One often sees comments like the following from gold and other market analysts:

Gold is testing a very important support area between $293 - $310 and at the completion of this test, expect a sharp move back to the upside to test major weekly resistance at $345 level

My question: what exactly is all this "testing" ? Seems to me that market prices move based on a large variety of factors, none of which is under systematic, direct, or complete control by any individual or set of investors or institutions. Thus in what sense do these grossly determined price moves constitute any kind of meaningful "test" ?

-- Count Vronsky (vronsky@anna.lit), October 25, 1999

Answers

I think it means that because of the volume of transactions for gold futures, a price move in a particular direction is "easier" than in the opposite direction.

The interpretation of the above is "lot of money has been bet that gold will not go under $290. The folks that want it lower are seeing who is stronger. If the price does not fall under $290, then this effort to jam the price down has failed. Upon failure, there are few bets on the futures market that would stop the price from rising to $345".

So this lingo is saying, "either the price falls under $290 soon, or it jumps to $345, at this point we cannot tell what will happen"

Since I am half-guessing, I hope someone will help me out if I missed as element of this.

-- David Holladay (davidh@brailleplanet.org), October 25, 1999.

Markets of all types are wary of anything moving to far in any direction, up or down. When something moves up and stops and goes down one or more times a resistance level or a point where it seems to resist going higher is marked. Same thing holds true for support levels on the downside.

Testing is really the wrong word, rather everyone eyes these support/resistance levels and is wary of what the market will do when it hits them. Often people will sell when it climbs to a resistance level or buy when it drops to a support level.

These levels are almost always psychological but do have some value for people who want to limit risk. When a level is breached and shoots farther in that direction it is often referred to as "taking out" that level and the market is then re-evaluated for other previous support/resistance levels as the market toys with a new range.

People often claim they know what something will do when it toys with a support level but nobody really can tell because of the many variables in play. Many kinds of weird names are given to trends a instrument will act out like a "DOUBLE V BOTTOM" or something and that past performance trend is weighed against the current trend and may be applied to forecasting the future of the instrument.

Its all guesswork in the end. Thousands of top market movers and shakers get it wrong every day. Some of the talking heads just do it to get people to buy or sell.

-- hamster (hamster@mycage.com), October 25, 1999.

Count;

To test a support level identifies a price level at which many buyers may have bought previously so that there is likelihood that there would be few sellers at the support level. Example: People that bought gold at $290 are unlikely to sell at $290. If a support level is broken to the downside it bodes poorly for the commodity meaning a lower price is more likely.

A resistance level is the opposite - a price level at which many buyers are willing to sell to lock in profits. A breakthru on the topside of a resistance level suggests a likelihood of higher future price.

Technical analysis of chart patterns attempts to draw ranges of price movement to try to anticpate future price movement. Traders use these ranges to issue buy and sell orders. Market makers see where traders have placed orders to buy and sell and use this information to set future prices. Example: There may be a lot of buy orders sitting at $290 for gold (I do not know - this is just an example to illustrate the point). This would also create a support level as more buyers come in as their $290 buy order is triggered.

Some support and resistance is psychological as the Dow at 10,000. Typically round numbers tend to get more people to believe that a support or a resistance level has been broken.

IMHO, support and resistance is mostly but not completely BS.

-- Bill P (porterwn@one.net), October 25, 1999.

Bill, you made a couple of good observations about support and resistance, but then said you thought it was mostly BS. I have to respectfully disagree with that. I do a lot of chart analysis and I believe that the principle of support and resistance is incredibly important to understanding how markets work and it's something that I study quite a bit on a daily basis.

Count, glad you asked :) I'd like to put my 2 cents worth in on the subject.

In order to explain the basic concept, let's assume that the ABC company has been trading in a range between $10 and 20 per share. Why is this happening?

There are basically only two fundamental investment styles: Value Investing (Buy low, sell high), and Momentum Investing (Buy high, sell higher).

In this example, a value investor would try to accumulate stock in ABC at around $10 a share. Why is support at $10? Because, in the aggregate, the value investment models of the various mutual funds, banks, analysts, etc. are kicking in buy orders at around $10 a share. By the same token, they are, in the aggregate, saying that the stock is currently overvalued if it reaches $20 a share, and they will consider taking profits or lightening up their position by selling stock at that level.

A momentum investor, on the other hand, would wait until the stock went above $20 to buy. The principle here is that for the entire time the stock traded between $10 and $20, the underlying fundamentals were steady, perhaps indicating a market value of $15, +/-$5 per share. A price of $21 a share would indicate that something has changed: the underlying fundamentals have improved and perhaps the up trend will continue. A trading range breakout can sometimes be quite dramatic (for example, the recent move in gold came out of a pretty well defined 3 1/2 month base).

