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For several weeks now, I have been on the
watch for a gold bottom to use as a buying opportunity.
We are seeing three technical signs that we are near a definitive
bottom for gold and gold stocks.
1)The divergence between the XAU gold
stock index and Gold reached an extreme level
The action in gold stocks tends to lead the
action in the metal. When gold stocks outperform gold it
has historically been bullish for both the stocks and the
metal. However, when the stocks trade weaker than gold a
correction is usually near.
I keep track of the relationship between gold
stocks and the metal by looking at the price of the XAU
gold stock index divided by the price of gold. This is the
XAU/gold ratio. When this ratio is rising, gold stocks are
outperforming gold and when it is falling, gold stocks are
trading weaker than the metal, which is bearish.
As you can see from the above chart, this
ratio has been falling since the middle of March. Over the
past two weeks however the ratio has turned back up. During
this time, gold stocks have rallied harder than gold has
on days when gold has been up. This is a positive sign that
the gold stocks are starting to base and act stronger than
gold.
Most people who follow the gold market know
that gold stocks have been trading much weaker than gold
over the past several months. What many of these people
don't know is that this divergence between the stocks and
the metal has reached an extreme level, which has marked
important bottoms in gold and the gold stocks over the past
14 years. As you can see on the chart above, each time the
XAU/gold ratio fell below .20 an important bottom has formed
in gold stocks. There has been only one exception and that
was during the final bear market bottom of 2001.
According to John Doody, who puts out the
excellent Gold Stock Analyst report, the divergence between
the mining shares and the metal reached such an extreme
level by the end of April that gold stocks were trading
as if gold was around $384 an ounce. This is a testimony
to how oversold and cheap the stocks have become. Doody
found that, on average, gold stocks are undervalued 19%
based upon historical valuations of market divided by ounces
produced.
Gold stocks are actually fundamentally cheap
right now!
2) Commercial futures traders are covering
short positions
Commercial futures traders have been apt at
timing market tops and bottoms by being heavily short at
tops and covering at bottoms. According to last week's commitment
of traders report, commercial shorts closed out 26,697 short
contracts last week and went long 1,991 contracts. As of
May 17, they are net short 79,861 contracts. They have likely
closed out more contracts since then. This is important
because, during the past five years, important bottoms in
the gold market have been made when the commercials have
been net short 40-60k contracts. A move below gold's recent
low of 416 towards 410 would get the commercials to that
level. We'll get a more current update on their position
and what they have done this week when the next commitment
of traders report comes out on Friday's close.
3)Major support levels have held
Despite the current correction in gold and
gold stocks, long-term bullish trends remain in place. Since
2001, the 65-week moving average for gold has acted as solid
support. It has never traded below the 65-week moving average
for more than two weeks. That moving average now sits at
416.51.
The important point is that the technical
bull market for gold and gold stocks has remained intact
despite the correction. At the same time, two important
technical signs are telling us that the bottom in gold is
either in or very near.
Although the gold stocks are beginning to
outperform gold, I can see gold briefly breaking its 65-week
moving average to cause the remaining commercial shorts
to cover and flush out any remaining stops.
If this happens, I plan on using such a quick
dip as a buying opportunity. After gold bottoms, I fully
expect gold and the gold stocks to trade sideways for several
months and consolidate. Gold stocks should then begin to
exponentially outperform gold and signal the start of a
large rally in both. We saw this happen last year - a consolidation
in the summer and huge run from August to November. An even
bigger run should happen this time.
To find out what gold stocks Mike Swanson
holds and plans on buying subscribe to his free Weekly Gold
Report at http://wallstreetwindow.com/weeklygold.html
****
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