-- Weekly Market Update for the Week Commencing 8th January 2018

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.

The BULL market in US Treasury Bonds that began in the early 1980s ended in mid-2016, but there will be many years of topping action in bond prices and bottoming action in bond yields before major new trends get underway. A major decline in government bond prices will unfold during the 2020s. (Last update: 11 September 2017)

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.), gold-denominated prices and inflation-adjusted prices. This secular trend will bottom in 2020 or later. (Last update: 11 September 2017)

A cyclical BEAR market in the US Dollar began in 2016-2017. (Last update: 11 September 2017)

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 in 2020 or later. (Last update: 11 September 2017)

Commodities, as represented by the CRB Index, 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 2020 or later. (Last update: 11 September 2017)

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True Fundamentals Summary [Notes: 1) The date shown next to the current True Fundamentals Model (TFM) signal is when the most recent change occurred. 2) Charts of the Gold and Equity TFMs are included in the "Charts and Indicators" section of the TSI web site]

Last week's posts at the TSI Blog

You can bet on the continuing popularity of superficial economics

Summary of current thinking/positioning

1) Expecting that gold will test its 2016 high of US$1377 during the first half of 2018 (possibly as soon as next month).

2) Expecting a tradable US stock-market correction to begin soon and planning to add a bearish position in the form of QID and/or QQQ puts to the TSI List after a downward reversal in the market.

3) Thinking that industrial commodities such as oil and copper have made or are close to making short-term highs.

4) Thinking that the Dollar Index (DX) has resumed its longer-term downward trend, but expecting a multi-week DX rebound to begin soon.

5) Thinking that the T-Bond has almost completed an intermediate-term topping pattern within the context of a long-term topping pattern.

6) Holding a cash reserve of about 25% and looking for opportunities to boost this reserve to 30%-35%.

Yearly Forecast

We do not believe that annual forecasts add value. What matters is real-time analysis of the situation over the course of a year, not a snapshot taken at a particular time each year. However, doing an annual forecast near the start of each year is a financial-industry tradition that we follow, despite our misgivings.

Our 2018 forecasts will be provided in commentaries over the coming week or so.

Random predictions about the year ahead

1) In 2017 the US stock market's lack of volatility was record breaking. As noted last week, this is evidenced by the SPX's average daily change in 2017 being the smallest since 1964, the absence during 2017 of a single trading day with an SPX gain of more than 1.4%, and the fact that the SPX is immersed in its longest stretch ever (14 months and counting) without a peak-to-trough decline of more than 3%.

In the financial markets, extremes in one direction are often followed by extremes in the opposite direction. Also, a lot of computer-generated trading is predicated on the continuation of the low-volatility environment. This creates the potential for an increase in volatility to become self-reinforcing at some point, with rising volatility leading to the automatic selling of stocks, resulting in a further rise in volatility, and so on.

Therefore, the US stock market is set to experience greater-than-average volatility this year.

2) When attempting to predict when a period of economic growth will end it is futile to look more than 6 months into the future, because there are no leading recession indicators that can predict that far ahead with acceptable reliability. There are, however, leading indicators that can be used to determine the probability of a recession beginning within the next several months. The current situations of these indicators result in the following prediction:

The US economy will not commence an official recession during the first half of this year.

3) It is yet to be confirmed by the price action, but it's a good bet that the Bitcoin bubble reached its maximum level of inflation late last year. Also, the broader bubble in cryptoassets is set to burst during the first quarter of this year.

We doubt that there will be a specific catalyst for the bursting of the bubble, just a spreading realisation that these digital tokens have unlimited supply, no sustainable value and no chance of ever garnering widespread use as media of exchange.

By the end of 2018 it will be apparent that the public's enthusiasm for Bitcoin and the "alt-coins" was one of history's great speculative manias.

4) Despite spectacular collapses in the prices of the popular 'cryptoassets' during 2018, central banks including the Fed and the ECB will firm-up plans to introduce their own blockchain-based currencies. This will be driven by a desire to eliminate physical cash, the thinking being that if there is no physical money it will be more difficult for the average person to make/receive unreported payments and escape a negative interest rate.

5) Due to rising commodity prices it's a good bet that "price inflation" will become a higher-profile issue during the first half of 2018, prompting the Fed to move ahead with its quantitative tightening (QT) and make two more rate hikes. However, both the QT and the rate-hiking will be put on hold during the second half of the year in reaction to increasing downside volatility in the stock market.

Commodities

The platinum price confirms an intermediate-term bottom

False breakouts are more reliable than breakouts. For example, a break below an obvious and important lateral support level that is quickly reversed is a more reliably-bullish signal than an upside breakout.

