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   -- Weekly Market Update for the Week Commencing 5th May 2014

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 ended in 2012. In real (gold) terms, bonds commenced a secular BEAR market in 2001 that will continue until 2018-2020. (Last update: 20 January 2014)

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

Market
Short-Term
(1-3 month)
Intermediate-Term
(6-12 month)
Long-Term
(2-5 Year)
Gold Bullish
(26-Mar-14)
Bullish
(26-Mar-12)
Bullish
US$ (Dollar Index) Bearish
(16-Apr-14)
Bearish
(27-Jan-14)
Neutral
(19-Sep-07)
Bonds (US T-Bond) Bullish
(11-Dec-13)
Neutral
(18-Jan-12)
Bearish
Stock Market (DJW) Bearish
(07-Apr-14)
Bearish
(28-Nov-11)
Bearish
Gold Stocks (HUI) Bullish
(03-Mar-14)
Bullish
(23-Jun-10)
Bullish
Oil Bearish
(12-Mar-14)
Neutral
(31-Jan-11)
Bullish
Industrial Metals (GYX) Neutral
(17-Feb-14)
Bullish
(28-Apr-14)
Bullish
(28-Apr-14)

Notes:

1. The date shown below the current outlook is when the most recent outlook change occurred.


2. "Neutral", in the above table, means that we either don't have a firm opinion or that we think risk and reward are roughly in balance with respect to the timeframe in question.

3. Long-term views are determined almost completely by fundamentals, intermediate-term views by fundamentals, sentiment and technicals, and short-term views by sentiment and technicals.

The T-Bond continues to surprise the crowd

The market for long-dated US Treasuries has defied the expectations of most pundits so far this year. The refrain at the beginning of the year was that T-Bond yields were bound to rise, but, instead, bond yields have trended lower. The downward trend in yields goes hand-in-hand with the upward trend in the price of the iShares 20+ Year Treasury Bond Fund (TLT). The question is: with the following daily chart showing that TLT is now short-term overbought and nearing channel resistance, is the rally in T-bond prices and the decline in T-bond yields almost over?



The short answer is: probably not. The longer answer is that while a multi-week consolidation to eliminate the overbought condition could begin at any time, there are good reasons to believe that significant additional gains in the TLT price will occur over the next few months and that a short-term bullish outlook is still appropriate (we have been short-term bullish on this market since December).

One reason is sentiment. Despite the 4-month upward trend in the prices of T-bonds and T-notes, most pundits continue to predict higher interest rates (lower bond prices) and speculators collectively remain bearish in anticipation of lower prices. We know that this is so due to the substantial speculative net-short position in the combination of T-bond and T-note futures revealed by the COT data. Based on the historical record it's unlikely that the upward trend will end until after speculators, as a group, have become net-long.

Another reason is that safe havens, including both the Treasury market and the gold market, will likely be boosted by stock market weakness over the next 6 months. 

The Stock Market

Due to the market action late last week it is appropriate for us to re-visit the Dow Jones Utility Average (UTIL), even though we discussed this particular index in last week's Interim Update.

In the 30th April Interim Update we wrote:

"...the Dow Jones Utility Average (UTIL) has finally exceeded its 2007 peak. However, it is very 'overbought' and is possibly tracing out a similar topping pattern to the one that unfolded during 2007-2008. We are referring to the fact that the UTIL made a high during Q2-2007 and then a marginally higher high in Q4-2007 before rolling over into a major decline. This time around it made a high in Q2-2013 and a marginally higher high in Q2-2014.

We certainly do not think that something akin to the 2008 crash lies in store for the UTIL over the coming several months, but we do suspect that this year's top is being put in place right now.

With the UTIL having recently 'gone parabolic', a daily close below the 50-day MA would now be a reliable signal that a top of at least intermediate-term importance was in place
."

A daily close below the 50-day MA would be a reliable signal that an important top is in place, but last Friday's downward reversal currently looks like it could have longer-term significance. The reason is that it occurred in the face of falling bond yields (the 'utes' benefit from lower long-term interest rates) and OK economic data.



