-- Weekly Market Update for the Week Commencing 12th March 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 rising interest-rate trend

Summary of current thinking/positioning

1) A number of markets are set up for trend reversals or accelerations, with the US$ being the linchpin. If the DX breaks out to the downside from its recent narrow range then rallies should begin or accelerate across the commodity world, with silver bullion and gold-mining stocks leading the way higher. However, if the DX breaks out to the upside from its recent range then the commodity world will have a downward bias for the ensuing two months.

2) More evidence has emerged that the US stock market's decline from its January peak was nothing more than a short-term correction. A test of the early-February low is still a realistic possibility for some stock indices, but the probability of a test will drop to almost zero unless the NDX negates last Friday's upside breakout this week.

3) Downward corrections in oil and copper will end by May, with the timing dependent upon what happens in the currency market. We've had March in mind for a correction low, but the turning point will be delayed if the DX breaks out to the upside.

4) Bond yields are in long-term upward trends and will move substantially higher before year-end, but the COT data warn that a multi-month counter-trend move may have begun.

5) Holding a cash reserve of 25%-30%.

The oil and copper corrections

The prices of oil and copper were expected to decline from January highs to March lows. This expectation was based on the extent to which these commodity markets were 'overbought' near the turn of the year and also on what we thought would happen in the currency and stock markets during the first quarter (US$ strength combined with stock market weakness will usually put downward pressure on the prices of industrial commodities). March lows are still possible, but depending on whether the Dollar Index breaks downward or upward from its recent range it's now more likely that either the correction lows occurred in February (if the US$ soon breaks downward) or the corrections will extend to May (if the US$ breaks upward).

For oil, there is a precarious COT situation (a huge speculative net-long position) counteracted by a physical supply/demand situation that remains bullish. The price action (see chart below) is neutral. Prior to last Friday it looked like the oil price was working its way to a new low for the year, but Friday's strong rebound from support at $60 muddied the waters.



The copper price also rebounded from near support on Friday (copper has important support at US$3.00-$3.05). For copper, the physical supply/demand situation is neutral and so is sentiment.

One way to interpret copper's price chart (see below) is that everything since the September-2017 top has been a type of "running correction". A normal downward correction involves lower highs and lower lows, but strong markets will sometimes 'correct' via a sequence of slightly higher highs and higher lows.

As mentioned above, important support lies at $3.00-$3.05. A daily close below $3.00 would warn that the price could drop as far as $2.50 prior to the correction coming to an end, whereas a daily close above $3.25 would indicate that the correction was over.

Depending on the timing of the US dollar's rebound peak, the copper price could trade at $4.00 by mid-year and should trade at $4.00 before year-end.



The Stock Market

On Friday 9th March the SPX closed above the level (2781) that we suggested as a stop for short-term bearish speculations.



More significantly, the NDX achieved a solid daily and weekly close above its January high. There's a risk that the signal will be negated within the next few days, but as things stand right now the NDX's breakout is conclusive evidence that the overall market correction ended on 9th February.



For other indices there is scant evidence that the correction is over. For example, the Dow Transportation Average has done no more, to date, than rebound to its 50-day MA.



For another example, the rebound in the EURO STOXX 50 Index (STOX5E) is yet to come close to the declining 50-day MA. Furthermore, the STOX5E didn't even come close to making a new 2-week high last Friday.



Whenever a market breaks through an obvious resistance or support level, as the NDX has just done, there will be a decent chance that the breakout is a misleading signal. However, it generally will make sense to assume that a breakout is genuine/sustainable until proved otherwise. Also, limits must be placed on any trades in leveraged ETFs/ETNs to prevent small or at least acceptable losses from becoming problematic. We have therefore removed the QID (UltraShort QQQ) trade from the TSI List and recorded a loss of about 12%.

We will consider reinstating the QID position if evidence emerges that last week's upside breakout was a 'fakeout'. A daily NDX close below 6900 sometime this week would constitute such evidence.

