Have You Seen This Index Triple Top?

09/10/2010 12:01 am EST


I am going to step out on a limb in this report and cover what I think to be an intermediate top in the precious metals sector. From everyone I speak with, and from the hundreds of e-mails I get, I would say the vast majority are bullish on gold and silver. That being said, I feel we are three to eight days away from a pop and drop in the price of gold.

Below are my explanation and charts of what I think is unfolding.

Gold Bugs Index (HUI)

This chart tracks a basket of gold companies and can be used as a leading indicator for gold bullion at times. This index tends to lead the price of gold before rallies and also during declines. I have seen this lead by a few hours and even up to seven days. I find it outperforms when gold is about to rally, and underperform when gold is topping or about to start another move down.

It looks as though we are forming a triple top, which also happens to be at a previous 2009 resistance level. Each time this level has been reached, sellers take control and send the market sharply lower. There have been several long upper wicks formed in the past few sessions, telling me that buyers are pushing the price up, but sellers hit the sell button, pulling the market right back down. If this triple tops plays out, I would expect a multi-month correction to take place.

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PowerShares US Dollar Index Bullish ETF (UUP)

In the meantime, the US dollar looks to have found support at the March/April lows and has put in a very solid rally. If the chart pattern is correct, then it looks as though the dollar will break out to the upside and run to $24.75 area. The relationship between the dollar and the precious metals sector is generally inverse, meaning if the dollar rallies, both gold and stocks should fall.

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SPDR Gold Trust (GLD)

The chart of gold has identical patterns no matter if it’s this ETF or the spot gold price. So this analysis goes for both GLD and gold bullion prices. Anyway, the past two times gold rallied for this length of time without any sizable pauses, we saw the price of gold drop $70 per ounce and $140 per ounce, which is equivalent to a $7-$10 drop on this GLD fund, which is a decent-sized move.

The chart is screaming of a nasty correction to occur any day now. With gold testing the June highs, I feel it’s only days away. What I am looking for is a pierce of the June high. That will suck in the rest of the bulls as they jump on the bandwagon and cause all the shorts to cover their positions. This causes a pop, and once buying starts to dry up, the big money will start to sell down the price to trigger the stops and start a multi-day waterfall selloff.

With the declining volume, as the price grinds its way higher, it tells me fewer individuals want to buy in at these high prices. Once the price starts to slide, it will cause the stops to triggered. And because there have not been any substantial pullbacks along the way, there is a larger number of stops sitting in the market waiting to get hit.

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Midweek Precious Metals Trading Report

In short, I feel precious metals are on the verge of a sharp correction that may only last a few days, but the drop will be substantial. I still think we could see a few more up days or sideways sessions before this happens as the June high for gold bullion should be penetrated before the market truly reverses back down.

Anyone long gold, silver, or precious metals stocks should be thinking of tightening their stops, and gold bugs should mentally prepare themselves for a correction.

By Chris Vermeulen of TheGoldAndOilGuy.com
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