Silver mania may come to an abrupt end
Commentary: Higher prices still on tap, but $50 screams caution

By Myra P. Saefong, MarketWatch

The following is an excerpt.  Click here to read the complete story.

Just how impressive silver’s climb is compared to gold’s. Year to date, silver futures are up 54% while gold futures have gained under 8%.

“Silver has rallied, moving exponentially, while gold is still moving linear,” said Jeb Handwerger, editor of GoldStockTrades.com, in recent newsletters. “I am very concerned that silver may be overheating as the herd tries to force their way into this trade.”

The majority of traders become reckless at extremely overbought levels and are often stuck when markets correct to find support. They abandon their methods as their accounts grow in value and don’t factor in how events may change. Right now gold is the easy trade as most of the reports from the media outlets are bullish for gold and silver in light of the second round of quantitative easing (QE2), but is it the prudent trade? Could events trade in Washington or globally which could put short-term pressure on commodity prices?

The most dangerous trade is the painless trade, when siding with the consensus. People have a herding desire when coming to the market. They feel most comfortable when others are doing the same. This is the characteristic that’s the downfall for most traders as the market humbles the greatest number of people. The best trades are the uncomfortable ones, when you go against the crowd. The best way to remain emotionless is sticking to a plan. If one has a method, he can avoid the psychological challenges that the markets present during panics or hysteria. Although it may not be popular, it eventually works out as the panic subsides.

Many investors are now buying precious metals aggressively and borrowing on margin, which I believe is too late and dangerous. Many are concerned that they’ve missed the boat and are panicking into the gold and silver market. It’s important to have a technical mechanism to move to the sidelines as latecomers chase the market higher. The volume on the Silver ETF (SLV) is reaching record highs and I’m concerned about a climax top. It’s very hard to sustain a move of this magnitude without a major correction. Although it takes courage taking profits during a bubble, I’ve learned through many experiences how important it is to stick to a method and sell into strength. There’s significant risk of a correction and limited potential on the upside short term.

After being in the precious metals markets for years, I’ve learned its volatility. I’ve seen great euphorias followed by panics. Gold and silver is reaching a level of euphoria, so stay tuned for any signs of weakness.

One lesson I’ve learned as a trader is that if you don’t know what the trend is, don’t make a guess. Even a four year old child who looks at a price chart on gold can spot the uptrend.  However, in the  case of the major market indices- where you have a declining 5o day moving average below the 200 day moving average, and when you are seeing poor price volume action- it is best to be cautious. There can be impressive rallies before a bear market begins.  The Dow Jones Industrial Average is overbought and has crossed the 200 day moving average on light volume.  This has come after major bouts of selling from institutions including the infamous “flash crash in May.”

The way I measure how excited a market is through volume.  A break above key support or resistance on low volume indicates that the move was not convincing and should send warning signs as a “fakeout”.  This market is indicating that the moves higher are basically due to a lack of sellers and any further news items which may be negative will bring the bears back out.

Housing is an area which is seeing very little demand right now.  This is the industry which initiated the financial crisis we are in and it should be showing signs of strength in an economic recovery.  Much of the rise in housing was the result of government intervention in the form of tax breaks offered to buyers.  The rise in treasury prices and the weakness in housing indicates that many people are not borrowing.

Although housing appears to have a double bottom, I am a bit suspect of the lack of volume.  It would be premature of me to call a buy signal on housing, especially since it has not tested the 50 day moving average as resistance after the bearish death cross of the 5o day crossing the 200 day.  Housing needs to turn positive before any real rally can begin.  Right now housing stocks are still bearish and a convincing break above the indices would change my mind, but the probabilities of that occurring with these overbought conditions and lack of volume are low.

There was a report this week about executives of bailed out banks who were paid $1.6 billion dollars of taxpayers money.  As investors realize the staggering debt and the stagnant economy we are facing because of high taxes and increasing government intervention into the private sector, there will be major move away from cash and towards gold and silver.  At that point gold and silver could move significantly higher.  I believe that time may be closer than many sources would have you believe.

To summarize, some indexes have broken the moving averages to the upside but on low volume, as I have shown in the first chart.  To me, this indicates that smart money is staying on the sidelines until the trends are more observable.  Right now, my bias is that this rally is  a fake-out and I will not become bullish again until I see a break above 10,600 on the Dow as well as a bullish golden crossover of the 50 day crossing the 200 day moving average to the upside.  Volume is a crucial part of this equation.  If there is some major accumulation coming coupled with the 50 day moving average sloping higher, then I will reconsider my position.  However, at the moment I am still bearish on the markets and am bullish on silver and gold.

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