Gold Price Forecast: Bull Flag False Breakout Ahead of Fed - Levels for XAU/USD
Gold Price Forecast Overview:
- Gold prices have returned into their multi-week bull flag ahead of the October Fed meeting. Is a false breakout afoot?
- Precious metals tend to underperform during periods of lower volatility as decreased uncertainty reduces the safe haven appeal of gold and silver. Yet of recent, gold prices haven’t followed gold volatility lower. To this end, the 20-day correlation between GVZ and gold prices is 0.34; four-weeks ago, it was 0.65.
- Changes in retail trader positioning gives us a mixed gold price trading bias around the October Fed meeting.
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Gold prices are in a holding pattern ahead of the October Fed meeting. Progress on the US-China trade war front coupled with relaxed concerns over a no-deal, hard Brexit have reduced investors’ demand for safe havens: throughout October, US Treasury yields have run higher while precious metals and the Japanese Yen have traded lower. But depending upon what Fed Chair Jerome Powell says today, financial markets may see a wave of volatility that helps shake gold prices out of their recent slumber.
Gold Prices Have Ignored Falling Gold Volatility
While other asset classes don’t like increased volatility (signaling greater uncertainty around cash flows, dividends, coupon payments, etc.), precious metals tend to benefit during periods of higher volatility. Heightened uncertainty in financial markets due to increasing macroeconomic tensions (like US-China trade war or the prospect of a no-deal, hard Brexit, for example) increases the safe haven appeal of gold and silver. On the other hand, when uncertainty decreases, volatility tends to fall, reducing the demand for safety assets.
GVZ (Gold Volatility) Technical Analysis: Daily Price Chart (November 2016 to October 2019) (Chart 1)
Gold volatility (as measured by the Cboe’s gold volatility ETF, GVZ, which tracks the 1-month implied volatility of gold as derived from the GLD option chain) has fallen to its lowest level since the end of July, currently trading at 13.22. Yet gold prices have remained elevated, causing the typical relationship between gold prices and gold volatility to weaken. The 5-day correlation between GVZ and gold prices is 0.34 while the 20-day correlation is 0.27; four weeks ago, on October 2m the 20-day correlation was 0.65.
Gold Price Technical Analysis: Daily Chart - Bull Flag/Descending Channel (October 2018 to October 2019) (Chart 2)
In our last gold price forecast technical analysis update, it was noted that “the breakout attempt today is lacking enthusiasm, with a hammer forming on the daily candle. While the time to rally may be near, it is also possible that a false bullish breakout is afoot.” Gold prices closed at 1504.22 on Friday, October 25; ahead of the October Fed meeting, they were last spotted at 1494.58. This is more evidence that a false breakout may be transpiring.
A sustained move back into the bull flag now sees gold prices testing the intra-month uptrend off the October 1 and October 22 swing lows; a break below the October 22 low at 1480.73 may signal the start of a deeper pullback.
Yet it remains the case that two key levels need to be cleared out to the topside if the bull flag in gold prices is legitimate: first, a move above the October 3 high at 1519.53; and second, a break above the late-September swing high at 1538.58. Such a series of moves would realign gold prices to head towards the 100% extension of the move from the May low, the September high, and the October low at 1726.31.
Gold Price Technical Analysis: Weekly Chart – Inverse Head and Shoulders Pattern (February to October 2019) (Chart 3)
Recent gold price consolidation on the daily timeframe must be viewed in context of the longer-term technical picture: the gold price inverse head and shoulders pattern that originated earlier this year is still valid. Depending upon the placement of the neckline, the final upside targets in a potential long-term gold price rally vary: conservatively, drawing the neckline breakout against the January 2018 high at 1365.95 calls for a final target at 1685.67; aggressively, drawing the neckline breakout against the August 2013 high at 1433.61 calls for a final target at 1820.99. Only a break below the August 1 bullish outside engulfing bar low at 1400.38 would draw into question the longer-term bullish potential.
IG Client Sentiment Index: Gold Price Forecast (October 30, 2019) (Chart 4)
Gold: Retail trader data shows 72.08% of traders are net-long with the ratio of traders long to short at 2.58 to 1. The number of traders net-long is 0.29% lower than yesterday and 7.78% higher from last week, while the number of traders net-short is 0.84% higher than yesterday and 16.59% lower from last week.
We typically take a contrarian view to crowd sentiment, and the fact traders are net-long suggests Gold prices may continue to fall. Positioning is less net-long than yesterday but more net-long from last week. The combination of current sentiment and recent changes gives us a further mixed Gold trading bias.
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--- Written by Christopher Vecchio, CFA, Senior Currency Strategist
To contact Christopher Vecchio, e-mail at email@example.com
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