One of the simplest technical tools is also among the most useful, and that is the trendline. Trendlines are also a great way to confirm other trading signals such as those generated by the relative strength index or a moving average crossover. Whenever possible, it is best to wait until the trendline has been breached before executing a trade. As you will see from the charts below, rising trendlines are created by simply connecting a series of rising bottoms to gauge where the stock will potentially find levels of support. On the other hand, downward sloping trendlines are created by connecting a series of lower highs. This simple tool is an optimal method for traders to use for determining an asset's direction.
Moving averages have become a popular trading tool because they are simple to use and easy to generate in most charting programs. The idea is to buy when the shorter term, faster moving average crosses above the slower one and to sell when the faster average crosses below the slower average. This works great in a trending market but not so well in range-bound markets. The trick is in knowing what type of market you're in. Because markets trend about one-third of the time on average, relying on moving averages as your primary tool can become quite costly. This is where trendlines can help.
RSI is an oscillator that measures price momentum. It is also very useful in showing divergences with price. As Figure 1 shows, the RSI often hits extreme highs and lows at gold's price turning points. For example, with the first red circle on the chart, the RSI hit an extreme as gold hit its 2006 peak around $725.
Looking at the concept of divergence in Figure 1 (above), note the differences between the RSI and price. As the first green lines on both shows, the second low in the RSI was higher than the first low, while the second price low was lower than the first. This warns the trader that buying power is building. Sure enough, a rally followed. Red lines at Point 2 show an example of negative divergence.
Fundamental and Intermarket Considerations
Intermarket relationships can be helpful in trading gold. As such, it's important to watch the euro and the U.S. dollar index as well as crude oil prices for clues on gold's trending action; they are important outside markets for the precious yellow metal.