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Silver is leading gold higher into Fed week

Commentaries & Views

Since Gold Futures peaked at an all-time high of $2089 in August of 2020, the safe-haven metal has endured an extended and healthy correction of outsized gains. After bullion had doubled in price to $2089 per ounce last August, from its low of $1045 in late 2015, this necessary consolidation process has been taking place for the past eighteen months.

In 2021, the gold price averaged $1,799 per ounce compared to $1,770 for 2020, up $29, despite losing 3.5% for the twelve months. The key $1,800 area has been a magnet for gold. Since mid-2021, any advance that the safe-haven metal has made quickly ran out of steam and has returned to the $1,800 zone.

Nevertheless, during a series of false moves in both directions that has frustrated traders, investors have been lulled to sleep by the price action over the past year in gold and silver taking place inside one of the narrowest ranges in years. The result has been what technicians call "coiling action", which will likely end in a sharp move in either direction. The tighter and lengthier the trading action becomes around $1,800, the more pronounced the eventual move will be, whether up or down.

Recently, this expected strong move has been leaning towards the upside. Gold's sell-offs have been muted since the Federal Reserve began to tighten monetary policy by tapering its $120 billion per month QE program in November of 2021, while making higher highs and higher lows.

The Fed is now set to end the tapering of its bond purchases by March, clearing the way for rate increases. And once these hawkish actions by the world's largest central bank were met with a "sell the rumor, buy the news" reaction in the gold space after its mid-December FOMC policy meeting, moves below $1,800 have soon run out of steam with gold bouncing back above this important level.

The gold price has maintained a bullish bias since January 11th, when Fed Chair Jerome Powell stated before congress that "The economy no longer needs or wants the very highly accommodative policies we've had in place to deal with the pandemic and the aftermath."

However, the pandemic is not over. The highly contagious Omicron variant is everywhere and it seems as if no one is being spared. Daily global 7-day average cases are 2.8 million. In the U.S. the 7-day average of cases is over 750,000. And that is just the reported cases.

Furthermore, unemployment suddenly surged in the U.S. last week, according to the Labor Department. The week ending on January 15th experienced 286,000 claims compared to 231,000 (revised) the week prior. Analysts were expecting initial filings to decrease to 220,000. This is the highest level of unemployment since October 2021. Continuing claims rose to 1.65 million, marking an 84,000 weekly increase.

Yet the Federal Reserve is taking away the "punch bowl" as QE is expected to end in March. Three, and possibly four interest rate hikes are projected for 2022, with apparently even some Fed officials leaning towards a .50-point first hike in March. The uncertainty of how the Fed plans to unfold its tightening policy during its FOMC policy meeting next week has placed U.S equities on track for the worst month of January since 2009, and 2016, both of which produced the beginnings of strong up-legs in the gold price.

In fact, once the CME FedWatch Tool had priced in a 99% chance of the first rate-hike cycle in six years to begin in March, the gold complex began to move sharply higher on Wednesday. Historically, when the Fed finally pulls the trigger to begin a rate-hike cycle, the decision has marked a major bottom in the gold complex.

But the wild card for the gold price moving higher sooner than the first rate-hike is expected to take place was U.S. President Joe Biden predicting on Wednesday that Russia will make a move on Ukraine. Biden said Russia would pay dearly for a full-scale invasion but suggested there could be a lower cost for a "minor incursion." The president injected uncertainty into how the West would respond after stating, "My guess is he will move in," Biden said of Putin at a news conference. "He has to do something."

Gold Futures zoomed through initial resistance at $1835 on the news and bullion is now above its upward-sloping 50-, 100-, and 200-day moving averages, while not close to being overbought on its daily or weekly chart. Not only is gold now showing signs of breaking out of its 18-month consolidation, the safe-haven metal is also on a 3-month winning streak relative to Bitcoin and at a 7-month high versus Nasdaq. Things have obviously been bad for tech stocks and the Nasdaq Composite of late, with the index officially entering correction territory by trading down over 10% since its November 19th record close.

With a similar sharply rising inflationary situation taking commodities higher in the late 1970's gold bull market, it was Russia invading Afghanistan which provided the ultimate catalyst that took the gold price towards its eventual peak at $850 per ounce. While most commodities posted impressive gains in 2021, gold and silver prices declined. There have only been two other inflationary periods during the past 50 years. The first was in the seventies, the second from 2003 to 2008. In each of these inflationary periods, gold underperformed commodities in the first half and outperformed in the second half.

Moreover, the silver price has begun to show strong relative strength to gold this week, beginning its move up a day earlier on Tuesday, despite the U.S. dollar shooting sharply higher. The gold/silver ratio appears to have double-topped at the key 80-1 region and is sinking fast, which is providing another bullish argument for the gold consolidation to result in a sharp move higher soon.

With the gold price now targeting a weekly close above the $1850 resistance level, a monthly close above $1900 would technically support the next leg higher in the second phase of a secular gold bull market which began at the turn of the century. Looking at the bigger picture, gold has created a significant 12-year cup and handle pattern, which would be completed once the $2100 level has been breached on a monthly closing basis.

There are not too many examples of a multi-year cup and handle pattern in the major markets, and investors should understand how bullish this pattern can be when it occurs over a long period of time. The current cup and handle pattern in gold projects to a technically measured upside target of around $3,000.

Meanwhile, the mining sector has caught fire, moving sharply higher from deeply depressed levels on Wednesday with strong volume, while sector rotation out of high-flying tech stocks has been coming into the miners since mid-December. Both the GDX and GDXJ zoomed to initial resistance at $33 and $43, respectively, with many quality juniors up double digits on Wednesday. More importantly, the higher-risk Junior Silver Miner ETF (SILJ) is leading the charge, remaining over 7% higher before Friday's session.

As the selling in both the miners and silver increased into the FOMC statement in mid-December, sharp upside reversals took place in many key precious metal's indices during the subsequent press conference. The move higher reversed from the same late September levels reached in several closely followed miner ETF's (GDX, GDXJ, SIL, SILJ), along with the Silver Futures price at exactly $21.41, creating a double-bottom on each weekly chart.

After an especially brutal tax loss selling episode induced capitulation selling in the junior space into the previous Fed meeting, the FOMC policy meeting next Wednesday may provide another "buy the news" catalyst. Technical confirmation of the double-bottom pattern in the GDX would come once we see a weekly close above $35.

Historically, the start of Federal Reserve rate-hike cycles has marked significant bottoms in the gold price in 1999, 2004, and 2015. Similar to the current situation in the gold complex, during the lead-in to a telegraphed rate-hike cycle by the Fed in late 2015, mining stocks began to bottom six months prior to the announced hike in mid-December. And once the tightening process began, the mining sector nearly tripled in just six months from a similarly depressed level and accumulation time-frame which has recently been taking place.

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