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Did Gold Stop Responding to the US Dollar Price Moves?

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Gold has been underperforming the US Dollar Index more and more significantly in recent weeks.

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The recent week was tough for the US currency. Investors avoided the dollar as uncertainty over the US government shutdown and the upcoming debate on the debt ceiling weighed on sentiment. The shutdown, with its suspension of funding for government workers and some programs, could hamper US growth and delay tapering. Therefore, some investors have bought gold as a safe haven or alternative to the US dollar with the idea that it will outperform other assets during political or economic turmoil. However, looking at the chart of gold, it seems that these circumstances have had a limited effect on the gold market.

"Sentiment remains hesitant toward gold, which has been reflected in the market positioning. While the temporary US government shutdown has not proved to be a positive driver for prices, the risk of a debt ceiling breach holds scope to spark interest, in our view, given gold's response in 2011," Barclays noted.

In my firm's previous essay on gold price in October 2013, we wrote that the debt ceiling issue came up in 2011. Back then, an agreement was reached only in the last minute, and gold hit an all-time high of $1,920 per ounce, in part because of the uncertainties surrounding the deal.

Taking the above into account, investors are now focusing on the US government shutdown and its impact on the dollar, and probably wondering where the final bottom of the current corrective move will form. When we look at the chart, we can see that the dollar dropped to its new eight-month low in the previous week. What's interesting is that, at the same time, we didn't notice a sharp increase in gold. This relationship between the US dollar and gold has encouraged us to examine the US Dollar Index once again (from many perspectives) and the medium-term gold chart to see if there's anything on the horizon that could drive gold prices higher or lower shortly.

We'll start with the USD Index very long-term chart (charts courtesy of http://stockcharts.com).



The situation in the long-term chart hasn't changed much recently; all of what we wrote in our essay on the dollar and gold is still up-to-date.
The long-term breakout above the declining long-term support line was not invalidated.... However, since the medium-term breakdown (below the support line marked with red) is visible also from this perspective, we could see some short-term weakness anyway. It seems that the long-term support line will stop the decline -- that is, if the USD Index gets that low. Therefore, from the long-term perspective, it seems that the downside is still quite limited.

Now let's examine the weekly chart.



On the above chart, we can see that the USD Index reached the upper edge of the target area (marked with a black ellipse), so the bottom might be in. However, the situation is unclear, because even if the dollar moves three index points lower, it still will be in the target area.

The breakdown below the rising, medium-term support line is confirmed, which makes the picture more bearish. However, as you can see on the short-term chart, it's not that important from the precious metals investors' point of view.

Let's check the short-term outlook.



Before moving to the main point, let's focus on a different and interesting situation. At the same time, the USD Index broke above the short-term declining resistance line and below the June low. In our opinion, the breakdown below the June low is more important, because it is of a more long-term nature. When two technical factors are in conflict, the stronger one -- the more long-term or the more significant one -- usually prevails.

As mentioned earlier, it is not the most important thing that we can see on the daily chart. The most important thing is gold's clear underperformance compared to the USD Index, something that used to herald declines in the precious metal market in the past months.

If we compare the dollar's performance and gold's performance in the last few weeks, we will see that gold has been underperforming the USD Index more and more significantly. In the final part of September, gold didn't move visibly higher even though the USD Index started to decline, and this was proved last week on Tuesday when gold plunged without any signal from the dollar.

Again, this underperformance is the key thing to keep in mind at this time because it means that the lack of clarity in the USD Index is not so important. Gold can decline even without a signal (namely, without a rally) from the US Dollar Index.

Having discussed the current situation in the US currency, let's now move on to the chart that shows us the yellow metal's performance in the medium term.


Click to enlarge

On the above chart, we see that two important things happened last week.

The first is the completion of the head-and-shoulders pattern and the breakdown below the neck level. The second thing is the invalidation of this breakdown. The invalidation by itself is a bullish signal, so further strength in the short term should not surprise us.

Please note that there is a short-term declining resistance line based on the August and the September 19 highs, which intersects with the 38.2% Fibonacci retracement level based on the August-October decline and serves as resistance. If this resistance is broken and we see a breakout, we could also see another significant rally, perhaps above the $1,400 level. However, please remember that this is just a possibility, because this time, the medium-term and short-term trends remain down.

Summing up, although the situation in the USD Index is unclear, it is not so important, because gold can decline even without a rally in the dollar. The medium-term outlook for gold remains bearish, and the downward trend is not threatened at the moment, even though we could see some strength on a short-term basis.

Thank you for reading. Have a great and profitable week!

For the full version of this essay and more, visit Sunshine Profits' website.

Twitter: @SunshineProfits
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No positions in stocks mentioned.
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