The Technicals: Is the Rally Sustainable?
For the past 18 months, gold has been trading mostly sideways and carving out a base in the $1750-$1800 range. Silver has been under more pressure but finally started carving out a bottom and has been range-bound between $22-$25 since September.
Last month showed that the consolidation pattern was growing tighter and tighter. A major breakout was due in one direction or the other. The signs were pointing bullish and if $1800 could hold then that could be the launchpad for the next bullish move after an 18-month consolidation.
Resistance and Support
Gold had been eyeing $1850 in early February, and then the trouble in Ukraine prompted a quick move through resistance and straight to $1900. It’s possible that a conflict resolution could pull the price back down, but it should now hold above $1850.
Since gold closed at $1723 on September 29, it had been making higher lows and higher highs. The higher high has now been completed in the most recent move as gold hit $1900, breaking through the November high close of $1870.
The one bearish indicator in the price action is the speed at which it shot up. It’s rare to see such a large move without a pullback and consolidation. That being said, the Comex market is flashing warning signs that suggest this latest move might have legs even beyond the Russian invasion of Ukraine.
Outlook: Short-term cautious but medium-term Bullish
Silver has been trailing gold of late. It also bottomed on Sept 29 but did make a double bottom almost three months later on Dec 15. It did start rallying before the Ukraine situation but has not seen the burst higher that gold has seen recently. Being industrial and monetary in nature, it has been held back by the overall market weakness.
Silver is now holding just below $24, but the real test will be if silver can break through $25. It has been on a run but needs a bit more momentum to get over the next hurdle.
Outlook: Slightly Bullish
Figure: 1 Gold and Silver Price Action
Daily Moving Averages (DMA)
The consolidation in gold can be seen by how intertwined the 50 and 200 DMA have become. There has been a sequence of golden and death crosses over the past several months. Currently, the $1815 50 DMA is sitting a few dollars above the $1809 200 DMA.
The current price is well above both moving averages, hovering just above $1900. The more time it spends above both averages, the more likely it will carve out a base. It will also pull the 50 DMA up. This of course assumes that gold can hold on to its recent gains.
Figure: 2 Gold 50/200 DMA
Silver is still trapped between the 50 and 200 DMA. It has been turned away from the 200 DMA twice. The 200 DMA now sits at $24.42 which is above the current closing price of $23.95. Silver is within striking distance, but not there yet.
Figure: 3 Silver 50/200 DMA
Comex Open Interest
The two charts below show the open interest compared to the price in both gold and silver. The overlap is not perfect, but major moves in one generally occur in tandem with the other as speculators push and pull the price around with paper contracts.
Open interest has recently rebounded quite strongly and is at 596k contracts. It still sits below the November high by about 20k contracts. This actually gives gold a bit more room to run before it becomes overbought. This price move is much less loved than the move in November. Based on the open interest, gold is still climbing a wall of worry and investors have not yet gotten FOMO.
Outlook: Slightly Bullish
Figure: 4 Gold Price vs Open Interest
Silver has exceeded the August high but the price is still lagging. As shown in the chart below, the orange line has made a big move but the blue line (price) is still in a sideways pattern. It is concerning that silver has not been able to benefit from the increased open interest the way gold has. Unlike gold, which seems unloved, investors are fairly bought in on silver. If those investors are in, who is left to drive the price higher?
Figure: 5 Silver Price vs Open Interest
Most traders use margin to maximize their leverage. When Comex margin requirements are lower, it means the same dollars can get greater exposure. This tends to create more contracts and drive the price higher. Conversely, when requirements are raised, it forces traders to liquidate their positions which keeps a lid on prices. Generally, when margin is low, it can be assumed that any rally will be met with higher margin requirements to slow down a price advance.
The relationship between margin and price can be seen in the chart below, specifically in 2016 and 2020. As the gold price moved up, margin requirements increased which prompted a sell-off. Margin requirements have come down significantly in recent months with a big drop coming Jan 6 from $7500 to $6500 and then to $6000 at the end of January.
While requirements are not at the $3100 lows, they have come down enough to give ample room for increases to halt any big move in gold. If gold continues rising as it has been, expect an increase in the margin which will restrain or reverse the price advance.
Figure: 6 Gold Margin Dollar Rate
The situation in silver is similar to gold. Margin requirements have come down quite a bit after the massive spike last February to restrain the price. Currently, requirements are at $9500. This is still well above the $3300 lows in 2019 so there is still room to bring margins down further. However, any big move up could be met with increased margin, halting the move.
Figure: 7 Silver Margin Dollar Rate
The price movement in mining companies tends to precede a move in the metal itself. Stocks are forward-looking and the sell-off or price spike in the miners indicate the market anticipating the future movement in gold. Below are two charts showing the historical and more recent trends.
Historically, the HUI is extremely undervalued. The HUI would have to increase 4x to reach the highs seen in the 1990s and 2000s. The sector has never recovered from the gold price sell-off in 2008.
Figure: 8 HUI to Gold Historical Trend
Looking at the more recent trend shows how the miners typically lead the price movement in gold (e.g., Mar 2020, July 2020, Mar 2021, May 2021, Aug 2021, Oct 2021, Feb 2022). There are exceptions such as April 2020, but lately, the gold stocks are front running the price moves in gold.
The current ratio has recovered to the highest since November on a big move this week. This is actually bullish. The rest of the stock market was selling off and it didn’t drag gold stock prices down. Furthermore, if investors felt the Russian invasion was only short-term bullish for gold, then, the miners would not be getting such a bid. Instead, they were up 5.8% this week alone, which is double the return on gold.