O.K., back to our trading range between $10 and $20.

If you are a value type investor (or trader), you would be trying to buy at, or slightly above $10/sh. There will be many buy-limit orders resting in the market at around this level. To protect yourself, you would put a sell-stop somewhere below $10.

If you wanted to sell stock (profitably) as a value investor while in this range, you would place a sell-limit at, or just below $20.

The momentum investor (or trader), would wait for the stock to break out to the upside, hoping that the price will continue up. He or she would enter the market by placing a buy-stop order slightly above the $20 level, and would protect him/herself by placing a protective stop either just under $20 or on the opposite side of the range below $10.

Think about this! You don't need to see the specialist's book to know where most of the stops are! There will be large numbers of sell-stops clustered just below $10, buy-limits just above $10, sell- limits just below $20, and buy-stops just above $20.

Now, to answer your question about "testing" Count: As a result of the combination of the various market forces (a la the efficient market theory), the market will trade between $10 and $20 approaching, or "testing" these levels to see if they will continue to hold or not.

The levels where stops are clustered first act like magnets, pulling the price toward them. Once a level is reached (say, at around $20) they become "pivot points", where a battle of the bulls and bears take place. If the bears win, the price will be driven back down into the range, as a result of the resting sell orders in the market just below $20 (and new sell orders coming in). If the bulls win, the price will shoot up, assisted by the numerous buy-stops resting just above the $20 level. If the price moved up to around $20 and fell back into the range, they might say "a test of the $20 level failed". Or if it went to $20, paused a bit, then broke out to the upside, they might say "it tested the $20 level before breaking out". It's not trying to explain a phenomenon under anyone's control. It's just terminology for what the market is doing.

In the case of your gold example, here's how I would interpret it. (All prices are based on the December Gold futures contract - GC9Z).

Gold began it's rally in late September based on news that central banks would limit the leasing of gold - new fundamentals for the market. It quickly ran up to $329/ounce by the 28th and then pulled back to a low of $295 a couple of days later before continuing up again.

Let's look at what happened: When gold shot up to $329/oz, the "market" decided it was overvalued and sell orders came in, driving the price back down. The $329 level is now resistance by definition. For whatever reasons, enough sellers came in to drive the price back down.

Likewise, when it came down to $295, the "market" decided gold was undervalued, based on the new fundamentals of this market. Buyers came in and drove the price back up. There is now support at $295.

As prices moved back up, they again "tested" the recent high at $329 on Oct. 5th, breaking above that level intraday, but closing at $326. The next two days had highs of 329.9 and 329.8, before the price began moving back down again.

It is now approaching (testing) the low of the first correction at around $295 where support is located. Someone who was bullish on gold could use this technical level to establish or add to a long position. If you used a protective stop, you would place it somewhere below this level.

-- Clyde (clydeblalock@hotmail.com), October 25, 1999.

I don't know sh*t from shineolla, but gold hasn't closed higher in several days. Down every day. I would think if this was a true free market, gold in the last 2 weeks might have had an up day. I believe that the people that control the gold markets are in complete control. If they want gold up, they make it go up, and if they want gold down they make it go down. Technical analysis wont do a bit of good in this Gold market. This is not a supply and demand situation. Ah what do I know?

-- Gambler (scotanna@arosnet.com), October 26, 1999.

Count,

It's a good question to ask. To understand the term one has to know what it is "testing."

The term refers to any attempt to penetrate through a given price level that is considered either "support" or "resistance." To understand this we need to realize that prices in any market move in "trends" or a series of price peaks and troughs. Now the direction of those peaks and troughs is called a trend. There are 3 different trends. Up, down, or sideways. The bottom level of a trend is the lower price points in that trend. That is called "support." The upper peak price points are called "resistance" levels. Support price points are areas in which we see solid buying sources come in such a manner that it consistently keeps the price above a certain point or points. Likewise with resistance only in reverse. Resistance is when "selling" developes in which traders either take profits or 'short' traders come in to 'short' the market in hopes it will go down and thereby they can buy it at a lower price to cover their shorts.

When a market is moving in a direction to either the top of a trend or the bottom of a trend, we see a given segment of price points at which either buying or selling developes to reverse the price direction substantially so that there is no fresh movement out of the range...so that prices stay locked in a price range.

In the case of gold, currently, we see December 99 gold contracts right now "testing" the support levels at around $300.00 per oz. Well how do we know there is support there?

In part because we can see the daily price bar charts and see where buying patterns have been set previously. This however, is only part of the story. The other part is that during the time that the trading range has been established... traders holding open contract positions will usually also place what we call "Stop" orders. These are orders sitting on broker's desks waiting to be enacted IF/When the market price reaches that price point. Now, on any given day those orders and price points may shift.

