Gold: Can You Hold Onto Your Nerves?

So you own a portfolio comprising of Gold and you're worried about losing some of your gains to the return of a bear market on Wall Street, or a correction in oil prices, or a temporary bounce in the U.S. dollar.

 

You tell yourself that these things are not fundamentally bearish for gold prices. One of them is even bullish. But you know that gold is probably due for a correction anyway, and any one of these, or other factors, is just as good an excuse as any fundamental when confronting a risk averse crowd.

 

What do you do?

 

You could weather the storm. You're in it for the long term, right?

 

The trouble is Gold can fall a lot during even a typical correction.

 

Most everyone already knows that markets do not go straight up. If every dip led to higher and higher highs nobody would ever lose sleep over it. 

 

But it is also possible that one of those dips could turn into a bear market. I have seen the conviction behind many buy/hold strategies melt at the tail end of a normal correction, just because it is invariably worse than expected.

 

In my observations, investors are more likely to get bucked off a bull market because one of the corrections discourages them than because they took some profits by selling into strength.

 

But gambling is in the method. If you don't know what you're doing, you're gambling.  Otherwise, you are speculating, hedging or investing:

 

Gold reversals have averaged 10-15% prior to 2005, but with the accelerated rallies post-2005 they are more likely to look like the 27% correction in 2006 from now on. A correction in the primary (7-yr) sequence would be more like 40-50 percent, or more, which I've judged as a low probability event from these levels.

 

In any case, the first thing to do is nail down a few scenarios that you think are likely. That is, try to quantify the risks.

 

Let me walk you through some scenarios...

 

IF last week's sell off is the beginning of an intermediate correction in gold prices, which is possible, gold could fall back into the $700-800 range and/or remain rangebound until next year.

 

The "tape" is telling us this is the likely scenario. The way gold prices came off their peak is itself often a bearish marker, indicating more of the same to come.

 

I'm assigning this scenario a 35% likelihood, and a 10% chance of something worse.

 

The most likely (55%) scenario in my outlook is that the bulls will hold the line at the $850-900 level for a few weeks, and then continue their unfinished business -- i.e. developing a real top well above the $1,000 barrier.

 

Let's see, if Bullion shines again.