Big Picture View

Here is a summary of our big picture view of the markets. Note that our short-term views may differ from our big picture view.

In nominal dollar terms, the BULL market in US Treasury Bonds that began in the early 1980s will end by mid-2010. In real (gold) terms, bonds commenced a secular BEAR market in 2001 that will continue until 2014-2020. (Last update: 09 February 2009)

The stock market, as represented by the S&P500 Index, commenced a secular BEAR market during the first quarter of 2000, where "secular bear market" is defined as a long-term downward trend in valuations (P/E ratios, etc.) and gold-denominated prices. This secular trend will bottom sometime between 2014 and 2020. (Last update: 22 October 2007)

A secular BEAR market in the Dollar began during the final quarter of 2000 and ended in July of 2008. This secular bear market will be followed by a multi-year period of range trading. (Last update: 09 February 2009)

Gold commenced a secular bull market relative to all fiat currencies, the CRB Index, bonds and most stock market indices during 1999-2001. This secular trend will peak sometime between 2014 and 2020. (Last update: 22 October 2007)

Commodities, as represented by the Continuous Commodity Index (CCI), commenced a secular BULL market in 2001 in nominal dollar terms. The first major upward leg in this bull market ended during the first half of 2008, but a long-term peak won't occur until 2014-2020. In real (gold) terms, commodities commenced a secular BEAR market in 2001 that will continue until 2014-2020. (Last update: 09 February 2009)

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Outlook Summary

Temporary change to TSI format

We will be traveling over the next two weeks and will therefore be unable to post the usual TSI reports. We will, however, keep subscribers updated regarding our thoughts on the financial markets by posting comments in a "blog" format at http://www.speculative-investor.com/new/weekly100510.asp. This page will probably be updated every 2-3 days, although the actual frequency of updates will depend on market action and whether we have anything meaningful to say. We will notify subscribers by email whenever new comments are posted.

The next regular commentary will be the Weekly Market Update on 16th May.

Falling Debt Productivity

The Stock Market

Strong Positive Correlations

The following three charts compare the S&P500 Index (SPX) and the Canadian dollar (C$), the SPX and the oil price, and the oil price and the C$. These charts make the point that the US stock market, the Canadian dollar and the oil market have moved in lockstep over the past year. The implication is that unless you have a good reason to expect the strong inter-market relationship of the past year to end in the near future, you should not be bullish on any one of these markets without also being bullish on the other two.

Current Market Situation

Important short-term support for the SPX lies at 1180. Clear evidence of a downward trend reversal requires a daily close below this support.

The SPX held above 1180 over the final two trading days of last week and thus failed to provide clear evidence of a trend change, but last week's price action can still be categorised as bearish. This is because the SPX made a new 52-week high at the beginning of the week and then traded below the low of the preceding week. The situation is illustrated by the following weekly chart.

A routine correction would take the SPX down to the vicinity of its 40-week moving average (the blue line on the chart), but we expect that the next decline will prove to be more severe than a routine correction.

The Shanghai stock market is breaking out to the downside. As depicted below, the market breached lateral support at 2900 last week and made a new low for the year. Consequently, the divergence continues to build between the "future looks bright" message being transmitted by the US stock market and the much less optimistic message being transmitted by some other important markets.

The following daily chart shows the performance of FCX, a proxy for the copper mining sector of the stock market. FCX's April high was below its January high, and it has now given back all of its March-April gains. It ended last week near the intersection of lateral support and the 200-day moving average, so it wouldn't be surprising if some sort of rebound started from near the current level. However, the stock has been diverging bearishly from the broad market and is shaping up to be a leader to the downside over the months ahead.

As mentioned in previous commentaries, the stocks and stock indices that failed to exceed their November-January highs over the past several weeks are the best candidates for bearish speculations or hedges.

This week's important US economic events

Gold and the Dollar

Gold

Displayed below is a weekly gold chart with a moving average envelope (the 10-week moving average +/- 15%) and a Relative Strength Index (RSI). This chart shows that gold is not close to being 'overbought'. To be more specific, it shows that significant highs in the gold market over the past 7 years have always coincided with the weekly RSI moving above 70 (versus the current level of 64) and/or the gold price being near the top of its MA envelope. The top of the envelope is presently at $1303.