The S&P500 Index (SPX) ended last week within 1% of its all-time high, so it won't be surprising if the SPX makes a new high this week. However, a new high by the SPX over the days ahead will definitely not be confirmed by the NASDAQ100 Index, the NASDAQ Composite Index or the Russell2000 Index, and will probably not be confirmed by the Dow Utility Average.

It is also worth noting that the number of individual stocks making new 52-week highs has not confirmed any of the new 52-week highs in the SPX over the past 6 months. In fact, the following chart shows that the number of individual NYSE common stocks making new highs has been trending lower since October of last year.

A narrowing of the advance tends to happen as a market approaches an important peak.

This week's important US economic events

Date Description
Monday May 05 ISM Non-Mfg Index
Tuesday May 06 International Trade Balance
Wednesday May 07 Q1 Productivity and Costs
Consumer Credit
Thursday May 08

No important events scheduled

Friday May 09 No important events scheduled

Gold and the Dollar

Gold and Silver

Gold fundamentals now bullish

The fundamental backdrop was unequivocally gold-bearish during the first half of last year. Around the middle of last year it began to shift in gold's favour with the upside breakout in the US yield-spread (the difference between 10-year Treasury yields and 2-year Treasury yields) and the rolling over of the BKX/SPX ratio, but at the beginning of this year it could best be described as mixed (neither definitively bullish nor definitively bearish). It remained 'mixed' throughout the first quarter, but due to two recent developments it is now bullish. One of these developments is the downside breakout in the BKX/SPX ratio discussed in last week's Interim Update. The other is the downside breakout in the HYG/TLT ratio, a credit-spread indicator. HYG/TLT rises when credit spreads are contracting (indicating rising economic confidence, which is bearish for gold) and falls when credit spreads are expanding (indicating declining economic confidence, which is bullish for gold).

Here is a chart comparing the gold price and the HYG/TLT ratio. The inverse relationship of the past 3.5 years is clear.



By the way, in addition to being a bullish omen for gold, last week's downside breakout in the HYG/TLT ratio is a bearish omen for the broad stock market.

Current Market Situation

Trends in market prices almost never change in reaction to economic data, but the market reaction to economic data can be informative. For example, the posting last Friday of a superficially bullish (for the economy) US employment report initially caused the US$ to rally and gold and T-Bonds to fall, but prices quickly reversed and by the end of the day gold and T-Bonds had made significant gains. The market reaction to Friday's economic news provides us with additional evidence that gold's correction is over and that a new short-term upward trend has begun.

Due to the recent price action, gold's near-term price parameters are more clearly defined. With reference to the following daily chart, notice that gold has spiked below $1280 five times over the past two weeks without once closing below this level. A daily close below $1280 could therefore now be used a 'stop' for short-term bullish positions. Going the other way, a daily close above $1305 would now constitute an upside breakout that would provide further evidence of a short-term trend reversal.

There will almost certainly be a breakout in the gold market in one direction or the other during the first half of May. We obviously expect that the breakout will be to the upside.



In the silver market there was a spike below intermediate-term support to a new multi-month low during the second half of last week. This break below support (see chart below) was quickly reversed, however, creating what currently looks like a false downside breakout. So far this year, false downside breakouts have marked the ends of downward trends in the A$, the C$, the copper market and now, possibly, the silver market.

Increasing the potential significance of silver's Thursday-Friday spike to a new low and upward reversal is that it happened on the 3-year anniversary of the 2011 major peak. In our experience, reversals in the precious metals and the associated mining stocks that happen on anniversary dates tend to be important.



