-- Weekly Market Update for the Week Commencing 11th June 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

The useless and dangerous "money velocity" concept

Summary of current thinking/positioning

1) The Dollar Index and the euro may have competed multi-month counter-trend moves (up for the DX, down for the euro), but more evidence is required to confirm this. In any case, it's likely that the euro's rebound from its late-May low will continue over the coming 1-2 months.

2) Gold's short-term outlook is 'up in the air', with a close above $1310 or below $1280 needed to signal the direction of the next significant move.

3) The SPX likely will make a new all-time high by July. The risk/reward is not bullish, though, because a move to well above the January high is unlikely and because there is a realistic chance of a large decline during the second half of 2018.

4) There is no evidence that the Swiss Franc has bottomed against the US$, but taking a 3-6 month view this currency's risk/reward looks very attractive. The senior commodity currencies (the A$ and the C$) also have attractive risk/reward ratios over this time period.

5) New lows in bond prices (new highs in bond yields) are likely before year-end, but the T-Bond price should have an upward bias over the coming 2-3 months.

6) Holding a cash reserve of around 30%.

Commodities

Copper at US$4 by September?

Last week the copper price broke out to the upside. If it now performs similarly to how it performed after previous breakouts over the past 2.5 years, it could reach the top of the channel drawn on the following chart by September. That implies a 3-month target of $3.80-$4.00.



However, the current COT situation constitutes a yellow warning flag. As illustrated by the following chart, the total speculative net-long position in Comex copper futures is almost as big as it was when the price was hitting a short-term top last September. If the total speculative net-long position gains another 10K contracts or so then the COT situation will constitute a red warning flag.



We think it makes sense to be short-term bullish on copper, but to be aware of the risk posed by a large speculative long position.

Note that a daily close below $3.20 would call into question the validity of last week's breakout, whereas 1-2 weeks of consolidation in the $3.20-$3.30 range would reduce the downside risk and potentially set the stage for another sharp rise.

Platinum nearing a breakout, most likely to the upside

From its December-2017 low of around $875/oz the platinum price surged to around $1030/oz within 6 weeks. It then spent about 15 weeks retracing the bulk of the $155 gain achieved by this 6-week rally.

It's a sign of strength that it took the platinum market 2.5-times longer to fall than to rise by the same amount. This suggests that the rise was in the direction of the trend and the fall was a correction. The choppiness of the decline from the January top supports this interpretation.

The idea that the decline from the January top was/is a correction obviously would be invalidated by a solid break below the December-2017 low, so the risk on a trading position bought near the current price could be managed by placing a daily closing stop at, say, $870.

A daily close above $930 would break the 'declining tops' pattern of the past 4 months and constitute evidence that a short-term bottom is in place.



It's also worth mentioning that based solely on net positioning, platinum's COT situation is now more bullish than it has been at any time over the past 9 years.

A new battery metals ETF

Prior to last week, investors wanting to obtain diversified exposure to battery-metals-related stocks via an ETF had only one option: the Global X Lithium & Battery Tech ETF (LIT). Although LIT has performed very well since bottoming in early-2016 (see chart below), its composition leaves a lot to be desired. For example, two of its top ten holdings are Panasonic Corp. (PCRFY), a general consumer electronics company, and Tesla (TSLA), a car manufacturer on the road to bankruptcy. However, investors now have a second ETF option.



The second option is the Amplify Advanced Battery Metals and Materials ETF (BATT). In terms of providing the sort of exposure we want to the EV 'megatrend', BATT's holdings are much better than LIT's holdings. In fact, the list of BATT's top-ten holdings includes two current TSI stock selections (CLQ.AX and KBLT.V).

Another difference between LIT and BATT is that LIT is a passive fund that tracks an index whereas BATT is actively managed. This could be a pro or a con for BATT, depending on the ability of its managers.

At this time BATT's main problem is its tiny size (its net asset value is only about $2M). This could result in the ETF being illiquid and difficult to trade, although with only three days of trading history to go on it is far too soon to draw any conclusions. In any case, we expect that BATT will grow quickly so liquidity shouldn't be an issue for long.

