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Will Extreme Bearish Sentiment Lift Gold?

Ron DeLegge

As gold heads for its worst annual loss in 32 years, universal hatred for the yellow metal is building. Is it signaling a potential reversal in faltering bullion prices?

Our chart below shows the 2013 relative performance between the SPDR Gold Shares (GLD - News) and the SPDR S&P 500 ETF (SPY - News) is almost 60%. That canyon sized performance difference between gold and U.S. stocks is so large that bearish sentiment toward the yellow metal has now reached extreme levels.

Look no further than expectations for lower gold prices in 2014 from major banks and investment firms. The outlook is  almost invariable bearish.

AUDIO: Ron DeLegge talks with Charles Ellis, Author of Winning a Loser's Game: Timeless Strategies for Successful Investing

Goldman Sachs predicts gold bullion to fall to $1,050 per ounce by the end of 2014. CIBC is forecasting $1,000 gold next year and Citi Research says that investors should avoid gold and stick with palladium (PALL - News) instead.

More significant than gold forecasts, is the sentiment extremes between the "smart money" (commercial traders) vs. the "dumb money" (speculators) in the gold market. The "dumb money" is either neutral or bearish, whereas the "smart money" hasn't been this bullish on gold in nine years!

Another chart in our just published January 2014 ETF Profit Strategy Newsletter illustrates this point further. What we see, going back to 2005, is that at every major turning point, the "smart money" has been right about the direction of gold, whereas the "dumb money" has been wrong. Will this time be different?

Sentiment extremes such as these can point to sharp reversals ahead and even full blown trend changes. In this case, overly bearish sentiment (as we have now in the gold market) can signal an upcoming bounce, a potential trend change, and an opportunity to go long. The opposite is true too.

Our best trade in 2013 was a result of capitalizing on overly bullish sentiment in the gold market - or the opposite extreme - of what's occurring right now.

In our Weekly ETF Pick from Feb.14, 2013 we wrote:

"The Market Vectors Gold Miners (GDX - News) has lagged both the broader U.S. stock market along with the SPDR Gold Shares (GLD) by a very significant margin. At present, GDX trades around $41.50 and is well below both its 50 and 200 day moving average. Buy the Direxion Daily Gold Miners Bear 3x Shares (DUST - News) at these levels. A double digit slide for gold would likely translate into a 20%+ loss in mining stocks. This scenario offers some big upside potential for bears."

Since our 2/14 trade alert, GDX has crumbled around 49% and DUST has climbed 112%. In that same report, we told our subscribers to buy JUN 40 GDX put options at $190. In early June, we sold those same GDX put options for a 525% gain at $1,200 per contract.

Ultimately, sentiment extremes, used in conjunction with other indicators, helps to identify major turning points and often, a significant profit opportunity for investors who are correctly positioned.

The ETF Profit Strategy Newsletter uses technical, fundamental, and sentiment analysis along with market history and common sense to keep investors on the right side of the market. Since the beginning of the year, 74% of our weekly ETF picks have been winners.

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