Gold: post-election update
Please read the Disclaimer before reading this article.
Last week I wrote: “For long term investors, these are ideal prices to get into the gold mining shares.
For me personally, I’ll wait until I have more clear signs the bottom has been reached.”
The lack of a clear bottoming formation was keeping me out of the gold market.
Another reason why I preferred to not buy yet, was the fact that election week was coming up.
Every time there is a fed meeting and I’m looking to invest money, I wait until the fed meeting is over because a lot of the times, volatility is high and there are a lot of fake moves.
With election week coming up, I had the same strategy. If you remember the move in gold during the 2016 election, you’ll understand why I did this.
Just as expected, volatility was very high this week:
-The US Dollar got completely humiliated.
-The S&P had one of its largest 5 day moves in history (among the top 0,3% biggest moves since World War 2 according to MacroCharts).
So, where are we with regards to gold? There is a possibility that this strong move up in gold is the fake move I was anticipating, and that next week gold will fall again.
However, looking at the price action during last week, I think the fake move was downwards and the move up we saw was the reaction to this fake move.
As you can see on the chart above, gold has now clearly broken above its horizontal resistance level. From a purely technical standpoint, this is a breakout.
What about the mining shares? GDX was very strong and broke above the 40 level which I identified a few weeks ago as being important. It also broke above its previous short-term high. (I warned about those highs not being sustainable in a previous article.)
GDX also gave the first short-term buy signal since its top in early August.
So, GDX looks rather good.
If we look at GDXJ, we can see that it was not able to overcome its previous high.
You’ll sometimes read how the mining shares should lead gold and how the juniors should lead the majors because this signals a sign of strength, a sign that investors are willing to take risk in the sector.
After analyzing the sector for a lot of years, I have not found this to be an observation I could identify regularly at turning points. A lot of the times the mining shares were even acting rather weak at turning points.
So for me, this is not really a problem.
If you look at which mining shares broke out above their multi-year base first, we see that the big names like Barrick Gold broke out before GDX and that GDXJ broke out only 2 months after GDX.
So, Barrick Gold was already signaling that GDX and GDXJ would break out well in advance.
During this consolidaton, Barrick Gold has been a good indicator as well.
The last time GDX seemed to have broken out, Barrick Gold dit not agree.
This time around, they are both in agreement.
In my previous article, I explained the dream scenario I was envisaging. The dollar would rise and gold would decline to the 1800 level. At the same time, the mining shares would show relative strength and a clear bottoming formation would establish itself.
The inverse correlation between the US Dollar and Gold has been very strong since March. (Between the US Dollar and almost every other asset class for that matter.)
So, a strong dollar would surely put pressure on the gold price.
We must however not forget that during 2019, gold had a very good year but the US Dollar also did rather well. So, it is perfectly possible for gold to rise while the US Dollar is stable or is even getting slightly stronger.
So, what will be driving the gold price higher? I wrote the following in my previous article: “Another thing I’m carefully analyzing right now are interest rates. As most of you will know, gold is primarily driven by the trend in the US Dollar and (even more so) by the trend in real rates.
Having an idea what real rates will do is crucial in understanding the movements in the gold price. I’ll write on this topic in a future article.”
As you can see on the following chart, gold moves in the exact opposite direction of interest rates.
Green areas show when interest rates decline and gold rises, the red areas show the opposite.
(Please note that I made this chart, and the following one, a few weeks ago and that therefore it is not completely up to date.)
(I used the nominal 10 year yield in this chart. If you use real rates, you would get the same picture.)
Note how in 2019 interest rates declined sharply. This is why gold was able to rise in value even when the dollar stayed rather strong.
The following chart shows the recent relationship between interest rates and gold in more detail. As you can see, the relationship is very strong.
(Please note that in the 1970’s, gold rose together with nominal yields. This is because inflation was also strong and real rates declined.)
I bring this up because if gold is going to rise another few 100 dollars, I would like to know what is going to drive it. As I explained previously, fundamentals do matter when you try to time the market.
If we look at US interest rates and compare them to those in Germany, we see something strange going on. Normally, they move closely together and therefore, the correlation between the two is strongly positive. Since early September however, this relationship has stopped working. US interest rates are rising while German interest rate are declining. For the first time in a very long time, the correlation between the two is negative.
This implies that either US interest rates are wrong and will start to decline again, or that German interest rates are wrong and will start to rise.
If you plot a chart of all interest rates across developed markets, you’ll see that US interest rates are almost alone in their march higher.
This suggest to me that US interest rates are probably heading lower again.
(Note that I wrote probably, there are not certainties in financial markets.)
The US 10 year currently stands at 0,82%. Gold rose 350 dollars the last time the 10 year declined from this level to its low of 0,51%...
You can reread all the positive elements about the current situation in my previous article.
On top of that, gold has now shown a technical breakout and the mining shares have given their first buy signal since the peak in early August.
In normal circumstances, this would make me want to buy.
However, since it all happened during election week, I’m ready for anything.
I’ll be watching the price action like a hawk early next week.
If we see a retracement, former resistance should now act as support. If this is not the case, better watch out.
If prices continue their march higher, this is also a clear sign that we should act.
The price action in a lot of markets was very extreme last week. This can be the beginning of a new trend or it can all be an emotional move that will unwind quickly.
If I decide to step back into the gold market, my analysis of interest rates will give me the confidence that there is a fundamental driver to drive the gold price higher.
So, putting it all together, probabilities have risen considerably this week that it is time to get back into the gold market.
As you can see, I’m not giving a clear yes or no answer to the question a lot of people have: have we seen the bottom?
If I had a clear answer, I would give it to you. When I identified the peak in the gold market in early August, there was not a lot of doubt in my analysis.
If we would see the dream scenario I outlined last week, there would not be a lot of doubt in my analysis.
Now however, when I put all the elements together, the answer is a bit more difficult.
Strictly speaking, when I follow my own process, we have seen the bottom.
But, given that it happened during a very volatile election week, I’m ready for anything.
So, I’ll watch the price action very closely next week and my base case is that I’ll start buying the positions I want.
However, please note that I can change my opinion in one second. This is one of the most important aspects you can have as an investor/trader.
As famous investor Stanley Druckenmiller said: "Probably one of my greatest assets over the last 30 years is that I’m open-minded and I can change my mind very quickly."
I would like to finish with stating that readers of this website should use the information on this website the way it works best in their personal investment strategy.
By this I mean that the way I like to invest is by waiting for the perfect moment to allocate capital with the risk that I buy at higher prices than anticipated. If you are however a long term investor, you should probably not watch the short term timing methods I use. You should pay more attention to the big support and resistance levels I have outlined in previous articles, to allocate capital.
We all have different investment strategies and investment styles. Please stay true to you own strategy to avoid making emotional investment mistakes. If you are not following the market every day like me, you should have bought at the beginning of this week when I wrote: “For long term investors, these are ideal prices to get into the gold mining shares.”