A good article about BATT, LIT and the EV trend was posted recently at Seeking Alpha. A comparison of BATT and LIT begins on page 5.

No surprises from the Fed

It's a virtual certainty that the Fed will hike its targeted interest rates by another 0.25% on Wednesday of this week. The new target range will be 1.75%-2.00%.

'Everyone' knows that the rate hike is coming, so there shouldn't be a significant market impact when it is announced. Everyone also knows that there won't be another Fed rate hike after this week until at least 26th September, because after this week the next FOMC meeting with a scheduled press conference will be held on 25-26 September.

Therefore, in terms of changes to official interest rates the Fed will be out of the picture for almost 3.5 months after this Wednesday. The Fed's quantitative tightening (QT) will continue in the background, though, and it's the QT that really matters.

The ramp-up of the QT program over the next few months is a good reason to be concerned that the Q1-2018 stock market plunge was just a 'shot across the bow'.

The Stock Market

QQQ, the ETF that tracks the NASDAQ100 Index, pulled back a little after making a new all-time high last Wednesday. It could experience more of a pullback, but there are no bearish divergences to suggest that a substantial decline is imminent.

Note that once QQQ makes a decisive break above the March-2018 high it won't encounter significant resistance until it reaches the top of the channel drawn on the following chart. A month from now the channel top will be at $185-$190.

We may well be interested in buying QQQ put options with about 6 months to expiry IF there is a surge to around $185 within the next few weeks.



There is a possible relationship between the US stock market and the Bitcoin price that we certainly aren't alone in noticing. We haven't mentioned it in TSI commentaries prior to now because it wasn't providing any clues about the future, but it could be worth paying attention to over the next few weeks. This is due to a divergence having developed that is similar to the divergence that developed prior to the January-2018 stock market peak.

The following chart compares the S&P500 Index (the red line) with the NYSE Bitcoin Index (the green line). The lines have very different scales (the Bitcoin price went up a lot more and then down a lot more), but they have generally moved in the same direction.

What's particularly interesting is the divergence that occurred during December-January, with Bitcoin turning downward in mid-December and the SPX not following suit until about 6 weeks later. A similar divergence has occurred over the past month, with Bitcoin trending downward since early-May and the SPX remaining in a short-term upward trend.

If the Bitcoin price were to take out its early-April low it would be a warning that a new short-term downward trend was about to get underway in the stock market.



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

Gold Sentiment

In the article posted HERE, Adrian Ash of bullionvault.com mentions several sentiment indicators that, taken together, suggest that the interest in owning gold is at a multi-year low.

Boredom is cited as a reason for this lack of interest. As stated in the article: "On a 3-month basis, gold prices this spring have moved in a narrower range than any time since the doldrums of the mid-1990s, a mere 3.6% high-to-low. Only the early 1990s and 1986 saw less action in gold since early 1971, back before the US abandoned the Gold Standard and its $35 per ounce peg per ounce."

Our primary indicator of gold sentiment is the Commitments of Traders (COT) report. Gold's COT situation became a little more constructive last week and remains slightly bullish.

Gold's COT situation improved last week due to a decline in open interest (OI) to around 450K contracts. OI is indicated by the green bars in the bottom section of the following chart. As is also the case with silver, important lows in the gold price tend to coincide with relatively low levels of OI in Comex futures.

The current level of OI and the total speculative net-position in Comex futures are now roughly the same as they were at the start of the 6-week rally that got underway in December-2017. Also, the OI is now similar to what it was near the start of a 2-month rally last July, although the total speculative net position is significantly larger now (meaning: less bullish) than it was then. However, the strongest rallies of the past four years (the ones that began in December-2015 and December-2016) didn't begin until the OI had dropped to around 400K contracts.



