By Costas Bocelli - Creator: Channel Trading Secrets
Gold has absolutely gotten pummeled.Once it broke a key area of technical support, the trap door was sprung and Gold plunged like it was falling down a bottomless pit.
The two-day purge that swiftly wiped away $200 per ounce was the sharpest sell-off in thirty years!
And even though the June Gold futures contract settled at $1361 on Monday, electronic trading pushed the metal all the way down to $1321 in the wee hours of Tuesday morning, inflicting maximum punishment on the remaining weak longs that finally capitulated.
And then, after a brief bounce, the June Gold contract settled yesterday at $1382.70. However, Gold is again coming under pressure, as it traded lower to around $1374 as the stock market approached the closing bell.
Will the selling further intensify from here, or does most of the damage inflicted over the past few days signal that we’re nearing an end to the carnage? That’s the question that we’ll take head-on.
So what’s behind the breakdown in Gold?
If you’re looking for the cause, you have plenty of catalysts to choose from...
- The European Commission had “suggested” that Cyprus may need to sell its excess gold reserves to help finance the country’s bailout. And while Cyprus only has about 14 metric tons in its vault, it opens up a very bad precedent that could suggest that other European countries with far greater gold reserves would be forced to do the same if they were to get into financial trouble. Spain, Italy, Greece and even France come to mind.
- Increased hawkish rhetoric from the Federal Reserve hints that the QE bond buying binge may soon begin to taper off. Last week’s FOMC minutes from their last monetary policy statement indicated that several more committee members are becoming more concerned with the ongoing asset purchases. By purchasing $85 billion a month, the Fed’s balance sheet will approach $4 trillion by the end of the year.
- Slowing global growth and subdued readings of inflation out of the US and China have taken a bite out of one of the most compelling reasons to own gold, which is a hedge against price inflation. A deflationary theme has begun to gain traction among the investment community, particularly with ten-year US treasuries now yielding a stingy 1.70%.
- The devaluation of the Yen has sent gold prices to record highs in terms of the Japanese currency. This has prompted a fire sale among Japanese citizens looking to cash in the precious metal for a fistful of more Yen.
- High profile investment banks such as Goldman Sachs and Societe Generale have recently turned bearish on Gold. And they’ve not only told their private wealth and institutional clients, but they’ve pounded the public media with their prognostications.
There are probably a few more reasons that I’ve missed, but you get the point. You see, when you pile it on, particularly in an asset class that is chock full of emotional investors, it doesn’t take much for a snow ball to turn into an avalanche.
However, the real driving force that created such a precipitous fall WAS that technical breakdown below $1550 per ounce. That was the last “line in the sand” for so many long term bulls who have been hanging tough with gold as it’s been trending lower since the summer peak in 2011.
Once that level was taken out, the selling builds and the trading momentum takes out every stop order it can find and with a relentless force. This happens all too frequently in the commodities complex, and we just witnessed it firsthand in Gold.
But whether you think it’s justified or just got way over-cooked to the downside, it’s the price action that that becomes the ultimate judge. And perhaps after clearing out enough of the bulls and drawing in more than the fair share of speculative bears, Gold may finally find another bottom.
Are we close to a bottom?
Even though the gold chart clearly looks ugly, there are two compelling reasons to suggest that we may soon be approaching an area at which Gold should find support.
Will it happen today, tomorrow or next week?
That I can’t say with certainty, but in terms of price... we should be nearing the sweet spot.
The first reason is technical.
Let’s take a look at the Gold chart again. But this chart dates back to the last major bottom made in late 2009 at around $800 an ounce.
After Gold made that bottom in late 2009 at $800 an ounce, it rallied to a new all-time nominal high in the summer of 2011 at around $1900 an ounce. That was an $1100 rise from trough to peak.
And when you have such a protracted rally and a subsequent significant sell-off, a 50% retracement -- or in this case a $550 pullback -- tends to be a major area of technical support. And the early Tuesday swoon down to $1320 followed a sharp reversal within a matter of hours, which provides a relevant clue to the sensitivity of this price area.
The second reason is fundamental.
You see, any way you slice it, the world is a net buyer of Gold. And whether it’s for consumption (such as jewelry), industrial, or used as a store of value for investors and government central banks, the metal is always accumulated.
Of course price always comes into play. But what’s important to understand is that Gold is a finite resource and it’s very expensive to not only find but produce. For many Gold miners, the all-in costs to produce an ounce of Gold are over $1000 an ounce and rising.
You see, if Gold prices continue to fall significantly further from here and remain there, it will become unprofitable -- or in some cases impossible -- to survive in the gold mining industry.
If miners are forced to cut costs because of falling gold prices, exploration and expansion will be simply be halted and will directly affect future output. Simple economic theory of supply/demand will put upward price pressure as more demand would chase a dwindling supply.
So while prices may fall further from here in the near-term as momentum clears out the market and the emotional juices run high among investors, the reality is that a fundamental floor in Gold prices must be implied simply based on production costs.
The bottom line is that the gold market has gone berserk, and it certainly feels like Gold is on a death spiral to Zero.
But the reality is that the physical metal is not going out of business anytime soon, and this recent sell-off should present itself as a buying opportunity.
In any case, it’s also important to understand that volatility will move Gold around more than usual, especially after outsized moves, so buying in pieces should smooth out the ride.
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Costas began his trading career in 1998, at Gateway Partners, an Equity Options Trading Specialist Unit on the Philadelphia Stock Exchange (PHLX). During his successful tenure, and though unprecedentedly volatile trading levels, Costas boldly and adroitly navigated the global "financial meltdown" that saw the downfall of the hedge fund and of Long Term Capital, and the Russian Currency Crisis. Having achieved the coveted Senior Equity Options Market Maker position for his firm, Costas eventually left to join a proprietary trading desk, where he successfully makes markets for large customer and institutional orders. In addition to his more than 7 years of experience as an options market maker, Costas has also trained and educated many junior traders on option theory, risk analysis, and strategy. His passion is helping self-directed investors achieve all of their financial goals through a clear, practical understanding of the power of options and of the many benefits of trading in a proven systematic way. |
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