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)

Copyright Reminder

The commentaries that appear at TSI may not be distributed, in full or in part, without our written permission. In particular, please note that the posting of extracts from TSI commentaries at other web sites or providing links to TSI commentaries at other web sites (for example, at discussion boards) without our written permission is prohibited.

We reserve the right to immediately terminate the subscription of any TSI subscriber who distributes the TSI commentaries without our written permission.

Outlook Summary

Elements of the inflation/deflation issue

We have written a great deal about the inflation-versus-deflation issue in TSI commentaries over the years and we will maintain a strong focus on it in the future. The reason is that under the current monetary system -- a system that enables money and credit to be expanded independently of real savings -- the investment landscape will often be dominated by inflation or deflation (as the case may be), or by inflation/deflation expectations.

Over the past 10 years we have argued -- ad nauseam, some would say -- that there will be inflation and nothing but inflation for the foreseeable future, with periodic deflation scares serving only to provide the cover/justification for even more monetary inflation. After taking into account our arguments and the contrary arguments it may be possible for our readers to confidently conclude which view makes the most sense, and to act accordingly. Alternatively, after weighing all aspects of the issue a person may reasonably conclude that the outcome (inflation or deflation) is not clearly discernable, and therefore decide to 'sit on the fence' for now. Fortunately, there is no law that forces you to bet everything on one particular outcome. At least, there isn't yet, although we wouldn't be surprised if lawmakers were working on it.

As far as we can tell, all the important elements of the inflation/deflation debate have been dealt with in copious detail in previous TSI reports. For something a little different, in today's report we present a list that contains many of these elements -- in no particular order -- without much in the way of supporting explanation. The explanations can be found in previous TSI commentaries. In fact, every one of the following points has been discussed in a TSI commentary within just the past two months.

Elements of the Inflation/Deflation Issue:

1. There is no longer any correlation between bank reserves and the economy-wide money supply; that is, the "money multiplier" taught in economics classes no longer applies.

2. The government-Fed combination can increase the money supply to almost any extent, independently of the private banks; that is, monetary inflation does not rely on the expansion of credit via the private banking industry.

3. The Fed is not constrained in any way by the need/desire to maintain a strong balance sheet.

4. The central bank is capable of monetising almost anything, meaning that the central bank can increase the money supply without increasing the economy-wide quantity of debt.

5. A motivated central bank will always be able to increase the money supply, and growth in the money supply always leads to higher prices somewhere in the economy.

6. The bond and currency markets could eventually impose practical limits on government borrowing and monetary inflation, but the government will be free to borrow and the Fed will be free to inflate as long as the bond and currency markets remain cooperative.

7. A corollary of point 5 is that the probability of the US experiencing deflation will remain low until after the T-Bond and/or the US$ tank.

8. There are long and variable time delays between changes in the money supply and the appearance of the price-related effects of these changes. This leads to an inverse relationship between the rate of monetary inflation and the fear of inflation, because the average person's fears/expectations are based on the effects of previous money-supply changes as opposed to what's currently happening on the monetary front.

9. An increase in the general price level is not the most important effect of monetary inflation. Of far greater importance: monetary inflation changes the STRUCTURE of the economy in an adverse way, by a) distorting relative prices, leading to mal-investment on a grand scale, and b) transferring undeserved benefits to the first users of the new money at the expense of everyone else.

10. Because monetary stimulus changes the structure of the economy its bad effects cannot be cancelled-out by the subsequent withdrawal of the stimulus. Instead, the distortions/wastage caused by monetary stimulus will be revealed after the flow of new money is restricted. An attempt to sustain the stimulus indefinitely, and thus avoid the collapse that inevitably follows a period of inflation-fueled 'growth', will end in hyperinflation.

11. "Money velocity" is a redundant concept at best and a very misleading one at worst. The same can be said about the famous Equation of Exchange (MV = PT).

12. Falling prices are never a problem -- they are either the natural consequence of increasing productivity (real economic growth) or part of the solution to a problem (in the case of a bursting credit bubble).

13. Credit expansion can only foster sustainable economic growth when it involves the lending of real savings by private individuals or corporations.

14. Economic growth is driven by savings and production, not consumer spending.

15. The government and the central bank have no real capital or wealth that can be used to help the economy in times of trouble. Therefore, monetary and fiscal "stimulus" programs involve stealing from one set of people and giving to another set of people. Obviously, the economy cannot really be strengthened by large-scale theft.

