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 2013. In real (gold) terms, bonds commenced a secular BEAR market in 2001 that will continue until 2014-2020. (Last update: 23 January 2012)

The stock market, as represented by the S&P500 Index, commenced a secular BEAR market during the first quarter of 2000, where "secular bear market" is defined as a long-term downward trend in valuations (P/E ratios, etc.) and gold-denominated prices. This secular trend will bottom sometime between 2014 and 2020. (Last update: 22 October 2007)

A secular BEAR market in the Dollar began during the final quarter of 2000 and ended in July of 2008. This secular bear market will be followed by a multi-year period of range trading. (Last update: 09 February 2009)

Gold commenced a secular bull market relative to all fiat currencies, the CRB Index, bonds and most stock market indices during 1999-2001. This secular trend will peak sometime between 2014 and 2020. (Last update: 22 October 2007)

Commodities, as represented by the Continuous Commodity Index (CCI), commenced a secular BULL market in 2001 in nominal dollar terms. The first major upward leg in this bull market ended during the first half of 2008, but a long-term peak won't occur until 2014-2020. In real (gold) terms, commodities commenced a secular BEAR market in 2001 that will continue until 2014-2020. (Last update: 09 February 2009)

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Outlook Summary

Employment and Investment

The monthly US employment report published last Friday showed much weaker-than-expected jobs growth. Although this prompted some moves in market prices, it doesn't tell us anything about how the US economy is currently performing and, more importantly, it doesn't tell us anything about how the US economy is likely to perform in the future. The reason is that employment is very much a lagging indicator. In fact, employment never turns lower until after coincident indicators confirm that a recession has begun. Since a recession hasn't yet begun, there will almost certainly be some improvement in the jobs data over the next few months.

Most investors are aware that the monthly change in the number of jobs is not a useful economic indicator, but market participants pay a lot of attention to the jobs number because the Fed's monetary policy is influenced by this number. It's strange that the Fed pays so much attention to a lagging indicator when determining policy, but, then again, the entire concept of a central bank is nonsensical.

The following chart compares total non-farm US employment (the red line), a lagging economic indicator, with gross real private sector investment (the blue line), the most reliable leading US economic indicator we know of. The shaded areas are the official recessions. Whereas employment never turns downward until after a recession gets underway, recessions never get underway until after gross real private sector investment makes a decisive turn to the downside. Investment made a new high for the move last month, so it's a good bet that the start of the next US recession is still at least several months away.

 

The Stock Market

Most stock indices drifted sideways over the first several trading days of the year and nothing overtly bearish has happened. However, we have downgraded our short-term outlook to bearish, because:

1) The senior US and European stock indices are 'overbought'.

2) The positive seasonal force (the Xmas-NY seasonal tailwind) has come to an end.

3) Sentiment is extremely optimistic.

Note that we are making a conscious effort to change our short-term market views on all the major financial markets more quickly in response to changes in price action, momentum and other short-term indicators. This should prevent us from staying 'off side' for long when the market begins to trend counter to our expectations, but it will also cause us to be 'whipsawed' more often.

The TSX Venture Exchange Composite Index (CDNX) is one equity index that has separated from the pack and made a significant move since the beginning of the year. The CDNX's rebound doesn't yet look like much, but this is the first rebound since H1-2011 that has taken the index above its 200-day MA (the red line on the following chart). This is a bullish omen for small-cap Canadian resource stocks. It is evidence that an intermediate-term upward trend has begun.

If the CDNX has commenced an intermediate-term advance then corrections from now on should hold above the 90-day MA (the blue line on the following chart).

This week's important US economic events

Gold and the Dollar

Gold

Gold Market Manipulation

Based on emails received from our readers we get the impression that our views on market manipulation in general and gold market manipulation in particular are not well understood. This is undoubtedly due to insufficient explanation on our part, a failing that we now hope to address by outlining our views on the topic in point form. Here we go:

1) For the purposes of this discussion, market manipulation means buying or selling with the express purpose of causing the market price to move in the desired direction.

2) All the financial markets are manipulated, including the gold market. This has always been the case and always will be the case.

3) In all the major financial markets, prices are routinely manipulated in both directions. By extension, there is no market in which the manipulation occurs in a single direction.

