Editor’s Note: The following is an excerpt of Richard Russell’s Dow Theory Letters by contributing author Jon Strebler.
It’s not clear who was the first to suggest that a good definition of insanity is “To do the same thing over and over and expect different results,” but that definition has a certain ring of truth. Albert Einstein is alleged to have uttered the phrase, but then lots of brilliant things have been credited to him that we’re not sure he really said. On the other hand, there’s the conflicting idea of “Try, try again, until you succeed.” It was Richard Bach, author of the best seller Jonathan Livingston Seagull, who epitomizes this thought for me. Publisher after publisher turned down his novel, but he never gave up. Finally, something like his 15th effort paid off — confirming the idea that you can’t keep a good man (or bird, or story) down.
Mr. Russell taught me something similar back in the late-1970s. He said: “Find a market analyst who’s basically very good, but has been wrong for a long time. Follow what he says, because he’s going to be right soon, and in a big way.” The guy he used as an example back then was Martin Zweig, who went on to have an amazing run as a successful investment advisor and money manager.
Which way is it with gold and the demise of the US economy, I often find myself wondering?
The economy’s doomed, the stock market’s going to collapse, gold is the only safe haven. Year after year, decade after decade. At what point do you decide, “Gee, this doesn’t seem to be happening. I wonder if that’s a flawed analysis?” The U.S. economy is finally improving nicely by almost all accounts, the threat of recession fading on the back end and nowhere in sight ahead of us. US stock indices are all well into new high ground, while gold has slinked into the corner, working off the hangover from its 12-year bull ride.
Are we (gold bugs) insane for believing something that time after time has been predicted as imminent, but never happens? Or are we all Marty Zweigs and Richard Bachs, inevitably to be rewarded for our conviction and perseverance? I wish I knew…
But along with the things that may be unknowable, we are allowed to know a few things in this life. And one of those is that the double-bottom idea in the precious metals complex is still alive and well! We can all agree to disagree, or simply say we don’t know, about whether gold’s bull market still lives. But meanwhile prices are rising and, the market gods willing, should be expected to do so for the next few weeks or months. After that — we’ll just have to see.
Looking first at the senior member of the complex, gold’s downward trend remains intact, but with promising signs of better things to come. Very oversold at the summer’s lows under $1200/oz, gold last month essentially held at those lows and is now taking another shot at breaking above its downtrend line — which currently comes in around $1300. MACDs shown below and highlighted in turquoise are in the process of crossing to the upside, after being oversold — as confirmed by the RSI in turquoise above. December’s lows were obviously not as oversold as comparable levels in July, as the RSI line shows. But gold is still under 50 in RSI, which means there’s plenty of upside potential for the market.
[Hear More: Frank Holmes: Catalysts That Can Drive Gold Prices Higher in 2014]
Here’s the same chart for silver, showing just about the same thing. The way seems clear for a run at the -22 downward trendline resistance, with chances of getting above that looking good. Again, I don’t think this means a roaring new bull market, silver or any of that. But maybe /oz. or more upside potential for silver — nothing to sneeze at for those looking for an intermediate-term play, or the chance to lighten up on any too-large silver positions.
Lastly - the mining shares, which by now you know I think have the most favorable risk/reward profile. XAU is our proxy for the miners, and their downtrend is painfully clear. Marginally lower lows in December (relative to June’s lows) gave any weak players a final reason to get out, but with no follow-through on the downside, the market is now poised for a challenge of that downtrend line, around 90. Breaking above 90 — a good bet, based on the positive crossing of the MACDs, highlighted below — implies a run at the heavy resistance at 112. And that’s where I think we’re headed. My guess is that we blow through the 112 area this time around, taking us up to the really serious resistance at 140 after which — well, who knows?
As for the general stock market, there’s little of import to report. YES, we have new highs in the DJ Transports, unconfirmed by the Industrials. But before you get all excited about that and its negative implications for the market, please remember that this same thing happened, what — about a dozen times last year? Each time, the bears said, “See? This market’s about to fall apart and nobody’s talking about it!” And each time, it didn’t. So yes, at some point we’ll have an upside non-confirmation and the bull market will end, but whether this is that time or not, who can say? The odds are that this will be the baker’s dozen instance of a non-confirmation, with the Industrials confirming before too long.
I am on record as suspecting that the market topped out — if only temporarily — at the end of December, based on factors discussed for the last couple of months. But that was always a long-shot prediction, nothing to bet the farm on. If you decided to take a speculative flyer on this market peak via buying a little SDS at 29.95 as recommended on 12/31, then so far you’re about even on the trade. But nothing’s changed since then: It still looks like a nice little speculation for those willing to take some risk, and that’s about it.
The S&P 500, probably the best way to gauge the overall stock market, is really in Never-Never Land here. The trend continues to be bullish, yet we do have this little top formation since (guess when?) December 31st. RSI, shown at the top of the chart, is in the neutral zone, while the MACDs, shown at the bottom, give virtually no clue about the market’s next move. Investors: Give the Bull the benefit of the doubt, and hold your positions. Speculators: Hold your SDS with a fairly short stop (5-10%) and sit back to see what happens.
As for market sectors we’ve been following in recent months, the tech stocks (as represented by XLK and QQQ) still look pretty good, although they’re no longer outperforming the general market. Foreign stocks (as represented by the likes of EFA), look OK, although they also are underperforming US stocks. Developing markets, e.g. EEM, have taken a hit lately, and look vulnerable to further drops. Looking for a place to reduce your stock holdings? That might be one to consider selling. Finally, foreign currencies such those in FXF and FXS aren’t doing much of anything; a bit on the weak side lately, but again we hold those mostly as a hedge against a declining dollar. So perhaps the best way to look at their weakness is that it means our other (dollar-denominated) assets are safe for now.
Summary
In this new year, the stock market is bullish and the Proper Investment Procedure (PIP) is therefore to own some stocks. The market is still very overbought, we do have a potential Dow Theory non-confirmation, and my own analysis suggests we may be in a topping area. Fodder for the bears, in other words. Let us not forget Mr. Russell’s very sage reminder that “Bull markets climb a wall of worry,” however. So if we’re nervous about a market top, we maybe take a flyer with a few bucks on a market top, but we should not seriously challenge this Bull. Doing so has been a recipe for big losses the last few years. Therefore, continue holding a modest amount of stocks, split about 50/50 between US and foreign markets.
I recommended dipping a few more toes into the mining shares waters two weeks ago. So far that looks like a good move; with a little luck, we may well see a run in 2014 up to the 140 area, basis XAU. That would represent greater than a 60% profit SHOULD it happen; thus, making it a reasonable investment given the extremely oversold nature of those shares. Personally, I’ll consider adding to my positions (in GDX, GDXJ, and a couple of mining share mutual funds I own) if we close above 90 in XAU, and even more on a close of 115. Again — this involves counting a lot of chickens that have yet to be hatched — so let’s try not to get too carried away. But at least we have some reason for optimism, in my opinion.
Readers who prefer physical gold or silver to the mining shares can follow essentially the same advice by adding to gold positions on a close above 00, or doing the same with silver above .70. Finally, let me remind both you and me that the big trend in the precious metals complex is most likely lower. So we’re talking here about counter-trend purchases in markets that have repeatedly betrayed us in recent months. Therefore, remember the wisdom of “betting not thy whole wad.”
The following is an excerpt of Richard Russell's Dow Theory Letters. To receive their daily updates and research, click here to subscribe.
