Hello again, Sleuths,

I have devoted the past two “Technical Tuesday” columns to discussing one of my favorite technical indicators — the Stochastic Oscillator. And in prior columns, I have described the ins and outs of a few other technical tools as well. I hope you’re using some of these indicators and a few of the techniques I have described.

If you have begun to use any of the indicators or methods I’ve described, please drop us a line and let us know. We’d love to know how you are doing. We’re especially interested in any success stories that you can share with us.

(To share, send us an email: thesleuth@agorafinancial.com)

In 2006, I will on occasion use my every other Tuesday Sleuth slot to continue to bring you useful technical concepts and methods to help you bolster your trading or investing bottom line.

However, starting today — and for the next few columns — I thought I’d take a break from discussing technical indicators. Instead, with the end of the year approaching, I thought it would be a good idea to put on my technical analyst hat and use technical analysis to locate a segment of the market that looks like a profitable place to invest in over the year ahead.

I got the idea for this column from my last trip to Agora Financial’s headquarters in the picturesque Mt. Vernon district of Baltimore. During my visit I — along with my editorial colleagues — were asked to whip out our Ouija boards, dust off our crystal balls and peer into the future. We put together a Webinar for Agora Financial Reserve members — complete with our fearless predictions for the new year.

Now, I’m not normally a “big picture” guy. Some of my fellow editors are more focused on sifting through the various crosscurrents in the markets and the economy to hone in on the macrotrends that undergird the market’s mega-moves to make their subscribers money.

I, on the other hand, am a short-term technical trader. My focus — and the outlook for MST Trader — is on quick market moves. And I typically analyze the what — price, volume, chart patterns and those ever-present technical indicators — as opposed to the why to locate and capitalize on potentially profitable opportunities.

So I used my technical approach to come up with my outlook for 2006. Now, if you are an Agora Financial Reserve member, you will get to hear what I — and my colleagues — think the coming year has to offer for investors. If you are not yet a Finance Reserve member, you might want to consider joining. In any event, while we wait for our Webinar to be released — I’d like to discuss today a sector of the market that I mentioned as part of my forecast.

The Philadelphia Gold & Silver Index: Precious Metals

The sector I am referring to is gold and precious metals. After studying a few charts of the Philadelphia Gold & Silver Index (XAU:AMEX), I became convinced that 2006 will be a bright year for precious metals. Let me share with you what I found.

2000 is known in financial circles as the year the stock market topped out. However, 2000 was also the year that the gold and silver sector — as represented by the Philadelphia Gold & Silver Index — bottomed.

While nearly all market averages — large and small — were locked in a vicious bear market from 2000-2002, gold and silver equities were heading in the other direction. From a low of 41.61 on Oct. 25, 2000, the XAU rose to 89.11 on June 4, 2002 — a startling rise of 114%. Then after a multimonth retracement, the index took off on another superlative run — sprinting 82.7% from a March 13, 2003, low of 62.08 to a high of 113.41 on Jan. 6, 2004.

After that last 10-month eye-popping run, the gold and silver sector then spent the better part of the last two years caught in a wide, frustrating trading range. Now, however, recent price action strongly suggests that the environment for gold and silver securities has again become bright.

Here’s why. On Sept. 29 — after a nearly 21-month wait — the XAU set a new high for its current bull market as it took out its January 2004 high water mark. After trading as high as 115.18 the next day, the index began to pull back.

However, on Nov. 17 — after a relatively minor pause to digest its gains -– the XAU punched through its September high and closed at 115.90. That price action confirmed September’s moves to new heights — and sent a clear signal that the XAU’s trading range was over and much higher prices lie ahead. And when you throw the recent move by gold futures above $500 an ounce into the mix — the near-term prospects for gold stocks look bright indeed.

OK, so how high can the XAU go? We’ll get to that. But before we do, let’s check the support areas for the index.

As of the close of trading on Monday, Dec. 5, the XAU resided at 116.43. The first support level should be roughly at 113-115 — i.e., the area from which it broke out. A good number to fix on is last week’s low of 114.50.

