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Is Gold Bound to Rebound?


Market indicators point to gold nearing a major bottom.

Recently, investors suffered an average market decline of 6.5% in the equity portion of their investments, the largest fall since the dark days of October 2008, with $1 trillion of paper wealth evaporating in the process. Speaking of October 2008, it was then that gold prices tumbled 18% as turmoil in global financial markets led to losses in global equity and commodity markets. The precious metal rallied 23% in the next two months.

So why did precious metals take such a fall? As my firm's correlation matrix showed, over the past few weeks gold had decoupled from stock markets and every time stock markets sold off, gold would rise as investors would seek it out as a safe haven. However, the Chicago Mercantile Exchange, or CME, began raising the amount of margin it required to buy a gold future with three raises since July. In total, margins have risen by $5,400. (You had to put more money down to invest.) If you recall, the same thing happened with silver when it went parabolic in the spring. The CME raised margin requirements four times, amounting to an 84% hike. At that time silver also sold off. Then again, historically, margin hikes are known to be much more important for silver than they are for gold, so it seems there must have been more to the bearish case than just margin hikes.

Another factor influencing the drop was selling by investors to meet margin calls on other losses, or by investors anxious to lock in some profits, and gold and silver are where the profits were to be found. This effect was particularly strong since gold moved so high recently and so many momentum players were aboard. It is important to remember that violent sell-offs in equity and other asset markets can spill over into precious metals, but after an initial selling wave, gold tends to disassociate itself and rebound.

To see if this might be the case now we will now take you to this week's technical part. We will start with the analysis of the yellow metal (charts courtesy of

Let's take a look at the very long-term chart. Gold plunged very dramatically, but stopped close to the $1,600 target level. This level is based on two rising support lines. Clearly significant levels have been reached in both price and the RSI indicator (as seen in the upper part of the chart).

The long-term RSI, which is based on weekly closing prices, moved to the 50-level after being previously extremely overbought. Similar price actions where previously oversold RSI declined along gold prices have been seen eight times previously during this bull market. In seven of the eight times, gold's decline stopped when the RSI reached the 50-level and a sizable rally soon followed. Each of these important local bottoms has been marked with a red ellipse in our chart. In some cases, the bottom was final but even when an additional decline was seen a short time later, significant rallies ensued. The RSI is close to the 50 level and it appears likely that gold will rally from here.

This is very much consistent with what we wrote last Friday in our essay Is a Move Up in Precious Metals Likely at the Moment?:

There is no doubt that like everything else, the bull run in gold will eventually come to an end, but we're still a long way off. We see the sharp decline as an opportunity rather than a warning. It is a good time, for those who wished all along that they had bought gold, to do it on dips. Nothing that has taken place over the past weeks lessens our long-term optimism about gold. The same fundamentals are still in place.

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