We aren't forecasting a quick move up to $1300, although it wouldn't surprise us if the gold price traded as high as $1300 within the next month. It also wouldn't surprise us if gold spent the next few months 'horsing around' between $1100 and $1200. The point we are getting around to is that there won't be substantial downside risk in gold until the market has again become 'overbought', and to become 'overbought' the price will have to move well above the December peak.

Relative to the industrial metals, gold trended lower during February-August of last year and has since drifted sideways. The situation is illustrated by the following chart of the gold/GYX ratio.

After the US stock market peaks we should see another major advance in gold relative to the industrial metals. It's obviously early days, but perhaps last week's up-tick in gold/GYX will prove to be the start of something big.

Gold Stocks

The HUI moved up to important resistance in the 470s during the early going on Friday. Also of note is that its daily RSI has reached a level that tends to mark peaks during counter-trend rebounds.

When the HUI spiked up to the 470s in early January we downgraded our short-term outlook to "bearish", but the situation is now different. In early January the gold market was just beginning to 'correct' after having reached an 'overbought' extreme in December, but the gold market has since completed its correction (as far as we can tell) and now appears to be gathering strength. Therefore, while it is certainly possible that the HUI has just made a short-term peak, a reasonable case can be made for a more bullish outcome. Our short-term HUI outlook therefore remains "neutral".

Currency Market Update

Greece and the Euro

European finance ministers are apparently going to be meeting on 2nd May to approve their share of a 120-billion-euro loan package for Greece. It will be interesting to see the details of whatever package is approved. In particular, it will be interesting to see the conditions (budget cuts, etc.) to which the government of Greece will have to agree in order to get the loans, and how the new loans rank against Greece's existing government debt. For example, if the new loans are "junior" to the existing loans then the so-called bailout of Greece will be another in a long line of bondholder bailouts, but if the new loans are "senior" to the existing loans then at least some bondholders will be forced to take substantial "haircuts".

Assuming the above-mentioned loan package is approved, it won't solve anything. At best it will 'kick the can a little further down the road', but Greece will still be in the situation of needing to either default on its debt or make politically impossible spending cuts. And Greece's predicament is only slightly worse than the predicaments of Portugal, Spain, Ireland and Italy.

Also of importance will be the political backlash against the European leaders of the countries that are agreeing to provide the bailout funds for Greece's bondholders. Perhaps they can weather the current storm by assuring voters that a crisis will be averted, but what are they going to say after they have used tens of billions of euros of their own taxpayers money to mitigate the losses of Greece's bondholders and the crisis continues to grow? Will they be prepared to commit political suicide by suggesting that even more of their own country's wealth be sent to Greece? Or Portugal? Or Spain?

In our opinion, the euro's best chance of surviving the government debt crisis as a viable currency will be if the most heavily indebted European countries either default of their obligations or leave the monetary union. To put it another way, we doubt that the euro will survive this crisis unless senior European policymakers make a 180-degree turn.

Current Market Situation

The Dollar Index dropped back from 82 to 80 between late March and early April, but then returned to its March high in response to the worsening of Greece's debt crisis. The following daily chart shows that it hasn't yet broken above resistance defined by its March high, which means that the April rally could be a counter-trend rebound within an on-going correction.

On a short-term basis we remain "neutral" on the Dollar Index. Our favoured outcome still involves a decline to 78-79 prior to a resumption of the intermediate-term upward trend, but more bad news out of Europe could easily push the dollar above resistance and up to the mid-80s.

The Canadian dollar (C$) has gone nowhere over the past few weeks, but it has done so in a very interesting way. With reference to the following daily chart, notice that the C$ has recently made 4 unusually large daily moves (indicated on the chart by long candlesticks), three to the downside and one to the upside. This reflects a fierce battle between C$ bears and C$ bulls. Moreover, the fact that the majority of these large daily moves were to the downside suggests that the bears are beginning to get the upper hand.

Anyhow, important short-term support for the C$ lies at 98. Harking back to the strong positive correlation between the S&P500 Index and the C$ mentioned earlier in today's report, support at 98 for the C$ is equivalent to and related to support at 1180 for the S&P500. We think it is likely that if one of these markets breaches short-term support, then so will the other.