Over the past two months the financial markets have been replete with false downside breakouts. The ones previously mentioned at TSI involved the euro, the US$ copper price, the HUI and the natural gas price. However, the performance of the US$ platinum price is perhaps the most significant of all the recent false downside breakouts.

During the first half of December the platinum price broke below lateral support in the $890s. This opened up the possibility that the January-2016 low near $800 would be tested prior to an intermediate-term bottom being put in place, with January-2018 being the most likely time for such a test. However, a few days after the downside breakout the market reversed direction.

The platinum price has risen on 14 of the past 15 trading days and in the process has broken above short-term resistance defined by its November-2017 high. It is now 'overbought' and likely to correct, but this strongly suggests that an intermediate-term bottom was put in place in December.



The oil price reaches long-term resistance

A week ago we wrote that the term structure in the oil futures market (the only fundamental indicator that matters) was bullish. We also wrote that the net speculative long position in oil futures was larger than it had ever been, that the market was short-term 'overbought' and that the price was within $2 of intermediate-term resistance defined by the 2015 peak.

A week later and not much has changed except that the price has risen to test the aforementioned resistance.



Due to the bullish fundamental situation we still aren't tempted to bet against oil, although there is now a high risk of a multi-month top being put in place in January.

A copper consolidation

The US$ copper price completed an extraordinary run of 16 consecutive up-days at the end of the week before last. It has since pulled back a little.



As is the case with oil, the COT numbers for copper indicate an optimistic extreme on the part of speculators. This is illustrated by the following weekly chart.

We are most interested in the blue bars in the middle section of the following chart. These bars indicate the net commercial position in copper futures, which is the mathematical inverse of the total net speculative position in copper futures. The fact that the commercials now have their largest-ever net-short position means that speculators now have their largest-ever net-long position. It's the positioning of speculators that matters, because commercial traders generally don't bet on price direction.



As is also the case with oil, the term structure in the copper futures market is bullish. That is, the fundamental backdrop is supportive.

We expect that the copper price will go on to make new multi-year highs during the first half of this year. There's even a realistic chance of copper trading with a '4 handle' before mid-year. However, additional short-term corrective activity is likely.

The Stock Market

Marijuana Stocks

There were huge run-ups in the prices of most marijuana-related stocks during the second half of last year and the first few trading days of this year. This is illustrated by the performance of the Horizons Marijuana ETF (HMLSF), which traded as low as US$6 last June and as high as US$19 on Wednesday 3rd January (refer to the following chart for details). There was then a plunge on Thursday 4th January in reaction to a decision by US Attorney General Jeff Sessions to rescind the "Cole Memo", a set of Obama Administration guidelines that encouraged federal prosecutors to treat marijuana sales and consumption as a state issue. However, there is little chance that the stupidity and maliciousness of Jeff Sessions will be able to slow the growth of the marijuana industry. One reason is that the industry will become an important source of revenue for state governments. Another reason is that with the proportion of the US voting population in favour of marijuana legalisation at 64% and rising, a federal crackdown on the industry would constitute political suicide for the associated politicians. So, should we be looking for opportunities to invest in this industry via the stock market?



Perhaps, but it is yet another stock-market bubble. Marijuana production is essentially a low-margin commodity business deserving of a relatively low valuation, but most marijuana-related stocks now have extremely high valuations. Therefore, buying these stocks should not be called investing; it should be called betting on future sentiment. As long as the industry continues to grow rapidly and market participants fixate on this growth while ignoring the realistic earnings potential of the companies involved, the bull market could continue.

Although the downward price-spike prompted by Jeff Sessions' burst of idiocy was largely retraced on Friday, there's a high risk that the marijuana sector will soon commence a substantial correction. This is partly because the sector has just experienced what appears to be an upside blow-off and partly because the speculation in this sector would be interrupted by weakness in the broad stock market.

A substantial correction may create a new speculative buying opportunity.

Due to participation in private placements, own account has positions in two companies involved in medical marijuana. One of these companies is still private, but the other one began trading in Canada on 29th December 2017. The newly-listed company is Fincanna Capital (CSE: CALI). It is a royalty company for the licensed medical cannabis industry and, as such, provides financing to producers of medical marijuana in exchange for a percentage of the revenue. It has 66M shares outstanding, which means that the market cap is about C$63M at Friday's closing price of C$0.95.

