Gold Looks Toppy But Usual Indicators Offer Little Edge

Gold continues to thumb its nose at the bears by clawing its way upwards ever so carefully. Since it the chart shows slightly higher highs and higher lows we can continue to call this an uptrend. My own recent commentary on the precious metal has not been bullish as I expected it to be making a significant top around this level. But obviously, so far gold has managed to pierce through the previous swing high made in early November.

But it remains to be seen if it is carving out a slow top or inching its way higher, by climbing the proverbial “wall of worry”. I’ve looked at the usual indicators that I follow for gold to peer into the fog that is the hard right edge of the chart and I’ll share them with you in the hopes that we can find our way together.

For a commodity making new record highs, the sentiment is surprisingly muted from the usual surveys. According to Mark Hulbert, the HGNSI which tracks gold sentiment newsletters was rather unimpressed even as gold was making its early November 2010 highs (55%). Neither did the decline from +$1440 to $1337 in mid to late November shake their confidence too much (40%).

Gold Sentiment
According to the Ned Davis Crowd Sentiment for gold however, that brief correction did impel a significant number of weak hands to exit the market. In early December the NDR Gold Crowd Sentiment fell to just 28.3%. That is the lowest it has been since March 2010 when gold was putting in an intermediate low.

The HGNSI by the way was also much lower as a result of the correction in the spring. It had fallen to just 18% by late March 2010 from 61% in January 2010.

Clearly the fact that the NDR Gold Crowd Sentiment has receded so much in the face of a very shallow correction points to a very nervous market. This then obviously does not indicate there is any froth or speculative activity. At least, none that don’t quickly cut and run, instead of digging in their heels and insisting on price matching their convictions.

But the other usual sentiment indicators for gold are lukewarm. For example, the most recent Commitment of Trader’s reports (data as of last Friday) shows a distinct lack of edge. Neither the Large Speculators, Small Speculators nor the Commercial Hedgers are positioned in a way that gives us a reason to expect an inflection point.

Rydex Market Timers
And then there is the Rydex Precious Metals fund indicator. In the chart below you can see the fund’s total assets in millions (green line) compared to the SPDR Gold ETF (GLD) in blue:

This Rydex sentiment indicator is one gauge for gold that is definitely signaling an extreme. But as I mentioned in a previous update about gold sentiment last month, it isn’t perfect. As you’ll notice by looking at the above chart, it totally missed the parabolic blow off that occurred in the spring of 2008.

The last time we saw the assets of this specialty fund swell up so much was at the start of the year. So it is once again clearly indicating quite a bit of speculative activity from the part of retail market timers that dabble in the Rydex family of funds. Currently the total assets are $310 million but on Monday they spiked to $340 million – corresponding to gold’s close above $1420.

Since 2003, there have only been a handful of times that the total assets in this fund have approached or surpassed $325 million:

• December 2003
• May 2006
• June 2009
• November 2009
• November 2010

The jury is out still on the current instance but for each of the previous times, gold faced a significant correction. The shallowest one was for June 2009. As well, the instance for November 2009 saw the total assets stay above $325 million for a prolonged period of time – whereas the others were spikes up.

Junior Gold Mining Sector
The other indicator of speculative activity is the frenzy of buying in the tiny arena of junior gold mining stocks. These are very risky plays but they have attracted a growing crowd of admirers. Year to date, the Market Vectors Junior Gold Miners (GDXJ) has gained 61% (recent high of 70%). As well the BMO Junior Gold Index ETF (ZJG Toronto) has gained about 71%, year to date, with a recent high of 80%.

This in contrast to the commodity’s own 25% (recent high 30%) return or the AMEX Gold Bugs index’s (HUI) return of 31%. Obviously, it is natural for the more speculative area of the gold sector to show such numbers, especially in such a strong bull market. But it also shows that there is froth, if you look for it.

On a somewhat tangential note, you’ll notice from the above figures that gold and the Gold Bugs index have been tracking each other very closely. Because of this, the ratio of the two (also known as the k-ratio), which I depended on previously as an indicator for the valuation of gold stocks is no longer really useful.

US Dollar
Finally, there is the issue of the US dollar. I had been bullish on the US dollar and stuck with it in the face of some absolutely insane news, including QE2. The dollar did finally find its footing and has put in a good rally. If you remember, the bearish sentiment numbers that provoked my bullish stance on the greenback were of the most extreme. And usually, when we see such an astonishingly lopsided sentiment, it produces a major inflection point taking prices much higher than we have seen so far. So I expect that the US dollar rally isn’t quite finished yet. And with that comes downward pressure on gold

To sum up, at the moment, there isn’t a very clear picture of gold from the various indicators we surveyed. Usually when faced with such a frustrating lack of edge, I stand aside but if I had to insist on taking a position it would be short term bearish.