The other short-term bearish speculation in the TSI List is the Tesla (TSLA) April-2018 $250 put option. Despite last week's upside breakout in the NDX, TSLA still looks vulnerable. We will therefore give this position some additional time.

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

8-Year Cycle Update

As mentioned in previous commentaries (most recently in the 14th February Interim Update), if we apply some artistic licence and assume that gold's 8-year cycle bottomed in December-2016 then the price action following the latest cycle low has the most in common with the price action following the February-1985 cycle low. Also of relevance is that as was the case in the mid-1980s, gold is not currently in a bull market. It is, instead, immersed in what probably will turn out to be a 2-3 year rally within a bear market or long-term basing pattern.

The chart displayed below was previously part of our 14th February commentary. It shows what happened to the US$ gold price and the XAU for several months before and for about 2.5 years after the February-1985 cycle low. The main takeaway from this chart is that while the US$ gold price trended upward over the 2.5-year period following the February-1985 cycle low, it was a very different story for the gold-mining sector (as represented by the XAU). The gold-mining sector made new multi-year lows more than a year after gold had made its 8-year cycle low.

A major rally in the gold-mining sector didn't get underway until 17 months after the 8-year cycle low. It began when the gold price broke above its early-1986 high in July-August of that year.



The following chart shows the current cycle, with the HUI representing the gold-mining sector. As was the case in the mid-1980s, after briefly rallying with gold during the first 1-2 months of the current cycle the gold-mining sector has diverged bearishly from the bullion market.

If the similarities between the current cycle and 1985-1987 persist then the gold-mining sector will remain weak until the gold price breaks above resistance in the $1360s, at which point a huge catch-up move will get underway.



Note that if we take the comparison with 1985-1987 literally then a major gold-mining rally won't begin until 17 months after the December-2016 cycle low, which is May-2018. Although it's beginning to look like the intermediate-term bottom for the gold sector that was expected to occur in March will be delayed to May, the key point to bear in mind is that the start of a major gold-mining rally should coincide with gold making a new 12-month high regardless of whether the new 12-month high happens this month or May or some other time.

Current Market Situation

Many people have noticed that the chart pattern formed by the US$ gold price over the past 4.5 years has the look of a long-term base. As illustrated by the following weekly chart, the top of the base is around $1360.



A weekly close above the top of the base would have bullish implications for the months and possibly even the quarters ahead, although markets aren't so simple that you can reliably determine how far a price will move in the aftermath of a breakout by doing some basic measurements on a chart. To put it another way, if determining future price performance were as easy as taking a few measurements on a price chart then anyone capable of doing primary-school arithmetic could make a fortune in the financial markets. Consequently, the gold price targets that will get bandied about following an upside breakout and that are already getting bandied about in anticipation of an upside breakout should be viewed with a large dose of scepticism.

We expect that the US$ gold price will break upward from its long-term base within the next few months and that when it does it will set a fire under the gold-mining sector. However, right here and now the fundamental backdrop is gold-bearish and an upside breakout by the Dollar Index is possibly on the cards. It will therefore not surprise us to see the gold price dip into the $1250-$1300 range before commencing a rally that goes to new multi-year price highs.

Silver

Silver's Commitments of Traders (COT) situation is bullish, but not as bullish as it is being made out to be by some pundits.

If you consider only the net position of speculators in silver futures then you likely will conclude that silver's COT situation recently became as bullish as it has been in many years and that the start of a huge rally is imminent. However, if you take into account other aspects of the COT data you likely will not be so enthusiastic. The most important 'other aspect' is the open interest (OI).

Here is a chart showing, from top to bottom, the silver price, the net positions of traders in Comex silver futures and the OI. Referring to the middle section of the chart, the net positions of the different classes of trader reflect an unambiguously bullish situation because they suggest that speculative sentiment is near a pessimistic extreme. This is evidenced by the unusually low level of the commercial net-short position (indicated by the blue bars), which is the mathematical equivalent of the total speculative net-long position. However, the bottom section of the chart shows that OI is almost 200K contracts, which is in the top half of its 3-year range. This is important because near an intermediate-term price bottom the OI will tend to be near a multi-year low.