What we were saying in 2011

When the silver price was rocketing upward in April of 2011 there were obvious signs that a large decline would soon begin. Many gold and silver bulls got caught up in the excitement of the moment and ignored these signs, but we weren't among them. We saw the signs that a large decline was coming and repeatedly warned our readers during the weeks leading up to the ultimate price top. Gold's run-up to its peak in August-September 2011 didn't generate such obvious warning signs, but the yellow metal became sufficiently 'overbought' in nominal currency terms and expensive in real terms to suggest that considerable caution was warranted. We thought that it was a time for gold investors to be hedging their positions and taking chips off the table, not a time for being aggressive. It turned out that we greatly under-estimated the eventual magnitude of gold's decline from its 2011 peak (due to our own analytical errors, not market manipulation), but we were certainly not part of the "gold to da moon!" chorus.

Getting more specific, below are examples from TSI commentaries of the warnings and concerns we expressed near the 2011 tops in silver and gold. Our warnings about the downside risk in silver were more definitive because the silver market was far more stretched to the upside. We think that this is important information for old (in terms of subscription time, not age) subscribers to remember and recent subscribers to discover, because it is evidence that we will not always be bullish on gold and silver.

First, here are some examples of what we were saying in the lead-up to the April-May 2011 silver top:

  - From the 11th April 2011 Update:

"...for insurance purposes we bought some more SLV July put options when silver moved above $40 on Friday and our plan is to add another tranche of 'insurance puts' if silver moves up to around $43 within the next few weeks. There is a decent chance that the next intermediate-term correction will take the silver price down by 35%-50% from whatever intermediate-term peak it happens to make."

  - From the 19th April 2011 Update:

"...the silver/gold ratio will likely provide us with the most reliable signal of a downward trend reversal -- by diverging bearishly from the gold price over a period of at least 2 weeks or by quickly declining by at least 7%. Such a signal hasn't yet been generated, but we suspect that it will be generated by mid May."

  - From the 24th April 2011 Update:

"...the direction of the silver/gold ratio over the past several months is consistent with the long-term relationship between this ratio and economic confidence (usually, silver does better than gold during periods when economic confidence is rising and the broad stock market is strong). However, the magnitude of the advance has gone beyond the bounds of normality due to silver becoming the focal point of inflation-induced speculation. In 1998-2000 it was the tech sector of the stock market, in 2004-2005 it was the homebuilding sector of the stock market, in 2007-2008 it was the oil market, and now it is the silver market.

We can be confident about HOW silver's parabolic advance will end (it will end in a spectacular decline), but we can't be confident about WHEN it will end. Our guess is that it will end by the middle of next month [May-2011].
"

  - From the 27th April 2011 Update:

"Market Vane's survey indicates that on Monday 25th April, 97% of traders were bullish on silver. This is the sort of sentiment extreme that usually only occurs in the vicinity of a very important top. It doesn't mean that an important top is already in place, but it strongly suggests that traders and investors should approach the silver market very cautiously.

Both silver and the silver/gold ratio are in parabolic blow-off mode. As mentioned in our 24th April market update, we can be confident about HOW these parabolic advances will end (they will end in spectacular declines), but we can't be confident about WHEN they will end.

Our guess is that the blow-offs will end by the middle of next month [by the middle of May-2011]. This guess is consistent with the marked increase in volatility that has occurred over the past three trading days, because the price action tends to encompass greater swings as an important top is approached. However, there is no evidence, yet, that a top is in place. In particular, we note that on a daily closing basis the silver/gold ratio made a new high for the move on Wednesday 27th April, meaning that as at the close of trading on Wednesday the short-term trend was still heading upward.

Gold is not stretched to the upside, but it is still likely to reach an intermediate-term peak of its own within three weeks of a peak in the silver market.

To hedge our exposure to precious-metals-related investments, we are continuing to accumulate SLV July put options in response to surges in the silver price.
"

  - From the email alert sent after the close of trading on Monday 2nd May 2011 (the first day of silver's bear market):

"We interpret Monday's sharp decline in the silver/gold ratio as clear-cut evidence that an intermediate-term peak is now in place for this ratio."

  - From the 4th May 2011 Update:

"...the historical record suggests that silver/gold's recent peak will hold for at least 2 years."

