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 ended in 2012. In real (gold) terms, bonds commenced a secular BEAR market in 2001 that will continue until 2018-2020. (Last update: 20 January 2014)

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

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

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

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

Copyright Reminder

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

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

Outlook Summary

IF

Last week we wrote:

"The recent market trends are: up for the Dollar Index, the T-Bond, gold and gold-mining stocks, and down for the euro, the broad stock market and industrial commodities. If these trends continue then there is a good chance that the 22nd-25th January period will usher-in short-term price extremes, regardless of what actually happens at the [22nd January] ECB meeting and in [the 25th January elections in] Greece. This is just something to keep in mind if, and only if, the current trends extend into 22nd-25th January."

The short-term trends mentioned above continued last week, so the stage is set for multi-week price extremes to be put in place this week.

Gold versus Oil

Here is a long-term monthly chart of the gold/oil ratio. This chart uses monthly closing prices for all months prior to January-2015 and last Friday's closing prices for January-2015, which means that the chart doesn't show intra-month extremes. In particular, note that while the current level is well above the monthly closing level for February-2009, on a daily closing basis last week's high was roughly the same as the February-2009 high.



The point we want to make is that gold is now expensive relative to the world's most useful commodity. It's as expensive, now, as it was near the peak of the 2007-2009 global financial crisis. There are financial-market scenarios under which gold could get a lot more expensive relative to oil, but those scenarios do not have high probabilities of happening this year. In other words, it isn't reasonable to expect that gold will make substantial additional gains relative to oil over the next several months.

Our expectation is that gold will not move much higher relative to oil, but that the gold/oil ratio will have a high (by historical standards) average of around 20 this year. A gold/oil ratio of 20 implies healthy profit margins for gold producers.

The Stock Market

The US

The S&P500 Index (SPX) fell for 5 days in a row before rebounding by 26 points on Friday 16th January.

While there was an impressive rebound last Friday in dollar terms, there was no rebound in gold terms. As illustrated by the following daily chart, the SPX/gold ratio ended Thursday's session at support and remained at support on Friday. The support is defined by the 200-day MA and the bottom of a channel.

The SPX/gold support that is currently being tested was successfully tested four previous times over the past 12 months. In order to confirm that something more than a routine short-term correction is in progress this support will have to be solidly breached.



The following chart shows the Bank Index (BKX) and the BKX/SPX ratio.

In dollar terms the BKX has essentially traded sideways for more than 12 months, but relative to the SPX it has been in a downward trend since July of 2013. Notice that the BKX/SPX ratio tanked over the past two weeks and is now at its lowest level in well over two years.

1-2 years of relative weakness in the banking sector preceded the major stock market tops of 2000 and 2007.



The evidence is a long way from being conclusive, but there are several early warning signs that a major top is in place in the US stock market.

Europe

The most important European stock indices are in interesting positions. For example:

1) Germany's DAX Index broke above intermediate-term resistance and made a new all-time high last Friday. This doesn't imply anything about the future, but it means that the index is now in a position where it should soon generate either a bullish or a bearish signal.

Sustaining the breakout over the next two weeks would generate a bullish signal, whereas a solid break below 10,000 would indicate that the preceding upside breakout was false (a bearish signal).



2) France's CAC40 Index ended last week at intermediate-term resistance.



3) The EURO STOXX 50 Index (STOX5E) is in a similar position to the CAC40, although it hasn't quite made it up to intermediate-term resistance.



Either European stock markets will generate bearish signals in the near future, with the DAX negating its upside breakout and both the CAC40 and the STOX5E failing to end their sequences of declining tops, or they will generate bullish signals, with the DAX solidifying its upside breakout and the other indices breaking their declining-top sequences. The size of the monetary stimulus package to be announced by the ECB on 22nd January will have a bearing on whether the resolution is bullish or bearish.

This week's significant US economic events (The most important events are shown in bold)

Gold and the Dollar

Gold

The Fundamentals

It's noteworthy that gold's recent upward reversal has happened in parallel with falling inflation expectations, as was the case with the important upward reversals that occurred in February-April of 2001 and November of 2008. Falling inflation expectations are bearish for gold to the extent that they result in a higher real interest rate (the real interest rate being the nominal interest rate minus the expected (not the past) rate of currency depreciation), but falling inflation expectations will tend to be part of the financial/economic landscape when other influences are setting a multi-year gold rally in motion.

Also, the upward reversal has happened in parallel with strength in the Dollar Index. A rising Dollar Index is bearish for gold, but it is just one influence and can be overridden by other influences. These other influences are associated with economic confidence and market liquidity, as indicated by credit spreads, the yield curve, and the relative strength of the banking sector.