It's possible that the next intermediate-term silver rally will begin with OI closer to the top than the bottom of its 3-year range, but a much better rally setup than presently exists would be created by a decline in the OI to 160K contracts.

Based on the current COT situation and the performance of the silver market over the past four years, if a rally were to begin in the near future it probably would be limited by the top of the channel drawn on the following daily chart. That is, the $17.50-$18.00 range would be the most likely place for a multi-month top.



Gold Stocks

Today we'll take a look at the Gold Miners ETF (GDX). Whereas the HUI has made a series of marginally lower lows and has therefore had a slight downward bias over the past 12 months, GDX has traded within a horizontal range. The bottom of this range ($21) has been tested on six separate occasions, with the most recent test happening in the past fortnight. Here's the relevant daily chart:



When a lateral support level is tested as often as GDX has tested support at $21.00, an eventual downside breakout is likely. However, a downside breakout doesn't reliably indicate the extent of the ensuing weakness. In GDX's case, for example, a break below obvious lateral support at $21 could be followed by a 1-2 month decline to as low as $17, but there is an equal probability that the breakout will be followed within several days by an upward reversal and the launching of a strong multi-month rally.

If GDX breaks downward from its 12-month range then the most prudent initial assumption will be that significant additional weakness is in store, but the assumption should change if the breakout is negated within a short time by a rebound to above the breakout level ($21). A quickly-negated break below obvious intermediate-term support is a reliable bullish signal.

The Currency Market

The Dollar Index (DX) has now spent about 6 weeks oscillating between 88.5 and 90.5. We think that the direction of the breakout from this range will be the main determinant of what happens in the financial world over the coming few months.



We've thought that the most likely direction of the DX's breakout would be up. In fact, at this time last month our favoured scenario involved an upside breakout and a quick rally by the DX to a peak of around 92 well before the end of March. That could still happen, but due to the additional time spent inside the 88.5-90.5 range it is no longer the most likely outcome.

It's now more likely that an upside breakout would be followed by a longer and larger rally, with the DX potentially rising to 95 and not topping until May. If this were to happen it would delay an upside breakout in the US$ gold price and extend the downward corrections in the markets for gold mining shares, silver, platinum, oil and several other commodities. In a nut shell, the commodity-market strength that we expected during the second quarter would be delayed until the third quarter.

The DX's extended range-trading also raises the possibility that we are dealing with a 1-2 month flat consolidation prior to a resumption of the longer-term downward trend. That is, it raises the possibility that the DX won't go any higher than 90.5 before entering the next leg of its bear market.

Due to the lopsidedly-optimistic speculative sentiment evident in the euro's COT numbers we still think the odds are in favour of the DX's eventual breakout being to the upside, but the main point we want to make right now is that the DX's breakout direction will indicate the likely paths of several markets over the ensuing 2+ 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 9th March 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]

  *Alio Gold (ALO) updated the market on the progress of its exploration program at the Ana Paula gold project in Guerrero, Mexico.

The program has three parts. The first part is drilling six deep holes from surface to get a rough idea of the extent of the high-grade breccia mineralisation below the proposed open pit. The second part is about finding new deposits on the project's 56,000 hectare land package. The third part involves building a decline from the valley adjacent to the proposed open pit to enable extensive underground drilling of the below-pit breccia mineralisation.

Two of the six surface holes are complete and apparently intersected the below-pit breccia mineralisation as expected. Assays will be available before the end of this month. With regard to second part, two new breccia targets outcropping at surface have been identified within 1.5 km of the Ana Paula deposit. This is interesting, but sampling and drilling will be required to determine the significance. Lastly, construction of the decline is proceeding as planned and will continue for the next few months, enabling the underground drilling to commence during Q3.