4) There is no grand gold-price-suppression scheme involving central banks and private banks. Most present-day central bankers don't care about the gold price, and private banks are just as happy to make money being long during a gold price uptrend as being short during a gold price downtrend. Also, most bullion-banking business involves acting as an intermediary that makes money regardless of price direction.

5) Nobody posting gold-related comments and articles on the internet knows the total gold-market positioning of major banks such as JP Morgan.

6) Central bankers did care about the gold price during the 1960s and 1970s, because at that time gold was either the official anchor of the global monetary system or in the process of being demonetised.

For several years leading up to the 1971 severing of the official link between the US$ and gold there was an effort to maintain the belief that the link would remain, despite the US$ inflation of the period. This involved 'stabilising' the gold market. After the link was eventually broken, policy-makers naturally attempted to engender belief in the new floating-rate monetary system. Given that most people at that time still viewed gold as a monetary anchor, this attempt involved actions designed to marginalise gold and/or suppress the gold price (which, by the way, failed in spectacular fashion).

Today, gold is generally viewed as a non-monetary commodity or a trading vehicle or a portfolio diversifier or a store of value. It is not generally viewed as money or as an important component of the monetary system. It is therefore nonsense to cite examples of the gold market machinations of the 1960s-1970s as evidence that central banks are currently going to great pains to suppress the gold price.

7) None of the above is essential to our view that direct manipulation (buying or selling with the goal of creating a 'false' price) can generally be ignored when analysing the gold market. So, please don't email us with arguments to the effect that central bankers still care greatly about the gold price or that private banks have an incentive to prevent a large rise in the gold price. It isn't relevant, because there isn't any evidence that gold performed worse over the past 15 years than it should have done based on the economic/financial-market backdrop along the way.

To support the above statement we cite the fact that during 2011-2012 the gold price hit a 50-year high (and possibly an all-time high) relative to commodities in general. Refer to the following long-term monthly chart of the gold/commodity (gold/CCI) ratio for details. In other words, when gold was peaking in 2011-2012 it was not only at its highest level in history in terms of totally non-scarce fiat currency, it was also at a multi-generational extreme relative to scarce, valuable resources. Just how much more expensive should it have become, given that at no time during the decade-long run-up to the 2011-2012 peak was there a major outbreak of inflation fear?



Perhaps someone will argue that after trying and failing dismally to suppress the gold price for many years, the 'banking cartel' finally figured out how to do it in 2013.

However, a much better argument begins with the recognition that under the current monetary system gold is a boom/bust asset whose value -- to use the words of Jim Grant -- can best be understood as the reciprocal of confidence in the senior central banks. Consequently, gold tends to be in bust mode during economic booms and in boom mode during economic busts. That's why gold did very well relative to most commodities during the global economic busts of 2001-2002 and 2008-2009, and why gold did very well during the euro-zone bust of 2010-2012. It's also why gold has done poorly relative to most commodities since October of 2012. Since October of 2012 there has been superficial economic stability and a growing belief that the senior central banks have everything under control.

8) The lack of evidence that manipulation caused the gold price to perform worse than it should have done over normal investment timeframes is no doubt why manipulation-centric web sites and newsletters focus on extremely short timeframes (often less than one day and sometimes only a few minutes).

9) Last Monday (6th January) there was a good example of the type of price action that always has the manipulation-fixated gold commentators up in arms. Gold suddenly dropped $25 at one point during the 6th January trading day, but only traders who watch the market tick-by-tick in an effort to scalp a few points here and there would have been affected. This is because the price ended the day roughly where it began.

10) There is nothing wrong with manipulation of financial markets by private participants in the markets (governments should never be involved). From an ethical perspective, buying with the aim of boosting the price is no better or worse than buying due to a belief that the market is under-valued or buying due to a technical consideration such as the breaching of a resistance level. Similarly, selling with the aim of depressing the price is ethically no better or worse than selling due to a belief that the market is over-valued or selling due to a technical consideration such as the breaching of a support level. The bottom line is that one person's motive for buying/selling is not the business of anyone else. We realise that governments say otherwise, but governments are usually not models of ethical correctness.

11) High Frequency Trading (HFT) is not manipulation and, unless you consider a small fraction of a percent to be significant, is unlikely to have a significant effect on the prices at which you buy or sell.

