RSI - Really Stupid Investors..?

Yep, after a month cycling in the Pyrenees, plodding through Sartre's finest works, and smoking Gitanes like they're going out of fashion, JdA is back at her desk, and is rather agog at the sudden outbreak of morale in the silverogosphere.

Indeed, thanks to some decent rises in the price of silver and gold during August and early September, we're all suddenly being advised to jump back in, with a range of erstwhile blog hosts queuing up to tell us that the 'doldrums' are over, and that the bullion banks have 'lost control'.

Silver in particular has had an impressive rally, moving from around $26.50 to $32.72 today. That's a whopping 19%. Well done to all who bought in at the bottom, and who are scaling out at the moment.

And a big wooden spoon to those doing their usual trick of beseeching their readers to buy as much as they can now that the rally is nearly at an end. You think I'm exaggerating? Read on...


The biggest problem for over-eager retail investors is that they have a tendency to buy high and sell low. In other words, they chase the momentum (buying high), and then bail out in a panic when things look rough (selling low). Despite being fully aware of this phenomenon, I've been known to do the same myself, so I'm casting no aspersions on the retail investor here. However, there are some tools of the trade that can help one to avoid this kind of behaviour.


The 'Mayday Massacre'

One of my better trading moves was bailing on silver in the high 40s during April 2011, and this was prompted by two indicators. The first, which I think I've mentioned before, was the 'credit card test'. I have a rule which helps me to keep emotions in check when it looks like I'm onto a winner: the first time that I see a reference in an on-line chat room, or on a blog, or a stock board, or whatever, which says that the poster is going to max out his/her credit card to buy the stock/commodity in question, well, then that is the very moment that I log into my trading account to dump the lot. The credit-card poster is an internet-age version of the shoe-shine boy, I suppose, but depressingly more naive and ill-fated.

The second, and altogether more scientific, is the RSI, which - in loose terms - helps one to assess how far above or below the trendline a particular stock/commodity is at that moment in time. Basically, when a stock chart starts having to 'shade in' its RSI, then you know it's a pretty fair bet that there'll be a major correction coming up (if it's above 70 or so) or that it's a decent time to buy (if it's below 30 or so). In April 2011, silver's RSI went off the scale:

Sadly, no commentator on the silverogosphere decided to address the RSI 'problem' in April 2011, and instead blindly encouraged their readers to go 'all in'. Memorably, Turd Ferguson advised his readers to buy a double-leveraged silver ETF (AGQ) virtually on the eve of silver's collapse. Harvey was convinced that the end of JPM was nigh. And Silvergoldsilver could bearly [sic.] contain his glee. Would that just one of the whole sorry bunch - self-proclaimed experts in the precious metals markets, let us not forget - had noted the glaring, 200 dB red-and-blue-flashing signal of the RSI. One glorious exception was Adam Hamilton at Zeal, whom I recall being widely mocked for daring to suggest that silver was heading for a serious fall.


The 'Brazilian Independence Day Slump'..?

Fast forward a year and a bit, and we're in September 2012. Let's have a gander at the chart...

As is obvious, the silver RSI is screaming once again. And this is no surprise: look how far it has moved north of its 50-dma. This is a tinderbox waiting for a match.

The tinderbox analogy is apposite. The RSI by itself does not guarantee a crash any more than it precludes continued massive gains. It is, after all, generated by a simple equation involving moving averages. Events, sentiment and fundamentals can all over-ride a simple bit of maths. So let's continue in the vein of a torturous Turd Ferguson-style analogy:

Imagine that your investment is a bale of hay. Now, for some perverted reason, your hay becomes more valuable if it smells of petrol. The buyers all just love petrol-soaked hay. The more petrol-y it is, the better. So, every now and then you go and tip a bit of petrol on your investment when you have some petrol to spare. Then a bit more. And a bit more. Every time you do so, it becomes more 'valuable'. However, and sadly, there is a mad arsonist living next door to you. He loves nothing more than playing with matches. You know that one day he will come and set fire to your hay (presuming you haven't sold it), but you have no idea what day that will be.

So, your quandary is, 'when do I sell my hay'? At what point does my fear of the arsonist outweigh my desire to keep adding petrol to my hay to make it more valuable?

The RSI is basically our indicator that tells us when the hay has become super-flammable. It is not saying that no more petrol can be added, nor is it saying that the arsonist is on his way. But what it is saying is that the moment that the match gets lit - and it will get lit, let's be in no doubt about it - then the whole farm is gone. Your petrol-soaked hay has now become too hot (metaphorically and perhaps literally) to handle.

Back to the real world. What could the match be? If it's the Friday jobs numbers in the US, then we could quickly find that that fills nicely the role of a match and we have a 'Brazilian Independence Day Slump' on our hands. Or maybe the match will come in a couple of weeks, with a pre-election effort to suppress the price of oil again. Or another fit of the Euro nerves. Who knows what the match will be? But in a world full of mad financial arsonists, who wants to be sitting on a hot commodity like the Devil's Metal with an RSI almost off the scale?


Responsibility

I'm writing this because no-one else is. It's no secret that I'm not a fan of silver, but I've no agenda here. What is troubling me is that although the charts are giving out the same signals once again, and that anyone who knows anything about the markets is just waiting for the match to come, the same culprits who drove their sheep over the cliff in April 2011 (whilst ironically calling those who refused to jump, 'sheep') are still trotting out the same perma-bullshit without a shred of responsibility to their readers.

I'm often criticised for goading the silverogosphere hosts, and sometimes I do stop and wonder whether I go a bit far. And then, in saner moments, such as today when I pulled up the charts from April 2011 and September 2012, and realised that not one popular silverogosphere site is seriously warning its readers of what might happen very, very soon, I think that I've failed in not going far enough.

Screwtape didn't ask to guard the guards, nor do we have a mandate to do so. But someone has to hold the silverogosphere to account for its irresponsibility and its ignorance, and to take the hysteria out of the advice peddled to the retail investor, n'est pas?