  *Blackham Resources (BLK.AX) announced that it achieved a new record-high for production and a new record-low for production cost during the month February-2018. During the month the company produced 6.7K ounces of gold at an AISC of only A$912/oz (US$711/oz).

In reaction to this obviously good news, on Thursday 8th March the stock price gained 52% and about 340M shares changed hands. Even taking into account the recent explosion in the total share count due to the company's recapitalisation, this constitutes massive volume. It equates to about 27% of the company. Then, on Friday 9th March the trading volume was about 235M shares. This means that over the course of the final two days of last week about 46% of the company changed hands in reaction to nothing more than a monthly production update. Extraordinary!

In the 22nd January Weekly Update, we wrote:

"Making the assumption that the new recapitalisation plan is completed, we estimate that a BLK share has a fair valuation range of A$0.07-A$0.11. If the company achieves its guidance and there is no change in the A$-denominated gold price, then in a year from now the fair value will rise to A$0.13 due to the repayment of debt. Note that these figures don't allow anything for the project's expansion potential."

Thanks to last week's performance the BLK price is now in what we view as the fair valuation range, allowing nothing for the project's expansion potential. Our estimate of fair value will rise to A$0.13 at the current gold price if BLK achieves its 2018 production guidance or it becomes clear that the production guidance will be achieved, again allowing nothing for the project's expansion potential.

Participants in BLK's recent 0.04/share entitlement issue and buyers of the shares/options on the market when the stock was trading in the A$0.045-0.055 range during January-February now have sizable profits on their purchases and should be looking for an opportunity to take some money off the table. A good place to do some selling would be near the top of our 0.07-0.11 valuation range, but, as is often the case, the decision will depend to a large extent on personal money management considerations such as the amount of existing exposure to the stock.

For TSI record purposes, profits will be taken on the BLK options (ASX: BLKOA) if they trade at A$0.05 within the next two months.

  *Continental Gold (CNL.TO) published its financial report for the year ending 31st December 2017.

The report shows that at 31st December the company had working capital of US$69M, long-term debt of US$48M and undrawn credit of US$225M. It also shows that US$115M of the US$389M Buritica mine development budget had been spent, leaving a balance of up to $274M.

The company has available financing (working capital plus undrawn credit) of $294M. Although this should be enough to cover the remaining mine capex and working capital requirements, we expect that for risk management purposes a US$20M-$40M equity financing will be done within the next 12 months. It is important to have a cash cushion when starting production to manage the 'teething problems' that often occur.

Our CNL valuation is unchanged at C$5.30/share based on US$1300/oz for gold.

  *Euro Sun Mining (ESM.TO) advised that there has been another delay in the ratification, by the government of Romania, of the Mining Licence for the Rovina Valley gold-copper project. That's the bad news. The good news is that the government has published a schedule of the steps required to complete the ratification. This schedule shows the final step happening by 23rd March.

  *Cobalt 27 (KBLT.V) announced that it raised C$200M via a private equity placement at $11.40/share. Due to the placement being expanded in response to strong demand, this is $70M more than it initially planned to raise.

The strong demand is in part a reflection of the new shares being underpriced, but whether this is a good or bad deal for existing shareholders will depend mostly on the specific deals that are done with the money.

  *Petrus Resources (PRQ.TO) published its financial report for the year ending 31st December 2017.

In terms of both financial performance and stock-market performance, 2017 was a bad year for PRQ and for Canadian natgas producers in general. For PRQ the sorry tale of 2017 includes cash consumption of about C$25M (net debt increased by C$15M, from $131M to $146M, but the increase would have been $25M if not for a $10M equity financing) and a plunge in book value from C$5.58/share to C$3.08/share.

The main problem for PRQ and other Canadian NG producers is the very low NG price in Canada and the expectation that the NG price will remain very low for at least 1-2 more years. Refer to the article posted HERE for more info.

