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Tuesday, November 03, 2009


Another Gold Breakout, Short-term Market Rally?

Gold bulls will want to see a successful backtest followed by a breakout to new highs

It took less than a week for gold to rebound and break out to another new high, with a strong $25+ rally today despite the U.S. Dollar moving higher on the day. Silver also rallied strongly, up over 4% today alone. The precious metals had been moving inversely to the dollar, so today's strong move higher in the face of a stronger dollar could bode very well for continued strength even if the dollar rebounds.

As we said last month, "The precious metals could be in for an extended rally period on this breakout. If so, the miners should be in for a strong bull move."

As this chart shows, the TICK 10-day EMA is below 0 for the first time since the June/July dip (though it has room to move lower)

And move lower it did, dipping down below the oversold line late last week:

On that move lower, the NYSE McClellan Oscillator (NYMO) moved lower than at any other point during this rally:

Previous spikes down in the NYMO during this rally have been followed by short-term rallies.

Also, the VIX spiked well over its upper Bollinger Band. It was the 5th time since this rally began in March that the VIX spiked to or above its upper Bollinger Band. The previous 4 times, the S&P 500 rallied back sharply short term after the VIX spike:

Given the recent history of the market rallying sharply short term after a VIX spike above its upper Bollinger Band and a spike down in the NYMO, combined with the upward market bias heading into the FOMC announcement, there's a good chance the market will move up into that announcement tomorrow afternoon. If recent history is a good indication, the market also should continue higher over the next few days.

Despite the recent market pullback, the S&P 500 has held its October lows, meaning a rally from here would mark another higher low. However, if the market fails to make a new high on this next rally, and then makes a lower low, the medium-term trend will have changed from upward to downward. A short-term rally followed by a lower low would likely also put in place a head and shoulders topping pattern, which might finally lead to a more significant market correction.

As we said last time, "Watch for a bearish cross on the weekly PPO and a break of the weekly uptrend to signal a more significant market correction. If the TICK 10-day EMA can't reach the 600 level on the next bounce, or the market fails to sustain a rally from oversold NYMO levels, the medium-term trend could be changing."

A number of indicators and negative divergences are pointing to a possible change in the medium-term trend to the downside. However, a new high would extend the rally and keep the trend moving to the upside. Aggressive traders may want to reduce long exposure and increase short exposure on the next rally, with a stop on the short exposure at a new high. More conservative traders and investors may want to wait for confirmation of a trend change with a lower high and lower low combined with other indicator confirmations.

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