Tuesday, 1 November 2016

Gold Price and USD Index (DXY) Triple Tops

 DXY's Tops and Gold's Bottoms 
The US Dollar Index (DXY) is potentially forming a triple top formation. This has important implications for gold spot prices. I'm not saying this will definitely happen, but i think there's a good chance that it would. In any case, the 100 level in DXY is a strong resistance.

Let's look at the previous times when DXY put int its triple tops.

US Dollar (DXY) Topping processes from 1990s to 2016
Dollar Index (DXY) between 1997 and 2016

When DXY is developing its triple tops in a a horizontal range-bound channel, gold is also developing its bottoming processes as you can see in the chart below in the same 3 periods. The bottoming process in this cycle is a bit short-lived, but then there're much more fear this time around. I know that with the recent drops in gold prices, it seems that the recovery in price isn't so sharp. But that's because we're living it in real time. If you look at the big picture chart below that covers a longer period, the current gold bottoming process is relatively brief. The reason is that we have lots more fears this time.

Gold bottoming processes from 1990s to 2016
Gold spot price between 1997 and 2016

After the 2008 Great Recession, many caught the Apocalypse Bug. There're more people calling for the end of the world than any time at least in a generation (if not 2): collapse of USD the King Dollar, end of USA as a superpower, runaway hyperinflation, global deflationary spiral, Deutsche Bank is the next Lehman Bros, equity market going to plunge far more than it did in 2008, global economy sliding into depression, WW3 breaks out, etc, etc.

Not to mention the seemingly never-ending parade of the more realistic fears from the Fed's rate hike, negative interest rates, Brexit, Trump victory, bursting of bond bubble, China's not-so-soft landing, tanking crude prices to Italian referendum. It seems that investors aren't going to get a break from this litany of worrisome news. The 2-year+ range bound equity market is telling us this investors' jittery. But gold loves all these doom and gloom. This is understandable because the memory of the Great Recession of 2008 is still fresh, and there're enough doomsayers to constantly refresh it to keep it fresh like yesterday.

More significant to this sharp gold basing formation is that fact that we just had the longest gold bear market (from 2011 to 2015) in the last 90 years. Many share prices of gold miners had dropped by some 90%. This V-shaped recovery in gold market parallels the V-shaped recovery in equity market in 2009. A vicious bear market brings on equally vicious recovery. I'm not saying this is true in general (maybe it is). But it's true this time.

One should actually just look at the triple tops in years 2005 to 2006 as a top in a bear rally as DXY drops from the top of 122 to the low of 72 (some 50 bps fall). But it doesn't really matter in this article. I won't be looking at this minor triple tops. I only include it as an additional example of dollar topping mirrored by gold bottoming process.

Things are getting very interesting as the 3rd potential peak in DXY is being developed right now as of 1 November 2016. We can't be sure that it will play out. But it's likely. Here are some possibilities we can explore below.

Possible scenarios for DXY price action
Possible scenarios for DXY to play out.
Note: the time frames where these scenarios take place is NOT to scale as there's not enough space on the right hand side of the chart. It should take months for this to play out, not days as they're shown in the chart.

 DXY's Probable Price Action Scenarios 
Let look at 3 scenarios for USD forthcoming price action.

Scenario 1   USD is falling as of the time of my writing, 1 November 2016, because it's overbought. In this scenario, after a small retracement, it runs up to the triple-top resistance of 100 to become the 3rd peak, and then starts its long descent, probably towards the uptrend line shown in above chart. I think this possibility is most likely going to play out when the Fed hikes rate in Dec to give DXY a final boost.

Of course, it's entirely possible that DXY could move above of 100 and reach, say 102, a head fake or false breakout that traps impatient dollar bulls, who think USD is breaking out of the strong resistance (and trapping gold bears who sell down aggressively) when the Fed gives it a final - but temporary - push across the line in Dec.

Scenario 2 
Instead of failing at the resistance of 100, it breaks out and runs up much further. In other words, this range bound development isn't a topping formation, but a continuation pattern where DXY continues its bull market. Anything is possible, but my feeling is - this scenario is not very likely.

Scenario 3   This isn't shown in the chart above. In this scenario, the USD simply falls from here without an attempt to test the all important triple-top resistance first. It's like saying that DXY has made its triple top already. It doesn't have to run to 100 to consider a top. The level 99 that it reached last week is sufficed. But this is the least likely scenario.

For every one of these scenarios, there's a corresponding (re)action in gold price.

Gold price chart to show Possible scenarios for gold price action, 2016
Possible scenarios for gold price action.
Note: the time frames where these scenarios take place is NOT to scale as there's not enough space on the right hand side of the chart. It should take months for this to play out, not weeks as they seem to suggest in the chart.
And the gold price won't simply bounce off in a V shape recovery in price. It's only illustrating resistance and support levels.

 Gold's Probable Price Action Scenarios 
Scenario 1   In this most likely scenario, gold price will go up further from today for a week or two. As DXY runs up to test its 100 resistance, gold price will make new low (1200) as DXY makes new high.

Scenario 2   If DXY breaks out above the triple top resistance (actually in this case, only 2 tops and a break out), gold price will fall further, probably back to the 1050 low. This is very bearish for gold. In fact, the whole talk of year 2016 being the start of gold bull market is no longer valid.

Scenario 3   If DXY never runs back up to retest its triple-top resistance, gold price will simply run up to break out of the long term downtrend resistance that i wrote in great lengths in part 1 and part 2 of articles entitled The Final Technical Resistance of the Gold Bull Market. This scenario is the most bullish for gold prices.  As i said above, this is the least likely outcome.

Footnote 1
Have you noticed that lately (in the last few weeks) while USD was going up, gold price held up quite well? This is the gold market's way of telling us that it's expecting the DXY run-up is coming to an end when its triple-top formation is completely playing out.

Footnote 2
The DXY's triple tops in the early 2000s is higher than the triple tops that's developing since early last year in 2015. This is lower low. In other words, DXY is in a secular bear market.

By the same token, this year's gold bottom ($1050/oz) is far higher than the bottom ($250/oz) in the corresponding period in the early 2000s. In other words, gold market is in a secular bull market as well as at the 1st inning of the a new cyclical bull market (if we are indeed in a bull market).

Similarly, the DXY's bottom in year 2011 corresponds to the top in gold and the start of bear market.

So, if DXY puts in a triple top here - and there's a good chance, but not an absolute must - gold is on the rise until DXY bottoms. This would likely take several years.

To read the follow-up to this article  

No comments:

Post a Comment