Supporting Gold and the Greenback

02/21/02 01:28:59 PM

by David Penn

After making major bullish moves January and February respectively, both the dollar and gold find support.

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The rises in both the greenback and gold in 2002 were not simultaneous. But they might as well have been. Gold and the greenback tend to move inversely for a number of reasons--the foremost perhaps being gold's role as a leading indicator of inflation. Thus when gold advances--suggesting that inflationary fears are similarly advancing--the value of the U.S. dollar tends to be declining. Additionally, gold has a historic role as a safe haven in times of political and/or economic uncertainty. Although the dollar also has somewhat of a "safe haven" status due to its role as the dominant currency in the world, it is rare that investors seeking "safe haven" will find gold and the greenback equally valuable for that purpose.

So the fact that both gold and the greenback were rallying early in 2002 was something of an event. What is interesting from this perspective is what gold and the greenback will do as a follow-up. Both gold and the greenback are currently resting on significant support--though if the normal inverse relationship between the two reasserts itself, traders and investors will soon learn just how "significant" those support areas are.

Resistance becomes support for both the U.S. dollar and gold prices.

Graphic provided by: MetaStock.

Is there any way to find out how strong the support areas are before prices make their move? Although technical analysis (even intermarket technical analysis) cannot predict which (or both) support areas will or will not hold, it is possible to look at the way the two support areas were formed to see if there are any clues in the building of this support that will let traders and investors know which of the two--gold or the greenback--will continue its advance.

The support for the greenback is at about 118.5. This level is determined largely by rally peaks in December 2001 and October 2000, as well as correction lows in June 2001 and, of course, the current greenback correction. During the summer of 2001, when the greenback last climbed above 118.5, prices tested the support level twice and even set a new high before correcting about 8%. This tends to suggest that while the support at 118.5 is real, it is not overwhelming. This may change, however, as the trendline from the October 1999 lows is currently at 116. It is increasingly easy to imagine a scenario in which the trendline and the 118.5 support level converge--which would increase the amount of support provided the greenback by a signficant amount.

The case for gold relies even more heavily on prior peaks (resistance) becoming support. Gold's current support level at 296 corresponds with both the September 2001 and June 2000 peaks (and, to a lesser degree, the May 2001 spike which actually fell just short of 300). There are no correction lows in the 295-300 range, which would be more of the kind of previous support that would make gold's current perch seem more sustainable. This does not mean that 296 does not represent real support for gold. But the absence of nearby support in the form of correction lows tends to suggest that if the 296 support level does not hold, then gold may be in for a steep decline--everything else being equal. It must be added that steep advances and steep declines are fairly common to gold--as the chart shows. By comparison to the dollar chart, gold's price behavior is all the more pronounced. Those who have taken advantage of gold's run into the low 300s would be wise to be on guard should gold's upside volatility suddenly turn down.

David Penn

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

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Comments

Date:�02/26/02Rank:�2Comment:�Good analytical observations, but not the role of S C. New or very old genuine analysis should be presented and tested: Gann; AndrewsPitchFork; candkles Cyclical for example. This is the role of S C: learning, learning

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SUPPORT & RESISTANCE

Supporting Gold and the Greenback

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