Gold head and shoulders

by Jay Pestrichelli on October 15th, 2013

For those of you not watching gold prices through the debt ceiling debate, you’re probably thinking that it is rocketing higher as investors tend to flee to the precious metal in times of uncertainty. Well you’d be dead wrong.  Despite the turmoil that would usually send this kind of asset class higher, it continues to drop.
The question arises, is it an opportunity to buy it? For the year gold is down 24% and down 6% over the last 3 weeks since the debt ceiling and government shutdown issues came to light. Unfortunately for the gold bugs out there, the data tells us the decline is NOT done yet.
Fundamentally, it is hard to define what makes gold prices rise and fall. There is no dividend or earnings to mark against the bond or stock markets. And the drivers of gold prices are loose at best. For example, it the dollar falls in value, you would think that it would take more dollars to buy an ounce of gold (i.e. the price would go up). However, that is not the case. The dollar has lost value vs. its main currency piers and still gold falls.  Or you may think that the risk of inflation would drive gold higher as many typically think. But despite the Fed doing its best to move inflation higher gold is going the other way.
So we move to the technical aspects of gold prices. Technical Analysis provides us many ways of looking at the price and volume aspects of any asset to determine where it will go next. Usually this involves a chart pattern or a mathematical indicator to point to the direction of where the ticker will go. One such popular pattern has become evident since mid-July and that is the “Head and Shoulders” pattern.
Here’s anInvestopedia a definition of the 'Head And Shoulders Pattern'
A technical analysis term used to describe a chart formation in which a stock's price: 
1. Rises to a peak and subsequently declines.
2. Then, the price rises above the former peak and again declines.
3. And finally, rises again, but not to the second peak, and declines once more.
The first and third peaks are shoulders, and the second peak forms the head.
The head-and-shoulders pattern is believed to be one of the most reliable trend-reversal patterns.
Here is a link to an illustrative video as well. What is the head and shoulders pattern

The description that this is a "Reversal" pattern in an interesting one and the reason why we haven’t brought up this observation sooner. Gold is not in an up trend at all. It has been in a clear down trend. However we believe the pattern remains and here is what we’re seeing:
From the head to the neckline is about 150 points. If this pattern was to hold true, you would see gold drop lower by that amount from its 1275 level down to 1125. That happens to be below the low of June 28th this year of 1179. The pattern tells us that level will be tested.  
How soon would this occur? The answer could be as soon as a month. Keeping true to my technician hat, I’ll watch for that previous support level to see if the pattern completes or not. If gold can hold anywhere between the 1200 and 1179 level and rebound, then maybe it has found support and the bottom is in for a while. However, if the head and shoulders pattern completes itself and hits 1125, then another leg down is around the corner.

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