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March 14, 2010

Ending Moves

The dollar finally gave us a hint of what we have been seeking by slumping to a 3-week low Friday. The move was met by little fanfare in the commodity markets, and the non-reaction by precious metals was a bit disappointing. However, I do not think it is quite time to throw in the towel. The DX appears to have finally begun the significant descent we await, and I doubt gold and silver will be able to resist the new trend for long.

Weekly dollar index chart

Given all the frustration we precious metals traders have been suffering by watching the daily machinations, it would be helpful to step back and look at the big picture.

Weekly gold price

The breakout from that grand basin formed during 2008-09 was too easy a play for technicians. With a target of nearly $1400, too many traders had hopped on for the ride, so the market gods needed a little extra time to shake off weak hands. Once price resumes its journey, I expect the fury of the rally to surprise even most gold bugs. Let's have a look at what could be expected:

Gold daily chart

Price once again appears to be failing, and I am on the lookout for that key reversal day (which will also constitute a daily swing low). I would not be surprised to see it come on the heels of Tuesday's FOMC meeting.

Now for a word on mining stocks... let's revisit a ratio I introduced on this blog a couple years back:

XAU to Gold ratio

By careful observation you will note that the XAU priced in gold reached 0.27 just before the peaks of the first two major runs for gold in this bull market. The third parabolic move, in 2008, provided an exception due to soaring energy prices (a miner's biggest expense) and the commencement of a bear market in equities. We are in a new cyclical bull market for equities, but due to the depths to which the XAU plunged in the crash, mining shares have not been able to regain even the lower bound of their typical pricing in terms of gold.

Now, I highly doubt that mining shares will be able to regain peak valuations on this run because it would require them to more than double in 6 weeks. However, I do expect this ratio to at least tag the lower bound at 0.19, implying a 50-60% gain in the XAU in a short time frame. If you think such a move is impossible, consider that these shares gained 78% off their November 2008 low in less than a month.

Furthermore, the general stock market has been barreling through overbought readings, and I suspect the current rally will morph into a blow-off top for this cyclical bull.

Weekly S&P 500 chart

I will admit, however, that we are reaching a precarious stage for our outlook. The cyclical bull is maturing and is at risk of derailment by a worsening global economic environment. These moves have to unfold for us over the next 6-8 weeks, or we will have to write them off. Parabolic run or not, once the dollar declines and then forms a weekly swing low, I will be exiting positions.


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