12) Of all the above points, number 7 is the only one that really matters. As far as we can tell, gold has done what it should have done over the past 15 years based on what was happening at the time in the major economies and financial markets. Of particular relevance, it reached an all-time high relative to other hard assets in response to the 2008-2009 plunge in global economic confidence and the 2010-2012 fears that Europe's monetary union was about to unravel. We under-estimated the extent to which economic and banking-system confidence would be restored, but the central banks have only succeeded in fueling another unstable boom that will probably turn to bust this year.

13) Direct manipulation of the gold market is not important. Indirect manipulation of all the markets via interest rates, money supply and economic statistics is very important.

Current Market Situation

Today we'll revisit gold's performance in euro terms.

As is the case with the US$ gold price, the euro-denominated gold price (gold/euro) hasn't quite done enough up until now to confirm that a bottom is in place. As illustrated below, gold/euro ended last week at a confluence of resistance defined by two trend-lines and the 50-day MA.

Any significant additional price gain would clearly signal that a bottom was in place, but at this stage there is nothing in gold/euro's price action to differentiate the rebound of the past 2 weeks from the 2-3 week rebound that occurred in October.



When gold/euro is in an intermediate-term upward trend it usually finds support at its 50-day MA, so definitive evidence that a sustainable price bottom is in place would take the form of a rally to well above the 50-day MA followed by a pullback to the vicinity of this MA followed by a rally to a new high for the move. However, this evidence would obviously appear with the price at a much higher level.

From our point of view, breaching the resistance shown on the above chart would be evidence enough.

A new 17-year high for the COMEX silver stockpile

The amount of silver in COMEX warehouses recently hit its highest level since 1997. Refer to the following Sharelynx.com chart for details. Is the unusually high supply of silver in COMEX warehouses bearish for silver?



The answer to the above question is the same as the answer to the question: Is the unusually low supply of gold in COMEX warehouses bullish for gold? In both cases the answer is no. For both gold and silver, the level of the COMEX inventory provides no useful information about the likely future price performance.

To be consistent, however, the commentators who have cited the dwindling COMEX gold inventory as a reason to be bullish on gold should cite the relatively high silver inventory as a reason to be bearish on silver. They don't, of course.

Gold Stocks

2014 Forecast for the Gold Mining Sector

The assumption that underlies our 2014 forecast for the gold mining sector is that the cyclical bear market has either ended or will end following a quick spike to a new low in the near future. This is a big assumption, but it's a reasonable one considering that the 2011-2013 decline was a) equal in magnitude to the largest decline and longer than the longest decline of the 1960s-1970s secular bull market, and b) almost equal in magnitude to and a lot longer than the first major decline of the 1980-2000 secular bear market. Also of importance, the Fed has been busily laying the groundwork for another devastating economic bust that will no doubt be met by another flood of new money.

With this assumption as our premise, for a clue as to what we can realistically expect from the gold-mining sector over the year ahead we'll take a look at weekly charts showing what happened following the three cyclical gold-stock bear markets of the past 50 years that have the most in common with the 2011-2013 bear market.

Our first chart shows the final 12 months of the 1968-1970 cyclical bear market and the ensuing 4 years, using the Barrons Gold Mining Index (BGMI) as the sector proxy. The red line on the chart is the 200-week MA.

Notice that the BGMI rebounded by about 50% to its 200-week MA during the first 6 months of its new bull market, but that after this initial surge it essentially traded sideways for more than two years before commencing a huge rally. In fact, a huge rally didn't get underway until about 3 years after the bear-market bottom.



Our second chart shows the final 8 months of the 1974-1976 cyclical bear market and the ensuing 4-and-a-bit years, again using the BGMI as the sector proxy.

In this case there was also a 50% surge within the first 6 months of the new bull market, but due to having experienced a steeper decline it took the BGMI about 2 years to return to its 200-week MA. Furthermore, as was the case during the first half of the 1970s a huge rally didn't get underway until about 3 years after the bear-market bottom.



Our third chart shows the final year of the late-1990s cyclical bear market and the ensuing 4 years, this time using the HUI as the sector proxy. The blue line on the chart is the 200-week MA.

