Friday, June 22, 2007

A Look at Intermarket Analysis

The chart below is one of my favourite charts, and it is modeled off what the very intelligent John Murphy indicated one time in his excellent newsletter. The chart examines the relationship between international stocks, and domestic US stocks. The international stocks are represented by the ETF with the ticker symbol EFA, and the domestic stocks are represented by the ETF for the S&P 500.

The rationale behind this chart is that when investors feel that the US Dollar will decline in value, they prefer to get out of US Stocks, which are denominated in US Dollars, and into foreign stocks. Therefore, this ratio chart can forecast moves in the US Dollar. Since, as explained in a previous post, the USD is inversely correlated to the price of gold, this ratio chart can give us a glimpse into what is ahead for gold stocks.

When the ratio chart is moving higher, it means that foreign stocks are outperforming domestic ones, and this is considered in my view to be dollar bearish. In addition, I have used an MACD histogram to help identify trends. In the middle of April, the histogram crossed the zero line, into bearish territory. This meant that, for a change, the S&P 500 was outperforming international stocks in a significant way. This signaled that investors were not as afraid to hold US Dollar denominated securities, and that they had confidant in the US Dollar. Subsequently, the US Dollar did in fact enjoy a counter trend rally.

Furthermore, if you look at a chart of the XAU, it topped out in the middle of April, at the same time as the MACD for the above chart gave the signal. This is not a coincidence. A couple of days ago, the MACD histogram crossed above the zero line, which is dollar bearish. Since that time, the USD has given up some ground. I think this is a valuable chart, and should be considered when making your gold stock or forex trading decisions.

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