Gold erodes bearish trend

Gold sharply extended its gains for a second day on Thursday and more than made up the losses suffered earlier in the week. Though the metal is slightly lower at the time of this writing, it is still holding in the positive territory for the week and thus remains on course – US data permitting – to post its second two-week rally since the second week of August. The metal’s upsurge in mid-week has coincided with a corresponding fall in the Dollar Index and increased volatility in the stock markets. But the US currency has managed to regain its poise today after the Federal Reserve Chair Janet Yellen last night re-iterated that a rate increase is forthcoming in 2015, albeit with the added caveat that the FOMC’s view may change depending on the upcoming data releases. On the front, the third and final US second quarter GDP estimate will be published later this afternoon. Unless there is an unlikely revision to the prior 3.7% annualised quarter-over-quarter reading, the dollar and therefore buck-denominated gold is unlikely to move much when the data is released at 13:30 BST (08:30 EDT).

But the greenback could be in for some increased volatility next week. Several Fed officials will be speaking in a data-packed week, including Janet Yellen herself on Wednesday. Undoubtedly, the biggest event of the week will be Friday’s US jobs report, which has shown consistent improvement over the past several months. Even so, the Fed still wants to see some further improvement in employment to be sure that the economy is on a sustainable path of recovery before hiking rates. They will also want to see signs of inflation which has been lacking thus far due mainly to the lower oil prices. But as the impact of oil prices wanes, and wage pressures grow, inflation could start to tick higher soon. If the market becomes more convinced as a result of improving US data that a rate increase is in fact imminent this year then the dollar may sharply extend its gains, as after all no other major central bank is anywhere near as hawkish as the Fed.

With the dollar potentially set to appreciate over the coming week and months, this may not be good news for some commodities that are priced in USD, such as gold and silver. That being said, both metals have recently managed to hold up relatively well despite the greenback’s renewed strength. Traders should also be wary of not overestimating the dollar’s impact on gold. They need to realise that although the physical market tends to be overshadowed by the paper, there is actual underlying supply and demand forces in play. On that front, there’s been evidence of stronger Chinese demand of late, no doubt due to the “cheaper” prices. According to data from Hong Kong government, China imported some 59.3 tons of the stuff in August and net imports were up for a second month to reach a three-month high. Gold imports from China could rise substantially from now until the Lunar New Year in early February which could support prices.

Meanwhile from a technical point of view, gold’s near-term outlook now looks bullish after it took out a 9-month-old bearish trend line following Thursday’s rally.  The metal may extend its gains now if it manages to hold its own above the broken resistance level of $1140/2. If it can the bulls may then aim for the following levels next:

• $1165/70: previous resistance and 38.2% Fibonacci retracement of XA price swing.
• $1179/80: 200-day moving average
• $1190/92: point D of an ABCD pattern, 127.2% Fibonacci extension of BC and 50% retracement of XA price swings.
• $1215/20: extended point D (1.618) of an ABCD pattern, 161.8% Fibonacci extension of BC and 61.8% Fibonacci retracement of XA price swing. In other words, a Bearish Gartley entry point.

If however gold falls back below the abovementioned old resistance level of $1140/2 then this will raise some question marks over the breakout. Indeed, this could turn out to be a false break which would be a very bearish outcome. A break below support and this week’s low of $1120/1 would confirm this scenario, potentially leading further follow-up technical selling next week.