The Coming Pause in S&P 500 Strength Against Gold

• Posted by Greg Harmon
• on October 21st, 2011

Gold ($GLD) was highly correlated to the S&P 500 ($SPY) over the last 3 years. That correlation broke down in August, just as the $SPY broke lower with a vengeance. But ever since the S&P 500 began to consolidate from that drop, the relationship has been moving back towards that correlation again. You can see this in the ratio chart of the $SPY to $GLD below. What does the chart suggest about the future? Let’s take a look.

Clearly the recent trend has been for this ratio to move higher. And the prospect for a further advance, relative strength of the S&P 500 against Gold, is reinforced by the rising Relative Strength Index (RSI) and a Moving Average Convergence Divergence (MACD) indicator that has crossed bullishly into the positive range and is growing. The increasing volume also bodes well for it. Often when a breakdown occurs there is a move back to retest the break out level. You can see this in the chart in early 2009. It is not a lock that it will get back to the previous range though as that same RSI indicator, although rising, is not yet over 50 or close to a bullish move over 60. Additionally the Simple Moving Averages (SMA) are all sloping lower and above the ratio. Also the candlestick forming for the current week, a Doji Star, is indicate of indecision, and could signal a reversal coming.

The long term trend remains for this ratio to move lower, indicating Gold strength at the expense of the S&P 500. But in the short run look for the S&P 500 to remain strong relative to Gold until this channel is retested. At the pace it has been moving this may only take a couple of weeks. What happens when it hits the channel will determine whether the S&P 500 can continue to advance for the remainder of the year or it limps sideways into the 2012.

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