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Pro: Why Gold Could Fall Lower Still

Wednesday, 13 Feb 2013 | 5:13 PM ET
Hans-Peter Merten | Photographer's Choice | Getty Images

When Gold was unable to trade through $1700 twice in January, it was clear that the market was lacking something. Indeed, at the moment, there is no immediate need to be in gold. The equity market has shown promising returns, and there is generally less economic uncertainty than in recent years. Additionally, there are many skeptics who argue that there is an end on the horizon for the Fed's "endless" printing. This would make a bearish case for Gold.

I am not bearish on Gold now, but do feel that it is in need of a healthy correction. The current price of gold is just below $1650, and it is trading at nearly 2.5 times the value it enjoyed five years ago. Consider as well that a lot of the trading over the last two weeks has consolidated around, and just below, the 200 day moving average at $1670, which also aligns with the .618 Fibonacci retracement from the 1900 highs at $1675.

The longer the market continues to consolidate below these levels, the heavier the trade gets. We saw a sharp sell-off earlier this week, with only a weak bid to recover.

So how am I playing gold now?

I have a two-part trade. On a close below $1639, I am buying two 1600-strike puts for April, which should cost about $1200 at that point (you may pay slightly more on a lower close). When the market reaches $1590, I am getting out of one put, and then either buying a future covered by the other put, or selling two 1550-strike April puts at a market price.

If we do not get a close below $1639 by the end of the week, this trade will be cancelled. A major reason for the cancel is that Asia has been on a holiday all week for the Lunar New Year, and if the market has only consolidated upon return without breaking major levels, it will be seen at a value buy.

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