December 2, 2002 - Gold failed to close above $325 at the end of November. As a result, I am concerned that the Fear Index may begin to break-down from here. Here are the preliminary calculations of the Fear Index for November.
|(US Gold Reserve) * (Gold's Market Price)
||= Fear Index
|(261.5 million ounces) * ($318.90 per ounce)
These are preliminary calculations because the $8,380 billion M3 number is an estimate. It will be a few weeks before the Federal Reserve releases the exact quantity of M3 outstanding at the end of November, but my M3 estimate (based on the weekly releases by the Federal Reserve through mid-month) and the above calculations are close enough to give an good indication of what the final Fear Index will be for November.
As we can see on the accompanying chart, the buy signal given at the end of May remains in effect. That's the good news. The bad news is that based on normal technical analysis, the pattern now being etched out by the Fear Index is weakening. My concern is that this weak pattern could be indicating that the Fear Index may soon fall back below its 21-month moving average.
If this happens, it will be the first time that the Fear Index has given a 'whip-saw', a buy signal followed shortly by a sell signal. All of the previous four buys signals were multi-year, which can be seen from this chart. But there is an important point here.
No mechanical trading system is infallible. There are never any guarantees about the future. So maybe buy signal #5 will turn out to be a whip-saw. Then again, maybe not.
In any case, there is no way of knowing what the outcome will be. We cannot predict the future. The only thing we can do is watch and wait and in the meantime follow this latest buy signal and stay invested with the uptrend, which is also the message in the second chart.
This chart presents the XAU Index of leading gold mining stocks from 1988 to the present. This chart has a very interesting and clear message - namely, follow the trend. We can see four distinct trends on this chart.
The first trend (marked #1) clearly shows a downtrend in the XAU. When downtrend line #1 was broken, an uptrend began (marked #2). When that uptrend line was eventually broken, a new downtrend began (marked #3). Lastly, we can see that the XAU Index is again in an uptrend (#4).
In Letter #272-10 published on October 20th, 2000, I gave a buy signal for ten gold mining stocks (the most noteworthy trait of each company was little or no hedging position, an important point I identified at that time). That signal in retrospect turned out to mark the bottom of the market. I gave that buy signal based on the unbelievable valuations that prevailed at that time.
The XAU Index closed on October 20th, 2002 at 43.39. It traded around that level for a couple of weeks (the final low was 41.85). The XAU then started climbing out of this trough, and we've been riding this same uptrend ever since. But is this uptrend about to end?
Well, no one knows. No one can predict the future. So for now I'll continue to stay with my recommended gold stocks in anticipation that the uptrend will continue. The basic rule is to stay with the trend until the trend changes.
Therefore, because uptrend line #4 has not been broken, stay long the gold mining stocks. And in fact, if you are on a long-term accumulation plan (and I know from feedback from readers of these letters that many of you have been accumulating my recommended stocks regularly month after month), then keep accumulating. The uptrend in the XAU Index - line #4 on the above chart - remains in effect. It has not been broken.
In fact, I think it is very interesting to note, when one considers what's in the XAU, that this uptrend line #4 has not been broken. This Index includes some stocks not on my recommended list like Barrick Gold and Placer Dome, both of which are not far from 52-week lows and have been conspicuous under-performers. If these stocks were excluded from the XAU, this Index would look better still. The XAU would at present not be so close to its uptrend line. Anyway, the important point is that the XAU Index is above its uptrend line, not below it.
Therefore, stay with the trend. Assume that the gold mining stocks are in a correction, not an about-face that will end this uptrend, unless and until uptrend line #4 is broken. If that happens, it may be prudent to lighten up by selling some of your mining stocks, but we'll address that issue at that time if in the end uptrend line #4 indeed breaks down and the trend in the XAU Index reverses to the downside.
I would like to make one other important point that I think will be useful at this particular juncture. Although many people do lose sight from time to time of the relationship of the mining stocks to the price of gold, it is this relationship in the end that is of paramount importance to all gold stock investors.
It is the price of gold that drives the price of the mining stocks, though of course other factors do influence the price of each company (management, their hedge position, new discoveries, operational issues, and other company specific matters). But when looking at a broad index such as the XAU, the company specific issues fall to the background because no one stock has an undue influence on a broad index.
Therefore, when we look at the page 1 chart and line #4 showing the uptrend in the XAU, there is one question that we have to ask ourselves as to whether or not this uptrend will continue. It is,will the price of gold continue to rise?
If the price of gold does not climb above $325, sooner rather than later, the uptrend in the XAU will end. For this reason, I continue to focus closely on the price of gold and the various valuation and trading models that I use, such as the Fear Index.
So here we are, more than two years into a trend for the gold mining stocks, since we jumped onboard in October 2000. The Fear Index is in a buy signal, though it did fail to meet my target for November, an unwelcome result that is making the strength of this buy signal appear iffy. The XAU remains in an uptrend. And though the price of gold remains in an uptrend that began in July 1999, it is still stuck below $325 per ounce. What will the future bring?
We just don't know. But I do know that I want to continue riding the trend, and for now the trend remains up for both gold as well as my recommended mining shares. So for now, stay long. And continue to stay long until the uptrends in gold and the mining stocks end.
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