The level of bearishness that has developed in the gold market is actually quite shocking. Many “experts” are claiming that the reason is due to the fact that gold has broken its 200 DMA, and many of them are now calling for moves as low as $1100 or $1200. Some are even saying that the bull market in gold may be over.
It was only several months ago, at the all-time high and just prior to the start of this larger corrective pattern in gold, that these same “experts” were calling for gold to move over $2,000 imminently. However, we saw how that turned out. Therefore, should we take these “expert” opinions as fact? I think not.
Today, this significant bearishness is potentially marking the bottom or near bottom of the gold market rather than the start of a larger bear market in the metal.
Gold as a “Safe Haven”
One thing that has developed during this correction is actually very important for gold investors to understand from a larger perspective. That is the fact that gold is not a “safe haven,” as many were led to believe.
A “safe haven” investment is one which investors may safely accumulate during periods of financially perilous times. With sovereign government debts on the verge of collapse, and the realization that many of the world’s largest banks are undercapitalized, we are clearly living in financially perilous times, marked by severe deflationary pressures.
Yet, as this crisis has potentially worsened, the “gold as a safe haven” crowd would have assumed that the masses would be accumulating gold at the most frantic pace in history. Rather, investors have been selling gold at one of the fastest paces in history.
Ultimately, investors must come to the realization that deflation will affect gold in the same way it affects all other asset classes. During such times, the only “safe haven” will be the U.S. dollar, as I have stated many times in the past. The reason for this is because, during deflationary periods, the relative value of the greenback rises as the credit portion of the larger monetary base contracts.
One other important fact that I hope precious metal investors are learning is what actually drives the price of gold is the same thing that drives the price of other commodities. As many expect that to be fundamentals, the truth is that the driver of all the commodity markets is “emotion.” The underlying fundamentals for gold have not changed, and, arguably, have become even stronger. Yet, gold has been involved in a large downside correction in the face of stronger fundamentals. Most of these fundamental perspectives were not able to foresee this larger correction in gold. Rather, most of them were still calling for gold to move over $2,000 at its prior top due to these fundamental arguments, which have not changed. However, for a better understanding of what actually drives the price of gold, feel free to read the following article.
Where is the bottom?
Although I had mistakenly thought that the gold market had already bottomed a few weeks ago, when it broke down below GLD 170 it invalidated my immediate bullish perspective, but not my currently overall bullish perspective for the next month or two.
On August 25, I wrote an article on Seeking Alpha analyzing the corrective action which I foresaw. That analysis is still quite applicable:
“Usually a wave 4 will retrace back to the .236 or .382 Fibonacci retracement level of the entire wave 3 move. Furthermore, based upon the guidelines provided to us by Elliott Wave Principle, 4th waves will usually find support at the level of the previous 4th wave of one lesser degree. However, when the 5th wave is extended, the “ensuing correction will be sharp and find support at the level of the low of the wave 2 of the extension."
At this time, based upon that analysis, the most likely levels of support for GLD is the 152 region and the 144/145 region. The 152 region represents the .382 Fibonacci retracement of the wave 3, and also represents where this wave down in the market is equal to .764 the size of the first wave down in the market. However, if GLD were to break down below 151, then the most likely target for support will be the 144/145 level. This level represents the 4th wave of one lesser degree, as well as the level of the low of the wave 2 extension, mentioned under the guidelines above. Furthermore, this level is where this wave down in the market would be exactly equal to the first wave down in the markets.
When gold does find support at one of the cited levels, the rally which will ensue will be quite strong and sharp to the upside, even potentially parabolic, in fact. It will even surprise many investors as to how fast and strong gold will move up towards the $2,000 level from these regions.
If we look at the market action during the six week period between the start of July until the middle of August of 2011, GLD moved from 144 to over 185. Based upon the position of the market at this time, after we create a bottom within the next week or two, my expectation is that the next rally can be even stronger than the rally we saw during this prior six week period.
In my August 25th article, I provided upside targets, which are also still quite applicable:
“In the event that gold does find support at one of the higher levels, then the higher targets for the metal that I left you with the other day are still applicable: $2,111 (2.236 extension), $2,232 (2.382 extension), and $2,429 (2.618 extension).”
“Furthermore, since wave 5 will ordinarily exhibit some Fibonacci relationship to wave 1, and wave 1 took us from GLD 68 to GLD 120 - a 52-point move - this would potentially allude to our wave 5 (if it has not completed already) being 52 points as well, from the point at which the GLD finds support. Additionally, since commodity indexes tend to have extended 5th waves, it is more likely that the potentially upcoming wave 5 can extend to 64 points (1.236 extension), 72 points (1.382 extension), 78 points (1.500 extension), or 84 points (1.618 extension). This would begin if GLD finds support at a level above 144.25.”
Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in GLD over the next 72 hours.