The Gigantic GOLD Opportunity (Is a Big Shock on The Horizon?)
While there’s some ambiguity in several of the biggest asset classes right now, there are some potentially huge opportunities ahead too. I’m going to cover both the non-opportunities and the very promising emerging trades I’m seeing. You’ll understand which is which … and why.
Let’s start with the Dow Jones Industrial Average (DJIA) on a weekly basis:
The DJIA has managed a significant rally despite a backdrop of Depression-era unemployment levels and Depression-era economic contraction. In fact, it’s rallied about 33% from the February lows from 18,200 to 24,200.
(In a moment I'll show you the NASDAQ has soared an even more impressive 70%.)
This activity supports my central trading thesis that you can’t trade based on fundamentals or the news. Because if we were going purely by fundamentals or numbers lately, how could we imagine that the stock market is up 33% – 70% against some of the worst economic numbers we've ever seen?
This is why I don't like to get into the “reasons why” a given market is moving in a different direction. To me, “reasons” are to sound intelligent at a cocktail party. “Reasons” have nothing to do with trading.
The market is a discounting force and right now it’s projecting that we could be coming out of this economic contraction much sooner than we think. In fact, it appears the market has effectively written off 2020 and is looking ahead.
But having said all that, let’s examine what’s happening on a price basis. The most important point is the very wide broadening formation showing on the DJIA chart. This is what I call a megaphone formation or a reverse triangle. This pattern can be either a continuation pattern or a reversal pattern.
And right now, the DJIA is trading in the middle of this pattern. That’s not an ideal position for making a trade. It’s a lot like playing tennis in the middle of the court. If you’re not a tennis fan, what this means is that when playing tennis, you either want to be at the net or at the baseline. You don't want to be in the middle of the court because you’re not in a good position to do much of anything to win the game.
So with the DJIA in the middle, it's really just a guessing game as to where we're going from here. That’s why I’m waiting for further supporting evidence to either go long or get short.
For now, the recent price action simply confirms the old trading adage that the markets can stay irrational a lot longer than you can stay solvent. If you’ve been betting on a decline in the market based on the current environment, you’ve likely been feeling some substantial pain.
Now here’s the NASDAQ, which is, of course, the proxy for the tech sector in the United States:
If you connect support lines going back all the way to 2015 you can see that despite a massive outlier event such as the coronavirus, the market retraced to a major support line. (The DJIA did the same, but the reverse triangle/megaphone formation is more important right now.)
Once the NASDAQ hit its support line, it reacted with a bullish key reversal bar. (A bullish key reversal is when the market makes a new low and then closes near the high of that bar.)
The NASDAQ’s subsequent rally since that reversal bar has been a lot more robust than the DJIA with a 70% gain. That makes it an even stronger example of how the market is a discounting mechanism and way ahead of news and events.
If you try and trade the information in The Wall Street Journal you will not be successful in the markets.
Meanwhile, the NASDAQ is currently forming an ascending broadening pattern. As you can see, this starts out very narrow and then broadens at the top. From long experience, I’ve learned not to make any hypothesis about certain patterns until they’re confirmed.
So if the NASDAQ breaks out of the upper edge of the pattern, then I’ll then look at this as a continuation pattern. On the other hand, if it breaks down below its support line then I’ll view this as a reversal pattern.
But right now, we're a long way from breaking out on either side. And until we see a breakout, either way, I can only examine individual daily bars to make trades within the context of these patterns we’re seeing now (both DJIA and NASDAQ).
For now, I'm just giving you a broad overview so you can see how the market observes certain levels along the bottom and the top of this ascending broadening formation.
Remember to trade what you see, not what you think. And who knows? We may see all-time new highs in the NASDAQ despite the background noise of panic, turmoil, and uncertainty. Even though we might “think” this is insane!
The next asset category I want to take a hard look at is the precious metals. I'm starting to get very excited about the opportunities, so I'm going to do a deep dive into the prices and the price action inherent in silver and gold.
