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What Sparked Gold’s Unexpected Rally?

Gold

Gold investors have enjoyed one of the best days in recent weeks as gold prices made an unexpected reversal that put a months-long rout on hold.

Gold futures traded $14.30 higher on Tuesday trading to an intraday high of $1,256.59, good for a 1.2 percent gain that helped to claw back losses from a heavy selloff that had taken the commodity to a six-month low. Gold had a sliding dollar to thank for the welcome rally after the Dollar Index slipped 0.30 percent to 94.32.

(Click to enlarge)

Source: Kitco

(Click to enlarge)

Source: Investing.com

Euro Recovery

But eventually gold investors will have to pay homage to the euro for stopping the brawny greenback on its tracks.

The euro’s EUR/USD 0.2 percent climb on the day stole headlines after Germany Chancellor Angela Merkel struck an immigration deal with her coalition partners that brought the country from the brink of another poll.

The new deal essentially removes the risk of new elections in Germany, which would have destabilized not only the country but also the entire Eurozone given the outsized role the German economy plays in the regional bloc. The euro is the single most important component in the Dollar Index controlling nearly 60 percent of its movements.

All the other five currencies that make up the Dollar Index were no laggards either, gaining ground against the greenback—Canadian dollar CAD/USD up 0.36 percent; Japanese Yen JPY/USD gained 0.28 percent, British Pound GBP/USD was up 0.36 percent, Swedish Kronor SEK/USD climbed 1.53 percent while the Swiss Franc CHF/USD was up 0.12 percent.

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The Australian dollar AUD/USD, though not a member of the hallowed index, is up nearly 0.7 percent against the greenback so this looks like an all-round roiling for the dollar.

Gold Fundamentals Signaling Extreme Undervaluation

But maybe it was time that gold finally made its stand against the greenback.

The commodity’s technical charts suggest it’s sitting around oversold levels and is extremely undervalued. Gold’s RSI and MACD tell a tale of a metal that has remained unloved for far too long:

(Click to enlarge)

Source: StockCharts

Looking at gold’s Bollinger bands tell pretty much the same story with gold prices having broken them (a sign of extreme undervaluation).

(Click to enlarge)

Source: Yahoo Finance

A break below the Bollinger bands would suggest that something very fundamental has happened to the gold market to merit a repricing. However, this is simply not the case. It just appears like gold has been having knee-jerk reactions to dollar movements. The Dollar Index has tucked on YTD gains of nearly three percent even after today’s selloff compared to a nearly five percent drop by gold futures.

But just how bearish have gold investors become?

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A good proxy would be to look at how large gold traders have positioned themselves. Luckily, there’s just a tool for that. Every Friday, the CFTC publishes a Commitment of Traders (COT) report that shows the position that major traders are taking in different financial and commodity markets.

Though useful for getting a feel of different commodity markets, COT has one big drawback—it’s not very good for short-term trading. That’s because it provides data for the Tuesday just prior to the report coming out on Friday. This means there’s a three-day lag before the report becomes available, which can make a world of difference for traders planning to go long or short on short-term positions.

Nevertheless, the latest COT report released on June 29 shows that speculative short positions by 20,581 contracts compared to an increase of just 1,253 contracts by the longs. Gold speculators are now only net bullish by 4,000 contracts—the lowest in years. The last time they tanked to that level was back in 2015 which preceded a major rally that took prices to $1,400 per ounce.

Long story short: the current level of bearishness in the gold market is simply not sustainable and sooner or later something will have to give.

Short-Term Risk

Gold is therefore looking like a good medium-term bullish bet.

Over the short-term though a few risks remain. A double-top pattern appeared in today’s intraday charts suggesting considerable near-term resistance around the $1,256 level.

(Click to enlarge)

Source: Investing.com

Another potential risk is the euro, which still remains vulnerable to trade tensions between the US and the EU. A weak euro means a strong dollar and potential misery for gold.

By Alex Kimani for Safehaven.com

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