Gold after the Amaranth Fall Out

Dollar and Bonds:

From the September 19th Update:

“The dollar broke its head and shoulder neckline in May of 2006 and has not recovered. We don’t see any reason fundamentally and technically for the dollar to head above its 200 DMA of 87.5.”

“The Euro has been taking its time to breakout of the important 1.30 level.”

“US bonds have rebounded since the Fed’s paused its rate hikes. Until long bonds decisively break down, we continue to see a soft landing in the US housing market.”

“The Fed kept its benchmark rate unchanged on August 8th. With oil comfortably below $70, we expect the Fed to remain on the sidelines throughout the rest of this year and to possibly begin cutting rates by next January at the first sight of equity market weakness.”

“We see the dollar range bound between 82 and 90 for the remainder of the year.”

The dollar recovered mildly and was unable to surpass its 200 DMA of 87. Technically, we see a symmetrical triangle developing. We would NOT be surprised if the dollar resolves the consolidation to the upside, given the abysmal condition of other Western currencies. Even if such a scenario plays out, it wouldn’t necessarily be bearish for gold. Gold and the dollar index demonstrated their ability to rise together in the 1970s. Currently we remain neutral on the dollar.

US bonds have rebounded, along with the US home builders index. We expect rates to stay range bound and the housing market to continue its soft landing.

Gold and Silver:

From the September 19th Update:

“Since the gold bull started in 2001, there has been a few times where gold dipped below its 200 DMA. All of these times, gold recovered and climbed back above its 200 DMA within weeks. Gold has solid support at $550 and we don’t expect that level to be breached.”

In hindsight, we believe the two factors that derailed gold’s typically strong autumn seasonality were

1. Extra sales of gold by the Bank of France
2. The unwinding of Amaranth ($6 billion +) which rattled speculative funds in commodities across the board.

For both gold and silver I see triangular patterns developing, with the tipping point about 2 months from now. We think we are near the bottom, therefore, we favor the chart resolving to the upside when it does breakout.

XAU:

From the September 19th Update:

“The XAU:Gold ratio is at the low end. Historically a low ratio means two things:

1) That the XAU is cheap relative to gold.
2) Both gold and the XAU are at/near the bottom.”

“The XAU is now resting on strong support of 120, which we believe will prove to be the ultimate bottom.”

The XAU successfully retested 120. We see the XAU remaining range bound between 120 and 150 for the remainder of the year.

S&P 500, Nikkei, Shanghai:

From the September 19th Update:

“Many gold analysts have started talking about an equity market recession again. The S&P 500 simply disagrees with that assessment and the index is threatening to establish a new 4-year high. Window dressing by fund managers will likely keep the market afloat for the rest of 2006. We are not about to turn bearish on markets until the index breaks beneath the blue-marked uptrend.”

The global equity indices are on the rise. Some exit of funds from the commodity markets have likely helped fuel their rise. We continue to see robust global growth with the worst case scenario being stagflation (i.e. moderate growth with rising inflation).

CRB and Oil:

From the September 19th Update:

“The CRB is now 10% below its 200 DMA, a feat that has never happened since the bull started in 2002. This is a significant event and must not be taken lightly. At this juncture, we interpret the shift in trends as follows:

1. CRB, oil, and base metals have peaked for at least the next 12 months.
2. The precious metals have one more run left that will begin later this year and last into fall of next year.
3. Agricultural commodities typically shine last and will take the leadership role in the CRB from here on.”

Is commodity bull dead? We don’t think so but we do believe there is change of leadership within the commodities. Technical traders will be reluctant to pile back into oil with the top of $78 already clearly established.

Corn however looks very interesting, a retest of the 280s will ready corn to blast past the 300s to reach a historic high of 500+.

I laid the 6 months Dow on top of 6 months oil. Rotation of money? We report you decide.

Conclusion:

The world is awash with liquidity. The Amaranth fallout caused the temporary exit of speculative money from the commodities markets, but the bullish fundamentals for gold are stronger than ever. After the spectacular rise in energy and base metals, traders are left with fewer choices of markets to speculate on while looking for home runs. Grains are clearly now seen as the play of the day, which shows that the commodities bull is not dead. It also demonstrated money knows no religion and boundaries, relatively, precious metals are just as undervalued as grains and gold bugs have to be patient to wait for their turn to shine.

John Lee, CFA