollar drops gold should still have legs and make a move higher. I actually expect the dollar to strengthen though into September, October. There is real ambivalence in the market now though as it is not clear we will actually go inflationary yet or not. Even though that is a virtual certainty later.

I had been hoping for another good low entry point but gold seems stuck in the current range and any good scares, poor financial reports etc could send it higher. Alan Greenspan's recent strong suggestion about the inevitability of inflations resurgence have directly impacted gold prices in my opinion. As have remarks from China and Russia on the the issue of SDR's with some gold backing.

Longs will not want to give up positions in that kind of environment where they see better than average odds of higher prices moving into the fall.

A big pullback in gold is looking less and less likely as the summer progresses.

Jun 30 08:12 AM

[petersl:]

This article and the comment by cameroni sums up the current consensus opinion among those who follow precious metals and are by nature bullish on gold prices. The question, as generally is the case, is one of timing. I believe that purchasing gold related assets (and silver as well) on any price retreats during the summer months, will be rewarded appropriately as the government stimulus efforts are highly inflationary. The only question appears to be when will this inflation show up.

Jun 30 08:31 AM

[knight:]

I dont think an investor has to worry about missing the gold run up by not being invested this summer. With the latest numbers coming out deflation will be a big concern for the immediate future. I also see a major correction in the markets that should end by end of summer which should also coincide with a low in gold in the high 700's to low 800's. Elliot wave 8.5 year low for Gold is also due by the end of summer.

Jun 30 09:07 AM

[secmaven:]

Silver broke down well below its 50 day moving average today so the author's observation on that market is off the mark. As long as JP Morgan is allowed to sell as many shorts as its masters in the Fed direct it to sell (in violation of the law) neither gold or silver can go any where.

Jun 30 02:01 PM

[kohalakid:]

In violation of what law??


On Jun 30 02:01 PM secmaven wrote:

> Silver broke down well below its 50 day moving average today so the
> author's observation on that market is off the mark. As long as JP
> Morgan is allowed to sell as many shorts as its masters in the Fed
> direct it to sell (in violation of the law) neither gold or silver
> can go any where.

Jun 30 02:10 PM

[nmelendez:]

Hey, hope they do keep it low for another year or two. Just me more time to accumulate. Sooner or later this dam will bust...and then, watch out.

Jun 30 08:16 PM

[Mayascribe:]

Good article, and Cameroni, you're right on the money as far as your comment goes.

The big question for me this summer about all stocks, is market sentiment. Obama is going to be releasing billions of TARP money all summer long and into the autumn, which just might turn the doldrums into a bumby ride slightly upward, piggybacking the Chinese stimulus.

The odd thing to me is that so many gold mining companies now have terrific fundamentals. Yes, energy costs have zoomed up with the price of oil. But this time last year oil was heading much higher than I expect it will do for the remainder of this calendar year. Very much looking forward to this quarter's earnings.

There is still a lot of sideline money. Everyone expects inflation to occur, sooner or later. The gold push upward still may be months, if not a year or two away. This in mind, gold seems to have a protected bottom, probably around $880.

As gold nears $900 I'm going to start again re-establishing some long positions in a few my favorites: Yamana Gold (AUY), Northgate Minerals (NXG) and New Gold (NGD).

I've been long Jaguar Mining (JAG) all the way since November last year. Jaguar Mining, in my opinion, is the best gold miner investment opportunity out there.

But let's not forget about Northern Dynasties (NAK). Their Alaskan monster has yet to scrape the ground holding some 82 billion pounds of copper, and 52 million ounces of gold. At ~ $7.00/share, this stock looks to be a major player in 18 months.

Jun 30 09:33 PM