-- Weekly Market Update for the Week Commencing 19th 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

There were no blog posts last week.

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, although there is still a chance that some stock indices will revisit their early-February lows.

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 go much higher before year-end, but a counter-trend move is underway. The counter-trend move could end at any time, although we won't be interested in placing a new bet against the bond market (a new bet on higher interest rates) until there is a substantial reduction in the speculative net-short position in 10-year T-Note futures.

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

Interest Rates

The Fed is set to hike two more times before mid-year

Unless nuclear war breaks out in the next two days, the Fed will announce another 0.25% increase in its targeted interest rates on Wednesday 21st March. This will bring the target range to 1.50%-1.75%. Also, there's a high probability of another 0.25% hike at the June FOMC meeting (13th June).

Two 0.25% Fed rate hikes before mid-year will not have a big effect on the financial markets because the scenario has been almost fully discounted. As evidence we cite the following chart of the 3-month T-Bill yield (UST3M).

The pattern over the past two years has been for UST3M to move slightly above the bottom of the expected new target range a few weeks prior a Fed rate hike. For example, last November the Fed Funds Rate (FFR) target range was 1.00%-1.25% and there was a general expectation that the target would be boosted to 1.25%-1.50% in December. To reflect this expectation, UST3M rose to 1.30% in the second half of November.

A repeat of the pattern would now see UST3M at about 1.55% (near the bottom of the range that will come into being on 21st March), but the market is already pricing the 3-month bill to yield 1.78%. This means that it is pricing in a near certainty of an increase to 1.75%-2.00% within three months.



A lot will have to go wrong in the stock market and/or the economy over the next 2-3 months to prevent the Fed from implementing its second 2018 rate hike in June. It's therefore a good bet that the first half of 2018 will contain two rate hikes. However, that might be 'all she wrote', because it's quite possible that stock market and/or economic weakness will become serious enough by July-August to put the Fed on hold.

The T-Bond rebound gathers some steam

The 30-year T-Bond broke out to the downside from a major top formation in late-January. This breakout provided powerful confirmation of our bearish outlook for long-term bond prices and bullish outlook for nominal interest rates.

The T-Bond's breakout suggests that there is scope for considerable additional downside in the price over the coming two quarters, but by the third week of February the Treasury market had become sufficiently 'oversold' to enable a counter-trend rebound to get underway. The base of the major top formation (146.5-147.0) is an obvious target for this rebound.

The following chart compares the T-Bond price with the S&P500 Index (SPX). It isn't a random coincidence that the downside breakout by the T-Bond was almost immediately followed by a sharp decline in the stock market (as represented here by the SPX). As we've said numerous times in the past, the stock market can ignore a rising interest-rate trend for a long time, but if the trend persists then it eventually becomes almost the only thing that matters.



It seems that the stock market has become accustomed to a 10-year yield in the 2.80%-3.00% range. This means that the breakouts to new multi-year highs in the 10-year yield (see chart below) and new multi-year lows in the T-Bond price (as discussed above) provoked only a short-term stock market correction, albeit a sizable one. They didn't bring about a major stock market decline. For that, the 10-year yield probably will have to break solidly above 3%.



A new TBT trade opportunity may soon emerge

The ProShares UltraShort 20+ Year Treasury Fund (TBT) trends in the opposite direction to the T-Bond. We exited a TBT long position at a profit about a month ago with the aim of re-establishing a position following a rebound in the T-Bond price. The T-Bond rebound is well underway and, as a result, soon there may be a good opportunity to buy TBT.

We hope to be able to re-enter TBT at around $36 in preparation for another multi-month decline in the bond market, but we'll take our cues from the COT data and the price action in the Treasury market. With regard to the former, we'd like for there to be a substantial shrinkage in the speculative net-short position in 10-year T-Note futures before we place a new bet against the bond market.



The Stock Market

Current Market Situation

The NASDAQ100 Index (NDX) managed to close lower on each of the past four days without negating the previous week's upside breakout. Therefore, the probability that we are dealing with a genuine breakout has increased, although we still can't rule out the possibility that some stock indices will test their early-February spike lows before the overall correction ends.



The Dow Transportation Average (TRAN) is one stock index that is very much at risk of testing its early-February spike low. This risk will be greatly reduced by a daily close above 10,800.