During the trading day, we have a group of traders called "floor traders" or "locals" who trade for their own personal accounts (may also include friends) and these fellows may take some actions during the heavy trading times. Usually these guys are only in for a few minutes and make trades in which they are only looking to make 10 cents or 20 cents or 50 cents on a given trade, but with LOTS of contracts. Later, during slow periods, ESPECIALLY when the big boys go to lunch...there's relatively a slow or down time... volumes dry up and that is when these locals can "rock and roll a market. In days like Monday...when the market goes to lunch... these guys will try to take the market in a given direction. They may try and "test" where these price stops are. They may also prior to this go around to the various desks and inquire with others about where and what quantities of stop orders are sitting for certain price points. If they see thinness...they may try and maneuver the market price through those points if there is not much lined up in stop volume that would "stop" their attempts to move the price through those levels.

Now, IF the support levels are very strong, and you come back from lunch to find the price hovering on those support levels... you may see some of the big players try to "short the market thru the supports... IF they do this... they'll back the market upwards first to give themselves a running head start, because they'll need momentum to do this. Currently I'd guess that they'd back it up to about $303 or $304 and get a running start.

NOW... they did this on Monday... if you go check the time quotes for trading ... and they did get it to punch through down to $299.00 on Dec 99 contract basis, but then buying support came back in. Some of the buying was from "shorts" that 'day-trade' short term... These guys got nervous seeing that there was no follow thru shorting...so they closed out their shorts by issuing 'buy' orders to cover their shorts. They made money this way...but not nearly what they'd have liked or hoped for had there not been more buying support. IF they can rock and roll the market through to the lowest tier of STOPS... they can then trigger EMERGENCY SELL ORDERS that buyers had placed hoping the market would go up, but who had placed emergency orders at say $295 to prevent or limit losses. NOW, this is the real TEST of a price support band of price points. IF the short traders can rock the market into that level it will set off a selling wave... (providing enough folks have place such emergency stop-loss orders in that price point area)... such a selling wave could start and accelerate a new trend and develope a new lower trading range...

Now the same works in reverse at the top of a trading range when your "testing" the resistance levels or the price ceilings of a trading range. In this case... $335-$345 was the resistance level. Had she broken thru those levels we'd have been doing a price sprint up and over $350 and on towards $360-$375.

I just checked the Stop levels for Monday at 8:11 am...

Buy stops were at $327.00 and Sell stops were at $286.00 basis Dec 99 Gold contract.

This is down from 2 weeks ago...when it was $339 and $299.

As I look at the chart early on this Tuesday morning while Asia is trading this gold market lower... I see that there is virtually NO real chart support for gold at $295... support here is very weak and the strongest support is historical and not near term, so that were talking more of a psychological factor here... when it is penetrated sufficiently... this puppy will go on lower as it will spark rounds or waves of sell orders from Long positions that maybe bought at $265 or $275 or $285 who give up waiting for more profits fearing the wave will cover them up and stay covered as the contract expires...which could then leave them in losses. So they take a half loaf instead of no- loaf profits.

I see here that the market overnite has rolled down to $296.60 but rebounded slightly to $299.00. This is not looking good for the Longs/bulls on the near term. What we're seeing now is a severe or powerful test of wills. How many goldbugs are going to have the guts to hold long positions as the market falls back below $300... REMEMBER... this is for traders holding December contracts that are SOON TO BEGIN EXPIRING!!!! There's not a whole lot of time left for these guys to wait and see if gold can move farther up. Soon they're gonna have to take delivery of the metal or rollout to another month. They'll be forced into one of these alternatives soon... therefore this is a real TEST of bullish sentiment by testing the market pricing in these support levels. Will there be waves of new customers coming in that will think $295 for gold is too cheap and think it will go higher between now and December???

I figure there won't be any gold rush to buy it today??? SO... WHERE IS THAT GOLD CARTEL??? WHERE IS THIS GOLD CRISIS of the SHORTS??? MAYBE THERE IS NOT NEAR THE PROBLEM THAT IS BEING PAINTED BY THE GOLDBUG SALESMEN!!! Maybe the powers that be are just letting natural market forces takeover now...because this is now what is happening. The manipulation is really over for the moment... GREED and opportunity has now set in for the guys who go long and short. Right now those guys are apparently joining in to provide fresh speculative shorting of this market. I doubt seriously that the big fund houses feel the need to do any fresh selling here... or if so, just brief spurts at key moments.

A brief glimmer of hope for the gold bugs... the DMI/ADX oscillators are NOT yet showing a sell signal but it's close to it... meaning its close to saying the bull rally is over for now. The real question is whether or not the LONGS will get spooked and pull out???

-- Dick Moody (dickmoody@yahoo.com), October 26, 1999.