Due to the depressed market in Canada for natural gas, in 2018 PRQ will be prioritising its light oil drilling opportunities and moderating its growth. The company expects that this will enable net debt repayment of C$10M-$15M during the year.

Prioritising its light oil drilling opportunities and moderating its growth would have been the right course of action for 2017, but the right course of action is always obvious with the benefit of hindsight.

  *Ramelius Resources (RMS.AX) reported good results from infill drilling at both of its West Australian gold mines (Edna May and Mt Magnet). Both mines have short remaining lives based on current reserves, but exploration success should enable them to continue producing near current rates for many years to come.

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) ALK.AX (last Friday's closing price: A$0.31)

2) ALO (last Friday's closing price: US$2.49)

3) AOI.TO (last Friday's closing price: C$1.33)

4) PG.TO (last Friday's closing price: C$3.11)

5) XPL (last Friday's closing price: US$0.49)

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.

Potential addition to the TSI List: Columbus Gold (TSX: CGT). Shares: 159M issued, 161M fully diluted. Recent price: C$0.35.

CGT's principal asset is its 45% ownership of the Montagne d'Or (MDO) gold project in French Guiana. The remaining 55% of the project is owned by Nordgold, a mid-tier gold producer based in Russia.

According to the FS completed in early-2017, for a capital cost of US$361M the MDO project could be developed into a mine with average annual production of 237K ounces over 10 years. The FS estimated that at a gold price of US$1250/oz the mine would have an after-tax IRR and NPV(5%) of 18.7% and US$370M, resp.

The above-mentioned economics are solid without being impressive, but it's likely that the economics will be enhanced by adding reserves to the mine plan. Importantly, Nordgold clearly believes that the economics are good enough to justify building a mine because it has moved the project into the permitting and detailed engineering stage. The expectation is that all permits will be received by late-2019 and that mine construction will begin in early-2020. Therefore, unless it is taken over by its senior partner there's a good chance that within a few years CGT will have attributable production of about 100K ounces/year.

In our opinion, the current value of CGT's 45% stake in the MDO project is US$83M. This figure was arrived at by applying a 50% discount to the US$370M NPV noted above. It could be argued that a 50% discount is a little high for a project with a completed FS, but we think it is reasonable given the country, permitting and execution risks.

At the current C$/US$ exchange rate, a US$83M valuation for CGT's stake in the MDO project implies that CGT is worth C$0.67/share.

We first had a close look at CGT during the final quarter of last year. At that time we saw nothing to interest us because the shares were trading in the C$0.70s, which we thought was close to full value. Note that the company spun off its early-stage exploration projects to shareholders in January of this year via the listing of a company called Allegiant (AUAU.V), so full value was about C$0.10/share higher in Q4-2017 than it is today.

We are now interested because although the value of the MDO project hasn't changed, the price of CGT shares is much lower. As illustrated below, the price collapsed over the past two months and is now close to a 3-year low.



The distance between our estimate of fair value and the share price is now big enough to make CGT a candidate for new buying, but we are not ready to add the stock to the TSI List. The reason is that the company is out of money and will soon have to do an equity financing. CGT owns about C$2.5M of AUAU shares that could be sold to raise some cash, but this would be a stop-gap measure.

Nordgold will be paying all permitting, engineering and construction costs associated with development of the MDO project until 60 days after all permits are received, so CGT probably won't need a lot of money until H1-2020. However, we anticipate an equity financing of C$5M-$10M within the next few months.

Our plan, therefore, is to wait for either the financing announcement or a decline in the stock price to C$0.30 (whatever happens first) before adding CGT to the TSI List as an intermediate-term trade.

Summary of potential additions to the TSI List

For ease of reference, here is a table showing the potential additions to the TSI Stocks List that we've mentioned over the past few months. The table notes the price at which each stock would be automatically added (unless advised otherwise) and whether the stock would be a long-term position or a shorter-term trade.



Chart Sources

Charts appearing in today's commentary are courtesy of:

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