We assess the stock market's true fundamentals to be neutral at this time.

After being at an optimistic extreme during January and being momentarily fearful when the short-volatility trade was blowing up in early-February, sentiment also appears to be neutral at this time. On the minus side there is very little negativity or fear evident in the sentiment indicators, but on the plus side the speculative 'froth' that was blatantly obvious two months ago has been removed.

The bottom line is that the stock market is not yet totally 'out of the woods', but there's a high probability that the Q1 decline was nothing more than a short-term correction.

Tesla (TSLA), the world's greatest story stock

TSLA is a classic story stock, in that it has a market valuation that could only be justified by creating a story involving wildly ambitious assumptions about the future. In TSLA's case, however, the wildly ambitious assumptions seem totally implausible rather than just unlikely.

Why investors are buying/holding this stock near its current valuation is therefore something of a mystery to us. In particular, we can't understand how anyone with any business sense could expect a car manufacturer that did nothing except hemorrhage cash during a period when it was benefiting from government assistance and first-mover advantage to consistently generate large profits after the government assistance is mostly taken away and the company finds itself in direct competition with the likes of Mercedes, Porsche, BMW, Audi and Jaguar.

That being said, timing is everything. It seems inevitable that the price of a Tesla share will drop to a small fraction of its current level, but we aren't confident that it will happen this year. Also, Tesla CEO Elon Musk is one of the all-time great promoters -- a modern day PT Barnum. He seems to be able to whip-up enthusiasm for the stock at will.

With regard to timing, over the past 9 months the TSLA price has traced out a pattern that has the look of a major top, and within the larger pattern it has, over the past 3 months, traced out what looks like a double top. This could mean that we are not far away from the point where selling pressure finally begins to overwhelm the buying of Musk's blind followers.

Critical support and resistance lie at $310 and $360, respectively. A solid close below $310 would warn that a substantial decline was about to begin whereas a close above $360 would warn that everything since the June-2017 peak was an intermediate-term consolidation within an on-going bull market.



The TSI List currently has a bearish TSLA speculation in the form of the April-2018 $250 put option. There is now only about a month before this option expires, so unless the downside breakout that we are anticipating happens in the next week or so we will have to either exit at a loss or roll into a later-dated option. Most likely the former, unless we have a good reason to believe that a large decline has begun.

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

In last week's Interim Update, we wrote:

"The US$ gold price has immediate overhead resistance near $1330 in the form of the 50-day and 20-day MAs. This resistance was tested on Wednesday 14th March and the successful test may have marked at least a multi-day top, but the currency market continues to be the key to what happens from here in the gold market. If the DX breaks upward from its recent range then gold will re-visit the $1200s, but if the DX breaks downward then we are probably at the equivalent of July-1986 in the gold market."

As it turned out, the successful test of resistance on 14th March did mark at least a multi-day top, because the gold price fell over the final two days of last week. It is now testing support at $1310.

Below is the chart comparison of the US$ gold price and the Dollar Index (DX) that we've shown in a few previous commentaries. The strong negative correlation of the past several months is obvious.

Since mid-January, gold has oscillated between $1310 and $1363 while the DX has oscillated between 88.5 and 90.5. There's a high probability that a breakout by one will coincide with or quickly be followed by a breakout in the opposite direction by the other.

Based on the way the markets ended last week we may be about to get a downside breakout in the US$ gold price combined with an upside breakout in the DX.



One plausible interpretation of the following daily gold chart is that the $1310 support level is the base of a 2-3 month topping pattern. If the price breaks through $1310 it will encounter some support at the 200-day MA near $1290, but over the past year the 200-day MA has not limited short-term downward trends. Instead, short-term bottoms have tended to occur $30-$40 below the 200-day MA. This implies a target of around $1260 if the $1310 support level is breached in the near future.

Above the current price there is some minor resistance at $1330 but the first resistance of significance is near $1340. A solid daily close above $1340 would warn that a strong rally to new multi-year highs had begun.



Gold Stocks

In last week's Interim Update we noted that the HUI and GDX weren't far from important support levels -- 172 for the HUI and $21.25 for GDX. We also noted that the odds were in favour of support being breached prior to a multi-month bottom and that a solid daily close by the HUI below the 172 level would suggest that a decline to the 150s was underway.