If support at 98 is decisively breached then we will begin to anticipate a decline to intermediate-term support at 93.

Update on Stock Selections

(Notes: 1) 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. 2) The Small Stock Watch List is located at http://www.speculative-investor.com/new/smallstockwatch.html)

Comments on two laggards

Gold-Ore Resources (TSXV: GOZ) is a microcap gold miner with current production of 40K ounces/year from a mine in Sweden. Gryphon Gold (TSX: GGN) is a microcap gold miner with the potential to become a small-scale producer within the coming 12 months. The stocks of both companies have performed poorly over the past year.

Of the gold and silver producers we track, GOZ has by far the lowest market capitalisation per ounce of annual production. In the current market, 200K-500K oz/yr gold producers are typically being valued at $2500-$4000 per ounce of production and sub-200K oz/yr producers are typically being valued at $2000-$3500 per ounce of production. However, at Friday's closing price of C$0.45/share the market was valuing GOZ's production at only $850/oz.

In our opinion, the main reasons for the low valuation are higher-than-expected production costs and lower-than-expected production growth. Due to its high production cost GOZ is only generating a small amount of cash despite the high gold price, while the lack of production growth prevents speculators from becoming enthusiastic about the stock.

GOZ's management is taking steps to address the cost issue, but we doubt that there will be any company-specific developments to generate speculative interest over the next few months. However, as an unhedged producer GOZ will benefit directly and immediately from any increase in the gold price.

GGN is developing the Borealis project in Nevada in a 50/50 JV with Sage Gold (TSXV: SGX). Borealis has a small near-surface oxide gold resource and a deeper (and larger) sulfide gold resource. The plan is to mine the oxide resource at the rate of around 50K ounces per year and to use the cash flow generated by the oxide mine to develop the sulfide resource.

According to last Thursday's press release, the GGN-SGX JV has changed tack. Rather than immediately beginning to construct the oxide mine, the JV is going to do more engineering and drilling of the oxide resource over the next 6 months. Further resource definition and adding ounces to the mine plan would increase the annual rate of production and/or the mine life, potentially making the mine construction easier to finance. This change suggests that a cost-efficient financing package could not be negotiated based on the current mine plan and the low market capitalisations of the companies involved.

At their current share prices both GOZ and GGN appear to have relatively low risk (as far as microcap resource stocks go), but it doesn't look like there will be any company-specific developments over the next several months capable of generating speculative interest in these stocks. Consequently, despite their low valuations neither of them would be near the top of our shopping list at this time.

    Clifton Star Resources (TSXV: CFO). Shares: 25M issued, 38M fully diluted. Recent price: C$5.50

In terms of market-moving news and speculative catalysts, GOZ and GGN are at one end of the spectrum and CFO is at the other. Ten drilling rigs are presently in operation at the Quebec gold projects that form the CFO-Osisko joint venture. The plan is to drill about 120,000m prior to year-end, all of which will be funded by Osisko as part of its earn-in agreement. This will lead to a steady stream of drilling results over the months ahead.

There is, of course, no guarantee that the drilling results will be positive, but the stock's recent sharp correction has eliminated the 'froth' that was present earlier this year and reduced the risk.

In the 19th April Weekly Update we mentioned support at around C$5.00 as a likely target for a correction low and said that support at C$3.80-C$4.00 probably defined the maximum realistic downside potential. CFO subsequently spiked down to, and through, C$5.00, thus creating a good opportunity for new buying. It has since rebounded, but remains at a level where new buying could be appropriate.

For speculators who can handle the volatility in exploration-stage gold mining stocks and do not currently own any CFO shares, a reasonable accumulation plan would involve taking an initial position in the C$5.30-C$5.50 range.

    The stock price of gold royalty company Franco Nevada (TSX: FNV) has been oscillating within a horizontal range since the first quarter of last year. There is a high probability that the eventual breakout from this range will be to the upside, but there is no telling when the breakout will occur. In the mean time and as mentioned in previous commentaries, it makes sense to scale into the stock (or the C$32 warrants - FNV.WT) following pullbacks to near the bottom of the range.

The top of the range is about $2 above Friday's closing price, although trend-line resistance was reached on Friday.

Chart Sources

Charts appearing in today's commentary are courtesy of: