The precious metals sector soared sharply yesterday, only to fall in the following hours. This has more important implications than many would think.
The precious metals sector soared sharply yesterday, only to fall in the following hours. This has more important implications than many would think.
You already know the key thing about the current market situation, as I explained it on Monday – we saw key weekly (!) reversals across the precious metals market as well as in one of the key gold price’s drivers – the USD Index. If you read my yesterday’s analysis, you are well aware of the context in the case of the USD Index – how important its recent rally truly was – not just for the index itself but also for the precious metals market.
Today, I’d like to bring your attention to something interesting that happened as a part of this week’s small, corrective upswing in gold and gold stocks.
Let’s take a look at the below 1-hour candlestick (each candlestick represents 1 hour of trading) chart for more details:
To be precise, the above chart doesn’t show gold and silver prices, but their ETF counterparts. Sometimes it’s actually more useful to look at the markets through their proxies in order to isolate what happened in the U.S. markets. Thanks to this, we can directly compare the performance of gold, silver, and mining stocks.
Or should I say: the GLD ETF, the SLV ETF, as well as the GDX ETF (proxy for senior mining stocks, and the GDXJ ETF (a proxy for junior mining stocks).
Thanks to this, we can have an apples-to-apples comparison – the opening and closing prices of the instruments are identical, as are the trading hours.
Thanks to isolating how the entire precious metals sector (its most important and popular parts) performed during the U.S. session, we can see if the signals from gold are confirmed by signals from gold stocks (and vice versa), as well as verify if they have the same implications as the signals coming from the silver price analysis.
The sharp rally that we saw during yesterday’s session was quickly invalidated, but the levels that gold and gold stocks reached were particularly important, and the focus on the U.S. session helps to notice why this was the case.
Namely, yesterday’s intraday sharp rally stopped right at the lower border of the most recent price gap. That’s one of the things that can – and often does – work as resistance.
What is a price gap? Well, to make a long story short, a price gap is formed when the price opens below the previous day’s close and then continues to decline during the day without going back above the opening price. That’s what we saw in February in gold, silver, and mining stocks.
It could also happen during a rally – in this case, the price opens above the previous day’s close and then continues to rally without moving back to the previous day’s close.
What’s so special about this? The fact that there were certain price levels where there was no trading at all.
In the case of some markets, like gold price futures, trades might have been placed on other exchanges, but in the case of the U.S. ETFs, the trading is usually limited to U.S. trading hours. And even if there are counterparts of the ETFs that are traded overseas (for example, the GDXJ is trading in London as well), it’s the U.S. trading that has the greatest volume of trades – it’s most important.
No trading means that stop-loss levels couldn’t have been executed, at least not in the case of most brokerages. Most importantly, it will mean the price at which many people will finally be able to sell (in the recent case) once the market opens. They couldn’t sell earlier even if they wanted, simply because the market was not open.
This creates a psychological barrier to preventing people from entering the market at those levels. They associate the prices with the “highest price that they could get,” and perhaps, as they weren’t willing to sell more at even lower prices, getting back to this level (lower border of the price gap in our case) serves as an opportunity to sell at the prices that seemed like the “final levels to sell high before the daily slide.”
That’s how technical resistance is formed.
It works similarly in the case of the upper border of the price gap, and some people even apply Fibonacci retracements to the price gaps and see those levels as resistance. While this might make sense in the case of intraday trading, that’s not significant enough from my point of view, and since most investors don’t engage in day trading, I think the above wouldn’t apply to them either.
What happened yesterday was a return to the lower border of the price gap. I marked those borders with black, dashed lines.
We saw this in the GLD ETF, the GDX ETF, and the GDXJ ETF. The resistance created by the price gap held, so the bearish implications and outlook remain clearly intact.
In the case of the SLV ETF, we didn’t see it, as silver is currently so weak that it didn’t manage to even move close to the lower border of its February price gap. Instead, silver moved to its recent intraday high and then declined again. So, silver confirmed the bearish nature of the correction, but in a different way.
To summarize, in my view, the real interest rates are up and about to soar higher, the USD Index most likely bottomed and is likely to soar, while the precious metals topped in a spectacular manner and are now likely to slide – either shortly or soon enough. The rally in gold, silver, and miners was indeed sizable, but… It’s over.
What’s next? Something exciting (and, in my view, very lucrative) or something scary – depending on how positioned and informed one chooses to be.
Also, please note that (paraphrasing Sun Tzu) “understanding the enemy without understanding your true self is only half a victory.” Before applying any insights into actionable practice (and placing or adding to your trades), please make sure that the position that you’re about to enter and its size are aligned with your approach, your investment goals, and your risk tolerance.
In other words, I suggest starting with yourself, and tailoring the trade to you, not the other way around. Please consider your motivation for this trade and how it aligns with the rest of your approach and life in general.
Hint: don’t go for the easy answer like “money” or “profits,” but consider why the result of the trade is important – is this a part of your well-designed strategy and “you have it,” or is it something you “must absolutely do” – in other words, “it has you”…
This will save you lots of stress, which is not only end in and of itself (your happiness and health are both closely linked to your stress levels), but it also helps you become a more profitable investor as less stress (or none thereof) means more objectivity and less risk of “running for the hills” right before a given trade becomes profitable (perhaps extremely so).
Sincerely,
Przemyslaw K. Radomski, CFA
Founder, Editor-in-chief