Technician says fan pattern in gold price shows big breakout is coming

Dario Pignatelli | Bloomberg | Getty Images

The gold price has been wallowing around $1,050 to $1,180 since June 2013, sending plenty of confusing signals as it built a very broad consolidation base.

Now, the rally in gold has the potential to develop into a breakout from the consolidation base and become a new uptrend. But the strength and sustainability of the gold rally is still not unclear.

The first step in analysis is to put the rally activity into context by using a weekly chart. The downtrend is well defined by the Guppy Multiple Moving Average (GMMA) indicator. The long-term group of averages are well separated and have not developed any compression in response to the recent rally.

Gold has a very strong resistance band between $1,150 and $1,180 so any new trend breakout requires a sustained move above $1180 and a compression in the long term GMMA averages, to show that investors have become buyers. These are the two conditions investors watch for; until they are established the price movement remains a rally and traders are ready to go short.

The weekly gold chart shows a series of fan downtrend lines. This is a very long-term trend reversal pattern.

The four downtrend lines have a common starting point from the high in October 2012. They are not Fibonacci fan lines, they are a series of downtrend lines with a common starting point. This pattern usually contains four to five downtrend lines and is also defined by an extended consolidation support base.

From June 2013 to August 2015 it appeared the $1,150 level would provide the support base, but the price fell to near $1,050 and developed a new support base, which means that this fan pattern is not a perfect example of a fan pattern.

But it has been a dominant feature on the gold chart since 2013 so the pattern cannot be ignored. This is a long-term trend reversal pattern; it was seen on the dollar-yen chart prior to the very powerful breakout in November 2012 and often precedes a fast and strong breakout.

Traders trade the current price activity as a short-term rally but we use the ANTSSYS method to trade both the rally and the reaction away from resistance. Traders are ready to switch to short trading as the market reacts away from resistance near $1,200. This price activity may help to establish a fifth downtrend line in the fan pattern.

Investors wait for proof that the price can move above and stay above $1,200. This will signal a new, sustainable uptrend. A breakout above the fifth downtrend line in the fan pattern is a strong buy signal.

Daryl Guppy is a trader and author of Trend Trading, The 36 Strategies of the Chinese for Financial Traders, available at www.guppytraders.com. He is a regular guest on CNBC's Squawk Box and a speaker at trading conferences in China, Asia, Australia and Europe.