Sentiment is just one piece of the puzzle. Currently, sentiment taken in isolation suggests that we could be about to get a 1-2 month gold price rally, but not an intermediate-term rally. To set the sentiment scene for an intermediate-term rally there likely would have to be a price decline of sufficient magnitude to simultaneously reduce the total speculative net-long position to 50K contracts or less and push the OI down to around 400K contracts.

Current Market Situation

On 15th May the US$ gold price broke below lateral support at $1309 and its 200-day MA. It made some sort of bottom within a few days of this downside breakout and then quickly rebounded, but it hasn't been able to close back above $1309 or its 200-day MA. This differentiates the current situation from the short-lived breaks below the 200-day MA that occurred in July and December of last year.

Gold price volatility has reduced to almost nothing, with the daily closes staying within a $2 range over the past four days. This has undoubtedly added to the general lack of interest in gold discussed in the Adrian Ash article linked above.

Sentiment is supportive, but not in a decisive way, and the fundamental backdrop remains bearish, but likely to shift in gold's favour within the next two months if there is a sizable rebound in the T-Bond market. That leaves us with very little to go on aside from the price action.

The gold price must get back above its 200-day MA on a daily closing basis to warn that a short-term rally has begun, whereas a daily close below $1280 would warn of a decline to the $1240s or lower.



Silver

The US$ silver price showed tentative signs of strength last week and tested the top of its $16.10-$16.90 range on Thursday.

If the silver price manages to break above $16.90 in the near future then it will almost immediately encounter resistance in the form of an intermediate-term channel top at $17.20-$17.30, but if it breaks out from this channel then a quick move up to important lateral resistance near $18.50 probably will occur.



Sentiment in the silver market is not supportive at this time. At best, it is neutral. This suggests that a large silver rally is not about to begin. However, the potential exists for a $1-$2 surge to the mid-$18s. We will base any decision on the facts in real time, but if the silver price rises to the mid-$18s within the coming few weeks we likely will view it as a short-term selling opportunity.

Gold Stocks

On a daily closing basis, the HUI spent the past 34 trading days between 176.9 and 182.4 and the past 4 trading days between 178.64 and 178.88. Therefore, in effect it didn't move at all during the past 4 trading days and barely moved over the past 1.5 months.



Due to the near total lack of movement, nothing changed during the final two trading days of last week and the following comments from the latest Interim Update remain applicable:

"The [HUI's] 8-week downward drift looks like a consolidation within a short-term upward trend. If this is the correct interpretation then within the next few weeks the HUI should break out to the upside and quickly move up to 190-200.

A quick move up to 190-200 by the HUI obviously would be good for our gold-mining shares for a short time. However, a rally that gets underway prior to a wash-out decline would have a high risk of being just another rebound within the 17-months-and-counting downward drift ..."

The Currency Market

Relative Currency Valuation

Below is a visual representation of Deutsche Bank's Cap-PPP currency valuation model. It comes from the article linked HERE.



According to the above-linked article:

"By combining its capital-based valuation and trade-based PPP (purchasing power parity) models together, Deutsche says it provides a more complete picture of valuations, using weights that reflect the relative importance of capital and trade flows for each currency.

It believes the model has "significant predictive power for FX, both in terms of directional accuracy and the magnitude of moves, especially over longer-term horizons"."

And:

"Based on the latest valuation snapshot in May, the Chinese yuan is deemed to be the most expensive currency of all those tracked by Deutsche, edging out the Thai Baht, South Korean won and Czech Republic koruna.

At the other end of the spectrum, the Turkish lira, Mexican peso and Colombian peso were deemed to be the cheapest currencies last month.

Of the majors, the New Zealand dollar is the clear standout in terms of overvaluation at present. The US dollar, euro and Singapore dollar are also seen to be on the expensive side of the ledger.

In contrast, the Swedish krona, Canadian dollar, British pound, Norwegian krone, Swiss franc and Australian dollar are all deemed to be cheap based on current ranking order."