The overarching driver, as always, is confidence in the senior central bank, or, since the advent of the ECB, confidence in the two senior central banks. Both of the senior central banks managed to gain and retain the confidence of markets from mid-2012 through to mid-2014 (due to luck more than anything else), but around July of 2014 the markets started questioning the ECB's ability to make good on its assurances of monetary support. It seems that the loss of confidence in the ECB reached a critical level in November.

Confidence in the Fed remains high, but not as high as it was a few months ago. The decline in confidence is evidenced by the breakdown in the BKX/SPX ratio (featured in the Stock Market section of today's report) and the rising trend in credit spreads. Of gold's main fundamental drivers, these are the ones that are most clearly bullish at this time.

As mentioned above, inflation expectations have fallen. In fact, the following chart shows that the 10-year "expected CPI" embarked on a steep decline last August and is now approaching its lowest level since the first half of 2009 (a time when the US economy was officially in recession). However, nominal interest rates have declined by almost the same amount, which means that the combination of nominal interest rates and inflation expectations (the real interest rate) has been gold-neutral since August.



The US 10yr-2yr yield spread (a proxy for the yield curve) is the most important fundamental gold-market driver that remains definitively bearish. As illustrated by the following chart, the yield-spread has been trending downward (meaning: the yield curve has been flattening) since early-2014.

Gold is quite capable of rallying for several months in the face of a declining yield-spread, but a major (multi-year) gold rally is unlikely to begin until after the yield-spread's trend reverses from down to up.



The Price Action

A catalyst probably wasn't required, but the Swiss National Bank (SNB) provided one anyway. In response to the SNB news (discussed in the Currency Market section), the US$ gold price broke solidly above lateral resistance at $1240-$1250 and the 200-day MA at $1256. This is evidence that an intermediate-term rally is in progress, although in US$ terms gold is now short-term 'overbought' and looks set to make a multi-week top before the end of this month.

Note that the magnitude of any downward correction in the US$ gold price over the weeks ahead will probably be lessened by a concurrent downward correction in the Dollar Index. Also note that former resistance at $1240-$1250 is now support.



Gold is more stretched to the upside in euro terms, having quickly gained an additional 10% since breaking above resistance at 1000. In fact, in euro terms gold is intermediate-term 'overbought' and could be close, at least in terms of time, to a top that holds for a few months.

The extent to which the euro-denominated gold price is stretched to the upside is illustrated by the following chart. Gold/euro is now close to the top of a moving-average envelope that has always limited intermediate-term rallies in the past.



Quick note on silver

Silver has important resistance at $18.50-$19.00. We suspect that this resistance will be tested but not sustainably breached within the next few weeks.

Keep in mind that, contrary to a popular opinion, silver tends to lag gold during the early stages (the first year at least) of new a bull market, so if a new gold bull market began last November it would be normal for the silver/gold ratio to make a multi-year low during the first half of this year.

Gold Stocks

Gold's breakout last Thursday-Friday propelled the HUI to a new multi-month high. It is now within 3% of its 200-day MA, which means that it is now within 3% of what we considered to be a likely target for the rally that began in December. This doesn't mean that it is close to a top, although the minor bearish divergence created by last week's decline in the GDXJ/GDX ratio (refer to the bottom half of the following chart) suggests that a multi-week top will soon be put in place.



We don't have an opinion about what will happen to the gold-mining sector this week. There could be a sharp additional rise or a pullback (or both) as the financial markets anticipate and then react to the outcome of the 22nd January ECB meeting. That being said, with the gold-stock indices now moderately extended to the upside and nearing their 200-day moving averages, we think that significant additional strength over the coming days should be viewed as a short-term selling opportunity.

One plausible scenario involves the HUI testing its 200-day MA this week and then spending a few weeks consolidating between its 200-day and 50-day MAs before resuming its upward trend.

The Currency Market

The SNB's Bombshell

The Swiss National Bank (SNB) dropped a figurative bombshell shortly after we published the Interim Update last Thursday. When the Interim Update was broadcast into cyberspace the gold price was trading about $6 below the preceding day's COMEX closing price and the currency market was flat, but then all hell broke loose when news that the SNB had eliminated the Swiss-Franc/euro cap hit the wires. In the blink of an eye the SF was up by at least 20% relative to everything, gold was up US$30 and the euro was down by another 2% against the US$. The following chart illustrates the sudden revaluation of the SF relative to the euro.



We briefly commented on the SNB news and the resulting moon-shot in the Swiss Franc (SF) in a blog post after the close of last Thursday's trading session. Here are some additional comments.

