Gold Changes Its Stripes, Favoring the Bulls for a Change

by Tyler Craig | May 21, 2013 10:16 am

Amid an otherwise sleepy trading session for stocks that left the S&P 500 virtually unchanged, beaten-down gold staged an impressive bullish reversal yesterday.

The supercharged rebound couldn’t have come at a more logical level, as the SPDR Gold Shares (GLD[1]) had returned to the scene of their prior capitulatory low from mid-April at $131. By day’s end, GLD rallied over 3%, forming a textbook bullish engulfing candle — on high volume to boot.

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Although much work remains before GLD rights the ship — it’s still sinking — yesterday was at least a start. While many eager beavers might be calling the bounce a double bottom, keep in mind the pattern formation is far from complete. We would need a break above resistance ($143) before a double bottom is officially completed and confirmed.

Nonetheless, yesterday was an impressive start.

At a minimum, the recent reversal sets up a tradable pivot with a favorable risk-reward ratio for those wanting to try their hand at a counter-trend trade in the yellow metal.

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Unlike implied volatility in the equities space, which has reached depressed levels[2], the CBOE Gold VIX (GVZ[3]) remains elevated, making option-selling strategies a viable play here.

Traders wishing to traverse the higher-probability route who want to make a bet that GLD will remain above its potential double bottom in the $131 zone could sell a June 129-124 bull put spread for $1.15 or better. Provided GLD sits above $129 at June expiration, the spread will expire worthless, allowing you to pocket the initial $1.15 received. The max risk is limited to the distance between strikes minus the net credit, or $3.85.

To further reduce the risk, consider exiting if GLD breaks below its mid-April low of $130.51.

In timing the entry to the spread, consider waiting for GLD to trade above this morning’s high of $132.72. With today’s gap down, traders will want to make sure GLD is heading back in the right direction before selling the put spread.

As of this writing, Tyler Craig did not hold a position in any of the aforementioned securities.

  1. GLD:
  2. which has reached depressed levels:
  3. GVZ:

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