I just received notice that the CME Group has raised margins on some currencies and gold.

A lot has taken place in the past week. On Friday evening Standard and Poor’s surprised the markets by downgrading US debt. They had warned this was coming, but doing it so fast after the debt ceiling vote took some by surprise. European sovereign debt issues flared up Sunday evening and have continued to flare since then. Riots have broken out in England. Syrian President Hassad has followed in the footsteps of Libya’s Colonel Kaddafi by effectively holding the world at bay and continues to kill his own people.

The Fed yesterday said it was going to keep shorter term interest rates basically near zero into 2013. While the target is shorter term rates, the move will impact longer term interest rates as well. Ultimately this will benefit those that are paying on or taking out loans.

The Fed action in my opinion is meant to debase the US Dollar. It matters little if the Dollar rallies in the short term since in the end it will have lost any competiveness in terms of interest rates against other stable economies. The key word here is “stable”. Rallies from time to time will come via sovereign debt issues in Europe. Today the ECB stepped in for the second time to buy Italian and Spanish debt. French banks are under assault due to their exposure to European debt with debt rating services threatening them with downgrades. This morning one large French bank’s stock price, Societe Generale, was down nearly 20%. As investors get out of the Eurocurrency due to risk exposure, they look for areas to invest in. Gold has been a prime choice.

My take on the Fed is that by their keeping interest rates extremely low for a protracted period of time, it will in time force banks to return to their core business of banking. In other words, if the Fed is flattening the yield curve, which stops banks from just investing in treasury yields. Banks will find that in order to enhance returns for shareholders, they have to return to their core business of making loans. Loans drive consumers. Consumption creates jobs.

A falling Dollar also makes US goods more competitive and puts a bid under markets priced in Dollars like gold and energy prices. Commodities like grains, meats and fibers produced in the US will find that a lower Dollar makes them more competitive on world markets.

As for gold, the recent move up is nothing less than breathtaking, due to a perfect storm of events. It’s also an event where if you’re not already positioned, you have to consider not only where to get in, but what the risk is from that point of entry. Since July 31^st, Gold has rallied over nearly $200 an ounce. In my last report I was looking for a conservative additional gain in gold of 5%-10%. That’s already taken place in 10 or so days.

I am now thinking about the $2000-$2500 an ounce price level as the next target level, but one later in the year. Right now the exchange is mounting its attack on investors by raising margins. I expect a series of them just like what occurred in silver. If a correction grabs hold, I will look for support at the 18-Day Moving Average of Closing Prices.

Will the gold market see a price pullback? Yes.

Is the gold market getting overheated? Yes.

In looking at the above chart, the August dip has either been postponed. I think we’ll see a break, but as you can see from the chart above, there’s reason to think that even higher prices are forthcoming. 

Below is a Daily Chart of the December Gold contract.

Each individual “green” bar on the chart represents one day’s trading session. In “red” I have plotted the 18-Day Moving Average of Closing Prices and in “brown” is the Swingline Study.  

The Slow Stochastic Study is displayed on the bottom graph between dashed lines between a ratio of 80 and 20.

On this chart I see potential support coming in near 1654.4, the 18-Day Moving Average of Closing Prices.

The Slow Stochastics Study embedded again today. Let’s assume the “K” Line, the red line that makes up part of the study turns down under 80. If it were to do so my downside projection would be a test of the 18-Day Moving Average of Closing Prices. This didn’t work last Friday, so please don’t assume it will work this time. However, I believe strongly in this tool and won’t discard it.

Let’s assume this doesn’t occur. If this were the case prices could drop a bit, but in order for the study to stay embedded the price break would need to be very shallow and limited in time. I don’t expect that to occur once the CME Group embarks on a campaign of raising margins.

On the chart below you can see that the Swingline Study, the “brown line”, continues at this point in time making new highs. The same last low of 1480 that I mentioned in my last Gold Report continues to be the number I don’t expect to be taken out anytime soon. As I said in my last report, a correction to establish a higher low than 1480 is what would be normal and what I hope to be by the end of August. Support on this chart is at 1522.9, the 18-Week Moving Average of Closing Prices.

What I did not expect to take place is a $175 rally since my last report. That took me by surprise only in the timing of it, not in the end result.

Now you have to be concerned about the $1800 price level. That’s a very “rich” number right now. By “rich” I don’t mean anything more.

The Swingline Study, the “brown line”, continues making new highs. The last low of 1480 is the number I don’t expect to be taken out anytime soon if this leg of the bull market is going to last. A correction to establish a higher low than 1480 is what would normal and what I hope to be by the end of August. Support on this chart is at 1522.9, the 18-Week Moving Average of Closing Prices.

In my last report I wrote about buying some Call Spreads on a price pullback, based in part on the tendency of gold to break in the first part of August. I offered up ideas on gains of 5-10% by year’s end from July 31’st closing price for gold. That’s out the window, but not totally.

The key is where prices head into the end of December, not how much they rally between the end of July and end of December.

Given a large enough price break and the fundamentals, I think my original strategy is sound and expect to deploy it soon. What call options I decide to use is up in the air.

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Disclaimer: This publication is strictly the opinion of its writer and is intended solely for informative purposes and is not to be construed, under any circumstances, by implication or otherwise, as an offer to sell or a solicitation to buy or trade in any commodities or securities herein named. Information is taken from sources believed to be reliable, but is in no way guaranteed. Chart data is courtesy of LGP-IraCharts. No guarantee of any kind is implied or possible where projections of future conditions are attempted. Futures and Options on Futures trading involve risk. In no event should the content of this market letter be construed as an express or implied promise, guarantee or implication by or from The Ira Epstein Division of The Linn Group, Inc. or The Linn Group, Inc. that you will profit or that losses can or will be limited in any manner whatsoever. No such promises, guarantees or implications are given. Past results are not indicative of future performance.

-- Posted Thursday, 11 August 2011 | Digg This Article