First, the SNB's decision back in August of 2011 to cap the SF/euro exchange rate was a reaction to the SF's parabolic rise over the preceding 6 months. This price action would likely have been followed by a large decline and/or years of consolidation even if no action had been taken by the SNB. In other words, at the point where the SNB took action to devalue the SF, future devaluation by the market was already 'baked into the cake'.

Second, just like the build-up of pressure on the SNB in 2011 stemming from the SF's seemingly unstoppable rise probably resulted in action finally being taken at a time when the rise was about to end of its own accord, the build-up of pressure on the SNB over the past several months stemming from the euro's (and therefore the SF's) seemingly unstoppable decline probably resulted in action finally being taken at a time when the decline was about to end of its own accord. Of course, if the link to the euro had been maintained then the decline against the US$ would not have ended in such a spectacular manner and the SF would still be trading at around 0.83 euros rather than being at parity with the euro.

Third, even though the decline in the SF would probably have soon ended without any SNB action, it never made sense to tie the fate of the SF to the fate of the euro. Doing so took on a risk that didn't need to be taken. The removal of the official link was therefore a good move.

Fourth, the unhedged SF-denominated debts of anyone outside Switzerland just became 20% larger. Consequently, the SNB's surprise move will have adverse ramifications for banks and borrowers in other countries.

Fifth, the sudden huge rise in the SF will cause short-term pain for Swiss exporters. However, it should be remembered that a) last week's SNB decision and the resulting dramatic volatility were consequences of the ill-conceived 2011 decision to inflate the currency supply to whatever extent was required to cap the SF relative to the euro, and b) Swiss exporters lobbied hard for the 2011 decision. In other words, exporters lobbied hard in 2011 for central bank action that would boost their own short-term profitability by putting the long-term viability of the currency at risk.

Sixth, Swiss consumers will be short-term beneficiaries of the sudden change in the SF's relative value due to lower costs for imported products. The entire economy will benefit over the long run if, as is likely, the removal of the euro peg leads to slower inflation of Switzerland's money supply.

Seventh, until August-September of 2011 we regularly discussed the SF's performance in TSI commentaries, but during the period when it was pegged to the euro we rarely mentioned it. During this period there was no point analysing the SF, since with the peg in place its performance was almost solely determined by the performance of the euro. As a result of last week's news we will resume coverage of the SF.

Current Market Situation

Kicking a downed opponent in the head is against the rules in most MMA (mixed martial arts) competitions, but it is not against the rules in the currency market. Last Thursday the euro was lying on the mat barely conscious when along came the SNB and delivered the equivalent of a huge soccer kick to the head.

In its efforts to maintain the currency peg the SNB has been a substantial and consistent buyer of euros over the past three years, so the decision to eliminate the peg removes a significant source of euro demand. That being said, when blatantly bearish news hits a market that has already been crushed, the downward reaction to the news can quickly lead to an important price low.

The scene is set for an upward reversal in the euro this week, either just before or just after the 22nd January ECB meeting. This is not only because the market has already gone such a long way towards discounting bad outcomes for the euro-zone, but also because the VGK/SPX ratio, a measure of European stocks relative to US stocks, has turned higher.

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 ended Friday 16th January 2015:

[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]

  *Asanko Gold (AKG) announced that construction of Phase 1 of its Asanko Gold Mine (Ghana) remains on schedule (the schedule calls for production at the 190K-oz/yr gold mine to commence in Q1-2016) and on budget, with $170M of the budgeted initial capex of $295M having been spent or committed to date.

The next important milestone for the company will be the publication of the FS for Phase 2 at the end of Q1-2015. According to AKG's CEO, this is expected to demonstrate the value of developing the adjacent Esaase deposit and expanding production to 400,000 ounces of gold per annum.

  *Endeavour Mining (EDV.TO, EVR.AX) announced excellent production results for the final quarter of last year and the full year. Q4 production was 120K ounces of gold, which took the full-year production to 466K ounces. 2014 production guidance was 400K-440K ounces, so EDV's actual production was well above the top end of its guidance. The AISC during Q4 is expected to be similar to the Q3 figure, or about $990/oz.

2015 guidance is for production of 475K to 500K ounces at an AISC of $930-$980/oz.

EDV was free-cash-flow positive during the final two quarters of 2014 and should be free-cash-flow positive this year if the gold price averages more than $1200/oz. In support of this statement, EDV's management estimates that the company will have an all-in sustaining margin of $120M in 2015 assuming $1200/oz for gold. Allowing $20M for growth-related capex and something for other costs (G&A, taxes), this suggests to us that the company will add $50M-$80M to its balance sheet this year if gold averages $1200/oz. At the current gold price the cash addition to the balance sheet would likely be much greater.

