This has been a great year for gold, but investors can’t seem to shake the jitters they acquired in 2008, when prices plunged 35% between March and October after poking briefly above $1000 for the first time. Is last week’s 10% selloff the beginning of another murderous correction? We don’t think so, although it could take a few more weeks for prices to consolidate for the next strong push.  But more immediately, we expect the Comex February contract to ease to a minimum $1090 in the days ahead. That would represent a $38 decline from yesterday’s settlement price and bring the total correction to slightly more than 11 percent.

Although we nailed last week’s 1227.50 top within 40 cents and turned cautious, it is often easier to forecast interim highs in a bull market than to predict the precise course of a correction.  In any event, we’d suggest keeping the 1090 target well in mind this week, since, if it fails to provide a strong bounce, that would imply still more weakness to come.  In any event, using Hidden Pivot analysis, we can gauge the strength of the downtrend by the way it interacts with pivots both major and minor. While we remain somewhat negative on gold at the  moment, we’re prepared to turn bullish on a dime — but only if very specific conditions are met.  In this case, February Gold would have to rally directly to at least 1154.60 after hitting a tripwire at 1139.30 either today or tomorrow. That would create a bullish “impulse leg” on the hourly chart – a feat that gold has accomplished once since last week’s breakdown, only to reverse unexpectedly the following day.

Nothing Has Changed

Technical considerations aside, there is nothing in the news to suggest that any of the factors driving gold’s spectacular rise have changed. Mostly, it’s a case of large dollar reserves weighing on foreign holders who would rather be holding something else. They will continue to exchange those dollars for gold in particular, notwithstanding occasional news stories that would have us believe that the dollar and U.S. Treasury debt represent a safe haven in a crisis.  What they represent is a carry-trade speculation that sometimes unwinds precipitously to the detriment of those who have borrowed dollars. The resulting short-squeeze effect has the ability to keep an otherwise leaden dollar buoyant, at least for short stretches, but the resulting surges in the dollar should not be confused with signs of strength.

This dynamic seems to be what is troubling gold bulls the most.  Although they can rattle off a dozen good reasons why the price of gold is absolutely likely to continue higher, the dollar side of the equation can seem relatively mysterious.  There are some pretty good technicians out there who are bullish on the dollar, and we ourselves have made the case that short-squeeze forces could cause the dollar to turn unnaturally strong. For what it’s worth, however, we see more bluster than strength in the Dollar Index’s rally from early December’s lows.  Friday’s sharp thrust actually showed a trace of chicken-heartedness in failing to take out early November’s peak at 76.82 (see chart above). Serious rallies do not shy from such challenges, and that’s why we think this rally, even though it left the launching pad a week ago in a hail of sparks, is not destined for greatness.

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