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Metal Detecting

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Last week, Jeff Bailey and I were looking at the Gold and Silver Index (XAU) with a bullish bias. Obviously over the long-term, gold hasn't been a good place to be invested. Neither the commodity nor the gold stocks. But the gold stocks, and obviously the commodity, are good trading vehicles. That's because the fear of inflation can often cause a rise in the equities, usually ahead of the commodity.

Whether or not gold is indeed a good hedge against inflation is open for debate. I don't think it is, but others in the market don't share my opinion. However, historically, fears of inflation result in an upward move in gold prices and gold equities.

The XAU is higher by 6 percent in the last five trading days. Curious, isn't it? Inflation is under wraps according to the most recent price indexes. But the market is a forward-looking medium, which means that some participants are "fearing" inflationary pressures in the next six to nine months. The Fed funds futures market is reflecting a similar sentiment in that traders are expecting an increase in interest rates in the next six to nine months.

The fears of inflation could have been heightened by the recent production cuts by OPEC. Low energy prices in the last six months have stymied price pressures, both at the retail and wholesale levels. However, the recent bump in crude prices could be all the more reason that some are fearing inflation.

Those fears were reflected in the recent rise in the XAU. The fears may persist which is why I think the XAU warrants a closer look by traders.

The XAU is higher by about 1.64 percent in today's session, closing in on triple-top resistance at the 57.00 level. A breakout above the 57.00 level could confirm that the fears over inflation are increasing, resulting in a further move higher in gold stocks. In the very short-term, however, the XAU may be a little overbought, judging by daily Stochastics values.

Also worth noting on the XAU daily chart is the ascending head-and-shoulders pattern. The neckline of the pattern is at $57, coincidentally enough, which the head is down around $50. The bullish price objective of the pattern is $64.

One stock that may be worth a closer look as it relates to the XAU is Placer Dome (NYSE:PDG). Isn't that a cool name for a company? The stock is one of the stronger in the group, higher today by nearly 2 percent.

Eric Utley
Option Investor

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