Key Technical Reversal in Gold Stocks

By Friday, May 25, 2012

gold bullionMuch has been written about the underperformance of gold stocks versus gold bullion. For many investors in gold stocks, this has been a frustrating period of time to see so many undervalued and cheap companies not being able to move up in price. This divergence appears to have shifted over the last couple of days, as we’ve seen gold stocks outperform gold bullion and I think this trend might continue.

When looking at gold stocks, I’ll take a look at the entire basket, which is easily viewed through Market Vectors Gold Miners ETF (NYSE/GDX). This exchange-traded fund (ETF) holds approximately 30 gold stocks. This ETF is a good representation of the overall market for gold stocks. While you can certainly get higher returns with individual gold stocks, for my purposes here, this ETF will suffice.

stock market

Chart courtesy of www.StockCharts.com

I want to take a look at gold stocks through technical analysis and see what has transpired. This chart is a three-year weekly view of the GDX, a group of gold stocks. First, note that last week the low price point of GDX coincided with a low price point going back to January 2010, as seen by the squares on the lower horizontal line. This area, as seen with the squares in the mid $30.00 range, was also an area of congestion back in 2009. For those who don’t believe technical analysis has any merit, these occurrences don’t happen at random.

You will also note the high volume and the “doji” that occurred last week, as seen by the circles. A doji in technical analysis is when the opening and closing price of a bar are almost the same. |You can see the thin line above and below the opening and closing levels last week. This, along with the high volume after a long consolidation in gold stocks, appears to be a capitulation sell-off. What this means is that the final investors couldn’t take it anymore and sold their holdings. This coincided with heavy buyers stepping up to accumulate gold stocks. Now that the final sellers are out of the way, you are seeing the end result: higher prices for gold stocks. These buyers want more gold stocks and are pushing prices back up.

In technical analysis, I try to put all of the pieces together to tell me what’s really happening. A doji on its own doesn’t mean much, as anyone who studies technical analysis will tell you. But when combined with a large selloff and a high volume week at the bottom of a range that goes back to 2010, all of these things together are quite compelling in technical analysis. Note the previous doji, a much smaller version back in January 2011. After a short but sharp selloff in gold stocks, volume spiked with a doji that was at the 50-day moving average. This coincided with a move back up for gold stocks. This is only part of the entire picture, as there needs to be more momentum to carry the market for gold stocks. What this can help us with is to identify through technical analysis that there are aggressive buyers in the market right now for gold stocks. Further technical analysis is needed to determine duration.

Of course, nothing is guaranteed in life; in technical analysis, these are just indicators of what occurred and what might be possible. The big area of resistance for gold stocks, as represented by the GDX, is the horizontal level at approximately $51.00. Note the squares that denote how many times this area has been both support and resistance for gold stocks going back to 2009. In technical analysis, the further back in time an indicator goes in terms of relevance, the more importance one should place on it. Looking at all of these various indicators in technical analysis, it does appear that last week’s low should hold for some period of time. A break below this low last week would be extremely dangerous and would signal more selling and lower prices for gold stocks. Until that point in time, it appears that buyers are likely to accumulate more gold stocks; but you should watch for sellers to emerge near the horizontal resistance level.

About the Author, Browse Sasha's Articles

Sasha Cekerevac, BA Economics with Finance specialization, is a Senior Editor at Lombardi Financial. He worked for CIBC World Markets for several years before moving to a top hedge fund, with assets under management of over $1.0 billion. He has comprehensive knowledge of institutional money flow; how the big funds analyze and execute their trades in the market. With a thorough understanding of both fundamental and technical subjects, Sasha offers a roadmap into how the markets really function and what... Read Full Bio »

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