Gold Retesting Support

02/07/11 01:08:49 PM

by Chaitali Mohile

Will gold sustain support or initiate a fresh bearish rally?

Security: $GOLD
Position: N/A

The gold continuous contract EOD ($GOLD) has been rallying with the support of the 40-day moving average (MA). After converting the 40-day MA resistance to support in 2009, $GOLD shifted in a bullish trend. In Figure 1 we can see the steady vertical price action of the index. At two points, $GOLD retraced to test the MA support. The two dotted vertical lines (red and blue) show the correction in the price rally as well as the indicator's movements in Figure 1. The full stochastic (14,3,3) was unable to sustain in an overbought region, though the uptrend indicated by the average directional index (ADX) (14) was not overheated in either situation.

The overbought stochastic oscillator suggested that $GOLD could correct. In addition, the red dotted line showed a shooting star -- bearish candlestick pattern -- and the blue dotted line reflects an evening star candlestick. Both candlestick formations were bearish trend reversals, but the 40-day MA extended healthy support and protected extra damage. As a result, the ADX (14) could sustain in the developing region of 20 to 30 levels.

FIGURE 1: $GOLD, WEEKLY. The short-term rounded top is visible on the weekly time frame. The index has paused at the crucial support level of the 40-day MA.

Graphic provided by: StockCharts.com.

Since October 2010, the bullish rally has halted. $GOLD has formed a short-term rounded top instead of consolidating at the higher level in Figure 1. The rounded top is one of the reliable formations, suggesting that the top has been formed and the index is likely to initiate a fresh bearish rally. During the formation, the index slipped 100 points from the top at 1430. The momentum indicator has plunged below 50 levels, indicating weak momentum. The uptrend became highly overheated, indicating a trend reversal possibility. The ADX (14) in Figure 1 has marginally plunged below 40 levels but is still closer to the overheated levels. Currently, $GOLD is retesting the 40-day MA support. However, a bearish breakout of the rounded top of $GOLD would be confirmed if the MA support in Figure 1 were violated. An extreme bullish trend is likely to force $GOLD to initiate the bearish move.

According to Figure 1, the index has never breached the 40-day MA support since 2009, forming robust bullish strength. Therefore, it would be difficult for $GOLD to breach this support. I would suggest traders wait and watch the index for the next few weeks before jumping into any positions. Keep in mind that $GOLD on the monthly time frame is highly overbought and the uptrend is extremely overheated. Due to these extreme conditions, the index is likely to plunge another 100 points in the long run.

Hence, short-term traders can stay alert in coming trading sessions.

Chaitali Mohile

Active trader in the Indian stock markets since 2003 and a full-time writer. Trading is largely based upon technical analysis.

Company:	Independent
Address:	C1/3 Parth Indraprasth Towers. Vastrapur
	Ahmedabad, Guj 380015
E-mail address:	chaitalimohile@yahoo.co.in
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Gold Retesting Support

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