Quick note on the copper market

The Stock Market

Current Market Situation

Below is a DecisionPoint.com chart of the NYSE Composite Index and the NYSE Common-Stock-Only McClellan Oscillator (MO). Notice that even though the pullback from the 22nd September peak has been fairly minor to date, it has caused the MO to become as 'oversold' as it was at the March bottom. The NASDAQ's MO is nearing a similar extreme.

Note: The MO is based on market breadth (advancing stocks minus declining stocks), so it can become 'overbought' or 'oversold' independently of the senior stock indices. For example, the MO can reach an 'oversold' extreme even though senior stock indices such as the S&P500 are not remotely close to being 'oversold'.

A downward spike in the NYSE's MO to an extremely low level (-80 or lower) does not usually coincide with a significant price low. Rather, extreme lows for the MO tend to occur in advance of price lows. And over the past three years, the time from an extreme low in the NYSE's MO to a low for the NYSE Composite Index has generally been 1-3 weeks. In other words, the MO's message is that the stock market is probably 1-3 weeks away from a short-term price low.

The next short-term price low will mark either the end of another routine correction within a continuing post-crash rebound, or, more likely, the end of the INITIAL decline in a larger-degree downturn. In the latter case, the current (initial) decline would be followed by a rebound to test the September peak and then another decline to below the October low.

Economic Data

We don't normally devote any space to discussing the economic statistics reported by governments because the reported numbers are generally either totally bogus or backward-looking. For example, GDP numbers and so-called measures of inflation such as the CPI fall into the "totally bogus" category, while consumer sentiment and retail sales numbers may well be valid but tell you nothing about the future. However, the US monthly employment numbers reported last Friday warrant a brief mention.

Although the employment data say more about the past than the future and are subject to large errors/revisions, they are less distorted by monetary and fiscal stimulus than some of the other high-profile data. For example, positive GDP growth numbers can be concocted via the injection of new money even while the economy is shrinking, but it's difficult to show job growth where none exists. In other words, at a time when there is a lot of monetary inflation the picture painted by the employment numbers will likely be more accurate than that painted by the GDP numbers.

The September employment data showed that while the pace of deterioration continues to slow, the US economy is still haemorrhaging jobs. Moreover, it showed that the average work week fell from 33.1 hours to 33.0 hours, a new ALL-TIME low. This is significant because employers will almost certainly increase the hours of their existing workers before they start hiring new workers.

Some analysts have pointed out that the current employment situation is nowhere near as bad as it got during the 1930s, as if this were a reason for optimism. Well, the fact is that the US unemployment rate was 8.7% during 1930 (the first year of the Great Depression), versus 9.8% or 17.0% now (depending on whether discouraged and partly attached workers are counted). The current unemployment rate is therefore no cause for optimism. It should also be noted that the extraordinarily high (28%) unemployment rate reached at the peak of the 1930s depression was due to the government's efforts to prop-up wages and reduce production (the government deliberately set about reducing production based on the idiotic notion that less supply would lead to higher prices, and, therefore, a stronger economy). If similar policies are going to be implemented this time around then the unemployment rate is destined to move MUCH higher.

This week's important US economic events

Gold and the Dollar

Gold and Silver

As mentioned in last week's Interim Update, it looks like gold's price correction is complete and that a rise to new highs has begun. But even if this is not the case, we expect that any additional near-term weakness will be relatively minor and that December gold will hold above support at $974 on a daily closing basis.

Silver and gold will probably peak at the same time, so we are also monitoring silver for clues regarding gold's situation. One of the interesting things about the silver market is that it usually doesn't leave you guessing for long after an important peak has been put in place. What we mean is that silver usually reaches a peak and then immediately plunges. Furthermore, it typically reaches a peak via an almost-vertical advance. There was a sharp advance leading up to the September peak, but the ensuing decline has been steadier, to date, than would normally be the case if the peak had been of intermediate-term significance.

The following chart shows that silver is presently testing former resistance (now support) at $16. This support could provide the floor for the current correction, but for the short-term upward trend that began in July the more important support lies at $15. Silver needs to hold above $15.

The silver/gold ratio has turned downward over the past couple of weeks, which meshes with the idea that the stock market's post-crash rebound is over (silver usually trends lower relative to gold when the stock market is in an intermediate-term decline). The relationship between the silver/gold ratio and the broad stock market means that silver has considerably greater downside risk than gold, although if the stock market's topping process extends for many months -- a likely outcome, in our opinion -- then silver could at least hold its ground relative to gold for a while yet.

Gold Stocks

After solid up-days last Tuesday and Wednesday we weren't sure if the gold sector's correction had ended at a higher level than originally expected or there was additional downside in store. The HUI made a new low for the move on Friday, so it was obviously the latter.

