I had discussed the reasons for a probable correction in gold in the near-term in my article on October 23, 2012. From the highs of that day, gold has corrected by 3% in ten trading sessions. This article discusses the levels at which investors can consider exposure to gold for the long-term.
There is no doubt in my mind that gold is undervalued when compared to other asset classes from a long-term perspective. Therefore, any meaningful correction in gold would be a great opportunity to buy the precious metal. The best part of the bull market might still be pending for gold and investors need to benefit from the same.
Coming to the current scenario, gold is trading very close to its 200-day EMA of 1668 on a daily chart and if gold does correct further, it might signal the beginning of a more meaningful correction for the precious metal. The current level also coincides with a breakout on the downside (Ichimoku clouds) on further correction. If this downside is confirmed, gold might exhibit weakness for the next few months. I do assign a higher probability of further correction in the precious metal than a bounce back from current levels. The chart below does suggest that one need to exercise caution on going long on gold in the near-term.
If one investigates the same indicators on a weekly chart, gold has been struggling around the cloud resistance and upside levels for a relatively long time, indicating directional confusion among market participants. The key level I want to point out here is the 200-day EMA on the weekly chart, which is at 1388. I am of the opinion that gold might have a downside of 10-15% from current levels leading to a range of $1420-$1500. I don't foresee a scenario where gold goes below the 200-day weekly moving average levels.
Movement in gold prices has a strong relation with the dollar. It is therefore critical to understand the trend for the dollar in the near-term. The daily chart for the dollar index suggests that the dollar is at a critical level of 80.59, which is just above the 200-day exponential moving average of 80.35. If the dollar does strengthen over the next few trading sessions, the upside strength will be confirmed and would support the argument of correction in gold prices.
In the weekly charts, the dollar seems to have found support at the upper end of the cloud band and has been trending higher.
Therefore, the dollar does look to be on a strong ground technically. Looking at the fundamental factors, the nearing of the fiscal cliff issue would be one of the key triggers for a stronger dollar and downside in gold prices. I don't expect budget cuts and tax increases to be implemented. However, the nervousness related to the event would trigger flow of money into Treasuries, leading to relative tightening of global liquidity. Such an event would be positive for the dollar and negative for gold.
Also, investors need to bear in mind that the debt ceiling issue will again gain prominence in the near-term. When the debt ceiling debate was raging last time, risky asset markets declined, the dollar strengthened and consumer confidence slumped. I expect no different outcome this time (on the final result of the debate and on asset markets).
Clearly, there are reasons enough to be bearish on gold for the near-term. I see this correction as a great opportunity for investors who missed on the previous rally to consider exposure to the precious metal for long-term.
As indicated above, my expectation is that risky asset classes such as equities will also correct on a stronger dollar. In line with this expectation, I would consider exposure to the following ETF's on meaningful correction in gold and equity markets.
SPDR Gold Shares (NYSEARCA:GLD) ETF. The investment seeks to replicate the performance, net of expenses, of the price of gold bullion.
Investment in gold mining companies is also a good option at a time when gold prices are trending higher and gold mining companies are making significant operating level profits.
The Market Vectors Gold Miners ETF (NYSEARCA:GDX) is a good investment option for long-term. The ETF seeks to replicate as closely as possible, before fees and expenses, the price and yield performance of the NYSE Arca Gold Miners Index.
The Market Vectors Junior Gold Miners ETF (NYSEARCA:GDXJ) is another excellent long-term investment option in my opinion. The ETF seeks to replicate, net of expenses, the Market Vectors Junior Gold Miners index. The index tracks the overall performance of foreign and domestic publicly traded companies of small- and medium-capitalization that are involved primarily in the mining for gold and/or silver. Therefore, the risk related to exposure to GDXJ would be relatively higher as compared to GDX.