Gold : Getting Warmer !

There has been a lot of commentary, articles, and just plain gossip about gold lately. Most of it can be classified under the "what you don't know, you can always make up" category. The bottom line is that most people are bearish on gold. I can always tell. Even under the best of circumstances I get the occasional "gold's all done, get out while you can" e-mail, but in late December it turned into a flood and the tide has yet to recede. The bull market in gold is over they triumphantly announce! Well, if they are druids they better pray to their tree that it isn't. Without gold and silver there will be no port in the storm for the average investor over the coming two years.

Since the bull market in gold began in earnest in 2001, I have been the recipient of a lot of investor anxiety (I'm not complaining, just commenting), and most if not all of it has been misplaced or misdirected. If you're about to tell me that the bull market for gold really began in 1999, don't! I know that, but almost no one noticed at the time. I've provided the usual historical chart for gold above, and if you'll be so kind as to glance at it, you'll see that gold's performance has been remarkable to say the least. So what did I do when faced with the onslaught of negative correspondence? I did what I always do when I smell the stench produced by the mixture of fear and despair, I bought. Now let's talk about why I did what I did.

I love the historical charts because they almost always put things in their proper perspective. In my business monthly charts are the best, weekly charts are good, and daily charts are where most of the money is left on the table. Since most human beings are more "today" oriented that I am, and to satisfy their desires, I've posted a weekly chart for gold:

Different time frame, same story! Back in December we looked at this chart and I told you four things:

• Gold was acting well and tracing out a series of higher lows,
  
• Gold was being compressed into a tighter and tighter trading range with lower highs and higher lows,
  
• Gold was going to a minimum of $686.20 on this leg up, and
  
• Gold would have two seven percent corrections along the way.
  

Several things have happened recently that now require a bit of modification. On January 25th the spot gold recorded a print high of $661.20 thereby exceeding the last significant high of $655.50 established back in November 2006. That higher high is the breakout I've been waiting for and that should kick this rally into a higher gear. Now with respect to the two seven percent corrections, there is one down and one to go. Using the November high of $655.50, a seven percent correct correction would be $45.88 and land us at $609.61. On an intraday basis, we actually bottomed at $603.00 but the closing low (I use only closing numbers for my analysis) was $609.30 and right on the money. Using the intraday low of $603.00 would amount to a 7.6% correction and still qualify me for tenure at a decent university.

So if the first correction was right on the money, why did everyone get so bent out of shape and throw in the towel? Two reasons really: ignorance and timing! With respect to timing, everyone thought the first correction would have come at a higher level, say at $686.20 or even $728.60, but the gold gods do have a sense of humor as well as a mind of their own. So the correction came at 655.50. So what? Nothing has changed and it's one less correction to worry about. Try to keep in mind that we'll have another seven percent correction to deal with somewhere down the road. My best guess, and it's just a guess, is that it will come somewhere in the $728.00 range. If my limited math skills still serve me that would be a $50.96 clubbing and a return to 677.04. Assuming that were to be the case, what should one do? I would just sit on my hands and do nothing, but that's just me. The other thing I would do is add on at $680.00 instead of selling at precisely the wrong moment. I realize these aren't easy things to do, but they are the right things. The people who insist on "trading" gold are getting slaughtered coming and going.

Getting back to gold, what it has done is maintain an upward bias using the 50-week moving average as support and in the process has staked out a series of three higher lows. The last higher low was the $603.00 low mentioned above. Recently, gold has been busy trying to break out for the $644.50 area. For the record, Friday's close was at $644.50 and the second consecutive close above this all important number. Why so important? Two reasons:

• The $644.50 represents the 50% retracement from the $728.00 high back down to the $561.00 low, and
  
• The $644.70 (notice the slight difference with the number above) represents the 61.8% retracement from the $252.00 all-time low back up to the $887.50 all-time high.
  

Definitely not child's play and we may have to do a bit of work here to get through it. As a reminder, I have posted the only numbers you need to worry about with respect to gold:

Here I've given you a score card for gold and you can use it to follow along. These are all the important numbers and the ones in bold print are the most important of all. Anything else is just noise.

In conclusion, I would like to make one more change in my December forecast. I stated that, looking a little further out in the calendar, I believe we'll see a close above US $730.40 in the spring of 2007 and a new all-time high sometime later in the year. I now believe that this leg up will not exhaust itself until we see a $775.00 print at the very least. This market spent months, from May 11, 2006 until January 25, 2007, being compressed into a tighter and tighter trading range and I don't believe we did that to simply rally another $70.00 or so. I believe we've broken out of that range with the two consecutive closes above 644.50 and the 661.20 print high which just happened to be above the previous 655.50 high several months before. There is the possibility a minor correction could take us back down to the 636.40 area but I have a lot of difficulty seeing gold go any lower than that. Finally, there is that second correction looming out there on the investment horizon and it will come sooner or later. When is anybody's guess? Finally, you can rest assured that there will be volatility along the way, and some pain, but the trend will remain up for years to come.

Enrico Orlandini

Dow Theory Analysis

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