- Interim Update 29th December 2020

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As was the case last week, Friday is a global holiday this week and as a result we are publishing the Interim Update a day earlier than usual. We will return to our normal publishing schedule next week.

More Money

The US federal government's US$900B "stimulus" bill got the final sign-off at the start of this week, which means that the American populace will be showered with more money in the near future. Furthermore, the US$900B package that has just been approved is viewed as a stop-gap measure and probably will be followed by a larger government spending package within the next two months. At the same time, the Fed continues to monetise (buy with money that it creates out of nothing) debt securities at the rate of around US$120B per month.

Not surprisingly, the prices of most equities and commodities are rising in response to this money creation and distribution. What is a little surprising is that in the face of all this some analysts are still warning about deflation.

Sometimes it can take a lot of reality to convince a smart person that his/her carefully thought-out theory is wrong.

The Stock Market

Margin Debt hits a record high

The following chart from advisorperspectives.com shows that NYSE Margin Debt made a new all-time high in November-2020.



The speed with which the amount of margin debt rebounded from its March-2020 low to a new all-time high is unprecedented (a word that has applied numerous times during 2020). Similar rebounds took about five years during 2002-2007 and 2009-2014, as opposed to nine months this time around.

For two reasons, the rise in margin debt to a new all-time high is not bearish. The primary reason is that the new all-time high during the latest month indicates that leverage is still on the rise. In general, problems only become evident AFTER leverage has hit a major high and started to shrink. The secondary reason is that the amount of margin debt is low relative to total stock market capitalisation. This is illustrated by the following chart from yardeni.com.



Current Market Situation

Three bearish divergences are evident in the US stock market. At present these divergences are minor, but they should be monitored closely in case they become significant.

The first divergence involves the S&P500 Index (SPX) and the NYSE Advance-Decline Line (ADL). As illustrated by the following chart, this week's new high in the SPX was accompanied by a lower high in the ADL.



The second divergence is the fact that this week's new SPX high was not confirmed by the Dow Transportation Average (TRAN). As illustrated below, TRAN peaked about three weeks ago.



The third divergence is that since late-November the SPX has made higher highs while the Volatility Index (VIX) has made higher lows (the VIX would have confirmed the SPX's higher highs if it had made lower lows). The VIX's performance relative to the SPX over the past month looks similar to what happened during the weeks leading up to the early-September short-term high for the SPX.



What to do?

At the moment the short-term risk is high for anyone betting aggressively. That's regardless of whether they are betting on a stock market decline or a further stock market rise.

The US stock market and many other equity markets around the world are stretched to the upside. This creates the risk of quick-fire declines of up to 10% in broad stock indices such as the SPX and much larger percentage declines in speculative stocks that have rocketed upward over the recent past. However, a further 2-4 week extension of the short-term upward trend would not be surprising and would create a problem for traders loaded with leveraged bearish speculations.

We like the idea of being positioned for additional gains in cyclical stocks over the next six months, but not the idea of buying aggressively at this time or betting on additional gains over the next 1-2 months. Any new buying should be directed towards cyclical stocks that have corrected over the past few weeks and some gains should be harvested in stocks that have run-up rapidly in price over the past few weeks.

As mentioned in the latest Weekly Update, the O&G sector of the stock market has 'corrected' by enough to create some buying opportunities for anyone who has insufficient exposure to cyclical stocks in general and industrial commodity stocks in particular. It's possible that these stocks are not yet ready to resume their intermediate-term upward trends, but it is better to scale into them on weakness than to jump in after they confirm the resumptions of their intermediate-term advances by making new 12-month highs.

An example of such a stock is Schlumberger (SLB), the world's largest oil services company. The following chart shows that SLB has been in correction mode since making a marginal new 9-month high about three weeks ago. A routine short-term correction could, but won't necessarily, extend to the 50-day MA near US$19.50.



Another example is Enable Midstream (ENBL), a US-based distributor of natural gas (NG). ENBL gets some benefit from a higher NG price and the recent plunge in the US NG futures price to near a 12-month low has caused the company's unit price (ENBL is a Master Limited Partnership) to decline to its 50-day MA (see chart below). However, ENBL primarily is a play on the amount of NG consumed in the US as opposed to the NG price. We expect the NG price to rally during the first half of 2021, but more importantly for ENBL we expect that NG consumption will rise in the US during the first half of 2021 in response to relentless fiscal and monetary stimulus.