In this case the initial rebound was stronger (100% instead of 50%), but the overall pattern during the first 12 months of the new bull market was similar. Specifically, there was a rally lasting about 6 months followed by 6 months of sideways trading. Note: The cyclical bull market that began in 2000 was considerably stronger during its first few years than the cyclical bull markets that began in 1970 and 1976, probably because it was the first cyclical bull market in a new secular bull market.



With regard to the gold sector's performance during 2014, the message from the historical record is that there will probably be a strong first half and a choppy second half. The message about the longer-term outlook is that it could be three years (early-2017) before the market takes off to the upside, but there is no point looking that far ahead.

With regard to price targets, the historical cases discussed above suggest that the HUI will trade at least 50% above its bear-market bottom at some point during the year (most likely before mid-year). Also, in two of the cases the upside during the first year of the bull market was limited by the 200-week MA and in the other case the price high during the first year was well below the 200-week MA. This suggests to us that the 200-week MA could reasonably be viewed as defining the MAXIMUM upside potential for the HUI during 2014. As illustrated by the following weekly chart, the 200-week MA is presently at 440 and trending downward.

Further to the above, our guess is that the HUI's 2014 high will be at least 300 and could be as much as 400.



Current Market Situation

The HUI hasn't yet closed above resistance at 207 and therefore hasn't yet generated a preliminary signal that an important bottom is in place. However, we are 'jumping the gun' and shifting our short-term gold-stock outlook to "bullish". Our reasons are:

1. Substantial short-term upside will be in store IF the bear market has just ended.

2. The charts of many individual gold stocks appear to be turning positive.

3. The bullish momentum divergence that we mentioned in previous commentaries has persisted.

The bullish momentum divergence referred to in point 3 is illustrated by the following weekly XAU chart from Decisionpoint.com. The chart shows that even though price trended lower from its August rebound peak and made a new low in December, Decisionpoint.com's Price Momentum Oscillator (PMO) continued to trend upward.



The shift to "bullish" in our short-term gold-stock outlook prompts a similar shift in our short-term gold bullion outlook.

Like the US$ gold price, the euro gold price, the HUI and the XAU, the Junior Gold Miners ETF (GDXJ) is very close to confirming an upward trend reversal. A daily close above $33.40 (the high of the past fortnight) would do it.



Currency Market Update

We have shifted our short-term Dollar Index outlook back to "neutral" (from "bullish"). This has nothing to do with last Friday's employment news or the pullback to the 50-day MA. It is partly to do with the performance of European equities discussed in last week's Interim Update, partly to do with the improving price action in gold-related investments, and partly to do with the fact that sentiment and momentum are neutral.

Our guess is that the Dollar Index will remain within its 79.5-81.5 range for at least another month.

Update on Stock Selections

Notes: 1) To review the complete list of current TSI stock selections, logon at http://www.speculative-investor.com/new/market_logon.asp and then click on "Stock Selections" in the menu. When at the Stock Selections page, click on a stock's symbol to bring-up an archive of our comments on the stock in question. 2) The Small Stock Watch List is located at http://www.speculative-investor.com/new/smallstockwatch.html

Company news/developments for the week ended Friday 10th January 2014:

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

  *Golden Star Resources (GSS) issued a press release to report its Q4-2013 production and its production guidance for 2014.

GSS produced 75K ounces of gold in the final quarter of last year from its two operating mines in Ghana (the Wassa and Bogoso operations). This brought the total year's production up to 331K ounces, which was in line with the latest guidance and a good result considering the operational problems encountered at Bogoso during the second quarter.

Last year's cash cost was around $1100/oz, which implies a total production cost of at least $1400/oz and explains why GSS continues to be cash-flow negative at the current gold price. The amount of cash consumed by GSS during the final quarter of last year won't be known until the company releases its financial statements on 20th February, but we estimate that its financial position deteriorated by about $10M during the quarter. It still has a healthy cash reserve, but it will need a meaningful recovery in the gold price within the next few quarters.

2014 guidance is for reduced production at a lower cost, meaning that the company's management is opting for quality over quantity. Specifically, the company expects to produce about 300K ounces of gold at a cash cost of around $1,000/oz. This means that if the guidance is achieved, the gold price will have to average $1,350/oz or more for GSS to be genuinely profitable. An average gold price of at least $1,350/oz is likely (our guess is that gold will average about $1,500/oz during 2014).

