The proper starting point for technical analysis is agnosticism: Don't place any faith in either "story," but instead look to charts of price and other indicators for evidence one way or the other. It's remarkably easy to find evidence for a position you've already taken, but this "confirmation bias" can prevent you from taking advantage of technical analysis's potential to aid in making investment decisionss.
Let's start with a one-year chart of SPDR Gold (GLD), a gold exchange-traded fund (ETF) that's commonly used as a proxy for gold.
What we notice first is that gold -- at least over the past year -- has tended to advance in 3-month bursts, meander in a multi-peak topping pattern for several months, and then decline for a month or so to support levels. Then, it has resumed its long-term trend higher.
Rather than providing evidence of an expanding bubble, this chart suggests a healthy uptrend that has been repeatedly tested as it drops back to its support levels. Each time those levels held, then gold began another leg up. When the price of GLD dipped below the 50-day moving average, that signaled near-term weakness -- a slump that is further confirmed by a break in the trendline.
No Sign of a "Blow-Off Top" for Gold
The multiple peaks of the near-term topping pattern can be seen as attempts to break above resistance. This testing of resistance and bouncing off support are common characteristics of trending markets.
By contrast, in speculative bubbles, prices rise almost parabolically -- the "blow-off top" -- and then retreat to pre-bubble levels.
The five-year chart for GLD (below) doesn't display any evidence of a speculative blow-off top. Rather, it shows a modest but steady uptrend into the third quarter of 2007, at which point gold broke decisively above previous resistance and rose in a very strong uptrend into early 2008. Gold then retreated in choppy trading to its previous support level, hitting bottom around the fourth quarter of 2008, when the global financial crisis roiled the markets.
Once gold regained its 50-week moving average early in 2009, it began a solid rise that has only recently flattened out. In this longer-term chart, the May-June weakness that is so visible in the one-year chart now appears to be a minor blip in a major uptrend.
On the other hand, this chart presents no obvious evidence for the idea that gold is in a speculative bubble that's destined to pop violently. If we step away from the emotion associated with gold, then we can see this chart as rather typical of a long-term uptrend, with usual retests of support levels.
Could gold drop 20%? It has done so within the past five years, so that's certainly a possibility. But even such a big decline wouldn't necessarily indicate the long-term uptrend has ended. We would need more technical evidence of a long-term reversal to reach that conclusion.
Gold vs. Silver vs. Caterpillar
Those looking for bubbles might find more compelling evidence of one in the chart of iShares Silver Trust (SLV), an ETF that tracks silver. Its steep rise from its previous resistance level around $20 certainly shares some characteristics with blow-off tops, but it also shares some similarities to gold's breakout in 2007.
As we have seen, that breakout was followed by a choppy decline back to support and then a new uptrend. If SLV were to follow this basic pattern, it could retrace all the way back to the $21 level without breaking its uptrend.
But a 50% leap in price in six months is neither a sustainable nor a risk-free trend. A healthy uptrend is marked by retests of support levels and consolidation that builds a base for the next upward leg.
If we're looking for speculative bubbles, would a stock that has quadrupled in a mere two years qualify? Take a look at the chart of global industrial stalwart Caterpillar (CAT).
If we compare GLD with CAT, gold looks like a model of stability. If there are any incipient bubbles in the market, Caterpillar and silver are much better candidates to experience a sudden pop than gold.