Let’s start with a chart I introduced last week: a long-term view of the gold-silver ratio which was originally discovered by one of my Pattern Trader team members.
I find this chart extremely interesting as it supports what I'm looking at the price of gold. (I’ll get to gold shortly.)
But first, let’s make sure you understand what we’re looking at here: the gold-silver ratio is the price of gold divided by the price of silver. Since the price of gold is roughly $1,680 and the price of silver is roughly $15.25 as I write this, the ratio is about 113.
The key point is that the gold-silver ratio has been trading at historic highs by virtue of the steep rise of gold versus the moribund trading range of silver. That’s why we’ve had a historical widening of the spread to about 113, which also happens to coincide with a high in the relative strength index (RSI) as well.
The last time the ratio hit the upper side of this trading band, the RSI also hit its upper levels and after that, there was a retreat from around 100 all the way to 30. That has huge implications for how to view these metals going forward.
That earlier price action is why I believe we could get a retracement in the ratio, even a small one to 100 or 90. Even though the ratio would still be at historical levels, such a contraction would have substantial implications for the prices or gold and/or silver.
Now it’s entirely possible that we won’t see any such contraction, of course. But there’s growing resistance at this level and I feel the chance of a decline is the better way to bet.
The implications of such a gold-silver ratio contraction are one of three possibilities:
- The price of gold would have to crash while the price of silver would stay relatively the same.
- The price of silver and gold would keep rising, but silver rises more rapidly.
- Silver could accelerate very rapidly while gold consolidates at current levels.
Based on what I'm seeing in gold and silver right now, the first option is the most likely.
Let’s take a look at the weekly chart of XAGUSD (spot silver) to see why I feel that way.
I’m sorry if it’s hard to see the individual bars but as I wanted to zoom out even more than usual to show you the big picture. And because of that perspective, the individual bars, in this case, are perhaps not so important.
So what stands out here? Silver has been in a massive downtrend for the past eight or nine years and nothing about the price action suggests this downtrend is about to reverse.
There are also three governing price patterns here, starting with the double top from which silver has never recovered.
There’s since been a descending triangle marked by lower highs across a common low. Once this triangle was breached to the downside, this was further confirmation of the bear market predicted by the double top.
Silver followed up with yet another bearish descending triangle, one much shallower but also much longer than the earlier one. Over the last five or six years, silver has bumped off the $14 level many times. That’s why I felt a drop below this neckline or ‘shelf’ was inevitable.
A lot of institutional people were obviously thinking the same way, as a lot of sell stop orders were triggered under the $14 level. Once this happened, silver snapped back into its triangle formation.
That means that excursion below the neckline could be a bear trap, meaning that all the players who bet on a decline are now trapped if silver keeps going higher. However, it’s still too early to tell.
That’s because I need to see a breach of the upper trend line of the triangle at around $21.15 before I feel silver’s bear market is truly over.
I'll be watching the price to see where we go from here. But right now silver is not looking like it’s ready to ride hard and fast. That means we need to look at gold to do all the heavy lifting to cause a contraction in the gold-silver ratio.
Here’s XAUUSD (spot gold) on a long-term weekly basis:
The price of gold streaked to a multi-year high last week, just a hair below the $1,750 level.
But by the end of the week, the sellers were in control. So despite the fact that last week’s bar didn’t turn red, it’s still a major key reversal.
It’s even more bearish than this reversal coincided with a reverse triangle. Note that when the price of gold hit the top edge of the triangle, it reversed sharply and closed on the lows of the week.
I also see an emerging double top here. Even though the highs are not symmetrical, that often doesn’t make a whole lot of difference when you see other patterns lining up in a similar way.
This strongly suggests gold is ready to drop further. And within the context of the gold-silver ratio, that means the most likely way the gold-silver ratio will contract is for gold to start crashing relative to the price of silver.
That’s one big trade idea for the days and weeks going forward.
Now here’s the U.S. Dollar Index (USDI) which measures the U.S. dollar against a half dozen of the major currency pairs in the world:
USDI had a major rally when everybody wanted to convert all their assets into dollars. However, that’s stalled for now. USDI is trading in the middle of a wide trading range that’s been established over the last couple of weeks.
