Some things become more obvious when you change your point of view. Some decisions are easier to make when we change the measure of value. And today I would like to share with you the gold bug’s view of the stock market.
Chart 1. The S&P 500 Monthly In Grams Of Gold
The chart above represents the price dynamics of the S&P 500 in grams of gold. I used grams not ounces to make the chart more readable. You can do the same by dividing the S&P 500 value to the price of gold in troy ounces and then multiplying it by 31.1035.
In the middle of 1999 a gold bug should have spent around 174 grams of gold to buy one contract of the index. Then the stock market was over-inflated and gold was undervalued. In an instant the S&P 500’s gold value dropped heavily amid the metal’s soaring upside move until the ratio had found the bottom at the 18.4 grams in 2011.
Since then the price of the S&P 500 has more than tripled in 2015 in terms of gold grams making a zigzag move to the upside within the black expanding uptrend. The ratio moved through the resistance of the previous low (2006 low, red line) beyond the 55.6 grams level. Then the index made a break as gold pushed higher pressing the ratio to the sub-50 gram area. The RSI relaxed on that move slightly diving below the 50 area. The ratio as well as the RSI spent almost all the of 2016 in a horizontal consolidation (45-54 grams range).
At the end of last year the ratio rocketed to a fresh 9-year high at 62.6 grams entering back to the 55.6-74.6 range. It’s interesting that during that time both the S&p 500 and gold moved higher, but with the different speed. After that the ratio paused in a new consolidation (red rectangle), and this is a very healthy move, which gives the market an opportunity to accumulate power for another jump higher. It’s noteworthy that the consolidation bounced off the red support, it means that the level is truly important.
The breakup above the 62.6 top would open the gate to the next resistance at 74.6 grams. The RSI has enough room to reach that level. The upper side of the black expanding trend is located at the 80 grams level. Below the downside of the red rectangle at 56.3 grams the risk of further weakness would grow. Breakdown of the trend (52 grams) would confirm the reversal. The risk at this level is 4.3 grams vs. the potential gain of 14-19 grams of gold per every S&P 500 contract.
I added the S&P monthly chart below to find out if its chart supports the above-described idea.
Chart 2. The S&P 500 Monthly: The Trend Is Your Friend
The S&P 500 has been circling the $2400 level for the third straight month like a shark circling its bloody prey. Will it attack that level?
I think the market is in a right condition for that. The first reason is the major uptrend, which has been intact since 2009. I connected the closest troughs and tops to draw the black slightly expanding ascending trend channel. I also added the blue small uptrend to contour the current upside move that started last year after one-year consolidation in 2015.
The index is above the middle of the black uptrend and it is approaching the climax point both in the blue and black uptrends, which intersect at the $2650 level. A breakup and close above the $2400 level are needed for further progress. The drop below the blue uptrend ($2250) could ignite another corrective move, but the major risk would not arise until the S&P 500 is in the black trend.
The $2650 level is equal to 67 grams of the ratio in terms of gold price calculated at $1230/Oz. But to reach 74.6 grams the S&P 500 should rocket even higher with gold either at the current level or lower.
I added the highlights of the Bearish Divergence on the RSI sub-chart for educational purposes. The RSI topped at the 77.6 level in December of 2013 when the index hit the $1850 mark (both highlighted with the orange ellipses). After that, the indicator started to decline, while the S&P 500 continued its growth to the top in May 2015 at the $2135 level. The divergence had lasted for one and a half year before it finally played out when the market started to consolidate.
What is the lesson learned? The first thing is that the RSI is important to spot such market misbehavior and to show a market’s strength – you can see in both charts that the consolidations didn’t breach the 50 area and it was crucial for trend resumption. The second thing – the divergence itself is not a signal to buy or sell, it only alerts you to be cautious of the possible market reversal during the coming periods. We should watch the depth of the divergence and try to limit the risk of the open position once it grows too much. There are some other hints we could use along with divergences – the speed of the price progress, the angle of the trend and of course the price action at the trend touching points.
INO.com Contributor, Metals
Disclosure: This contributor has no positions in any stocks mentioned in this article. This article is the opinion of the contributor themselves. The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. This contributor is not receiving compensation (other than from INO.com) for their opinion.