MarketWatch Premium: Gold prices have been surging, but the rally is on shaky ground

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Gold’s path of least resistance over the near term is down.

That’s because the gold market timing community is overwhelmingly bullish right now. That’s a bad sign from a contrarian point of view. It means that the sentiment winds will be blowing in the direction of lower prices for the next few weeks.

I hope I need not remind you that this contrarian analysis doesn’t guarantee that gold will decline. Gold’s
GC00,
+0.72%

day-to-day gyrations over the last couple of weeks have been heavily dependent on news out of Ukraine. Needless to say, that news has nothing to do with the consensus view of gold market timers.

But that consensus does have a lot to do with how the market responds to geopolitical developments. When the market timers on balance are extraordinarily upbeat about gold’s prospects, as they are now, they are already expecting that the gold-related news in coming days will be very bullish. When that much good news is already discounted, surprises are more likely to occur on the downside.

To measure the consensus among gold timers, my firm calculates their average recommended gold market exposure level. (This is what’s represented by the Hulbert Gold Newsletter Sentiment Index, or HGNSI.) This average currently stands at 67.1%, which is higher than 96% of all other daily readings since 2000.

As you can see from the accompanying chart, gold mining stocks over the past couple of years have reliably declined whenever the HGNSI rises to the 90th percentile of the historical distribution. This decile is shaded gray at the top of the chart.

If you need a reminder that contrarian analysis doesn’t always work out, just recall my month-ago column on gold market sentiment. The conclusion of contrarian analysis at that time was that gold was most likely stuck in a relatively narrow trading range between $1,750 and $1,850. In fact, as we know now, gold actually rose to as high as $1,950 over the last month, about $100 per ounce above the upper end of this anticipated trading range.

The HGNSI a month ago stood at 20.6%, nearly 50 percentage points lower than where it stands now. The probabilities therefore now favor lower prices.

What about market timers in other investing areas?

The gold market is just one of four arenas in which I track market timers’ average exposure levels. The others are the general stock market, as presented by benchmarks such as the Dow Jones Industrial Average
DJIA,
-0.29%

and the S&P 500
SPX,
-0.53%
,
the Nasdaq stock market
COMP,
-1.56%

and the U.S. bond market. Each month in this space I highlight one of them and analyze what it’s saying from a contrarian point of view.

In the meantime, the chart above summarizes where the timers currently stand in all four arenas.

Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at mark@hulbertratings.com.

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