The miners are extremely undervalued based on gold’s current price. If GDX can break through strong resistance at $35 it could mean a big move up in the months ahead. It would also represent belief among investors that gold is not simply riding a short-term wave to do geopolitical risks.
Figure: 9 HUI to Gold Current Trend
Love or hate the traders/speculators in the paper futures market, but it’s impossible to ignore their impact on price. The charts below show more activity tends to drive prices higher.
Trade volume in gold has been surprisingly low this week as gold broke through major resistance. Again, this signals the current move is unloved and not widespread. Futures traders are most likely skeptical of the move and simply waiting on the sidelines. It’s possible that once they join the party, they could really magnify the next move. This does present danger to the downside as shorts will pile in if they think conflict resolution in Ukraine will warrant a pullback.
Typically, big price gains on low volume would be bullish. In this case, traders on the sideline represent a risk in either direction due to the situation in Ukraine. Traders do not believe this rally and will be ready to go short if they smell weakness.
Silver saw a bit more market participation than gold with higher volume. Still, in this case, silver will most likely follow gold on the next move. It has been restrained by Ukraine and the stock market weakness. It will either catch up if gold shoots higher or potentially breakthrough support on a reversal.
Neutral in both
Figure: 10 Gold Volume and Open Interest
Figure: 11 Silver Volume and Open Interest
USD and Treasuries
Price action can be driven by activity in the Treasury market or US Dollar exchange rate. A big move up in gold will often occur simultaneously with a move down in US debt rates (a move up in Treasury prices) or a move down in the dollar. This relationship can also be seen over longer time periods. While gold magnifies the move, the pops and dips tend to move in the same direction.
Please note: IEF is the 7-10-year iShares ETF (a move up represents falling rates) and the Dollar return is inverted in this chart to show a positive correlation. They are also plotted on the right y-axis to better show the price movement.
Figure: 12 Price Compare DXY, GLD, 10-year
Three months ago highlighted how the dollar and gold were moving together (shown above as the blue and green lines converging in November). This was raised as the biggest area of caution across all the metrics because it was more likely the currency markets were correctly pricing the next move.
Currently, all three markets have decoupled. Over the last month, bonds have sold-off, the dollar has remained flat, and gold has seen a big move up. In the latest week, the issue in Ukraine has driven the dollar, gold, and bonds all higher. This is a clear flight to safety move, so it will be interesting to see how these trades reverse if the crisis abates (e.g., will the 10-year resume its climb above 2%? will the three continue to decouple?).
Gold Silver Ratio
Gold and silver are very highly correlated but do not move in perfect lockstep. The Gold/Silver Ratio is used by traders to determine relative value between the two metals. Historically, the ratio averages between 40 and 60, so outside this ban can indicate a coming reversion to the mean.
As mentioned, silver has been lagging behind gold. Because it is an industrial metal it has gotten caught up in the weakness in the stock market. If gold maintains its gains in the weeks ahead and even advances through resistance, silver could be moving quickly to catch up. Even if gold falls from de-escalation, it is unlikely silver will be hit as hard.
Outlook: Silver bullish relative to gold
Figure: 13 Gold Silver Ratio
Bringing it all together
The table below shows a snapshot of the trends that exist in the plots above. It compares current values to one month, one year, and three years ago. It also looks at the 50 and 200-daily moving averages. While DMAs are typically only calculated for prices, the DMA on the other variables can show where the current values stand compared to recent history.
The charts above paint a fairly bullish picture, but there is caution due to the unpredictability in Ukraine. Gold won’t hold a bid forever due to the crisis, regardless of how it ends. The question is what happens when investors turn their attention back to the Fed. In either case, the table below paints a fairly optimistic picture in gold having finally broken through resistance.
- Gold is up both MoM and YoY
- Silver is down in both. YoY is comparing the price to the Reddit silver squeeze
- The HUI gold ratio has improved over the last month but is still below its value 1 year ago, suggesting the miners still have catching up to do
- Trade volume in gold is above the 50 and 200 DMA trade volume, but not significantly given the price advance this week
- Open interest in gold has gone well above the 50 and 200 DMA
- The OI Ratio has increased, meaning the price advance has been smaller than the increase in open interest
- All current values are above both 50 and 200 DMAs except for silver close price. The market is clearly breaking out of resistance, hopefully, it can sustain the move.
Figure: 14 Summary Table
Most precious metals investors should be thinking long term and not get caught up in the daily or even monthly movements in gold and silver. The fundamental picture could not be stronger as laid out in the Exploring Finance series. That being said, this analysis attempts to explain some of the more short-term movements in the market that may have frustrated long-term investors. The analysis last month painted a mixed picture but highlighted the bullish sign if gold could hold $1800, which it did.
It’s possible the current move is strictly tied to Ukraine and prices will come back down as uncertainty abates (even if it means an invasion occurs). However, the gold market has been in a tight consolidation pattern looking for a break-out catalyst. It’s very possible that Ukraine could be the catalyst upon which gold and silver launch their next big move. The signals in the Comex market have been pointing to underlying strength for weeks. Ukraine may be the spark, but the pressure has been building for some time. If gold holds above $1850 in the weeks ahead, then it has carved out its new launchpad.
Data Updated: Nightly around 11 PM Eastern
Last Updated: Feb 18, 2022
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