Should that level fail to hold, the next area I would look at for support is around 110. The XAU registered its first minor swing high in the current rally at 110.60. Plus, the index’s 50-day moving average is at 110.71. And speaking of the 50-day moving average — that line has acted as a critical area of support throughout the second half of 2005. In just over four months, the 50-day average has provided key support to the XAU three different times — at the end of July, in late August and between mid-October and mid-November.

The area around 110 should provide significant support for any rally in metal issues in 2006. However, if that area is decisively penetrated, the next level of support to look to would be the area just above 105. That’s where the XAU peaked on its first three rally attempts — in February, March/April and July 2004 — after concluding its prior major uptrend in January 2004.

The Philadelphia Gold & Silver Index: Upside Potential

Now that we’ve established XAU’s support levels, let’s ponder the index’s upside potential. To locate some price targets, I reviewed a monthly chart of the XAU going back 15 years.

The first significant potential resistance is in the 130-132 area. That was the level where the XAU formed minor peaks in July and November 1993 during its prior bull market. That area also marked the apex of the average’s initial two attempts to rally in mid-summer 1996, following the onset of its late 1990s bear market — at 132.71 on July 10 and at 130.63 on Aug. 5.

Once the XAU clears the 130-132 area, there is no major resistance on the monthly chart until the 145-146 level. That 145-146 price area marked the next-to-last major high in the index’s 1990’s bull market run. Finally, if the XAU breaks through that level, the way would be all clear for an assault on the 1990s bull market top of 152.94, set on Feb. 6, 1996.

Do I expect the XAU to equal 1996’s high of 152.94 next year? I don’t know. It certainly could happen. The XAU demonstrated earlier in the current bull market that it is capable of ringing up stunning gains in a relatively short period of time. But whether it comes in 2006 or not — I do expect to see the XAU establish a new high before this bull market runs its course.

Ultimately, it’s not that important whether the XAU establishes a new high in 2006. As we look 12 months out, even a run to 145-146 offers plenty of profit potential. A spurt from current levels to 145 would still mark a 24.5% gain.

Now, can we improve upon that already attractive profit potential to garner even more gains in gold and silver in 2006? Sure we can.

There are several ways to do it. For one, you can buy a gold futures contract. Or you can purchase options on gold futures — as my friend and colleague Resources Trader Alert editor Kevin Kerr often recommends — with great success, I might add.

You can buy call options on an attractive gold or mining stock — opportunities you can be sure I will seek to uncover for my MST Trader Alert readers. If you want to buy options utilizing more of a fundamental outlook –- with some timely technicals thrown in for good measure — you can check out the recommendations offered up by my fellow options guru Chris Mayer over at CrisisPoint Trader. Nobody can break apart a balance sheet like Chris.

If options are not your thing, you can buy well-known precious metal stocks or mutual funds. Or you can wait to see what low-priced gems Head Sleuth Carl Waynberg finds for his loyal followers in The Grip or Penny Stock Fortunes — there’s no one better at panning for gold in the penny stock hills.

The Philadelphia Gold & Silver Index: Keep This Market in Mind
Frankly, it doesn’t matter how you attempt to claim your share of the potential gains in 2006 from the gold sector. I just hope you keep this part of the market in the forefront of your mind as you attempt to navigate your way through next year’s financial minefield.

And no matter how you attempt to tap into the gold market’s possibilities, it always helps to strike when the investing climate is favorable — in order to maximize your potential gains and limit your risk. That’s why I use technical analysis — not only to find out what to buy — but when to buy it.

So how is the current market environment for gold and mining stocks? Ah, dear Sleuths, that’s a topic for another column. I wanted to use today’s discussion to bring the exciting potential offered by the precious metals market to your attention.

Fear not, however. In my next Technical Tuesday column — two weeks hence — I’ll take the short-term technical temperature of the XAU. I’ve already provided you with some guideposts, so when we next convene, you will already have some idea of the optimal times to invest in this glittering corner of the financial world.

So stay tuned. 2006 looks like it will offer the investor some attractive opportunities — if that investor is astute enough to pan in the right market streams.

Trade well,

Mark Bail
December 6, 2005

The Philadelphia Gold & Silver Index: There’s Gold in Them Thar Hills was originally featured in the Penny Sleuth.