A Critical Test for Gold

Déjà vu in crude oil... Speculative bets are rising again... U.S. production is two-thirds of the way back... OPEC talks about extending its deal... A critical test for gold... Your chance to learn all about bitcoin and cryptocurrencies...

Are we about to see another plunge in crude oil?

Regular Digest readers will recall we warned of the rising risks in crude oil several times earlier this year. As we noted in the February 7 Digest, we didn't know what would eventually trigger a decline, but we knew it was only a matter of time before the market woke up to those risks...

The mix of speculative fervor, rising production, and weakening demand is a dangerous combination... It's a recipe for dramatic declines if the rally falters.

As always, there are no guarantees in the markets... These extremes could grow even more extreme before they reverse. But if you're still long the oil sector, be sure to keep a close eye on your stops.

West Texas Intermediate crude oil – the U.S. benchmark for prices – peaked less than two weeks later. Prices plunged nearly 15%, from an intraday day high of more than $55 to as low as about $47 over the following month.

But since then, prices have rebounded... And the latest Commitments of Traders ("COT") report from the U.S. Commodity Futures Trading Commission shows speculators – the so-called "dumb money" traders – are piling back in.

In fact, net-long speculative positions never fell below 250,000 futures contracts during last month's decline. And they've quickly rebounded back above 300,000 contracts...

As you can see in the chart, the speculative excesses we warned about earlier this year never fully dissipated. The "dumb money" remained extremely bullish... And now it's growing even more bullish again.

In other words, there's still plenty of room for a big decline in crude.

Meanwhile, the latest data show U.S. shale-oil production continues to ramp higher...

On Friday, oil-services firm Baker Hughes reported U.S. firms added another 11 oil rigs last week, the 13th straight week of gains. The U.S. oil rig count now sits at 683, the highest since April 2015.

The U.S. Energy Information Administration ("EIA") reports production has now risen to 9,235,000 barrels per day ("bpd"), as of the week ending April 7. This is the highest level since January 2016. And it expects production could post the biggest monthly increase in two years in May.

U.S. production is now up nearly 10% since hitting a recent low of 8.4 million bpd last July. And it's already two-thirds of the way back to the all-time peak of 9.6 million bpd set in June 2015.

If there's any good news for oil bulls, it's that OPEC is now discussing extending its recent production cuts...

Its current deal to cut production by a total of 1.8 million bpd (assuming the cooperation of major non-OPEC members) expires in June. But there is now talk that the oil cartel could extend the deal until year-end. As Bloomberg reported last week...

The Organization of Petroleum Exporting Countries is scheduled to gather in Vienna on May 25 to discuss whether to roll over for another six months the 1.2 million barrels a day in production cuts it implemented in January. Several OPEC countries, including Kuwait, have expressed public support for an extension...

Saudi Arabia, the world's largest oil exporter, will decide on an extension depending on the stance of other OPEC nations such as Iraq and Iran, as well as Russia, which isn't a member of the group but joined the output cuts...

OPEC pledged to reduce output by 1.2 million barrels a day, with Saudi Arabia taking the bulk of the cuts – and so far reducing production deeper than it agreed. Russia, Mexico, Kazakhstan and several other non-OPEC countries agreed to cut output by nearly 600,000 barrels a day. The non-OPEC group has so far delivered less than what it promised.

Again, it's important to remember that the group as a whole has yet to reach its promised cuts. And even OPEC itself has only hit its target because of Saudi Arabia's larger-than-promised cuts. Still, even a superficial extension of the agreement would likely be positive for prices, at least in the near term.

Of course, it's still unclear whether even this would be enough to offset accelerating U.S. production. And should the talks to extend the deal falter, all bets are off. Prices could quickly move lower.

"We're not there yet, but we're close"...

So says our colleague Ben Morris about a potential breakout in precious metals.

Last week, we highlighted Ben's thoughts on the sector. In short, he noted that both gold and silver, as well as their related mining stocks, had reached critical "resistance" levels. Gold, gold stocks, and silver stocks were still testing these levels, while silver had just broken through.

He also noted that gold in particular was facing a big test on its long-term chart. As we shared in the April 12 Digest...

When we look at a longer-term chart of gold, we see that gold faces a big resistance level at about $1,300 per ounce...

So even if gold breaks through its shorter-term resistance, we won't get aggressive in the sector until gold breaks though this longer-term resistance level. And gold only has to rise about 4% to get there.

Since then, the rally has continued...

And last week, gold, gold stocks, and silver stocks finally joined silver by breaking through these levels.

This is a bullish sign. But Ben says the final – and most important – test remains. As he explained in yesterday's issue of DailyWealth Trader...