Second, here are some examples of what we were saying in the lead-up to the August-September 2011 gold top:

  - From the 1st August 2011 Update:

"...US residential property is nearing a 100-year low in gold terms. As a matter of fact, if the gold price were to rise another 30% while house prices remained roughly the same, the average US home would be as cheap, in gold terms, as it was at the depths of the 1930s' Great Depression.

The house/gold ratio will possibly overshoot its 1934 and 1980 lows this time round, but the point is that gold is no longer cheap relative to houses
."

  - From the 17th August 2011 Update:

"Gold has returned to the vicinity of last week's high, so we have begun to scale into a put-option-based insurance position."

  - From the 22nd August 2011 Update:

"The gold market has 'gone parabolic' over the past few weeks. This type of price action usually only happens near the END of an upward trend, but there is no telling exactly where the end will be."

And: "...the downside risk is increasing as rapidly as the price. If gold surges to $2,000/oz over the coming fortnight then the odds will be heavily in favour of the next correction being the intermediate-term variety. An intermediate-term correction is one that lasts at least 6 months and takes the price down to the 200-day moving average or lower."

And: "Gold's upside blow-off has pulled silver out of its range of the past few months, but silver's risk/reward hasn't significantly changed. The risk of a large gold correction has increased and will become greater still if gold's upside blow-off continues for another couple of weeks."

  - From the 12th September 2011 Update:

"...the gold price is now quite high in real terms. We note, in particular, that gold didn't reach the inflation-adjusted equivalent of its current price until the final few weeks of the 1979-1980 blow-off (in today's money, gold was at $1690/oz at the end of November-1979 and $2186/oz at the end of December-1979). Due to the debilitating effects of monetary inflation on the economy's productivity over the intervening years, it's likely that gold will eventually exceed its Jan-1980 peak in real terms. It would be wrong, though, to think that gold is still a bargain."

Gold Stocks

We continue to suspect that the gold-mining sector's short-term correction ended on 21st April when the HUI spiked down to a marginal new correction low of 215 and then reversed upward. However, the evidence that the correction is complete is not yet conclusive.

As illustrated by the following daily chart, the HUI has now spent eight consecutive trading days oscillating between its 150-day and 200-day moving averages. As a result of this price action, a daily close above the 200-day MA (229) would now constitute the next piece of evidence that the correction is over. Also as a result of this price action a daily close below the 150-day MA would warn that our interpretation of the 21-22 April reversal was wrong, although to minimise the chance of being 'whipsawed' we suggest using a daily close below 215 as a 'stop' for short-term bullish positions.



The Currency Market

Last Friday's bullish reversals in the gold and T-Bond markets following the US employment news was accompanied by a bearish reversal in the Dollar Index. The knee-jerk reaction to the employment news took the Dollar Index up to its 50-day MA at around 80. It then gave up its news-related gains and ended the day flat -- precariously poised just above intermediate-term support.

We expect the Dollar Index to break below support at 79.0-79.5 this month.



By the way, imagine what the reaction of the gaggle of manipulation-centric gold commentators would have been if, rather than positive employment data being followed by a downward reversal in the Dollar Index, negative employment data had been followed by a downward reversal in the gold price. DATA (the Dollar Anti-Trust Action Committee) is up in arms about Friday's blatant downward manipulation of the US$ and is demanding an investigation.

Updates 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

Company news/developments for the week ended Friday 2nd May 2014:

[Note: AISC = All-In Sustaining Cost, FS = Feasibility Study, IRR = Internal Rate of Return, MD&A = Management Discussion and Analysis, M&I = Measured and Indicated, NAV = Net Asset Value, NPV(X%) = Net Present Value using a discount rate of X%, P&P = Proven and Probable, PEA = Preliminary Economic Assessment, PFS = Pre-Feasibility Study]

  *Batero Gold (BAT.V) issued its mandatory reports for the quarter ended 28th February 2014. Based on these reports, the company probably now has about $13.5M of working capital. This amounts to about C$0.15/share.

BAT is effectively in hibernation pending a higher gold price. Its cash burn rate is low, but it probably won't generate market-moving news anytime soon.

