Can gold sustain breakout as stocks extend drop?

Owing to the risk-off tone in the markets, gold is up for the third consecutive day. At a good $1300 per troy ounce, the yellow precious metal climbed to its best level since November of last year before pulling back slightly. The safe haven metal’s slow and steady ascend throughout this year has been warning us that something big was about to happen. Although it is far too early to say whether global equities will be staging a sharp correction in the coming days, things don’t look pretty on Wall Street at the moment. The major US indices were hitting fresh lows on the month at the time of this writing. Precious metals have also been supported by ongoing weakness in US dollar. The recent soft patch in US data has put serious doubts over whether there will be another rate hike coming from the Fed this year. Any further deterioration in US data could see the Fed drop its hawkish stance. That being said, with most of the negatively already priced in, it wouldn’t take much to support the dollar now. Unfortunately next week’s economic calendar is quite light. Thus, the dollar may weaken further, especially against perceived safe haven currencies like Japanese yen and Swiss franc, and potentially gold and silver if one assumes that equities will remain out of favour. But in the event stocks and/or the dollar manage to stage a recovery then gold may fall out of favour again.

For now, though, the path of least resistance remains to the upside. As mentioned, gold and silver have both broken above some key resistance levels, so they could be on the verge of a potentially sharp move higher. The grey precious metal has taken out its 200-day moving average while the yellow metal has cleared sturdy resistance in the $1295 area. If the breakout is to be sustained here then we could see significantly higher levels for both metals in the weeks to come. Gold’s next bullish objective would be the 127.2% Fibonacci extension level of the last downswing at $1320. The 161.8% extension of the same price swing comes in at $1351/2 area. Beyond these levels, last year’s high will be in focus next, at $1375. But the fact that the long-term bearish trend line has been taken out, gold may be on the verge of an even larger rally.

But let’s not get too far ahead of ourselves. Gold’s technical outlook would turn negative in the event it drops back and holds below the $1295 breakout level on a daily closing basis. If this were to happen then we could see some sort of a correction as bullish speculators rush for the exits, particularly if the last low prior to the latest breakout at $1268 gives way. This is not our base case, but I am merely highlighting the possibility in the event the bullish scenario does not play out as expected. One has to be prepared for all possibilities and have a flexible mind-set when it comes to trading.