Tuesday, July 25, 2006

Current correction in the precious metals sector

Quite a lot has happened since PM stocks peaked on May 11. The HUI index fell from a high of 401 to 270 on June 13, the same day that gold lost over $40. I didn't get enough bids in at the bottom and had to resort to buying the down trend break out on June 23 with the understanding that the "B" leg up would present some difficulties. I backed out half of the newly added position on July 5, when HUI reached 351, approximately a 61.8% retracement of the A decline and near the February peak. The current correction appears to be tracing out an ABCDE triangular pattern. The rough sketch below was drawn two weeks ago and was only meant to be a rough mental guide. So far the HUI seems to have completed 401.69 - 270.54 (A) - 353.50 (B) - 303.04 (C). The length of the C leg was 50.46, 60.8% of the length of the B leg, 82.96, which is itself 63.3% of the length of the A leg, 131.15. Fibonacci should be proud! I had a number of bids going into Monday, but only the order on GRS was filled (400 @ $12.70 :-) ).

By the way, my bigger picture EWA count is shown below, with my preferred count labeled in blue. An alternate count, which I find a little stretched, is labeled in red.

Going forward, even if the triangular pattern plays out as I anticipated, the DEF legs are too short to be of any interest to me. I will set my mind on accumulation on weakness, since the coming wave 3 of III will be one for the history book. This outlook is consistent with that of Ron Rosen, one of the few PM gurus I admire (link here). In terms of fundamental drivers, certainly a Fed pause could provide the catalyst for a lift-off, as such the implied probability of the Fed funds rate bears watching. The market is giving a slight edge to a pause on Auguest 29 right now.

Could things play out another way? Certainly. One scenario is outlined in the alternate EW count provided above, the current decline would be labeled C of 2 of III which could be a viscious correction that takes the HUI to 250. A similar correction happened to gold in 1974-76 (Frost and Prechter, Elliott Wave Principle, p.179). But then, with the benefit of hindsight, we can take solace in the ultimate highs it reached in 1980. All I can say is that if HUI approaches anything like 250 going forward, it will be "backing up the truck" time for me.

This is not investment advice, so please do your own due dilligence. Good luck and be safe!