Sunday, July 5, 2009

Is Gold at a Fractal Moment?

If you've never heard of fractal market analysis, prepare to be weirded out. This emerging science attempts to predict the movements of stocks and commodities by looking at - well, I'm not sure what it looks at. Nobody is sure. Even Benoit Mandelbrot, the French mathematician who founded fractal geometry, offers no definition of just what a fractal is. So I'll offer mine. It is a repeating pattern of movement found in nature with each thing having its own patterns occurring the same in all time frames. Fractal science is about as obtuse as anything ever gets. When I first read a David Nichols explanation of fractals, my impression was, "What is this dude smoking?". But the more I think about it, the more sense it makes to me. I fear for my sanity.

This science has been used to study snowflakes and such, but it has only been during the last 10 or 12 years that they have focused it on the financial markets. Some things are fractal and some aren't, and they are sure now that stocks and especially gold are fractal. According to Nichols, a leader in this endeavor and publisher of The Fractal Gold Report, this emerging genre' of technical analysis is being tried out in fund management but very little is being published on it - for now. But he claims it will be a perfected and common analysis tool in the future. What is clear at this point is that fractal analysis tends to produce major turn point predictions with mind boggling accuracy. Imagine a method that tells you gold will top a major climb at say $1010, then do a major decline to a $550 bottom, and have gold do exactly that within about 5% of those prices. That's the kind of thing fractals are doing.

There have been scholarly works published such as Fractal Market Analysis by Edgar Peters in 1994 and there are software products available that calculate some fractal components. But it apparently takes a trained human eye at this point to really capture what fractals may be capable of. Nichols calculates a "fractal dimension" measure of energy where you can gauge the beginning and end of a major trend. When a high explosive trend is about to be unleashed, it has the fractal dimension go above 55. As the trend is exhausted, the fractal dimension goes below 30.

Enough fractal theory. How does this cockamamie stuff work in the real world? Well, I've cobbled together many of the predictions David Nichols has made in various past articles on gold as per the chart below (click to enlarge and read) , and their accuracy is unreal. He makes some errant calls, but most are downright unbelievable:

Some of the shorter term correction targets were off, but the turns have been mostly called to a tee. The 9/23/08 call for a decline to a "likely 850" seems strange in light of the repeated previous predictions for the major downtrend to reverse at the 680 to 730 area, which is exactly what happened. On 1/24/08, the Fractal Report predicted a major multi-month top coming near 3/22/08 at 1010, then the following major decline going to 730. What happened? Gold went to an intraday high of 1030 then set a closing high of 1004 on 3/18/08. Then the decline went to the 730 level shown above. All this called months in advance.

Nichols is human. In a Seeking Alpha article of 4/17/08, he made the boneheaded prediction that the recession would be short and shallow and the S&P 500 was going higher. But his macro economic call was based on some charts other than fractals. The fractal chart then did show a fractal dimension of 55 and the market did sprint from 1352 up to 1440 in just a month. But then the big debacle.

The fractal forecast for gold more recently is presented by comparing the two major consolidation periods in gold's bull market thus far: (click to enlarge)

Fractals are all about repeating movement patterns. So Nichols has labeled the week of each of the major turns in this first consolidation period in '06/'07 to see if they are showing up now:

Sure enough, there they are. The course of this second consolidation has gold going into the next hypergrowth phase in July if the week count of the two consolidation periods is obeyed with the up move beginning around week 70. The technical condition of gold right now is also bullish with it sitting on a recently crossed 100/200 dma support level with both moving averages sloping up - very bullish. But Nichols cautions not to make too much of these shorter term "templates" as they don't alter the longer term trends, which for gold, he says, is a run up much like the latter half of the Nasdaq climb of the 90s.

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