How Overextended is Gold?

I have been going over the market for gold ($GOLD) in class since last week. We have looked at daily and weekly data, viewed the RSI, and we have gone back to consider where the US Dollar ($USD) is, as the dollar and commodities are inversely related (other things being equal). What I want to do in this post is to show you another way to show whether something is overbought or oversold.

First, chart  $GOLD using daily data. Find a moving average that fits the time period under consideration very well. After a number of different values (starting from 20-day to higher periods), I found that the 150-day simple moving average fits gold very well, as the chart shows (click to enlarge).

To find a way to view how far the closing price is from this moving average, under "Indicators" below the graph, use the following information with StockCharts.com: MACD with values 1,150,1 (select MACD then enter the values I indicated).

That produces the graph below the Gold chart. You can annotate any (or all) of this set of charts. Here, apply a horizontal line to the peaks of the gap measure (the MACD values) to find where resistance has been before. It should be clear from the chart that recently, Gold price moved above its 150-day moving average by the greatest amount since either June of 2008 or September of this year. Note, also, this has occurred as Gold is very overbought based on the RSI (which is also showing a bearish divergence).So, you can see from this chart that there is yet another basis to conclude that some short-term pullback in Gold price is likely. Note, though, that markets can remain overbought for some time, so any pullback might not occur for a while yet.

Friday's Employment Report

I had stated in class that the bond market anticipated a bad employment report. THE BOND MARKET WAS CORRECT. In anticipation of a larger-than-expected fall in employment (an actual fall of 263,000 -- much worse than the "consensus" estimate), and thus slower growth ahead, interest rates had been falling during this week. And, the actual number didn't do anything to reverse that trend. Here is a very short summary of the day's 10-year bond performance.


The chart (click to enlarge) shows the ten-year bond rate ($TNX). NOTE: the rate of interest is the listed value on the right axis divided by 10. So, 35 corresponds to a 3.5% rate, etc.  Resistance for the 10-year bond rate has recently been 3.5% -- you can see the rate bouncing off this level several times since August. Focusing only on this past week, we see a noticeable decline in the 10-year rate, in anticipation of a weak employment report.

As interest rates and bond prices are inversely related, note from the RSI indicator above the chart that rates are oversold, so a bond rally (on potentially bad news) has caused bond prices to be overbought.

There is one interesting thing about Friday after the employment release: the 10-year rate rose (and prices fell). And, while the rate hit 3.1% at one point during the day, the close was higher than the open. There was also a lower tail (remember: a possible signal of change of momentum). It is quite possible that the low on Friday may be a 10-year low for the short-term based on Friday's price bar. Keep in mind, though, that mortgage rates tend to be highly correlated with the 10-year bond rate, so it appears that we are going to see lower mortgage rates ahead (below 5% on 30-year mortgages). The real question is whether mortgage applications rise or fall ("other things" are not necessarily equal).

The stock market had a rough couple of days. After class on Thursday, the market dropped sharply. Friday, after the report, another sharp drop occurred until around mid-day when we came off the lows of the day. Here is a story about the stock and bond markets. For extra credit, due at the beginning of class on Tuesday, create a chart of the S&P 500 (daily) using "fill the chart" as the data range. Put the RSI in the same chart (not above or below it), paste this into a Word document. In that document, provide a brief summary indicating how the RSI signaled the recent stock market decline.

You should continue following the bond market throughout the remainder of this semester and beyond, noting what it is forecasting and contrast this with what the stock market is assuming. We will cover the stock market this week.