A Golden Zigzag?

07/06/04 08:39:56 AM

by David Penn

A gap up gets filled and gold looks to move lower.

Security: GC Q4
Position: N/A

The last time I wrote about gold, it was back in late March ("Notes on Gold's 3-3-5 Flat," Traders.com Advantage, March 29, 2004). At the time, I suspected that the gold market had topped out with its advance into the January 2004 highs. "Higher prices sooner, lower prices later," was the basic message of that piece, which described an Elliott wave 3-3-5 flat correction as the most likely course gold prices would take.

Price action since that time, however, has compelled me to reconsider -- if not the basic "higher now, lower later" thesis -- then at least the means to getting there. What appeared in late March to be a flat correction coming off of a January top, increasingly appears to be a zigzag correction coming off a late March top.

While the fact that gold in March took out its January highs did not force me off of my 3-3-5 flat stance (often the "B" wave in a flat will move beyond the starting point of the initial "A" wave), the fact that what would have been wave "C" has moved significantly beyond the ending point of wave "A" makes the flat forecast less likely.

So why a zigzag? A zigzag, like a flat, is a standard correction pattern. Most obviously, a flat is composed of three waves that are themselves divided 3-3-5, and the zigzag is composed of three waves that are subdivided 5-3-5. Additionally, the zigzag differs from the flat insofar as the flat rarely results in significant price erosion. Again, the end point of a flat is often the low point of the initial "A" wave down. The zigzag, by contrast, features not only an intermediate "B" wave that rarely nears the starting point of the initial "A" wave, but also a concluding "C" wave that ends significantly beyond the end point of the "A" wave.

If gold resumes its correction in July, then look for a decline to the $350 area.

Graphic provided by: Prophet Financial Systems, Inc.

Considering the chart of August gold futures shown here, a zigzag correction looks like a real possibility. If we assume that the top in the gold market was made in March instead of in February, then we can spot fairly clearly a five-wave pattern down from mid-March into early May, taking gold from about $432 to $378 (basis continuous futures from here on out). Since those lows, gold has rallied fairly strongly, moving up to as high as $406 by late June.

This May-to-June "B" wave has retraced some 52% of the March-to-May "A" wave -- a strong rally by any accounting. But another difference between flat and zigzag corrections is that the "B" wave in flats tends to retrace at least 61.8% of the "A" wave, while the "B" wave in zigzags tends not to. The failure of the May-to-June "B" wave to move above 406 (a rally to 411 or 412 would have cleared the 61.8% hurdle), further suggests the current correction is a zigzag.

Does suspecting that gold is in a zigzag correction give us any predictive advantage over thinking that gold is in (or "was in") a flat? Again, understanding the relationship between "A" and "C" waves in corrections is key here. In both regular flats and regular zigzags, the "A" and "C" waves tend to be of comparable length -- even if "C" waves in flats tend to begin from a different level than "C" waves in zigzags. Thus, looking at the chart of August gold, we can subtract the length of wave "A" (432 - 378 = 54) from the high point of wave "B" (406) to get a wave "C" target of approximately 352.

David Penn

Technical Writer for Technical Analysis of STOCKS & COMMODITIES magazine, Working-Money.com, and Traders.com Advantage.

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ELLIOTT WAVE

A Golden Zigzag?

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