Technical Analysis

Also known as charting, has assumed great significance in the gold market since the price was freed to find its own level above $35 an ounce in 1968 and, in particular, since the launching of gold futures contracts in the United States in 1975. Technical analysts argue that the price is everything; that scrutiny of the current price and its history will provide the answers. In short, the technician believes that history repeats itself. The market place, he/she feels, is the combined pool of knowledge of gold miners, bullion dealers, investors, speculators and fabricators; the interplay of their concepts creates the price.

Whether or not that is correct, technical charting in gold has become a force, especially in dictating short-term trends and many market participants invest large sums in their own charts or in subscribing to professional services which provide graphic visual evidence of the gold market’s mood. The Commodity Trading Advisors in the United States rely particularly on computer-generated charts to determine buy and sell signals. Technical analysts chart many aspects of the gold market, from the daily price variations on COMEX to the London fixings and the gold/silver ratio (the relationship between the gold and silver prices).

To begin any study of charts, therefore, it is important to know what the point of reference is. In the United States the high-low-close bar chart of daily COMEX trading is most popular. In Britain and Europe, a chart using the London p.m. fix tends to be more closely observed (the p.m. fix because by then New York is also open). The chart based on COMEX has a vertical line for each day; the London p.m. chart, naturally, has a single point each day.

Many charts will also integrate, along with this information, two other lines: moving averages of the price, which may be over a one month, three month or one year period, and momentum indicators (oscillators in the United States) which measure the volatility or rate of change of the price.

Initially the chartist will be studying major trend lines by connecting up in a straight line a series of successively higher or lower prices. On a COMEX chart, an upward trend occurs when both the daily highs and lows are at ever-increasing price levels; a downward trend is when highs and lows are at progressively lower levels. The COMEX chart, with its daily vertical line, derives from Candle Stick analysis, which originated in Japan more than two hundred years ago.

If there is no clear up trend or down trend and the market is stagnating within a narrow trading range, the chartist notes this as ‘congestion’, from which there will eventually be a ‘break out’ to much higher or lower levels.

When it does break out, the key trend line would be the resistance level if the price went up, or the support level if it went down. The resistance level might be dictated by previous highs that gold has failed to penetrate – in fact, a previous congestion level; the support level would be dictated by a previous low or congestion. The crucial chart point is usually a specific price that was, for example, the low last time round. If that was $290.75 and the price falls below that, then the support line is broken and the next support would be an even earlier low, perhaps $272 (although there is a caveat that you need a three per cent penetration, in other words, to $282.03, before the support is truly broken).

The aim, of course, is to pinpoint a key reversal of a trend, which may signal in a single trading day the end of a bear market or the top of a bull one. To this end, the chartist is looking for a number of patterns or formations which herald such a change. Charted in tandem with these daily prices is the moving average of the price; three month and one year are the common.

The main patterns are:

Double top which is an M formation, when the price makes a new high, meets resistance, falls back slightly, then pushes up close to the earlier high, fails to exceed it and then falls back sharply. (Double bottom is the opposite of this, when the price twice fails to break below a particular support level and then takes off up.)

Head and shoulders, in which the price makes an initial new high (the line coming up the ‘left arm’), slips back slightly, then pushes on to yet another high (the head), falls back again, rises slightly to the level of the initial high, stumbles and falls away abruptly (as it were down the ‘right arm’). This is sometimes known as a head and shoulders top.

Flag or pennant is a short-term consolidation in a bull or bear market. In a bull market it occurs when the price rises swiftly to a peak (the flag pole) and then briefly moves slightly lower during a period not exceeding three weeks and then advances to a new rally high. In a bear market a flag occurs after a rapid fall, when prices momentarily rise again, consolidating for not more than three weeks, and then continue to fall.

Triangles come in three varieties: ascending, descending and symmetrical. An ascending triangle has a horizontal resistance line but the support trend line is rising, indicating a bull market going still higher. The descending triangle has a horizontal support trend line but a descending resistance line – a bear market going yet lower. A symmetrical triangle has a rising support line and a declining resistance trend line suggesting a narrow trading range for a while.

Spike top is a very brief rally, against the main trend lines, which cannot be sustained. Wedge may either be a rising wedge in which each upthrust of the price gains less ground, or a declining wedge, in which each downthrust loses less ground than its predecessor.