CALI would be a reasonable speculation if it were to move closer to the C$0.50/share price of its most recent financing, but we have no plan to add it or the stock of any other marijuana-related company to the TSI List. We may, however, add a trading position in an ETF such as HMLSF if/when there is a big improvement in the short-term risk/reward.

Metals and Mining Stocks

The SPDR Metals and Mining ETF (XME) is strongly influenced by the stocks of steel producers. The steel sector has been 'on a tear' over the past several weeks, helping XME to rocket upward. Based on the weekly RSI shown at the bottom of the following chart, it is now as 'overbought' as it ever gets.



We suspect that the momentum peak -- as indicated by the weekly RSI -- has just been put in place or will occur this week. Based on XME's performance following similar momentum peaks over the past 10 years, what we can reasonably expect from here is either a) a sharp correction lasting at least 3 weeks followed by a surge to a new high for the year, or b) a choppy 3-4 month extension of the upward trend to an intermediate-term top (likely the top for the year).

The Broad Market

We were anticipating an NDX spike to a new high during the first week of the year that potentially would complete the short-term upward trend and set the stage for a sizable correction. We got the surge to a new high, but there hasn't yet been any sign of weakness and the market ended last Friday near its high after rising on each of last week's four trading days.



Also worth mentioning is that after generating a bearish signal by breaking out to the downside in late-December, the EURO STOXX 50 Index (STOX5E), Europe's equivalent of the Dow Industrials Index, reversed course last week and added to the rapidly-growing list of false breakdowns. It is still well below its November peak, but the recent bearish signal has been negated.



In last week's Interim Update we wrote that for our own account an initial position had been taken on Wednesday 3rd January in the QQQ (NDX Trust) April-2018 $150 put options, as much to hedge our exposure to non-gold stocks as to bet on an NDX decline. We also hold some April-2018 Tesla (TSLA) put options purchased in mid-December. However, we won't add a new bearish speculation to the TSI List or increase the NDX put-option position in our own account until there is a downward reversal in the market.

After a downward reversal, risk management will become more straightforward. This is because it will then make sense to limit the risk of loss by placing a protective stop slightly above the recent high.

Everybody's Bullish!

About three weeks ago we noted that our put/call indicator was close to generating a rare sell signal. Getting such a signal requires that the put/call situation simultaneously indicate a high level of optimism on the part of the general public (the relatively dumb money) and a high level of concern about downside risk on the part of professional hedgers (the relatively smart money). The signal never happened.

Currently, the put/call situation shows complacency/optimism on the parts of both the dumb money and the smart money. That is, at the moment hardly anyone perceives a high risk of a large stock market decline.

In addition, some well-known bears have said that they expect a melt-up to precede the start of a major decline.

It therefore seems that everybody is bullish, at least with regard to the market's prospects over the next several months. What could possibly go wrong?

This week's significant US economic events [Notes: 1) The most important events (to the markets) are shown in bold. 2) A list of global economic events can be found HERE]

Gold and the Dollar

Gold

The US$ gold price only gained 1% last week, but it closed higher on every trading day. It has now risen for 11 days in a row and on 15 of the past 16 days. Needless to say, it is 'overbought' on a short-term basis.

Thanks to a 50K-contract increase in the speculative net-long position in Comex gold futures over the past fortnight, sentiment can no longer be described as supportive for gold. However, it has not yet become a head-wind. The fundamental backdrop is slightly bullish, but as mentioned a week ago it will remain vulnerable to being 'whipsawed' until interest rates and interest-rate spreads begin to trend in one direction or the other.

With both the 50-day and 20-day MAs about to move above $1280 and with the 20-day MA about to cross from below to above the 50-day MA (refer to the following daily chart for details), it's now likely that the next correction in the gold price will hold in the $1280s or higher. Also, the 20-day MA is beginning to rise at a brisk pace and should become useful for risk management purposes within the next two weeks. Specifically, once the 20-day MA has moved closer to the current price it will make sense to use a daily close below this MA as a signal that the short-term upward trend has ended.



Gold Stocks

The gold price continued upward until the end of last week whereas the HUI reached its peak for the week on Tuesday 2nd January. That is, the HUI didn't confirm the new multi-month highs achieved by gold bullion during the final three days of last week. This is a very minor non-confirmation that could be eliminated as soon as Monday 8th January, but with both gold and the gold-mining indices a little stretched to the upside on a short-term basis it should be viewed as a warning.

At this point a 1-2 week correction that took the HUI down to 185-190 would be healthy and normal.



As mentioned last week, we think that the HUI has the potential to test its 2016 high during the first half of this year. However, we will maintain a shorter-term focus than usual until the fundamental backdrop becomes more clear-cut.

