I am looking at the gold ETF (GLD). I have done some research and I do not believe in the short run gold will be going up in price. From a long-term perspective it is in a consolidating phase that should eventually turn it bullish. Its long-term climb up is not solely dependent upon stimulus money. The unsettling realities of massive debt in much of the industrial world and the continued currency devaluation will play a bigger roll in gold's climb in value. But for now, I am looking at a short-term income play on GLD. Here are two simple reasons my directional play would be bearish.
Gold movement & the U.S. dollar
Generally speaking, gold will always move in the opposite direction of the U.S. dollar. As long as the dollar is the currency of influence, a negative correlation will exist between the two. Of course sometimes they may move in sync, but one can count on the correlation as a good barometer. And right now the dollar continues to rise and is the choice of safety against an eroding euro. The dollar moved down before the last two stimulus were put in place but this time there is no weakening dollar (at least at this point) so the price of gold is not going to climb in the immediate future.
Gold is not the Popular Metal Right Now
The demand for gold has fallen 7% and is at its lowest quarterly levels since the beginning of 2010. At the same time, the general demand for the metal is at a 2-year low. Currently, India is the number one market in the world and there are two things happening there that are causing the demand for gold to dwindle. A recent hike in import duties and a weakening in the rupee have sent prices too high. Abhishek Goenka, Founder & CEO, India Forex Advisors said:
The rupee is expected to continue its weak trend and we don't see any major improvement happening in global markets and expect it to remain volatile in coming months as well
Gold consumption is expected to drop by 33% this year in the nation. If it were to grow this year, it would be heavily dependent upon a "gold-friendly" move on the part of central banks. This does not look like it will happen right now. Demand for gold has also dropped in China by 7% this year. If there is no demand for the metal, then there is no reason for the price to go up. If the one catalyst out there to lift gold prices is not happening (quantitative easing) then prices have no reason to go up.
(click to enlarge)
Technically Speaking
From a short-term perspective, the GLD has a very distinctive descending triangular pattern. The descending triangle is a bearish formation that usually forms during a downtrend as a continuation pattern. Regardless of where they form, descending triangles are bearish patterns that indicate distribution. Since about February the stock has been in a bearish trend and this pattern is a consolidation phase before it continues down. Both the RSI and the MACD have been moving across the '0' point, which signifies neutrality, thus confirming a consolidation time.
The Options Play
GLD is currently trading at 156. 81. Since I cannot see quantitative easing taking place soon and the demand for gold is so low, I must create a bearish income strategy here.
- Buy a November 2012 put with a strike of '156' (priced at $4.90)
- Sell a November 2012 put with a strike of '155' (priced at $4.35)
- Net Debit to Start: $0.65
- Maximum Profit: $0.35
- Maximum Risk: net debit
- Maximum Length of Play: 3 months
Reasoning behind the Trade
- The demand for metal does not exist.
- A stimulus package to raise the price of gold is not in the stars right now.
- The descending triangular pattern defines a continuation bearish pattern
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