Coincidentally, DB's model is consistent with our current views, in that we happen to be bullish on three of the most under-valued currencies (the Australian dollar, the Canadian dollar and the Swiss franc). However, our bullish outlooks for these currencies are based on inter-market relationships and/or sentiment rather than relative valuation.

Current Market Situation

Over the past two weeks the yield on Italy's 2-year government bond has gone from 0.3% up to 2.9% down to 0.7% up to 1.8% and back down to last Friday's close at 1.45%. Refer to the following chart for details. This constitutes extraordinary volatility for a bond issued by the government of the euro zone's 3rd largest economy. Moreover, as recently as 15th May the yield-to-maturity on this bond was negative, meaning that 'investors' at that time were acting as if Italian government debt was safer and better than gold.



The panicked selling of Italian government bonds late last month prompted a flight from the euro to other currencies, most notably the Swiss franc, the Yen and the US$. This pushed the euro/US$ rate below critical support at 1.156, but the short-lived breach of this critical support marked at least a multi-week bottom. The euro has since rebounded.



Fundamental factors and sentiment suggest that the euro's current rebound will be followed by a decline to below the May-2018 low, which would imply that the euro's 2017 rally happened within the context of an on-going bear market and that an eventual decline to a new 10-year low is on the cards. However, inter-market considerations, chief among them being the bullish outlook for commodities, suggest that the euro's recent sharp pullback was a correction within a cyclical advance.

The euro won't encounter significant resistance until it hits 1.20. Regardless of the longer-term prospects, we expect the euro to make it back to around 1.20 within the next couple of months.

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 8th June 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%, NSR = Net Smelter Return, P&P = Proven and Probable, PEA = Preliminary Economic Assessment, PFS = Pre-Feasibility Study]

  *Alkane Resources (ALK.AX) owns the Dubbo 'specialty metals' Project and the Tomingley Gold Operation (TGO). Last Monday, the same day that the results of the Dubbo Project's updated engineering and financial study were released (refer to last week's Interim Update for the related discussion), the company released the results of a preliminary study on the TGO's underground potential (current production is from an open pit).

According to the engineering work completed to date, there is the potential to recover about 100K ounces of gold via underground development over a 40-month period. This means that underground mining could contribute about 30K ounces/year for a little more than three years. This is significant given that current production is about 70K ounces/year, but it is expected to cost A$16M to access the underground ore and the cash costs of extracting the ore are estimated to be quite high at A$1150-A$1250/oz. This suggests to us that the underground development as presently envisaged has a low NPV and IRR.

It's certainly possible that additional exploration and engineering work will enable the development of a profitable underground mine at the TGO, but at this time the TGO's underground potential doesn't move the needle on our ALK valuation.

  *Clean TeQ Holdings (CLQ.AX, CLQ.TO) advised that it received a cash payment of approximately A$4.8M from the Australian Tax Office (ATO), representing the refundable tax offset available under the Research and Development (R&D) Tax Incentive for FY17.

This is obviously good news, but for a company with a market cap of A$770M and cash of A$160M it isn't significant.

  *Nevsun Resources (NSU) has received a revised takeover bid from the LUN-ESM partnership. The total bid price is the same (C$5.00/share), but the Euro Sun Mining (ESM.TO) portion of the bid has changed from being 100% stock to being 50% cash plus 50% stock. This increases the attractiveness of the overall bid, but the bid still has little chance of being successful.

In any case, the initial resource estimate for the Timok Lower Zone (TLZ) is due to be released within the next three weeks and it will make no sense for NSU's management to do any deal for the sale of the company until the details of this estimate are known. In particular, Lundin's portion of the overall bid will look woefully inadequate if the initial TLZ resource estimate adds a few billion pounds of copper to NSU's below-ground inventory.

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) AAU (last Friday's closing price: US$0.75)

2) CLQ.AX or CLQ.TO (last Friday's closing price: A$1.04)

3) EGD.V (last Friday's closing price: C$0.38)

4) GRG.V (last Friday's closing price: C$0.43)

5) KBLT.V (last Friday's closing price: C$11.62)

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.

