As an investment analyst, one of the things I like to look at the most is the sentiment toward an investment. If everyone in the world is bullish on a stock or commodity, the sentiment is likely too high for the investment to move higher. If everyone that wants to buy has already bought, there are only sellers left.
Of course we never really reach a point where literally everyone is bullish on an investment. But there are extreme levels of optimism and pessimism that investors can use to tell when the odds of a direction change are more likely.
For commodities, one of the best sentiment measurements is the Commitment of Traders (COT) report from the Commodity Futures Trading Commission. The report is released each Friday and it shows the net positions of three categories of investors—large speculators, small speculators, and commercial hedgers.
Personally, I look at the large speculator category the closest because these are the investors that can move a market. Commercial hedgers are important as well as these tend to be companies that operate in the industry and use the futures market as a means of protecting itself from price swings.
Over the weekend I was looking at the COT reports when something jumped out at me. The large speculators have a net short position on gold and have been net short for three straight weeks now.
I don’t follow the commodities market as closely as I do the stock market and I hadn’t looked at the COT reports in the last few weeks. But when I saw the net short position in gold, I was shocked.
I have been following the COT reports for over ten years and knew the large speculators were almost never net short on gold. So when I saw the net short position, I had to go back and look. The last time large speculators were net short on gold was in December 2016.
The way the COT report works is that it takes all long positions in the category (in this case the large speculators) and all of the short positions. This past week showed 210,433 contracts shorted and 207,370 contracts held long. The week before showed investors short 222,210 contracts and long 213,500 contracts for a net short position of 8,710 contracts.
This is what I would call a bearish extreme in gold sentiment. Gold closed at $279 an ounce in December ’01. One year later it was up to $348 and it had doubled by February ’06. Gold eventually peaked at $1,923 in September 2011.
In the last few years, gold has been vacillating between the $1,050 area and the $1,400 area. Since April, the metal has been under tremendous selling pressure and has reached its lowest price level since January ’17.
The recent drop has taken the overbought/oversold indicators down to oversold territory for the first time since late ’16. I drew a line on the stochastic readings to show how many times the 10 level has been reached in the last five years. I also drew the arrows to show when the 10-week RSI dipped below 30, the traditional point that marks oversold territory.
As you can see, when both of the indicators reach oversold territory, gold has rallied. Some of the rallies were short term and others lasted longer, but each time there was a rally.
When I combine this information with the information from the COT report—it makes me very bullish on gold for immediate future.
If you want to take advantage of a bullish run in gold without investing directly in the metal or opening a futures account, there are a number of ETFs that track gold. The two most actively traded gold ETFs are the SPDR Gold Trust (NYSE: GLD) and the iShares Gold Trust (NYSE: IAU).