Just like the stock market, USDI is “in the middle” and we’re left guessing as to where it will break in the weeks going forward. It's my guess that USDI will firm up and retrace all the way back up to its old highs before formidable resistance set in. But it's anybody's guess right now.
While we earlier had some broad moves in AUDUSD (the Australian dollar versus the U.S. dollar) and GBPUSD (the British pound versus the U.S. dollar), I feel we’ll see more trading range behavior in the weeks ahead.
That’s why I’m inclined to leave dollar pairs alone for now until I see further evidence of a direction one way or another.
I do feel that we’re at a major resistance area in USDI and that it's more likely the dollar will weaken over the long term. But because it could strengthen first before it weakens again, I’m cautious.
Having said that, there’s one dollar-correlated pair I want to talk about that should present an amazing risk/reward opportunity in the very near future: USDJPY (the dollar against the Japanese yen).
For those of you who've known me for any length of time, this should come at no surprise as I’ve been pounding the table on short USDJPY trades for several years now. Very successful shorts too!
Here’s how USDJPY looks right now:
USDJPY has formed a very bearish price pattern recently.
I’ll get to that in a moment, but first I want to make sure you understand the significance of the long-term bearishness of the double top and head and shoulders combination at the left side of this chart. USDJPY has also established a descending triangle following that pattern, which is also bearish.
This combination of bearish patterns is why it’s been a no-brainer to go short USDJPY whenever the opportunity has presented itself.
One of those opportunities is coming up very shortly.
The pattern that has me excited right now is called an H top or horn or steer top. Depending on your background, you might see a letter H here or a pair of horns on a steer (or cow). This top is comprised of two spiky horns followed by a dip in between, just as we see here.
To confirm this pattern (and much lower future prices), USDJPY needs to close below 106.87.
While we may see further vacillation in the current price range due to the ambiguity of the dollar, my advice would be to get short USDJPY and get short in a big way once we see a close below 106.87.
Once that happens, I intend to load up the money truck as the combination of bear price patterns in the short and long term suggests USDJPY is irrefutably headed for a significant downdraft.
Meanwhile, another potential emerging trade on my radar is GBPAUD (the British pound versus the Australian dollar).
GBPAUD recently hit a resistance area consistent with earlier resistance in 2016.
So is this a short-term pullback from that resistance? Or is there more to come on the downside? I think it's the latter and we could see another move lower in GBPAUD soon.
Just like with the NASDAQ, there’s an ascending broadening formation here which is typically a reversal pattern but not always. Unlike the NASDAQ, we’ll get a chance to test if this really is a reversal quite soon.
I’m very interested in the short side because of the recent double top too. And any breach of the neckline of that double top will coincide with a breach of the ascending broadening price pattern. That’s why I expect this pair could go substantially lower once a breach occurs.
However, there’s a lot of volatility in this pair. Be careful here because we could get a breakout and then a retracement before the final capitulation.
It’s worth taking a look to see how this same pair looks at the daily level:
The same patterns are visible but with more detail now, namely, GBPAUD’s ascending broadening formation and the double top too.
One thing that never fails to amaze me is how well the price often bounces off both upper and lower trendlines at times. This chart is a perfect example.
So here we see more clearly how any penetration below the neckline of the double top ( which coincides with the lower boundary of the ascending broadening formation) could open a big move lower in GBPAUD.
If and when this happens, we could see a drop all the way back to the beginning of the pattern around 1.78. That suggests a massive emerging opportunity for getting short GBPAUD when the time is right.
And that’s it for this week!
To summarize, I’m neutral on the U.S. stock market indices and the U.S. dollar, for now, bearish on the gold-silver ratio and gold (but not silver), and bearish on USDJPY and GBPAUD once they hit the target levels I’m seeking.
I wish you a very healthy and prosperous trading week in your respective locales around the world.
Mark "PartyIsOver" Shawzin