The Daily Sentiment Index (DSI) for Gold hit the critical 90% level this week, which often is associated with a trend reversal. While Gold prices don't have to suddenly reverse course, this 90% DSI reading is a warning sign that a substantial correction may be coming.

We’ve often discussed sentiment readings and “crowded” trades and how they often mark turning points for a security and/or the market as a whole. As a reminder, a "crowded" trade is one where too many investors are piling in on the “buy” or “sell” side.

The theory of contrary opinion asserts that if a majority of traders agree on the direction of a market move, then the odds are significant that prices will, in fact, move in the opposite direction.

Gold prices climbed $9 on January 31st to close at $1,344/oz. Last week, Gold traded as high as $1,366. The yellow metal has been rising since December of 2016, where it traded at a low of approximately $1,125. 

Earlier in the day, the Federal Reserve said it saw inflation moving higher in 2018. Many investors now want to own Gold. It may trade a bit higher over the near term, however, here's why you should think twice about buying now or even selling if you already own it.

The Daily Sentiment Index (DSI) is a contrary indicator. The DSI provides an "emotional" indicator of market behavior.

Daily Sentiment Index at Extremes: Typical Behavior
(trade-futures.com)

A number of clear patterns have emerged from years of sentiment data:

  • When the DSI rises to the 85% area or higher, the odds of a top are significant
  • When the DSI falls to the 15% area or lower, the odds of a bottom are significant
  • The longer the DSI remains at a high level, the larger and longer the likely potential decline
  • The longer the DSI remains at a low level, the larger and longer the likely potential rally

The DSI for Gold currently sits at 91% bulls and only 9% bears, indicating a high level of optimism (bullish extreme) right now.

Sentiment data suggests a significant decline in Gold prices may be coming soon. If a selloff does occur, it will likely be substantial, eventually ending when the DSI flips from a bullish extreme to a bearish extreme.

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George Kiraly Jr., CFP®, MBA is a NAPFA-Registered Financial Advisor.

Disclosure: George Kiraly Jr., CFP®, MBA is the Founder & Chief Investment Officer of LodeStar Advisory Group, LLC, an independent Registered Investment Adviser located in Short Hills, New Jersey. George Kiraly, LodeStar Advisory Group, and/or its clients may hold positions in the ETFs, mutual funds and/or any investment asset mentioned above. The opinions offered herein are not personalized recommendations to buy, sell or hold securities. The above commentary does not constitute individual investment advice. The strategies discussed are strictly for illustrative and educational purposes and should not be construed as a recommendation to purchase or sell, or an offer to sell or a solicitation of an offer to buy any security. This material represents an assessment of the market environment at a specific time and is not intended to be a forecast of future events or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding the funds or any security in particular.


 

 

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