Gold Prices Poised for Further Consolidation to Work Off Overbought Conditions

Gold prices have trended lower after briefly trading at fresh seven and a half year highs around the middle of the month. The broader trend remains to the upside, although overbought conditions for several assets suggests a further consolidation may be in the cards.

Gold-Bar

In late April, the widely watched Gold Miners ETF (GDX) broke above an important resistance level that had previously contained it in 2016 and earlier this year. In turn, it caught the attention of several analysts, myself included.

The technical outlook for GDX is certainly bullish, it’s hard to argue against that. However, the ETF itself, and several of the stocks within it are trading at extremely overbought levels. This leads me to believe that there may be a further consolidation in precious metals before another leg higher.

The top three holdings of GDX are Newmont Corporation (NEM), Barrick Gold (GOLD), and Franco-Nevada Corporation (FNV). Together, they make up just over a third of the entire ETF.

Looking at the weekly charts for these instruments show all of them to be at extremely overbought levels. They all show RSI divergence and trade several deviations away from commonly looked moving average. Candlestick patterns also point to signs of exhaustion.

This is not all that surprising, GDX has more than doubled from its low in March after all.

Similarly, spot gold (XAU/USD) also has a plethora of indicators that point to exhaustion on a weekly chart. For this reason, I expect that gold prices will remain in a sideways consolidation for at least a few weeks before proceeding higher.

Technical Outlook

Because of the view of a consolidation, I’m not looking to participate in an otherwise appealing bullish setup.

Gold 4-Hour Chart

On a 4-Hour chart, Gold prices are consolidating within a potential bullish flag. The upper bound of this flag pattern was being tested shortly after the North American open on Thursday.

There is some further resistance at $1731 which served to hold the yellow metal lower in April on two attempts. If gold prices break above it, it could entice some buyers.

On the other hand, if sellers show up from the technically significant area where gold is currently trading, a further decline cannot be ruled out. In such a scenario, I see the next level of support at $1683.

The bottom line here is that while I’m a buyer of gold on dips, I don’t want to be a buyer on a breakout only to have a consolidation play out for the next few weeks. After all, there is carry interest to be paid and that can add up for an asset that isn’t going anywhere for an extended period of time.

I’d rather wait to allow the overbought conditions to work themselves out a bit and revisit the gold chart in a couple of weeks. Perhaps there will be a setup equally as appealing at that time as the bull flag that is currently forming now.