Yes, gold has bottomed

by JDH on January 29, 2011

Where exactly are we at? Has gold bottomed, or is their more carnage to come?

Answer: gold has bottomed.

Could I be wrong? Of course. I’m wrong all the time. It’s quite possible that gold merely slowed it’s descent this week, and will continue to slide next week.

Technically, the argument that gold will continue to fall can be made by a Point & Figure Chart (click to enlarge, or go to stockcharts.com for an updated version of the chart):

As the chart shows, on January 20 there was a triple bottom breakdown, which tends to be bearish.

That being said, I still see more compelling reasons to argue that gold has corrected, and is due to resume it’s steady, 10 year rise. (Not to “toot my own horn” or anything, but in December 2009 I predicted that the price of gold on December 31, 2010 would be $1,450, and gold closed the year 2010 at $1,421, so I have actually made at least one accurate prediction in my life).

Here’s the case for why gold has bottomed (at least in the short to medium term):

First, the USD dollar appears to be breaking down. (Yeah, yeah, I know, it’s been breaking down since 1913, but it’s getting really bad now). Here’s the chart (click to enlarge):

A series of lower lows is not good news. The only positive sign is the bounce off the 30 level on the RSI, implying that a short term bounce could happen. In the medium to long term, it looks ugly.

As the dollar erodes, it’s logical to assume that foreign investors will take their dollars and redeploy them into something that isn’t going down in value. Like gold.

Second, the world itself appears to be breaking down. Egypt is in chaos, with the government actually suspending access to the internet. That’s very serious, and not a good development. In times of trouble, any kind of trouble, gold becomes a safe haven investment. (Even that crazy guy Cramer is saying that due to Egypt, gold has bottomed out, so I might be wrong on this one).

Third, the charts would appear to indicate that gold has bottomed.

Technically speaking:

  • gold remains well above the 200 day moving average, and above the trend line started with the severe correction a year ago;
  • the RSI bounced off the 30 level and has turned upward, which is a level that many rallies start; and
  • the MACD is also bouncing off support levels.

If you prefer a longer term view, here’s the 10 year chart:

A ten year perspective shows the support the 30 level on the RSI provides; it was only during the crash of 2008 that the 30 level was breached for more than a few days, and obviously that set up a huge rally.

Gold peaked around $1,425, and then dropped to around the $1,308 level (before recovering to close on Friday at $1,335). That’s a total drop of 8.2%.

Big deal. That’s a nice healthy correction, exactly what we’ve been waiting for. So, over the last week or two, I have put my money where my mouth is, and I’ve been buying. I’m now down to 14% cash, so I am heavily invested. Does this indicate I’m crazy? Perhaps; but what’s the downside?

Will gold correct another $100? Perhaps. But I own stocks. Less than 1% of my portfolio is in short term options, and I am not on margin. So, if the correction lasts for two or three more months, I don’t care. The stocks will eventually bounce back, and I will be well positioned when they do.

The time to buy is when everyone is selling, and that’s what’s happened so far in January. Of course most of the selling was orchestrated by the big boys who need to cover their shorts, which I assume they have done in January. That positions us for a nice rally in the coming months; I’m looking forward to it.

Thanks for reading; see you next week.

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