WIN OR LOSE – YOU WIN

For at least the last ten years, market watchers – and especially gold-bugs – have wrestled with the connection between the price of gold and the US dollar.  Sometimes they found uncanny connections, while at others they heralded the coming of a long sought after uncoupling – the moment when the two would go their separate ways, irrespective the doings of the other.

And yet the correspondence has persisted over the long term – denying gold holders’ hopes that bullion would finally make that ultimate, check-mate counter-move against the major currency blocs, and net them a fortune.

And logically, the dollar-gold connection is a correspondence that should remain, given that the two – gold and the dollar – are both currencies (we use the term advisedly with that greenish-hued impostor).  When gold is strong, of course, the dollar weakens; and when the dollar is strong, gold weakens.  The two move in tandem, too, when a different currency bloc is in the ascendant – the Euro and Swiss Franc, for example.  But even in that case, one cannot escape the seemingly unshakeable correspondence between bullion and the dollar. 

When will that long, sought after day arrive when true money will finally shine and the paper of men will fall into the pit of disregard?

Perhaps it’s not so far off?

What follows is a chart that reignites the debate.  Following a dreadfully boring year for those who love to debate, what appears below should again begin to stir the pot.

You’re looking at the dollar on top and gold below.

What catches the eye before all else is the tit-for-tat dance of respective highs and lows that engages the two.  They have been conveniently marked on the chart by color-coded rounded rectangles.

• Notice that at nearly every major high or low of gold, a corresponding low or high was made in the dollar.

• Notice also the two head and shoulders patterns – not precisely aligned, albeit – that mark the relationship: one regular (the dollar) and one reverse (gold).

• Note, too, the breakdown of the head and shoulders pattern that occurs in both: when the price action breaks above the right shoulder in the case of the dollar and below the right shoulder in the case of gold.

This relationship has proven itself true in near perfect form for an entire year now.  And yet here, at a key turning point for the dollar, gold has failed to confirm their relationship.  What could it mean? 

WHAT COULD THIS POINT TO?

The green boxes at the far right of the chart show the breakdown graphically: while the dollar vaulted convincingly above its previous high at the head of the previous formation (upper horizontal red line), gold has broken below its right shoulder, but is holding at key support levels – precisely at its previous formation’s head.  The final test level for gold has yet to be broken (lower horizontal red line).

Two options now present themselves:

First, should gold test support and rebound in sync with the dollar, look for a tremendous push in bullion and in the stocks of bullion producers – particularly the big names – as a legitimate bounce from these levels will mean that gold is now rising against European currencies while keeping apace of the dollar.

• It will also indicate that the market is finally growing worried over the inflationary overstimulus that the Federal Reserve has injected into the monetary system by way of an extended period of low interest rates and exorbitant money creation.

Second, the gold chart could just be playing catch-up with the dollar, and may eventually break down to new lows, signaling both a potentially extended retrenchment in the price of the metal and an outstanding last chance buying opportunity at the sub-$1000 an ounce level.

There is no question regarding the long term health of the current bull market in gold – and of the precious metals in general.  Should gold back off to the $770 level, where a Fibonacci retracement should logically bring it, you can view it as a winning bet, too: just back up the truck and buy with everything you can spare!

Interestingly, several weeks ago we wrote in this space regarding the dollar:

If this does transpire – if the neckline is not broken convincingly on the downside – all technical signals point to a madly bullish outcome for the US dollar!

That’s right.  What’s termed a non-confirmation will have occurred…
At that point, all bearish bets are off and we prepare for a wild ride on the upside.

There you go.  The dollar ride looks to have begun.  And it could be a heckuva good one if you’re holding U.S. backed equity and debt.

And gold?

Ahh, yes, gold.  Yes, very shortly, gold will either be prime for the buying,or riding high with a soaring greenback. 

For gold lovers, it’s a winning bet either way.

Stay tuned.

Matt McAbby
Analyst, Charts of the Week