US Stock Market Reversal Could Trigger Gold Rally

U.S. equity investors continue to propel the S&P 500 slowly and steadily higher. The broader stock market, however, is approaching the nosebleed section and decade-long highs. If that ceiling holds firm and triggers a correction or bear market, safe-haven funds could flow into gold.

The U.S. stock market has been locked within a decade-long-plus massive sideways range, known as a secular sideways move. It started with the 2000 dot.com implosion and stock market crash, seen on Figure 1 below. Since then, the S&P 500 has seen two cyclical bull markets and two cyclical bear markets.

Now, the bulls are gunning for a third test of the decade-long range top seen around 1550-1575 in the S&P 500 index. "The U.S. recovery still faces some ugly prospects over the next few months," wrote Beth Ann Bovino, deputy chief economist at Standard & Poor's Ratings Services, in a research note to clients.

The U.S. government is hurtling toward the March 1 sequester date when automatic spending cuts will kick in and then the March 27 date when the continuing resolution will expire. If no additional government appropriations are enacted, non-essential government functions will shut down at the end of March. "Uncertainty and indecision in the political arena remain the biggest threats to the U.S. recovery," warned Bovino.

U.S. policymakers continue to hold the economy hostage and the stock market is approaching a perilous point. History shows examples of even longer secular sideways trends—including a 16-year period in the Dow Jones Industrial Average from 1966-1982. It took 16 years for the Dow to repeatedly test and break the 1000 mark. Prior to that, after the stock market crash of 1929, U.S. stocks consolidated in a large secular sideways trend for 16 years.

At our current 13-year mark, this secular trend has historical precedence for lasting a few years longer, and current U.S. fundamentals are far from rosy. Traders and markets are attracted to big targets—and the 1550/1575 ceiling is a big one. A test of that zone is probable within the next several weeks.

If a "bull trap" emerges, in which the S&P perhaps pokes its head just above 1575 but then reverses, a lot of trend-following traders could run for the equity market exit fast.

Recent months have seen gold futures declining and stock prices rallying. See Figure 2 below. As the S&P 500 approaches its key ceiling, potential increases for those trends to reverse.

Sources : Kitco