By: Scott Redler and John Darsie
Gold has been a hot topic for investors and traders since 2008, when fears of a global financial collapse sent spot gold prices above $1,000/ounce for the first time ever. From early 2008 to the Summer of 2009, Gold formed a massive reverse head and shoulders pattern that signaled to me that a future spike in prices was on the horizon. Since that period, I have been actively trading Gold, maintaining a net long position while tiering in and out of larger positions based on the technical pattern and market conditions. The Gold trade has been the longest hold of my career, and it shows no sign of slowing down any time soon. I have made several media appearances during that period in regards to gold, and was always invited back because of my level of success in forecasting moves. I believe that because of the emotional nature of the gold trade I have been able to apply my skill-set as an active trader effectively to identify each opportunity.
The forces driving the gold trade have changed over time as the crises in the world economy have evolved. Technical analysis is powerful because charts are a reflection of emotions, and the gold trade has become crowded with irrational retail investors who buy into the hype at exactly the wrong time. It is hard to say whether gold is in a bubble, or if we have simply entered a new era of interconnectedness in the global economy that will continue to drive the demand for gold.
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Gold started out in 2008 as a fear trade. The sub-prime mortgage crisis led to a global credit crisis, and fear (as measured by the VIX) spiked to record-high levels as the stock market collapsed. Investors saw portfolios decimated and retirement savings wiped out, and irrational investors overcorrected. Gold, a commodity you can see and touch, became the desired investment by institutional and retail investors alike. GLD broke its neckline at just below $100, and made the measured move up to nearly $120. When volume reached climactic levels and excitement about gold got too high in the media, I went on TV and said I was selling my core position in gold for the time-being.
The next leg of the trade came in the form of a macro wedge pattern, as seen on the chart. The credit crisis triggered a series of unprecedented spending measures from the United States and foreign governments to rescue the financial sector and avoid complete economic devastation. So while the massive bailout and stimulus package may have averted a crisis in the short term, there would be grave consequences for the irresponsible spending. Inflation became the next great fear to drive investors to gold. While inflation fears have yet to be realized as the global economic recovery only begins to take hold, they will surely come true on a more long-term basis. We watched the wedge pattern as the range tightened at the apex, and once again entered a core position when the pattern resolved to the upside in early April 2010. We held that core position back to the highs from late 2009, and once again sold when excitement reached a fever pitch. We knew another opportunity would present itself to re-enter gold for the next leg higher.
The recent action in gold, especially considering the broader market environment, has once again put us on alert. The latest driver of demand for gold has been the European sovereign debt crises. The long-term viability of the Euro (once hailed as the next great reserve currency that would supplant the dollar) has repeatedly been called into question, and credit ratings on debt in Euro zone countries have gradually been taken a hit. Central banks have become net buyers of gold after being net sellers for more than 20 years. Developing countries, led by China, have increased gold reserves in the face of currency uncertainty. In the meantime, the market has rallied strongly in the last two weeks, shrugging off a wave of negative news to bounce four times off the floor at 1040-1050 in the S&P before breaking above the lower level consolidation level. Gold generally trades somewhat inverse to the market; as fear and selling increases so does the demand for the safe haven of gold. Still, during the recent rally, gold has held in well in its upper range. While pressure has come out of the market somewhat for the time-being, there are still significant hurdles to overcome for the European and domestic economy. The market is not yet out of the woods, and another healthy correction at some point after this bounce is likely. If that comes to fruition, then GLD is positioned for a huge price spike. Even if the market continues higher, demand for gold remains extremely high.
We are once again entering a core position in GLD for a move to new highs, and will measure strength along the way. When excitement reaches climactic levels, we will once again take off our core position and reevaluate the landscape.
Disclosure: Long GLD