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Commodity Conundrum: Gold Rips, Energy Dips


Watch out for these key signs that a trend change in energy and gold is underway.

The machinations in the equity markets this summer have confounded both casual and professional investors. The equity markets continue to resist the sirens' call of a reversal, the bond market has been brought to its knees, and the commodity complex has seemingly regained its footing. Last week it was reported via 13F filings that hedge fund titans John Paulson and George Soros reduced their holdings in gold-related investments near the lows. Even the most well-known money managers are not immune from the effects of capitulation that can oftentimes signal an inflection point in the markets.

Last week we saw both the SPDR Gold Shares (NYSEARCA:GLD) and the MarketVectors Gold Miners (NYSEARCA:GDX) hit new recovery highs and break through key resistance levels since bottoming in June. After sustaining heavy losses this year, precious metals stocks and ETFs are starting to regain momentum, which has many investors questioning whether this is indicative of a dead cat bounce or a true trend change.

Over the last two weeks, it would seem that gold has regained some credibility as a flight to quality trade that takes over when talk of tapering weighs on stocks and bonds. In addition, we have seen the PowerShares US Dollar Bullish (NYSEARCA:UUP) fall precipitously, which has historically been a catalyst for strong asset flows into foreign currencies as well as the precious metals sector.

All of these indicators are screaming that investors are fearful about the future effects of inflation and tapering on the stock and bond markets. Savvy traders are also taking advantage of oversold conditions in this sector to ride the tide higher and capitalize on this recent strength. While there doesn't appear to be evidence that inflation is here yet, there are certainly strong arguments to be made for the long-term repercussions of the Federal Reserve asset purchase programs and zero interest rate policies.

I still think that there will be continued volatility in both gold bullion and stocks over the remainder of the year, but I also think that this sector represents a sound opportunity for a small portion of your portfolio with an eye toward risk management. You should keep your allocation size in line with your appetite for risk while recognizing that there are still many hurdles for this sector to overcome in order to continue this march higher. I prefer to play the gold sector through the use of GLD or the equivalent iShares Gold Trust (NYSEARCA:IAU) because of its lower volatility.

Energy Crossroads

Another area of commodity confusion lately has been the energy space where we are seeing a divergence between the United States Oil Fund (NYSEARCA:USO) and the Energy Select Sector SPDR (NYSEARCA:XLE). USO tracks the price of west Texas intermediate crude oil, which has been surging since the beginning of summer and currently sits near its 2013 highs. XLE, on the other hand, tracks the biggest stocks in the oil refining and distribution business and has recently fallen below its 50-day moving average.

The biggest drags on this energy ETF have been the weight of Exxon Mobil (NYSE:XOM) and Chevron Corporation (NYSE:CVX), which combined represent 31% of the fund's total assets. XOM has now fallen in 18 of the last 19 trading sessions and is dangerously close to going negative on the year, while CVX has also been declining.

Energy stocks appear to be particularly vulnerable at this juncture, especially if we start to see oil prices falter at the tail end of the summer season peak demand. I am going to be watching this sector closely for signs of continued weakness, which may ultimately drag the rest of the stock market along with it. I am still cautious about the potential for a pullback in the broader market, which should set up an excellent buying opportunity for the fourth quarter of this year.

Read more from David Fabian, Managing Partner at Fabian Capital Management:

5 Funds to Buy for Rising Interest Rates

How to Play the Correction in Preferred Stocks

How to Lower the Volatility Within Your ETF Portfolio

Twitter: @fabiancapital
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