If this is a routine short-term correction (our assumption) then it will probably end this week. Ideally, there will be some additional downside during the early part of the week -- enabling the HUI to test support in the low-380s and the HUI's RSI to drop to around 40 -- followed by an upward reversal.

The current positions of the premier gold royalty stocks (RGLD and FNV.TO) suggest that the gold sector is close to a correction low. This is the case because both stocks ended Friday's session just above the support ranges mentioned in the 28th September Weekly Update. A chart of FNV.TO is displayed below.

Also, in most cases the stocks of the major gold producers are nearing support levels that should limit their declines IF we are seeing normal corrections within on-going upward trends. For example, the following chart shows that Kinross Gold (KGC) ended last week near the top of a support range that extends from US$20.80 down to US$19.50.

Currency Market Update

After a market that has been trending upward for several months begins to decline, how can you tell in timely fashion if the decline is a routine correction to the upward trend or the start of a new downward trend?

In general, you can't tell for sure; but a warning signal that something of greater importance than a routine correction is underway would be the market doing something it hadn't done during previous routine corrections. For example, the euro experienced many minor setbacks as it trended upward over the past six months, but none of the setbacks since mid April have resulted in consecutive daily closes below the 50-day moving average. Therefore, a trader could reasonably operate on the assumption that the December euro's current decline is a routine pullback within a continuing upward trend unless it leads to consecutive daily closes below the 50-day moving average. As evidenced by the following daily chart, this moving average is presently at 1.44 and rising.

The daily chart inserted below shows that the December Canadian Dollar futures contract has been oscillating within a 4-point horizontal range over the past 2.5 months. A breakout from this range would project an additional 4-point move in the direction of the breakout.

Because the C$ was trending upward before it entered its horizontal range, the eventual breakout will more likely be to the upside than the downside.

As stated in recent TSI commentaries, we suspect that the downward trend in the US$ that began in March is nearing its end in terms of both time and price, but there is no evidence, yet, that a sustainable bottom is in place. The above charts, for example, indicate the potential for the euro and the C$ to rise to the low-1.50s and the high-0.90s, respectively, within the next couple of months.

Update on Stock Selections

(Note: 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)

Copper Fox (TSXV: CUU). Shares: 243M issued, 385M fully diluted. Recent price: C$0.11

In our 3rd June write-up of CUU, a tiny exploration-stage company with a huge copper/gold resource in British Columbia, we discussed the massive dilution that was about to occur as the result of an equity financing. Our suggestion at the time was that existing shareholders try to mitigate the extent to which their stakes were diluted by participating in the financing. We also stated that although the financing would bring about a huge increase in CUU's fully-diluted share count, the most important consideration was that the company's market cap would still be very low relative to the potential value of its Schaft Creek project.

There has since been some additional dilution, but including the funds that will be received from the exercising of warrants the company should now be fully financed through to the completion of the Schaft Creek Feasibility Study (FS).

Completion of the FS is a critical milestone because it starts the clock ticking on Teck's right to claw back a 75% stake in the project, leaving CUU with 23.35%. Specifically, Teck will have 120 days to exercise its back-in right after the FS is complete. To exercise this right in full, it must match 4-times CUU's expenditure on the project and arrange the financing required to take the project through to production. As far as we can tell, CUU will have spent at least $45M on the project by the time the FS is complete, meaning that Teck would have to fund the next $200M of expenditure in order to claw back 75% of the project. We'll call this Option 1.

Alternatively, Teck could decide not to exercise its back-in right, in which case CUU would end up with 93.4% of the project (Option 2). Or, Teck could decide to make a bid for CUU with the aim of taking the junior partner out of the picture (Option 3).

In our opinion, Option 1 would be best outcome for CUU shareholders whereas Option 2 would be the worst. Option 2 would be the worst outcome because there is no chance that CUU would be able to advance Schaft Creek to the next stage of development in the absence of a major partner. We think that Option 2 is also the least likely outcome.

We don't see a good reason to be short- or intermediate-term bullish on the copper market, but the performance of CUU's stock price over the next several months will be driven far more by speculation regarding the FS and Teck's subsequent decision than by changes in the copper price.

For patient risk-tolerant speculators, CUU is an interesting proposition at C$0.10-C$0.11. The reason is that the stock would probably trade at a multiple of its current price under either Option 1 or Option 3, whereas it would probably languish in the C$0.07-C$0.15 range under Option 2.

Technically, the stock has been building a base since late last year. A break above C$0.15 would project a move up to C$0.25-C$0.30.

Chart Sources

Charts appearing in today's commentary are courtesy of: