Gold has moved up very strongly in the recent days. This article is only for those who are interested in maximizing risk adjusted returns on their money.
We are in an environment where gold bugs boldly proclaim that gold is going to the moon, and gold bears strongly protest that gold is in a bubble. At such a heated stage, this article attempts to answer the question, “What is a prudent investor to do now?”
As my long-time readers know, I work very hard at starting from a neutral position with no prejudices and then let the hard data speak for itself using the proven analytically rigorous ZYX Change Method.
Risk adjusted return is a measure of how much money is made relative to the amount of risk taken over a specific period of time. In a layman’s language, if two positions had a 10% return, the less risky position would have a better risk adjusted return.
The modern portfolio theory describes five main risk measures: Alpha, beta, r-squared, standard deviation and Sharpe ratio. Our research has shown that all five of these measures have significant drawbacks. Here at The Arora Report we have developed our own proprietary risk measures that are more suited to today’s markets.
The risk reward matrix combines fundamental analysis, quantitative analysis, and technical analysis. There is heavy emphasis on sentiment and money flows. Moreover, the models are adaptive, i.e., they automatically change based on market conditions. As the risk reward matrix shows, gold is now in the "cut area" and rapidly moving toward "remove."
Readers can readily see that the reward in gold is not proportional to the risk at this point. This risk reward matrix is only based on a short-term view. We define "short-term" as less than six months.
The chart below shows proprietary sentiment indicator plotted over the price of GLD.
Click to enlarge
Ideally we like to see sentiment curve significantly below the price level as it was at the end of June. The readers will readily notice that the sentiment as of the close of August 22 is way above the gold price.
Please do not extrapolate the charts and the risk reward matrix on gold to silver (NYSEARCA:SLV).
We have no position in gold, but if we did, this is what I would be writing:
Those holding GLD and are aggressive investors may consider taking profits on 25% of the position right here, putting a tight trailing stop on another 25%, and holding the rest.
Those holding GLD and are conservative investors may consider taking profits on 50% of the position right here.
Those not holding GLD may not enter at this point but patiently wait for a pull back.
As a full disclosure, these markets are volatile and signals from the ZYX Change Method that are provided to the subscribers change often based on the change in data.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Additional disclosure: I have no position in gold, but am inclined to buy gold when risk reward is favorable. At such time I will also provide a signal to my subscribers in real-time.I have sold short silver futures. Please see this position in the context of ZYX Change Method Trade Management Guidelines. On debt ceiling agreement I had sold short SLV at $40.02 and $40.78. That SLV position was closed at $37.82 on August 4, 2011.