Thursday, July 12, 2007

My Weekly XAU Gold Ratio Chart

I think this is a chart that many other gold traders look at. It is a ratio between the XAU and the Gold ETF, GLD. In other words, a ratio between gold stocks and gold bullion. This is a very essential relationship to look at. The reason it is so important is because in order for the bull market in gold to be considered healthy, gold stocks must be leading gold bullion. When gold stocks are outperforming gold bullion, it is considered bullish for both.

Let's have a look at a long term picture of this relationship. Below is a weekly chart of the ratio, so that each candle represents one week of price action. When the ratio line is rising, it means that gold stocks are leading, and when it is falling, gold stocks are lagging.

One thing that is interesting is that you can apply technical analysis to ratio charts, just as you can with ordinary charts. As long as traders are looking at it, you can apply technical analysis to it. In the above chart, notice the perfectly formed triple top, that I marked off with a horizontal blue line, and three down arrows. Each down arrow represented a good time to unload some of your gold holdings, although you could only capitalize on the last 2.

There is another feature about this chart that is incredibly interesting, and it applies right here and now. I am referring to the enormous triangle that I have outlined, which has been in development for about 18 months. As you can see, the ratio has, just now, broken out of this triangle. I feel that this is a long-term bullish indication.

Although there are many long term indications that lead me to believe that gold will be MUCH higher in a couple of months, there are still some short term hurdles. First, as a mentioned in my previous post, the XAU has gone up about 10% in a very short time, and is now overbought.

Second, the XAU is right at some major overhead resistance. I would be surprised if the XAU had enough energy to plow through this resistance without first taking a bit of breather to relieve the overbought condition, but anything could happen. The chart below is of the XAU, and the main thing to note is the red horizontal resistance.

On a completely different topic, I notice that Eldorado Gold is down about 30% so far today. I have no idea what happened, but I think this illustrates why I prefer to hold gold ETFs rather than individual stocks.

The Canadian gold ETF, symbol XGD, which I hold right now, has a weighting of about 1.5% of Eldorado Gold. This means that Eldorado's fall only has a negligible effect on XGD. If you were fully margined with Eldorado Gold yesterday, your account would be completely blown out today. This is why it's better to hold ETFs, and don't over-trade. Like most lessons I have learned, I had to learn this the hard way. I hope you don't have to.

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