The large discount to its cash at which BAT is now trading suggests that the stock could be a reasonable short-term speculation in the C$0.10-C$0.11 range (buy at C$0.11 or lower with the aim of selling at around C$0.15), but liquidity is minimal.

  *Dragon Mining (DRA.AX) reported its results for the March quarter. The company produced 16.4K ounces of gold at its operations in Finland and Sweden at a cash cost of US$1289/oz. The high cash cost is somewhat misleading, because some of the costs that were accounted for in the March quarter were actually incurred during previous quarters. Consequently, DRA managed to add $3.5M of cash to its balance sheet during the March-2014 quarter despite the high cost of production.

DRA will probably need a gold price of at least $1500/oz to be consistently profitable, but with working capital at quarter-end of $13.4M the company does not appear to be in danger of suffering a 'cash crunch' in the short term. Furthermore, the new management appears to be taking the right steps to ensure the company's survival. The question we are wrestling with is: does it make sense to persevere with DRA, or are there better uses of our time and money?

  *Sabina Gold and Silver (SBB.TO) reported that it will donate money to assist the local Inuit population in the region of its Back River project. This will involve a) an initial payment of $1.4M into a trust that has been established to fund "community initiatives" in the region, b) the provision of financial assistance to the organisation representing the Inuit people to enable it to fulfill its role in the back River environmental assessment and permitting, and c) the payment of 3% of Sabina's net proceeds from the Hackett River silver royalty.

This is an unavoidable cost, because mine permitting and development will require the support of the local population.

  *UEX Corp. (UEX.TO), a uranium explorer with two projects in Athabasca, issued its MD&A and financial statements for the March quarter. The financial statements showed that UEX has about $8M of working capital, which should be enough to fund the company for at least another 12 months.

List of candidates for new buying

From within the ranks of TSI stock selections, the best candidates for new buying at this time are:

1) EDV.TO (last Friday's closing price: C$0.81).

2) EVN.AX (last Friday's closing price: A$0.81).

3) PG.TO (last Friday's closing price: C$2.03).

4) RIOM (last Friday's closing price: US$1.98).

5) RSG.AX (last Friday's closing price: A$0.58).

New short-term trading positions

This is a good time to establish some additional short-term gold-stock trading positions, because the recent price action increases the probability that the gold sector's correction is over and more clearly defines the risk management parameters. We have therefore added short-term positions in Endeavour Mining (EDV.TO) and Evolution Mining (EVN.AX) to the TSI List at last Friday's closing prices of C$0.81 and A$0.81, respectively. These stocks were already in the TSI List as longer-term positions, so they now appear in both the "Gold and Silver" part of the List and the "Trading Positions" part of the List.

We have selected EDV.TO and EVN.TO for short-term (1-3 month expected holding period) trades for two main reasons. First, as profitable producers with solid balance sheets and multiple mines they have relatively low risk. Second, their charts (see below) suggest that large basing patterns are close to being completed.

Both stocks have resistance at $1.00 and support at around $0.75. In each case $1.50 would be the chart-related price objective created by a break above $1.00, but we would probably take profits in the $1.20s.

Both positions would be 'stopped out' by a daily HUI close below 215.

OK to accumulate some long-dated gold-stock call options

The TSI Stocks List contains January-2016 $5.00 call options in Gold Fields Ltd (GFI) and Kinross Gold (KGC). It would be reasonable for high-risk speculators to take new positions or add to existing positions in these options near current prices.

GFI has been one of the strongest gold-mining stocks over the past two months and is not far from its March high. KGC, on the other hand, has been the weakest of the major gold-mining stocks over the past two months, thanks to the general perception that the risk of investing in Russia has risen dramatically (KGC's most profitable mining assets are located in Russia). We think that Russia-related risk has temporarily been overblown, although we do believe that Russia is a high-risk country for reasons that have nothing to do with the Ukraine conflict.

Chart Sources

Charts appearing in today's commentary are courtesy of:

http://stockcharts.com/index.html
http://bigcharts.marketwatch.com/



 
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