We presently expect additional gains in the gold-mining indices over the coming month or so, with a 1-2 week interruption to the rally beginning very soon.

The Currency Market

Sentiment Extremes

As noted in a TSI commentary at the time, speculators in currency futures, as a group, flipped from net-long to net-short the Australian dollar three weeks ago. Based on the historical relationship between the COT numbers and the A$'s performance, this meant that the sentiment backdrop had become a tail-wind for the A$ and suggested that a short-term bottom was close or already in place.

Since then, the A$ has worked its way upward with no significant change in the COT situation. As illustrated below, the total speculative position was roughly the same in last week's COT report as it was two weeks earlier.

This is bullish. The higher the A$ can go without prompting aggressive speculative buying, the higher it will go before making an important top. A 1-3 week correction may begin soon, but the stage remains set for the A$ to make a new multi-year high during the first half of 2018.



Euro sentiment, on the other hand, is anything but supportive. Speculators, as a group, have accumulated a record-high net long position and a record-high gross long position in euro futures.



The interest-rate differential is very close to a confirmed shift in the euro's favour and the price action suggests that the euro will make additional headway before it reaches an intermediate-term top, but the COT data warn that a significant short-term correction is about to begin.

Current Market Situation

When we wrote last week's Interim Update the euro had just tested resistance defined by its September-2017 peak. It continued to test this resistance over the remainder of the week.



A euro correction is coming and taking into account the COT situation it could be significant. We perceive short-term downside potential to 1.15-1.16.

This assumes that a correction begins prior to a break above resistance at 1.21. However, if the euro is able to close above 1.21 on consecutive trading days then the 50-day MA could limit the downside during the ensuing correction.

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 ending Friday 5th January 2018:

[Note: AISC = All-In Sustaining Cost, FS = Feasibility Study, FY = Financial Year, IRR = Internal Rate of Return, ISR = In-Situ Recovery, 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]

  *Blackham Resources (BLK.AX) remains voluntarily suspended from trading on the ASX. It now expects to remain suspended until 15th January, when the details of a new recapitalisation plan involving a revised debt refinancing and entitlement issue will be announced. The new recapitalisation plan replaces the earlier plan announced in November, which involved Pacific Road Capital (PRC) making a large financial commitment to BLK via the combination of debt and equity. It has not been explained how/why PRC was able to withdraw its commitment at the last minute without any legal ramifications.

Included in the new plan will be a $36M entitlement offer. Considering the current stock price and the fact that entitlement offers are always priced well below the market to ensure widespread support, this will result in massive dilution of the company's per-share value.

If the latest funding plan comes to fruition then the company will be in a much healthier financial position, but at a huge cost.

On the production front, BLK reported another disappointing result for the December quarter. Production during the quarter was 13.7K ounces, which is well below what it needs to be to make the company profitable. There was, however, some good news in the production update. Late in the year the company completed the stripping of waste material and accessed higher-grade ore in the open pit, enabling much greater production (8K ounces) and lower production costs during the month of December. Moreover, the higher production rate and lower costs are expected to continue over the coming two quarters and beyond. If so then BLK stands a good chance of being strongly cash-flow positive in 2018.

  *Premier Gold (PG.TO) announced the highlights of recent drilling at its Mercedes gold mine in Mexico. The drilling was designed to expand the high-grade resource near existing infrastructure. Some very impressive intercepts were reported, including 3.05m of 226-g/t gold.

The results of this drilling will be incorporated into an updated resource estimate expected in Q1-2018.

  *Sandfire Resources (SFR.AX), a mid-tier Australian copper producer, has been a frustrating stock since its addition to the TSI List last February. The company's mine performed well and the copper price cooperated, but the stock price chopped around aimlessly.

Last week the stock finally came to life and broke out from a basing pattern that had been five years in the making. The breakout suggests a target of A$10.00. The stock's valuation also suggests the potential for a move up to around A$10.

Breakouts are often tested, so a pullback to around A$7.00 would be normal. Such a pullback would create a new buying opportunity.



List of candidates for new buying

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

1) AOI.TO in the low-C$1.50s (last Friday's closing price: C$1.59)

2) ALK.AX (last Friday's closing price: A$0.34)

3) EGD.V (last Friday's closing price: C$0.34)

4) NSU (last Friday's closing price: US$2.48)

5) PG.TO (last Friday's closing price: C$3.58)

The above list is limited to five stocks. It will sometimes contain less than five, but it will never contain more than five regardless of how many stocks are attractively priced for new buying.

Chart Sources

Charts appearing in today's commentary are courtesy of:

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