Considering the stock's extremely low valuation, Friday's 9% gain (to C$0.59/share) in EDV's price was a big under-reaction to the Q4 production results. At the current gold price, we think that 'fair' value for EDV is north of C$1.00/share.

  *Golden Star Resources (GSS) reported its gold production for the final quarter of 2014 and announced its production guidance for 2015.

During Q4-2014 the company produced 72K ounces of gold from its two mines in Ghana. This brought the 2014 production total up to 261K ounces, which is line with downwardly-revised guidance.

2015 production is expected to be about the same. Specifically, management's 2015 forecast is for production of around 260K ounces at an AISC of around $1100/oz. The projected AISC suggests that GSS will need an average gold price of at least $1300/oz to be meaningfully profitable and cash-flow positive.

GSS continues to be a high-risk/high-potential-reward play on the gold price. It is not in any immediate danger of running out of cash, but in all likelihood it will continue to bleed cash until the gold price makes a sustained move above $1250/oz. It has the opportunity to reduce its average cost of production by bringing the Wassa and Prestea underground mines into operation, but each of these potential new operations would require about $40M of initial capex. We doubt that GSS could cost-effectively finance this additional capex in the current market.

  *Ramelius Resources (ASX: RMS) reported some very good drilling results from its Blackmans gold project. The highlights include gold intercepts of 9m averaging 31.9-g/t from 41m, 25m averaging 7.6-g/t from 6m, and 13m averaging 8.3-g/t from 23m. These shallow, high-grade results suggest the potential for an open-pit mine at Blackmans and are made more significant by the fact that Blackmans is located only 30kms from the company's Mt Magnet processing facility (meaning that ore mined at Blackmans could be processed at Mt Magnet).

The aforementioned drilling results caused a sharp rise in the RMS stock price last Monday. The stock is now up by about 150% from its November low, but it is rising from such a low base that it remains extremely cheap if we assume that the recent operational improvement at Mt Magnet will be sustained.

  *Sabina Gold and Silver (SBB.TO) advised that its Back River project (Nunavut, Canada) was proceeding as planned through the permitting process and that the Back River Final Environmental Impact Statement (FEIS) was scheduled to be submitted in mid-2015. The FEIS will form the basis of a recommendation by the Nunavut Impact Review Board (NIRB).

SBB also advised that the FS for the Back River project will be completed during the first half of this year. This is the most important milestone for SBB with regard to the coming 6 months.

Due to a larger M&I resource, higher average gold recoveries and other factors, the FS is likely to reveal a significant improvement on the economics indicated in the PFS. This is critical, because Back River will never be developed into a mine unless it can be demonstrated that the economics are better than indicated in the PFS.

  *True Gold Mining (TGM.V): In early-December TGM advised that a disturbance in the local community had prompted it to temporarily halt some of the construction activities at the Karma project (Burkina Faso). No other details were provided. In late-December the company advised that it was working to address the concerns voiced by certain individuals in the local community and expected to reach a resolution shortly. Again, no other details were provided. Then, last Wednesday, TGM advised that a demonstration at the Karma mine had resulted in some damage to the company's property and the temporary suspension of operations. Once again, no information was provided regarding the reasons for the conflict.

The stubborn refusal of TGM's management to provide the market with details regarding the nature of the community-relations problems being encountered at its project site is a blotch on management's credibility.

TGM's valuation and strong balance sheet suggest that it is a strong candidate for new buying, but the uncertainty surrounding the disruptions to construction progress at the Karma mine site has kept TGM out of our list of the best candidates for new buying over the past several weeks and continues to do so. We would be buyers at C$0.15/share, because at that price the worst-case scenario would be discounted, but with the stock price in the C$0.20s we will wait for more information before deciding what to do.

    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 below US$1.10 (last Friday's closing price: US$1.14).

2) AKG in the mid-US$1.60s (last Friday's closing price: US$1.74).

3) EDV.TO (last Friday's closing price: C$0.59).

4) RSG.AX in the low-A$0.30s (last Friday's closing price: A$0.38).

5) TGD (last Friday's closing price: US$1.11).

Note that 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.

    Notes on the short-term trading positions in the TSI List

1) The short-term position in EVN.AX will automatically be exited if the stock trades at A$0.97 within the coming fortnight.

2) The short-term position in AKG will automatically be exited if the stock trades at US$2.03 within the coming fortnight.

3) The short-term position in TGD will automatically be exited if the stock trades at US$1.37 within the coming fortnight.

The TSI List will retain long-term exposure to each of the above stocks.

Chart Sources

Charts appearing in today's commentary are courtesy of:

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