Are the gold bears on the right track?

Charles Darwin, while writing The Origin of Species, proposed that of the untold number of living species that have been created on earth through the ages, only those that could adapt to changing environments survive and thrive.

‘Survival of the fittest’ has become a cliché.

The earth has been through huge upheavals in climate, continental drifts and composition of the atmosphere. But only those that could handle these immense changes stood a chance of not being wiped out.

And so it is in the highly competitive world of trading, where the environment can change overnight. Only those traders who have the mind to be flexible, adaptable and open-minded stand a chance of making serious money. Stubborn traders, unable to adapt, usually fail.

Today, I want to illustrate this principle by reference to the Swiss gold referendum result announced Monday morning.

‘Sell the rumour, buy the news’

A few days ago, bullish sentiment towards gold dropped to around 4%. That set 96 bears against these brave four bulls – a ratio of 24:1. With gold rallying on Monday by $80, I wonder how many of these bears will be flexible and adaptable enough to wonder if they should alter their stance?

Of one thing I am sure – more and more of them will be forced to adapt (or die) if the rally gathers momentum, as I suspect it will.

Of course, the weak market on Friday and early Monday morning was the result of selling in anticipation and confirmation of the negative result of the Swiss referendum. As it happened, it wasn’t even close and knee-jerk selling resulted immediately after the announcement.

But since bullish sentiment was at rock-bottom, the market had nowhere to go but up – and up it went! Surely, this was counterintuitive (as market moves so often are). But another short squeeze was on, and that action confirmed that the $1,130 low made on 7 November was the end of two fifth waves, as I had suggested.

The Swiss no vote only served to bring more naive short sellers in. But those already short took that opportunity to take profits as they saw little more downside available. It was a classic ‘sell the rumour, buy the news’ event.

Gold price spread betting chart

The dip to below $1,150 on Monday and subsequent rally has set up a new Elliott-wave pattern (more later).

Did gold make a bottom?

On 14 November, I asked: “Is gold really making a bottom here?” This was the hourly chart showing potential support at the $1,150 area:

Gold price spread betting chart

For my bullish picture to take shape, I needed the support to hold and the market to start a rally phase, thereby confirming my A-B-C (counter-trend) labels. This is what occurred:

Gold price spread betting chart

Support did hold, I had my a-b-c and the rocket was lit. But it was not a case of off to the moon – yet. There was the little matter of the Swiss referendum hovering over the market – and that was to be held on 30 November.

The selling accelerated on Friday and early Monday, but note where it turned around – right at my third tramline. Not only that, but this area was precisely coincident with my previous $1,150 support zone. Markets have memories!

The picture this morning

Let me now update the picture to this morning. Here is the 15-minute chart showing the detail:

Gold price spread betting chart

The Monday rally has five clear waves with a long and strong fifth wave (which also contains five sub-waves). The fifth wave is longer than the third wave, but that is OK – it doesn’t break Elliott’s rules.

Yesterday, the market fell back to the Fibonacci 38% level to relieve the temporary overbought condition and is this morning staging a rally.

If you missed the Monday surge, another entry point was on the break of the small trendline shown.

The bears are on the run

So, with my five up – which is the one signal I rely on to verify a change in trend – I can set larger wave labels (shown in purple in the chart above).

If correct, the market is in the early stages of a large third wave up. To confirm this, I need to see a rapid rise towards my upper tramline – and beyond to the last major high at the $1,250 area.

If the market falls back, that will not necessarily alter my Elliott wave scenario – the second wave will be lower that on the above chart.

But for now, the bears are on the run and we’ll see how many can adapt. Those that do will add to the bullish consensus and as the market rises, the bull/bear imbalance will gradually even out until at the top, where there will be another lop-sided imbalance. That is how markets work.

Finally, I was bearish gold in October at the $1,250 area and took profits much lower in early November. Today I am bullish. Am I fickle? Am I disloyal? Can I make my mind up?