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$XAU Rising Wedge Pattern

Commodities / Gold & Silver 2009 Feb 25, 2009 - 04:11 AM GMT

By: Brian_Bloom

Commodities

Best Financial Markets Analysis Article(Response to a reader’s query)

Hi Dock, I’m not a trader on the markets. My decision with gold is that I own some gold shares as an insurance policy in the short term but also as investment for the long term. The company is an up and coming miner with at least 10 million ounces of resources and perhaps 50 million ounces – time will tell. I will hold those shares over the long term regardless of what the market does over the short term. That particular mine will make a profit at any price of gold above US$500 an ounce when it reaches its minimum maintainable annual production. That situation is expected to manifest within the next 12-18 months and the business has the capital resources to ensure this outcome.


Based on today’s market behaviour, if I was a trader in gold shares, I would be very nervous. But I note that the fall in gold shares took the $XAU to a level which is still (technically) within the wedge formation. That is the folly of trading. You can’t make a definitive call until after the breakout and, by then, it’s usually too late. Technical analysis is a tool. It is like a chisel in the hands of a sculptor. Chartists need to be artists, not scientists. You can land up with a beautiful carving - or wood chips - depending on your level of “flair”. For example, I have never met an Elliott Wave protagonist who made anything other than wood chips because Elliott’s followers believe his system has reduced the art of stock market trading to a science. That would imply that humans have no free will and choice. You may believe that if you like. I am unable to accept that – which is why I believe that technical analysis cannot be reduced to mechanistic rules of trading. I suspect that even the founders of the LTCM organization (amongst which were Nobel prize winners) will now agree with me.

The “scientist” in me says that the equity markets will bounce up and the gold price will bounce down. If this is the case, then the wedge is a bearish formation and, if the wedge turns out to be a bearish formation then we may see gold at $850 in the near future because the gaps need to be covered.

The “artist” in me says that humanity behaves predictably in principle, but unpredictably on a day to day basis. Therefore, the question before us is whether, in principle, people are in the type of mood that prevails at the beginning of a horse race (anxious and ready to bolt, but still capable of being calmed) or whether they are already in stampede mode. If they are in stampede mode, the wedge will break up. If they are merely anxious, the wedge will break down.

Are they already in stampede mode? That’s the question you need to answer in your mind. It’s a “Yes or No” question that only you can answer for yourself.

I wrote the last article because I had an intuitive sense that the little guy investor may already be in stampede mode. If I was right then the wedge will break up. If I was wrong it will break down.

As a result of your last email, I did some checking. The gold bullion market (excluding futures) is a $115 billion a year market whereas the US$ currency market is a $250 trillion a year market. It is 2,000 times as large as the bullion market. The gold bugs are dreaming if they think that the institutions will drive the gold price up – because the market is too tight to allow them to sell again if they need to. Institutions have obligations to repay money invested with them. If they fail to do this they are toast – because the inflow of money will dry up overnight. They need to buy and hold (and be able to eventually sell into a liquid market), or they need to trade in highly liquid markets.

The gold market is a market for the little guy and the institutions make their money in the gold market by buying and selling futures. The institutions will never make their money by betting on a rising gold price because that begs the question as to who would be big enough to honour the counterparty obligation if they bet correctly? It is self evident that if they bet correctly, they will never be able to collect their winnings. The only way for an institution to make money in the gold markets is by fleecing the little guy by selling short high and buying back low. With the institutions having the muscle to play in a currency market that is 2,000 times larger, the little guy can never win against them in any short term play in precious metals. Even if the institutions do lose their short term bets they can always change the rules if the losses are too great. They have the muscle to arrange this too.

From another perspective, the institutions are part of the Establishment. They make money by playing according to Establishment rules. So, for gold to explode to new highs, the “panic” of the little guy has to be so large as to overcome the resolve of the institutions to keep the gold price from exploding upwards. If you look at what JP Morgan did in the last two quarters of 2008, it took massive positions in the futures market against gold. This implied that the little guy was on the point of stampeding (or maybe he was already stampeding if you take the gold price backwardation into account that existed at that time).

The bottom line is that the gold market is very thin. For the gold price to rocket upwards will require a serious catastrophe which leads to a surge in the little guy’s panic level that is so large that it overcomes the institutions’ resolve to put a lid on the gold price. The fact is that they (the institutions) have been battling to hold the line – as evidenced by the upward direction of the gold price trend since 1999. In the long run, unless Obama solves the problems, the gold price will rise – for emotional reasons, not logical reasons. Logically, the world will never revert successfully to a gold standard because if humanity was possessed of the integrity to adhere to a gold standard then we wouldn’t need a gold standard. The issue is and always has been one of integrity.

Will Obama solve the economic problems? History suggests that what he is doing is exactly the right thing for the short term, and exactly the wrong thing for the long term. In the long term, throwing money around like confetti leads to mal-investment and mal-investment leads to financial crises. The longer he tries to stave off the current crisis by doing what he is doing, the worse the final crisis will be. That is why gold will continue to rise – regardless of the “fact” that gold is of itself a commodity.

But at the end of the day, gold is not just any commodity. It is physically unique in that it has (in modified format) both electrically superconductive and biologically stimulative properties. That, in my view, is the ultimate reason why gold came to be desired in the first place. That is why I am personally holding gold shares for the long term. And the beauty of this decision is that, if I am wrong and gold does rise because the world is moving back to a gold standard, then I will be right for the wrong reasons. I am on the right side of the Primary Trend – so far.

So, you ask about my views regarding whether the wedge will break up or down.

My answer is this: The market is designed to part traders from their money. Investors make money by buying fundamentally sound investments and holding them for the long term. The secret to making money on the markets lies in being able to determine the direction of the Primary Trend. From a timing perspective, you buy when the Primary up-trend is in its early stages and you sell when the Primary trend finally turns down. Against that background, it doesn’t matter whether the wedge breaks up or down. I lost money in 1998 selling industrial equities short because I was expecting the Primary Trend to turn down at that stage and I read the wedge as a bearish formation which I thought was the harbinger of the Primary Bear Market. I was wrong. Fortunately, I hadn’t bet the farm and the losses were manageable. I wrote my most recent article because I remembered that particular pain and thought it would be constructive to share with my readers that a rising wedge is not always a bearish formation. If it occurs when investors are already stampeding, it will more likely break up than down.

By Brian Bloom

www.beyondneanderthal.com

Beyond Neanderthal is a novel with a light hearted and entertaining fictional storyline; and with carefully researched, fact based themes. In Chapter 1 (written over a year ago) the current financial turmoil is anticipated. The rest of the 430 page novel focuses on the probable causes of this turmoil and what we might do to dig ourselves out of the quagmire we now find ourselves in. The core issue is “energy”, and the story leads the reader step-by-step on one possible path which might point a way forward.  Gold plays a pivotal role in our future – not as a currency, but as a commodity with unique physical characteristics that can be harnessed to humanity's benefit. Until the current market collapse, there would have been many who questioned the validity of the arguments in Beyond Neanderthal. Now the evidence is too stark to ignore.  This is a book that needs to be read by large numbers of people to make a difference. It can be ordered over the internet via www.beyondneanderthal.com

Copyright © 2009 Brian Bloom - All Rights Reserved

Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

Brian Bloom Archive

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