The first of the following daily charts shows that the HUI closed below 172 last week, but only just. It wasn't a decisive breach of support. Furthermore, the second chart shows that GDX has both lateral and trend-line support at $21.25 and that it successfully tested this support on Friday. We therefore don't view Friday's decline as a downside breakout. It won't surprise us, however, if a downside breakout occurs this week.

There is still a realistic chance that the gold sector (as represented by the HUI) will make a multi-month low this month, but only if there is a sharp decline over the coming 1-2 weeks. The most likely alternative would be a continuing downward drift to an intermediate-term bottom in May.

The Currency Market

The Euro

The 2-month trading range in the DX evident on the chart included in the Gold section above is associated with and similar to the 2-month trading range in the euro evident on the daily chart displayed below. The difference is that for the DX it's a potential base and for the euro it's a potential top.

If the euro breaks below the bottom of its range in the near future then up to 2 months of additional downside may be in store. The targets would be 1.19 and 1.16 (we think that lateral support at 1.16 defines the euro's maximum short-term downside risk).

That being said, there's no guarantee that we are dealing with a topping pattern in the euro. It could be a mid-trend consolidation, in which case there will soon be a break above the top of the range followed by up to 2 months of additional upside.

We put the odds at 60/40 in favour of a near-term downside breakout in the euro.



The main reason to favour a downside breakout is that speculative euro sentiment remains stretched into optimistic territory at a time when interest-rate and equity-performance differentials constitute a substantial headwind. The stretched speculative sentiment is indicated by the following chart of the euro's COT situation. This chart shows that the range-trading of the past 2 months has done nothing to reduce the enthusiasm of speculators in euro futures.



The A$

When we posted our 21st February commentary the A$ was trading at 78, which we had previously cited as a likely level for a correction low. However, we wrote that taking into account the overall market situation there could be up to 2 additional points of downside before the next tradable rally got underway. Our preference was to wait for a better opportunity before buying.

We speculated that a better opportunity to buy the A$ would arrive in March, as this was a likely time for the Dollar Index to reach a short-term top and for some high-profile commodity markets to reach short-term bottoms.

The A$ is now one point lower, having rebounded to around 79 before dropping to 77. As illustrated by the following daily chart, the rebound ended at the 50-day MA.

A decline to 76 appears to be on the cards, but a lot will depend on whether the DX breaks out to the upside or the downside from its 2-month range. Even though the A$ is not part of the DX, if the DX breaks out to the upside and accelerates in that direction then many high-profile commodities and all the major currencies will come under pressure.



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 16th 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) reported the result of the first deep hole from its 6-hole surface drilling program at the Ana Paula project in Guerrero State, Mexico. The purpose of the hole was to get more information about the high-grade breccia mineralisation below the proposed open pit and to test a potential source of lower-grade mineralisation that is much closer to the surface but outside the proposed pit. The hole was successful on both counts, intersecting 6.45 g/t gold over 19.0m in the deep, high-grade breccia and 1.3 g/t gold over 55.7m in the close-to-the-surface lower-grade area.

Two more holes in the 6-hole program are complete and awaiting assays.

  *U.S. Gold Corp. (USAU) has completed comprehensive geochemical sample surveys covering the 20-square-mile Keystone district project area. The sample database now comprises 4,225 soil samples, 2,250 rock samples, 649 fine-sediment stream samples, and 620 altered stream cobble samples. This is all part of the process of zooming in on target areas for drilling.

  *Solitario Zinc (XPL) published its financial statements for the quarter and year ending 31st December 2017. The statements revealed that the company had no long-term debt and US$14.5M of working capital (down about US$0.5M over the final 3 months of the year).

XPL is well positioned with stakes in two attractive exploration-stage zinc projects. It is also very under-valued at its current price of US$0.50.

As mentioned in our 19th February report, we are concerned that it will remain very under-valued for another 6-12 months due to a lack of market-moving news.

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$2.42)

3) AOI.TO (last Friday's closing price: C$1.27)

4) PG.TO (last Friday's closing price: C$3.01)

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

Chart Sources

Charts appearing in today's commentary are courtesy of:

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