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February 16, 2010

That's More Like It

The market finally delivered a big day for us gold bugs. Precious metals and stocks followed through grandly on their recent sets of swing lows. The dollar also formed a daily swing high and fell sharply enough to nearly form a weekly one. In addition, the SPX finally printed the bull run day we've been seeking as further confirmation. If enough traders got trapped out of their longs, we should see several more of these in coming days.

s&p 500 intraday chart

These developments allow us to bump up our confidence levels a notch or two. Now all we have to do is remain patient. In the meantime, I'd like to rehash a projection derived from the gold/silver ratio along with typical behavior during parabolic runs in precious metals. The first piece of the puzzle comes from the gold chart. In previous cycles, gold has unfolded two rallies extending roughly the same distance, dollar-wise.

weekly gold chart

If our low has been printed, and history repeats, we should see gold at $1375-1400 by the end of the run. However, there is a distinct difference between the current cycle and previous ones. The mid-point consolidation lasted 9 weeks rather than the typical 4-5. Why? This cycle marked the first time the mid-point consolidation coincided with the decline into a yearly cycle low in stocks, thus exacerbating the action. The flip-side to this drag on the action is that the second rally leg in gold will coincide with the launch of a new yearly cycle in stocks. Likewise, I expect the action to be exacerbated to the upside. Therefore, I think $1500 gold is quite attainable as the second stage of this parabolic move terminates.

Now let's have a peek at the gold/silver ratio:

gold/silver ratio

The recent spike in the ratio can also be explained by the consolidation period coinciding with a yearly cycle decline in equities. Silver is a thinner market and thus got slapped harder. However, I expect the white metal to quickly make up lost time as the rally gains steam. So, what's the point? The point is some simple math. If gold hits $1500, and the gold/silver ratio returns to a conservative ratio of 50, you have $30 silver.

There is one, obvious asset that has outperformed even silver during the last two spikes: Silver Wheaton. An ounce of silver and a share of SLW are roughly the same price currently. So, if silver goes to $30 and SLW outperforms, where do the shares go? Your guess is as good as mine, but I wouldn't guess less than $30! Now you can see why a healthy portion of the Docfolio is sitting in Silver Wheaton and its derivatives.

 

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