We last looked at gold, silver, and precious metals stocks on April 5. At the time, I noted that all of these assets were bumping up against short-term "resistance" levels, except for silver, which had already broken through. (Resistance is a level at which folks tend to sell an asset and prices often stop rising. If an asset breaks through resistance, it will often continue to rise.)

I won't go through all the charts again today. But if you look at an updated chart for each asset, you'll see that they have all broken through their resistance levels since that issue... But the most important chart of all – the long-term chart of gold – still hasn't given us the "all clear"...

On April 5, gold traded at around $1,250 per ounce. On Thursday, it closed at $1,288 per ounce – a 3% gain. That's a lot of ground for gold to cover in just seven trading days. And as you can see in the chart below, gold is now "bumping its head" against its long-term, downtrending resistance...

As he noted, if you've been holding bullish trades in gold, gold stocks, silver, or silver stocks, you've likely had a good couple of weeks. But these assets all tend to follow gold. So he still doesn't recommend placing new trades today, until gold finally breaks out on its long-term chart, too...

Waiting for that last 1% rise – which would take gold to more than $1,300 per ounce – could really pay off...

The way I see it, on the downside, gold could pull back to $1,200 per ounce or maybe lower. That's at least a 7% drop for the metal... And it would likely mean much more downside for silver and precious metals stocks. Yet the upside you would gain by jumping in now is small...

Sure... You may miss out on the first move higher as gold breaks through resistance. But that initial move likely won't exceed 4%. That's not worth risking 7% or more on the downside.

Of course, Ben's advice is tailored for traders...

That is, folks who are interested in speculating on higher gold and silver prices. It doesn't apply to your "core" positions in physical gold and silver.

As longtime readers know, we look at these core positions as a form of savings as well as crisis "insurance" that you buy and hope you never need. If you still don't have a small portion of your savings in physical gold and silver, it's never a bad time to buy. But if you have these bases covered, Ben suggests waiting to buy more...

For a trade to be great, you need two things... First, you need a good idea. And second, you need a trade setup that allows you to limit your risk.

With everything going on in the world, owning physical gold and silver is a great idea. Even speculating in precious metals stocks is a good idea... when you have favorable trade setups.

We're not there yet. But we're close. Hold on to the trades you have open. And hold off on opening new ones. Your patience will likely pay off.

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In today's mailbag, paid-up subscriber Lee N. offers an apology to P.J. O'Rourke. Send your questions, comments, and concerns to feedback@stansberryresearch.com.

"Dear Mr. O'Rourke, I was most gratified to see you publish my little jibe at you. But mortified that I made more goofs than you did! To wit:

1) You were absolutely correct about the diameter of the observable universe being about 90 billion light-years. The 14.7 billion I stated – which more accurately should have been 13.8 billion, is the estimated age of the universe, not its diameter;

2) 10^21 in words is 'sextillion,' not 'hextillion'

3) 90 billion light-years times 6 trillion miles per light year = 540 sextillion MILES, not light-years.

4) I got tangled up in faulty syntax at the end of the first paragraph of my posting when comparing the content of your writings with Ogden Nash's.

"By way of explanation, while I went pretty far in science and math in college, that was during Nixon's years – and I very well remember laughing out loud at him in the otherwise-silent Political Science class I was in during the summer of 1974 when he claimed he was 'not a crook.' So, I'm way out of practice, plus a lot of my synapses have degenerated since. I'm still used to exponential notation, but have used the words for them very little. Thankfully, the national debt hasn't yet reached those, um, astronomical levels, but, unless the system blows up, more people will know 'quadrillion.'

"Remember when Illinois Senator Everett Dirksen said a billion was a big number? Those were the days. To put the timing into perspective, I was laughing at Nixon about the same time M[es]srs. Stansberry and Sjuggerud were still in nappies. As for the mangled syntax, I am attempting to connect with the ghost of Papa Hemingway for instruction. Meanwhile, my proofreader – moi – has been placed on notice and warned that these errors will not be tolerated. But, to me, far more important than your errors are the facts that you do provide much useful information, with fine humor. Moreover, you are open to innovation and creativity. And I respect and admire the effort you put in to learn real economics, which you have done well. Plus, you are humble and insightful, traits lacking in most. Finally, don't put yourself down for not being a People or Pet Doctor; it's not for everyone. And at least you've never had to live with and perhaps bury your mistakes, as every M.D./D.O./D.V.M. has, does, or will. That's tough. Anyway, I salute you and all your colleagues. Very truly yours." – Paid-up subscriber Lee Nagourney, M.D. (ret.)

P.J. O'Rourke comment: Dr. Nagourney, thank you for your kind words! I'll take your word for it about your corrections to your math. I wish our federal government would do something about correcting its math. Our budget process would be in better hands if you – or even I – were in charge.

Regards,

Justin Brill
Baltimore, Maryland
April 18, 2017