HUI - Mining Shares surging towards a retest of all time high

Very impressive strength in the mining sector was the feature of the day in the trading session.  The result was to set the index within striking distance of its recent all time high.

Newmont Mining shot to yet another all time high today.

Having a few days of price action under our belt allows us to get a better picture of where the buy orders and sell orders are coming in; in other words, defining where the "value" regions are located.

Note the chart and look at the horizontal red line drawn near the 580 level. We remarked that the index bounced off of this level on its retest last week, confirming a reversal of polarity principle where stubborn overhead selling resistance now becomes strong buying support.

IN yesterday's session the market pushed through the former gap and go region noted on the chart but was unable to hold its gains and settled below the bottom of the gap. While the action was not particularly bullish, it did hold the previous day's low, and refused to break down even while the metal price of gold was moving down to near the $1780 level. It was evident that there was dip buying taking place at the lower levels. This was all the more noteworthy because of the very broad weakness across the entirety of the equity world yesterday.

Today saw the miners explode back to the upside, through the gap and go region and to within a few points of the all time high in the index. The ferocity of today's move higher indicates distressed buying on the part of some of the shorts in these shares. They are being squeezed out by some fairly steady and determined buying. My guess is that there were some fresh shorts piled on below the 600 level that were too far underwater to hold any longer.

You can see on the chart that there are several candles with long upper shadows present up at these levels. There is also a minor double top just shy of the 640 level. The bulls now have it in their power to attack that region and see if they can dislodge some of the more stubborn bears in these shares. If they can do so, the buying by the shorts as they seek to cover will intensify and that should give us another sharp push higher.

The strongest hands in the short community are going to try to make a stand and prevent that from happening. Whether they can do so remains unclear at this time. If they fail to hold it at 640, they are in trouble.

Note something else of significance on the following ratio chart. This compares the price of the HUI mining shares index against the price of gold itself. The ratio is useful in the sense that it provides us a benchmark; something against which to measure the value of the shares in general. Here we have the situation where the HUI made it to within a few points of its all time high today yet the overall HUI/Gold ratio is sitting at a relatively low level compared to previous peaks in the valuation of the shares.

Today we closed at the .344 level. The peaks in this index were either above the .60 level or right at it. In other words, even with the HUI sitting at such a lofty level as where it closed at today, the overall sector remains UNDERVALUED against the gold price.

This is what happens when a long established trade outstays its welcome and descends into the arena of foolishness. The ratio spread trade employed by the hedge fund community, buying gold or the ETF and shorting the shares, depressed the share prices of so many miners that it has led to a case of excessive undervaluation which is now in the process of being corrected. I think one could easily make the case without even getting too far out on a limb, that this particular ratio could move to at least the .50 level before it gets anywhere near being in the "overvalued" camp. Believe it or not that would put the index closer to the 900 level if the gold price were to remain near the current level of $1800.

That is mind boggling now isn't it???