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February 14, 2012

Surprise Rallies

In recent posts, both public and private, I have been discussing the possibility of rather large runs in commodities... including gold and oil... while the equity rally lingers longer than most traders anticipate. I believe we are on the verge of seeing those runs kick off. Our primary clue comes from the dollar, which has just manufactured a 3-day bounce into a new daily cycle.

DX Daily

This new daily cycle is the fourth cycle since October's intermediate cycle low. As TJ Rand noted in Member comments, fourth daily cycles for the dollar have tended to sport a median trough-to-peak of only 4 days. One may also note that the dollar is approaching a significant pivot formed by last year's twin peaks, so the current dollar bounce may have neared exhaustion already.

Likewise, gold has spent its last few sessions moving into a daily cycle low of its own.

Gold Daily

Once gold forms a swing low and breaks the cycle downtrend line, we will have confirmation of a new cycle. I believe this new cycle will also develop quite bullishly. Many traders, professional and retail alike, are looking for a stronger dollar here due to technical patterns and sentiment. If the dollar rally fails, as I anticipate, people will panic into real assets. Gold could potentially... within the span of several weeks... test last year's high.

Keep in mind gold completed a parabolic run last year and is still consolidating that run. I do not expect to see a new, all-time high for the yellow metal until price has plenty of time to consolidate that monster run. However, these consolidation periods often see multiple tests of the high before a breakout ensues.

For those who doubt gold's ability to make a quick run to $1900, observe silver's recent behavior:

Silver Daily

If precious metals were about to plunge back to a test of the December low, silver should already be getting sold. Besides, December saw a test of the September low. Another test is not needed. Rather, gold and silver are simply biding their time until the dollar rolls over again.

We can also see a very bullish setup in crude oil:

Oil Daily

At only a week and a half old, oil's new daily cycle has plenty of time to run higher. A move to test the 2011 high at $115 is not out of the question as the dollar sinks into a low.

Finally, we must consider the stock market because equity prices have been moving into a vertical phase. Larger equity corrections tend to drag most other asset classes down in commiseration, and so the potential for an equity swoon poses a threat to our outlook. Timing market highs is incredibly difficult, but cycle methodology gives us an edge in homing in on lows. Since intermediate-degree corrections in the stock market tend to require a minimum of five weeks to play out, one can work backwards from the timing band for a low and estimate when a correction should begin at the latest.

My cycle studies suggest the next intermediate-degree low is due in late April or early May. We should therefore see an equity correction begin no later than mid-March. This time frame allows about 4 weeks for the moves described above to play out, fitting into their cycle timing perfectly. Keep in mind, there is no guarantee the equity correction will hold itself off for 4 weeks. However, with the SPX flirting with its own 2011 high, one has to suppose big money will push for a breakout in order to distribute large positions.

As always, cycle methodology provides a safety net. Once gold confirms a daily cycle low, we can place stops below that low to limit losses. Likewise, stops on oil can be set below its recent low of $95.44. Also keep in mind how easy it is to become exuberant when prices are rising. If these vertical moves materialize, a trader must be prepared to sell into them, even if selling means missing part of the move. Once stocks roll over into an intermediate correction, we will see sharp declines across the board. I will then refocus our cycle studies on buying the next major low.


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