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WEDGE FORMATIONS


So Long, Silver

09/22/04 03:46:10 PM
by David Penn

A breakdown from a rising wedge may be the second of many more declines ahead for gold's shiny little sister.

Security:   SIZ4
Position:   N/A

Toward the end of an article soon to be posted at Working-Money.com ("Gold's Last Gasp?"), I suggested that my bearish secular forecast for gold augurs similarly bearish outcomes for a number of other anti-dollar commodities, including currencies like the euro and other precious metals such as silver.

I should elaborate about my comment on silver. Essentially, silver and gold have traded in the same extended secular bear market since both metals hit their bull market (or "mania market") peaks in 1980. While I think these secular bear markets are most effectively observed and understood through the lens of Elliott wave theory, the patterns they have traced out -- particularly in silver and particularly since silver's mid-spring spike above $8 an ounce -- are clear enough for most market participants to give some pause to the more outrageously bullish forecasts for precious metals.

A rising wedge in December silver anticipated a sharp decline in prices as autumn began.
Graphic provided by: Prophet Financial Systems, Inc.
 
The dominant technical feature of this nine-month chart of silver futures, after the crash in April and May, is the rising wedge that develops over July and August. The choppiness of the rally since the early May bottom, in and of itself, was suggestive of a corrective (as opposed to impulsive) rally -- even though the uptrend consisted of an uptrend's requisite higher highs and higher lows. Corrective trends tend to have "waves" that overlap; to the eye, these trends look sloppy. By comparison, impulse trends tend to have more clearly defined advances and retreats, in which post-rally declines to not penetrated deeply (if at all) into the price range of the previous advance.

Rising wedges have been discussed frequently here at Traders.com Advantage. Most recently, contributor Arthur Hill has highlighted rising wedges in a variety of stocks ("Alltel Struggles On The Upside," July 17, 2003) and indexes ("German DAX Forms Rising Wedge," April, 28, 2003), and those looking for further examples of bearish rising wedges will find them there. Here, suffice it to say that rising wedges develop in uptrends and consist of price action that is bound by a pair of rising, but converging trendlines. Rising wedges are bearish -- perhaps in part because they tend not to have the short of sustainable impulse action as described. In any event, traders and investors spotting rising wedges are generally advised to wait for prices to penetrate the lower trendline -- preferably on significant volume -- before selling or pursuing a short trade.

Here, in December silver, prices have already broken down from the rising wedge. Although this chart shows a bit of a bounce in silver since early September, both the magnitude of the initial break and the fact that resistance looms at the 20- and 50-day exponential moving averages argue against December silver making much upside progress. Another clue that a deeper bear market may be in store for silver is the exceptionally deep MACD histogram (or MACDH) that developed during silver's crash in April. As I have written for Working-Money.com, such extreme values in the histogram often anticipate -- after a period of countertrend movement -- further movement in the previous direction.

More immediately, what can traders in silver anticipate by way of a downside from the rising wedge? Thomas Bulkowski (the author of Encyclopedia Of Chart Patterns) suggests that, at a minimum, prices should fall to the bottom of the wedge pattern. In the case of December silver, this would point to a minimum downside of about $5.55.




David Penn

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

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