Gold creates emotional reactions for many investors. Some believe gold is important to their financial security. Others argue the yellow metal is prone to multiyear bear markets and can destroy wealth over time.
The recent decline in gold has left many bears believing they were right all along.
The truth is that both groups are right. Gold can make large moves, both up and down, and can help diversify a portfolio.
The chart below shows technical reasons to expect the decline in SPDR Gold Shares (NYSE: GLD), an exchange-traded fund that holds physical gold and sells for a price equivalent to one-tenth of an ounce of gold, to be near its end.
GLD has retraced 38.2% of its bull market move.
Retracement Explains Gold’s Pullback
Inflation Will Boost Gold
After a rally, traders look for prices to pull back, retracing a part of their gains. Many traders plot retracement lines to show important price levels. Popular lines use Fibonacci ratios. The line in the chart shows that GLD has now retraced 38.2% of its rally.
Fibonacci ratios are popular among traders. There’s nothing magical about the ratios, even though some traders believe the numbers possess supernatural qualities.
The truth is that Fibonacci ratios are built into the most popular software platforms. So, because they’re there, traders use them — it’s that simple.
Hedge fund traders draw their ratios and buy or sell contracts when prices touch the ratios.
The lines enforce discipline, and successful traders need a disciplined approach. Because the exact same lines are on so many charts, Fibonacci ratios become important.
Fibonacci ratios aren’t important enough to be the only tool a trader will need, but they’re useful when combined with other reasons to trade.
Another reason to consider gold right now is an inflation hedge.
DoubleLine CEO Jeffrey Gundlach recently told investors that inflation will be above 3% within months. Gundlach is worth listening to since investors have entrusted over $141 billion to him. He said:
The Fed chooses to be unconcerned about a period of time with inflation running above 3%,” “In my opinion, not only are they unconcerned, they welcome inflation being higher than interest rates. They like negative interest rates because they know that negative interest rates help to forestall the incredible deficit and unfunded liability problems the United States has.
One could actually plausibly predict that headline CPI could go over 4% at some point in about four months from now.
Gundlach is right that inflation is set to rise based solely on the economy being weak last year. This news could spook investors into buying GLD.
My colleagues Adam O’Dell and Charles Sizemore are both bullish on the future of gold. If you are looking for another easy way to invest in gold without buying the metal outright, Adam has just the thing. He calls them “A9 gold stocks,” and they have the potential to beat the price of bullion nine times over. Read more about it here.
Michael Carr is a Chartered Market Technician for Banyan Hill Publishing and the Editor of One Trade, Peak Velocity Trader and Precision Profits. He teaches technical analysis and quantitative technical analysis at the New York Institute of Finance. Mr. Carr is also the former editor of the CMT Association newsletter, Technically Speaking.
Follow him on Twitter @MichaelCarrGuru.