Gold – Another Post-Crash Update

A Possible Bullish E-Wave Interpretation

When looking at the chart of gold in dollars, it is obvious that a number of bearish interpretations and chart targets can be derived from it. We were thinking about how to go about an Elliott Wave count of the chart, and one possibility that suggests itself is that ‘wave 1 down’ was a rare leading diagonal, and that after a wave 2 correction, we are now somewhere in wave 3 down.

However, because leading diagonals are so rare, we have to consider whether a bullish interpretation of the chart is also possible, especially in view of the panic volume at the lows and the extremes in bearish sentiment that were recorded (more on those further below).

Here is what we have come up with. Please note, we do not claim that this is a ‘correct’ interpretation – we merely note that it is a possibility that would conform with Elliott Wave rules.

Gold’s Elliott wave count, the bullish possibility- click to enlarge.

One caveat is that wave ‘C’ may not be finished. There could be further subdivisions (and hence additional declines) without necessarily invalidating the concept as such. Apart from sentiment, one further consideration that lends support to the above interpretation is the fact that the entire movement since the 2011 high does look corrective in nature. We can detect a plethora of three-wave moves, but no big 5 wave moves except those in the proposed wave C.

Sentiment and the CoT Report

It seems almost superfluous to mention it, but sentiment on gold has become even more bearish than it already was prior to the recent crash. Luckily this is something that can be quantified, and we show a few of the most recent relevant data points below.

A new low in Hulbert’s HGNSI (gold newsletter sentiment indicator – at minus 37.5. This means that on average, gold timers now recommend a 37.5% net short position in gold. Given the fact that a number of newsletter writers are perma-bulls, this is quite an astonishingly high percentage- click to enlarge.

Gold, public opinion – this indicator merges several prominent sentiment surveys into a single number. A new multi-year low in the bullish consensus has been recorded- click to enlarge.

Now let us briefly discuss the commitments of traders report. Several observers have argued that the fact that the net position of large speculators has actually remained long and has in fact become slightly more ‘net long’ than it was prior to the plunge, is bearish. For example, well-known internet gold pundit Clive Maund writes: “…despite the massive drop in price, the COT structure is little changed. This is viewed as strongly bearish”.

This interpretation is erroneous. The group that is most knowledgeable about gold‘s future direction are in fact the big speculators. It would have been very bearish if they had added to their gross short positions. The fact that they have covered a good portion of their shorts is bullish, not bearish. It means they perceive less downside risk than before, and we would note that Mr. Maund previously regarded their growing gross short position as bullish; it wasn’t, and we mentioned at the time in these pages that we felt it was a major fly in the bullish ointment. We noted that obviously, a growing speculative short position could add fuel to any developing rally. However, we then added this caveat, which proved to be prophetic in hindsight:


“However, we hasten to add that one should definitely not assume that just because these short positions have risen, a market rally is necessarily imminent. In fact, it would be a very bad sign if money managers became so bearish as to flip over to a net short position.

It is short term bullish when gross and net long positions are reduced in a correction in an uptrend, but it is far less bullish when the decline in the net long position owes mostly to an increase in shorts.

Let us not forget: the big speculators are the group that tends to be right about gold’s major underlying trend. Their growing skepticism is not an unalloyed positive sign as many other writers currently maintain. Quite to the contrary, it is a reason for concern. Bulls would want to see this gross short position reduced as quickly as possible.”

In so many words, those who believe that the commercial hedgers are the ‘smart money’ in gold simply have it wrong. This is not meant to detract from the otherwise often very good quality of Mr. Maund’s technical observations. We only have a beef with his interpretation of the COT report as well as his misconception about what the ‘bullish percent’ chart of the GDM or the HUI actually depicts (this chart does not show us the degree of ‘bullish sentiment’, but the percentage of gold stocks that are on a Point & Figure buy signal).

There has been another positive development in the CoT report, and that was the ongoing liquidation of long positions by small traders. Historically, this is a group of traders that contributes to a positive outlook if its net long position is as small as possible.

Commitments of traders in gold futures: big speculators have covered some of their shorts, small speculators have liquidated longs. This is bullish, not bearish- click to enlarge.

What bulls would want to see from here on out is a further reduction in big trader shorts, ideally to a level of between 30 to 40,000 contracts gross or less.

Gold and the Rand

The South African Rand has weakened further as gold and platinum were clobbered, with the result that the gold price in Rand terms remains within its  trading range of the past few years. As we write these words, Harmony Gold (HMY) is up by nearly 13% on the day, trading at a still very low $5.20 per share. The huge gap between HMY and the Rand gold price can be seen below:

Gold in Rand and the share price of HMY (green line) – eventually, this gap should close – click to enlarge.

As a matter of fact, Harmony has managed to keep cost increases in check last quarter due to the weakening Rand. The same can probably be expected from other South Africa based mining operations as well – a gradual improvement in the escalation of costs. We think that the current prices of these shares represent an extraordinary opportunity, but obviously everyone will have to do his own due diligence on that point.

There are numerous risk factors, not the least of which is the marginal nature of South African deep level mining operations. They would not be able to cope with a large decline in the gold price. On the other hand, this means also that they sport extraordinary leverage to a rising gold price – it would not be incorrect to refer to them as cheap call options on gold.


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