Risk off the menu as gold jumps and stocks plunge

Today looked set to be a normal, uneventful, day in the financial markets, with the economic calendar showing no major data releases. The volatility index had fallen back after rising somewhat sharply at the start of the week. Stocks were drifting higher, gold lower and oil sideways. And then BAM! All of a sudden, stocks plunged and gold shot higher as traders sought safety in the precious metal. It is not clear what caused this sudden shock to the system, but it serves as a reminder about the dangers of complacency – especially for the bulls in the case of stocks and the bears in the case of precious metals. Perhaps the risk off trade is due to a combination of factors, ranging from worries about the withdrawal of Fed’s QE stimulus programme to threats of terrorist attacks, with Iraq’s new Premier Haider al-Abadi today warning that the IS may be planning attacks on America and France. On top of this, reports that Russia may be planning to freeze foreign assets in retaliation to Western sanctions, is also weighing on the sentiment. 

But despite today’s risk-off trade, gold remains stuck in a sturdy downward trend, with price so far failing to break above a bearish trend line (see figure 1). If gold manages to break above the trend line and also the key resistance at $1240 then we could see a more profound rally. The RSI meanwhile continues to diverge positively (it has made higher lows while price has made lower lows), which suggests that the momentum may be shifting into the bulls’ favour.

Meanwhile the S&P 500 has broken below its 50-day moving average and at the time of this writing is testing the next key support at 1970. This level marks the 38.2% Fibonacci retracement of the last upswing (i.e. from point B to C, in figure 2). Thus if the index breaks below here, and holds below it on a closing basis, then we could see a significant correction over the coming weeks. The RSI has created several bearish divergences and this shows that the bullish momentum is fading. At this stage, there is a chance for a bounce back, although for the trend to chance completely back to bullish, the bulls will need to reclaim control of 2000.