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Ballooning Shorts/Whipsaw swings

Clive Maund
27 June, 2005

Gold succeeded in breaking above the apex of its triangle and has become short-term overbought. More serious than this is that the Commercial short position has ballooned on this rise, making a short-term reaction likely. Unfortunately, the breakout above the triangle apex has not, so far, been by a margin sufficient to ensure that the triangle apex will provide effective support in the event of a reaction. The kind of "whipsaw" action that currently exists in this market is typical of what happens when the price breaks out late from a symmetrical triangle, late meaning at least three-quarters of the way along the triangle from its point of origin to the apex. Thus, gold first broke down from the triangle, then it broke out through the apex of the triangle and now it looks set to react again. The situation in silver is more extreme and therefore we can expect some wild gyrations when it breaks out from its much larger triangle, which it must do soon.

On the 1-year gold chart we can see the breakdown from the triangle, the sudden reversal and break back up through the apex of the triangle, and the overbought condition that has resulted, shown by the position of the RSI and MACD indicators. Moving averages are supportive, as they are swinging into bullish alignment. However, the risk of a significant short-term reaction is considered that much greater, due to the big increase in the Commercial short position, shown on the COT chart below.

Gold stocks are at an inflexion point and must soon break above the down-channel line shown on the 1-year linear HUI chart to obviate the risk of a reaction back towards support in the 160 area. Traders should use a break of the uptrend in force since mid-May as a signal to stand aside.

The big picture for gold looks fine, with it continuing to ride its long-term 200-day moving average.

The dollar's advance looks to be stalling beneath the 90 level on the index, at and towards which there is substantial resistance. A break of the high trendline shown on the 6-month chart is expected to signal a retreat.

Silver is pushing right into the apex of its 15-month triangle pattern, which means that wild and erratic action is to be expected once it breaks out, which it must now do within a month or two, maximum. Gold also pushed into the apex of its smaller triangle, before proceeding to break out and then whipsaw a lot of market players with wild swings.

The 2-year chart for silver shows the huge triangular pattern and its associated support and resistance levels. The lower line of the triangle is clearly a very important support line, especially as, when produced back, it can be seen to be a long-term trendline that provided support in the past. This pattern, which must resolve itself soon, is already getting "very long in the tooth." When prices remain stuck in such a pattern for more than two-thirds to three-quarters of the way from the point of origin of the triangle to the apex, as is certainly the case here, then the subsequent breakout cannot be trusted, and wild, erratic action, involving whipsaw swings is to be expected - and this is especially the case with silver, which is prone to such behaviour even without the benefit of a situation like this.

Traders will therefore need to exercise more than the usual care and discipline once this breaks out, and it will probably be wise to lock in profits quickly whenever a significantly overbought or oversold condition develops.

On the 6-month chart, the recent reaction halted where it should, at support above the apex of the smaller triangle shown. Price action thus far is reasonably positive with the price finding support exactly at the 50-day moving average above the big triangle trendline and both moving averages being in bullish alignment. As we can see on this chart and the 2-year chart, there is a lot of support in the $.6.80 - $7 area, which means that if it fails, it is likely to dramatic, precisely because it is so important.

While price action thus far does look positive, apart from, as already mentioned, the very late breakout from the triangle, the latest COT chart continues to look bearish short-term. Although the Commercials' shorts fell slightly this past week, they still remain at a high level, which does not look good, especially as the Commercial short position in gold just ramped up. Another negative is the now high open interest, the green line on the COT chart shown, which means that there are a lot of chips on the table, and with the Commercials rather heavily short and the Large Specs with a fairly high long position, you can guess who's probably going to going to get the "short" end of the stick.

26 June, 2005
Clive Maund
email: support@clivemaund.com
website: www.clivemaund.com

Clive Maund is an English technical analyst, holding a diploma from the Society of Technical Analysts, Cambridge, England. He lives in Chile.

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