There is no guarantee that the ENBL unit price won't decline further before making a correction low, but the goal when buying should be to put the odds in your favour rather than correctly guess the price low. Regardless of what happens from here, someone who buys the pullback to the 50-day MA in the low-US$5 area will be in a better position than someone who bought in reaction to the early-December spike above US$6.00.



Gold and the Dollar

Gold

The US$ gold price retested its channel top on Monday. As noted in the latest Weekly Update:

"A solid daily close above the top of this channel would be evidence of an upward trend reversal, but traders looking for an opportunity to 'go long' gold would be better served by doing so on a pullback to support than on a break above resistance.

A drop to near the late-November low (around $1780) within the next two weeks would create an excellent buying opportunity, and a drop to support at $1825-$1830 within the next two weeks would create a reasonable buying opportunity."



As also noted in the latest Weekly Update, the next meaningful rally in the gold market probably will coincide with a sizable rebound in the T-Bond.

Silver

The US$ silver price spiked upward at the start of last week and then pulled back. It did the same this week, although less violently.

Being part industrial metal, silver benefits to a greater extent than gold from a weakening US$ and rising "inflation". Consequently, it should continue to outperform gold during the first half of 2021 and also should do well in nominal dollar terms. However and as stated previously, at the moment we don't perceive a good set-up for any sort of trade in silver.



The following chart is interesting. It compares the US$ silver price with the silver/copper ratio. Notice that the silver price was rising relative to the copper price until early-August, when a major relative-strength reversal occurred.

The performance of the silver/copper ratio marks early-August as the time when the financial world started looking beyond this year's economic weakness to next year's stimulus-fuelled surge in economic activity.



Gold Stocks

Since the gold mining sector peaked in early-August, the decline in the Junior Gold Miners ETF (GDXJ) has been orderly. As illustrated by the upper section of the following daily chart, since its early-August top GDXJ has oscillated within a channel with a gentle downward slope. At the moment it is close to the top of this channel.

Also, during the gold sector's correction to date the relatively small gold stocks represented by GDXJ have held up better than the relatively large gold stocks represented by GDX. This is evidenced by the rising line in the lower section of the following chart. GDXJ's relative strength is neither bullish nor bearish.



If you are a trader in the financial markets, one of the hardest things to do is...nothing. However, there are plenty of times when it makes sense to do nothing because there is no trade on offer with a sufficiently attractive risk/reward. You could make a guess at what the next significant move will be and bet accordingly. If you do this you will be right occasionally but will lose money over the long-term.

For some time, nothing has been the right thing to do with regard to trading the gold mining ETFs. It is possible that they bottomed about a month ago, but the price action has kept alive the possibility of a plunge to a new multi-month low prior to the start of a tradable rally.

Quick declines to new multi-month lows by GDX and GDXJ probably would create short-term buying opportunities with very attractive risk/reward ratios.

The Currency Market

At the close of trading on Tuesday 29th December the Dollar Index (DX) was precariously poised slightly above its low for the year.



As mentioned in previous commentaries, we suspect that the DX will reach long-term support at 88 before mounting a significant countertrend rebound (a rebound that resulted in a gain of, say, 3-5 points) and that in the meantime rebounds probably will be capped by lateral resistance near 91.8. Note, however, that even a 1-3 week rebound that ended near 91.8 probably would have a significant effect on the financial world, given that the prices of so many equities and commodities have been trading inversely to the US$.

Therefore, beware the US dollar bounce! This is a reason in addition to the minor bearish divergences mentioned in our stock market discussion to tread carefully.

Updates on Stock Selections

Notes: To review the complete list of current TSI stock selections, logon at http://www.speculative-investor.com/new/market_logon.asp and then click on "Stock Selections" in the menu. When at the Stock Selections page, click on a stock's symbol to bring-up an archive of our comments on the stock in question.

Chart Sources

Charts appearing in today's commentary are courtesy of:

https://stockcharts.com/