Is the Gold Rally Overdone? Here's What History Says May Come Next

As you’re probably aware by now, spot gold is trading at an all-time high in nominal terms, having recently hit $1,977 an ounce. Futures touched $2,000 for the first time ever.

Not only that, but according to the 14-day relative strength index (RSI), gold is extremely overbought at 87.5, the highest reading since September 1999. In fact, by my count, there have been only 16 instances since 1980 when gold exceeded 85 on the 14-day RSI, not including the past three days.

So does this mean it’s time for gold investors to take their profits and walk? Not so fast. There’s evidence that the yellow metal could be setting up for even greater gains.

For a lot of investors, it’s conventional wisdom that once an asset or security becomes overbought, the time to sell was yesterday. That rule of thumb worked well for gold between 1980 and 1999.

Look at the chart below. It shows gold’s average return one month, three months and six months after the metal’s RSI exceeded 85. As a note, this happened only nine times in the approximately 20-year period between 1980 and 1999. In all three cases, the price of gold declined on average, with the three-month period giving up the most at 9.78 percent.

In other words, dumping gold as soon as it looked overdone worked in your favor.

gold's average historical returns after 14-day relative strength index (rsi) exceeded 85
click to enlarge