Bearish market patterns signal correction ahead

Stock markets keep rising as the precious metals miners’ rally pauses. Technical analyst Brian Hoffman warns that investors should watch support levels in an environment like this. He names three gold mining stocks that are due for a short-term pullback and suggests possible new support levels for them.

Against a weak economic back-drop and much civil unrest across the globe, the broader stock market indexes continue to march higher. Irrespective of the investing landscape, a pullback to some degree is brewing.

However, weakness could seep into the broader stock market by the time the seasonal strong half of the year for the stock market ends in early May.

Corrections in the broader North American stock market indexes—as measured by the S&P 500 Index and the S&P/TSX Composite Index—would be healthy, lest the inclines of their ascents become completely unsustainable.

The three-year price charts for both stock market indexes continue to rise in tightly-wound wedge patterns. Those bearish chart formations foreshadow downward moves in the near future.

For U.S. stocks, the first key support for the S&P 500 Index now sits at the 2,200 level, followed by 2,100, then the 2,000 to 2,030 range.

Meanwhile, for Canadian stocks, the S&P/TSX Composite Index’s first level of support rests at 15,000, followed by 14,500, then the 13,500 to 14,000 range.

Corrections to any of those support levels would be considered healthy, but breaches of 2,000 for the S&P 500 Index and 13,500 for the S&P/TSX Composite Index could bring an onslaught of selling pressure.

Watch support levels in this environment

Whether you own positions in exchange traded funds with broader stock market exposure or positions in individual stocks, you should watch your support levels very carefully in this environment.

Moving on to precious metals, in December I mentioned that the share prices of the precious metal miners had started to stabilize, which foreshadowed a near-term rally provided that gold and silver also held their early-December lows.

Since then, a significant rally did occur for both gold and silver bullion and the miners of those metals. However, rising (bearish) wedges have formed in the short-term price charts over the past two months for the precious metals sector.

In February, the gold and silver bullion prices and the share prices of the miners ran into significant resistance levels. For the rally to continue, gold and silver prices need to make meaningful moves above US$1,250 an ounce and US$18.50 an ounce, respectively.

To the downside, a breach of US$1,200-an-ounce gold and US$17-an-ounce silver support levels could result in those metals testing their December lows.

As well, a rising wedge has formed in the short-term price chart for the iShares S&P/TSX Global Gold Index ETF (TSX—XGD). That exchange traded fund, which tracks an index of large-cap gold mining stocks, recently found resistance at about $14.50 per unit.

An upward move through that resistance level could see the unit value of the XGD ETF revisit the high-water mark it reached last summer, whereas the bearish wedge formation in the price chart foreshadows a pullback, perhaps to $13 per unit or even to the December low, depending on the selling pressure.

Although much higher prices may be in store over the next five years, there will be some pullbacks along the way. Bear in mind that at this stage, a pullback would be healthy and would provide the springboard for higher prices as the year unfolds.

Gold stocks to watch

The share prices of the gold miners that I continue to profile have bounced back nicely from their December lows. But, similar to gold bullion and rest of the precious metals’ sector, they are due for a short-term pullback.

The share price of Sandstorm Gold Ltd. (TSX—SSL), a gold streaming royalty company, managed to find support in December just below $4.50 and may find support at $5.50 during a pullback.

Shares of gold producer Alamos Gold Inc. (TSX—AGI; NYSE—AGI), found support at about $8 in December and may find support at $9.50 during a pullback.

Lastly, Alacer Gold Corp.’s (TSX—ASR) share price fell to $1.80 in December, but has recovered nicely since then. A breach of support in the $2.40 to $2.50 range would not be pretty since Alacer’s share price has been extremely volatile lately.

Price pullbacks

Breaches of the support levels mentioned for Sandstorm and Alacer—particularly their December lows—would be quite bearish. All three companies will follow the fortunes of gold bullion, but Alacer offers the best value despite its more volatile share price.

As of Dec. 31, 2016, Alacer had working capital of about $1.25 per share and access to a US$350-million finance facility that was still undrawn. As well, its operating cash flow last year was about $50 million. As a result, Alacer is well-capitalized to grow along with its production of gold bullion and the price of gold.

However, waiting for pullbacks in these three gold companies’ share prices to unfold is prudent at this stage.

Brian Hoffman, CPA, CA, is a member of the Canadian Society of Technical Analysts. Based in Toronto, he can be reached at bk.hoffman@rogers.com.

This is an edited version of an article that was originally published for subscribers in the March 24, 2017, issue of Investor’s Digest of Canada. You can profit from the award-winning advice subscribers receive regularly in Investor’s Digest of Canada.

Investor’s Digest of Canada, MPL Communications Inc.
133 Richmond St. W., Toronto, On, M5H 3M8, 1-800-804-8846