Silver broke down from its consolidation pattern on Monday, indicating a resumption of the bearish trend which began in late April. Chart patterns project a fall of 20 per cent from last Monday’s close.
The fall is driven by two factors—the rally in the dollar and the bearish overhang in silver. Silver often moves inversely to the dollar. Last week the dollar rallied, putting a downward pressure on silver. In addition silver was already bearish after the huge selloff since April. Most markets move sideways after a huge drop in price and silver did the same. During the period of consolidation, it’s not clear which way the prices will move. A break out or break down from the sideways price movement gives a trend direction.
Silver, after falling drastically, went into a consolidation pattern called the symmetrical triangle, considered a continuation pattern. This essentially means prices tend to move out of the triangle in the same direction it came in. So, in the case of silver, prices formed a triangle after falling, so there was a high probability that prices would fall further. But only once the prices break out of the triangle is the continuation of the downtrend confirmed.
In a symmetrical triangle, the price moves in a continuously narrowing range, as buyers and sellers battle to give market direction, but fail. The narrowing range forms a symmetrical triangle when we connect the peaks and valleys in price. Once prices break out of the triangle, they usually have explosive moves. When prices move inside the triangle, professionals view it like a spring coming under increasing pressure and release or break outside the triangle leads to a strong move.
How far silver can fall after the break down from the triangle is estimated by the measured move. The measured move is the distance between the second touch in the triangle and the trend line on the opposite side. We are using the mini silver futures contract traded on the Chicago Mercantile Exchange to measure price action of silver. A single contract controls 1,000 troy ounces of silver. In the case of silver, the distance is $7.15 and the contract was trading yesterday at $35.
As silver has broken the triangle, $7.15 is applied at the point of break to estimate the target, which works out to around $28.50. The target can be achieved only if the white metal clears a few hurdles.
Silver has support levels at $32.95 and $31.85 which have to be broken. The $31.85 level is gap, which is usually a strong level of support. Interestingly, there is strong level of support on silver between $26.48 and 27.93 and it is possible silver will hit that level, before any significant rally.
Given the increasing risk aversion after the equity market selloff, we may see the dollar rally. This can push silver lower. The fall in silver is also understandable, given its huge rally recently. When prices rally far away from their average levels, they tend to get pulled back very strongly and often swing to levels below the average. This is just a process of the markets resetting itself and as traders, one should take advantage of the potential fall in the silver by shorting it and going long once it has fallen too far.
The author is based in Chicago and is the editor of www.capturetrends.com