New TSI Stock Selection: Tinka Resources (TSXV: TK). Shares: 260M issued, 307M fully diluted. Recent price: C$0.42

TK is an exploration-stage zinc miner operating in central Peru. Its flagship asset is the 100%-owned Ayawilca project.

The Ayawilca project has both size and grade going for it. The current Inferred resource estimate, which was completed in November-2017, is 42.7M tonnes grading 6% zinc or 7.3% zinc-equivalent (ZnEq). This implies 5.6 billion pounds of zinc. There is also a separate Inferred resource comprising 145M pounds of tin.

The current zinc resource is spread across the South, Central, East and West zones. Refer to the following map from the Tinka website for additional information.



Step-out drilling by TK is continuing to hit wide intercepts of high-grade zinc outside the boundaries of the existing resource. This guarantees that the already-large resource will grow.

TK recently raised C$8M at C$0.48/share, so the shares are presently trading at a sizable discount to the latest financing. Furthermore, the following chart shows that the latest financing was a long way below last November's high. This performance reflects a general decline in the enthusiasm for zinc stocks rather than anything specific to TK. The stocks of most zinc-focused mining juniors have performed very poorly in 2018, but that's good news for those who are looking to buy.

By the way, although TK made a new multi-year high in November-2017, for all intents and purposes the stock has been in correction mode since early-April of 2017, that is, for about 14 months.



We estimate that TK has about C$11M cash at this time. It has been consuming cash at the rate of about C$2.5M per quarter, so the current reserve should be enough to fund the company's activities for another 12 months. Therefore, we don't expect another equity financing this year.

Ayawilca has the size, the grade and the location to be of interest to a major mining company. As a result, there's a decent chance that TK will attract a takeover bid at some point. However, we wouldn't buy the stock today in anticipation of a takeover. Ideally, the takeover bid will come after the company has defined a larger resource and the market has assigned a much higher value to the project. We would buy TK today simply because near its current price it offers relatively low-risk (as far as these types of stocks go) exposure to a metal that stands a good chance of remaining in an upward trend for another 1-2 years.

With its current market cap of C$109M, TK doesn't look as cheap as former TSI stock Solitario Zinc (XPL, SLR.TO). However, we expect that TK will generate more market-moving news and enthusiasm than XPL once the tide of stock-market speculation turns back in zinc's favour.

TK plans to commence a PEA during the second half of this year and once it is complete the PEA will provide the first glimpse at Ayawilca's economics. Until then it will not be possible for us to value the stock. It is a pure speculation. It's simply the case that the size, grade and location of the resource suggests the potential for the Ayawilca project to be worth a multiple of TK's present market value.

Congo Risk

Governments throughout the world break agreements and change the rules whenever it suits them in order to increase their revenues or score political points. One of this year's examples is the implementation of a new mining code by the government of the Democratic Republic of Congo (DRC). The new code, which was signed into law last Friday without any concessions to industry demands, overrides existing agreements with mining companies and will greatly increase the cost of operating a mine in the DRC.

Among other things, the new code scraps 10-year protections for existing projects against changes to the fiscal regime, imposes a windfall profits tax and increases royalties. Specifically:

1) Royalties are being increased from 2% to 3.5% for non-ferrous and base metals and from 2.5% to 3.5% for precious metals, calculated on the gross market value of the products.

2) A special 10% royalty will apply to minerals deemed by the State to be "strategic substances". The list of "strategic substances" likely will include cobalt.

3) A special 50% tax will apply on excess profits, defined as profits made when a commodity exceeds by 25% the price used in the feasibility study.

Of the new regulations, the 50% tax on windfall profits is the biggest problem. Mining is a boom-bust industry, with huge profits generated during the booms and huge losses generated during the busts. Take away the opportunity to make the so-called "windfall" profits during the boom times and the business no longer makes economic sense.

Chart Sources

Charts appearing in today's commentary are courtesy of:

http://stockcharts.com/index.html
http://www.goldchartsrus.com/
http://www.investing.com/