Due to its substantial leverage to changes in the gold price and the fact that its survival is not in question at this time, GSS could become an excellent candidate for new buying AFTER the gold price breaks above $1,300/oz. In the mean time we would favour gold producers with lower risk, such as RIOM, EDV.TO and EVN.AX.

  *Pilot Gold (PLG.TO) reported a set of drilling results from the oxide-gold K2 Target at its TV Tower project (Turkey). To recap, at this stage TV Tower is known to host a deep and relatively high-grade gold-silver-copper zone at the KCD Target, a near-surface zone of silver-only mineralization that partially overlies the high-grade gold-silver-copper zone at the KCD Target, and the shallow oxide-gold K2 Target located approximately eight kms south of KCD.

Highlights from the K2 drilling results reported last week were 2.00 g/t Au over 35.0 m in one hole and 3.42 g/t Au over 17.4 m in another hole. Considering that these results came from shallow oxidised mineralisation, they are good. However, it's too soon to know if they are financially significant for PLG.

There should be a steady stream of drilling news from PLG over the months ahead. Also, an initial resource estimate for KCD should soon be complete.

  *Premier Gold (PG.TO) issued a press release that updated the market on the status of its three exploration-stage gold projects, two of which (Trans-Canada and Rahill-Bonanza) are located in Ontario and one of which (Cove) is located in Nevada. According to this press release there will be a steady stream of news from PG during the first half of 2014, including drilling results from all three projects and a PEA for the open-pit portion of the Trans-Canada project's 7M-ounce Hardrock deposit.

  *Rio Alto (RIOM) announced that Peru's government has approved modifications to the existing environmental impact study for the La Arena oxide gold mine. This allows RIOM to apply for permits for a future (Phase 2) open pit sulphide copper/gold mine and construct an 18,000-tonne-per-day copper/gold flotation plant and concentrator.

The FS for the Phase 2 copper/gold sulphide project is currently scheduled for completion in second quarter 2014.

The Phase 2 project provides RIOM with long-term organic growth potential and long-term exposure to copper. Although we are currently not bullish on copper's prospects, we expect that this base metal will have commenced a new cyclical bull market by the time that RIOM's Phase 2 development goes into production. Over the next two years RIOM will be 100% focused on low-cost gold production, which is exactly what we want.

List of candidates for new buying

From within the ranks of TSI stock selections, below is a list of the best candidates for new buying at this time.

1) AKG (last Friday's closing price: US$1.67). Assuming that the merger with PMI Gold happens as presently proposed, buyers of AKG shares near the current price are effectively getting two ready-for-construction 200K-oz/yr Ghana-based gold projects for nothing.

2) EDV.TO/EVR.AX (last Friday's closing price: C$0.55).

3) EVN.AX (last Friday's closing price: A$0.59).

4) PLG.TO (last Friday's closing price: C$0.94).

5) RIO.TO/RIOM (last Friday's closing price: C$1.84/US$1.68) following a pullback to the vicinity of the 50-day MA.

New short-term trades

The safest -- and probably the best for most people -- way to 'play' the short-term upside potential in the gold sector and the recovery in small-cap resource stocks is to purchase GDXJ and place an initial stop just below the low of the past two weeks. However, for the TSI List we are adding short-term trading positions in two higher-risk/higher-reward stocks: AKG and EDV.TO. These short-term positions are separate from the existing long-term positions in the same stocks.

AKG has been a relatively weak stock over the past month, but this relative weakness is solely due to a merger proposal that should benefit the company and creates the potential for a catch-up move. At the same time, the company's large cash reserve should limit the short-term downside from here.



EDV.TO held up relatively well over the past few months and its December-2013 low looks like a successful test of its June-2013 low. A daily close above C$0.70 would leave little doubt that an intermediate-term bottom was in place and create a short-term target of C$1.00.



We are also adding a short-term trading position in one major gold stock: Gold Fields Ltd (GFI). It looks like GFI successfully tested its December low last Thursday.

Due to GFI's large decline during the final 5 months of 2013 it will now be able to gain more than 50% before encountering meaningful chart-based resistance. This is the short-term upside potential. Downside risk will be managed by setting an initial sell stop at US$2.89.

Chart Sources

Charts appearing in today's commentary are courtesy of:

http://stockcharts.com/index.html
http://www.decisionpoint.com/
http://research.stlouisfed.org