-- Weekly Market Update for the Week Commencing 19th October 2009

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 mid-2010. In real (gold) terms, bonds commenced a secular BEAR market in 2001 that will continue until 2014-2020. (Last update: 09 February 2009)

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

Market
Short-Term
(0-3 month)
Intermediate-Term
(3-12 month)
Long-Term
(1-5 Year)
Gold
Bullish
(02-Sep-09)
Bullish
(12-May-08)
Bullish

US$ (Dollar Index)
Neutral
(28-Sep-09)
Neutral
(02-Sep-09)
Neutral
(19-Sep-07)

Bonds (US T-Bond)
Neutral
(28-Sep-09)
Neutral
(09-Sep-09)
Bearish
Stock Market (S&P500)
Bearish
(21-Sep-09)
Bearish
(11-May-09)
Bearish

Gold Stocks (HUI)
Neutral
(20-May-09)
Neutral
(16-Sep-09)
Bullish

OilBullish
(14-Oct-09)
Neutral
(14-Oct-09)
Bullish

Industrial Metals (GYX)
Bearish
(21-Sep-09)
Bearish
(25-May-09)
Bullish


Notes:

1. In those cases where we have been able to identify the commentary in which the most recent outlook change occurred we've put the date of the commentary below the current outlook.


2. "Neutral", in the above table, means that we either don't have a firm opinion or that we think risk and reward are roughly in balance with respect to the timeframe in question.

3. Long-term views are determined almost completely by fundamentals, intermediate-term views by giving an approximately equal weighting to fundmental and technical factors, and short-term views almost completely by technicals.

As previously advised...

Due to our travel schedule today's Weekly Market Update contains only the bare essentials (none of the usual charts or macro-economic ramblings, just brief comments on the markets). We'll be back to our usual format with the next report.

The Decade Cycle

In the 5th August 2009 Interim Update we discussed the strong historical tendency for the dominant, or one of the most dominant, investment themes of a decade to make a blow-off top during the final few months of the '9' year or the first half of the '0' year, and mentioned what we consider to be the four best candidates for this decade's bubble peak (and subsequent collapse). Our thinking at the time was that the 'China story' -- encompassing China's asset markets and the widespread belief that China is destined to dominate the global economy for many decades to come -- was one of the front-runners. 

We plan to update our views on the Decade Cycle within the next few weeks, but just wanted to point out that the 'China growth story' remains a front-runner for an end-of-decade boom-to-bust transition, mainly because its underpinnings are so flimsy. We are dealing with a classic inflation-fueled boom where rapid growth in the supplies of money and credit has led to an economy whose capital structure is now totally out of alignment with reality.

The Stock Market

The stock market versus the oil market

Question for TSI: "You have said that oil's upward trend is linked to the stock market's upward trend and the widespread belief that the global economy has entered a new growth phase. Why, then, are you short-term bearish on the stock market and short-term bullish on the oil market?"

In our opinion, both the stock market and the oil market are experiencing counter-trend rebounds that will be followed by declines to test the Q1-2009 lows. Additionally, on an intermediate-term basis these rebounds are linked as noted in the above question. On a short-term basis, however, the oil market is in a much stronger position than the stock market. We say this because the stock market's trend looks extended to the upside (the senior US stock indices are near the tops of "rising wedge" patterns) and equity sentiment is near a bullish extreme for a bear-market rally, whereas the oil market has just broken upward from a 4-month consolidation and sentiment towards oil appears to be indifferent. 

Something else that should be factored into the risk/reward equation is that oil could, in the short-term, move sharply higher in parallel with a stock market decline if there were a supply shock resulting, say, from heightened tensions in the Middle East. 

Current Market Situation

The S&P500 Index moved to a new high for the year last week. This was not expected, but neither was it a big surprise. It means that the S&P500 has now retraced almost 50% of its 2007-2009 decline, which is quite normal for a post-crash rebound within a secular bear market. 

The market is dangerously extended to the upside, but there is no evidence that an intermediate-term peak is in place. 

One of the difficulties we face is that we can never know the expectations of other market participants. For example, we would have thought that positive third-quarter earnings results were fully factored into the market prior to the start of last week, but this obviously wasn't the case because stock prices responded very well to some good news on the earnings front during the first 4 days of last week. However, due to the prevailing high level of optimism the market is acutely vulnerable to any bad news.

This week's important US economic events

Date Description
Monday Oct 19
Housing Market Index
Tuesday Oct 20Housing Starts
Producer Price Index
Wednesday Oct 21 Fed Beige Book
Thursday Oct 22 Leading Economic Indicators
Friday Oct 23 Existing Home Sales

Gold and the Dollar

Currency Market Update

Most of the ingredients are in place for a powerful multi-month rally in the Dollar Index. In particular, we note that:

a) Large speculative bets on additional US$ weakness have been placed in the futures markets (speculators are heavily net-long euro, Swiss Franc, Yen, Australian Dollar and the Canadian Dollar futures). This tells us that sentiment is approaching a dollar-bearish extreme. The recent deluge of dollar-bearish articles in the press, many of which revolve around the idea that the US$ is about to lose its reserve currency status, supports the notion that sentiment is nearing an extreme.

b) Although many people believe that the Fed continues to 'print money like crazy', the Fed's balance sheet is slightly smaller now than it was at the beginning of the year. The Fed has maintained what central bankers would call an accommodative stance, but it hasn't been as reckless over the course of this year as is widely believed. 

The yearly money-supply growth numbers are still being boosted by the huge monetary injections of Q4-2008, but when these panicked injections drop out of the year-over-year calculations there will, we suspect, be a sudden realisation that the US money supply is being inflated at a much slower pace than previously thought. This realisation should hit at some point over the next three months, and when it does it could lend considerable support to the US dollar's exchange value. 

c) The Dollar Index is oversold on a weekly basis.

There are, however, two important missing ingredients, the first being an end to the stock market's post-crash rebound and the second being a further narrowing of the interest rate gap between the US$ and the euro. The first of these missing ingredients is the more important because the second will be a likely consequence of the first (the ECB will probably lower its official interest rate target to nearer the Fed's target after it becomes clear that the stock market recovery has ended). 

The stock market's upward trend is closely related to the dollar's downward trend because the dollar is effectively being shorted to finance long positions in growth-related plays such as equities, high-yield bonds and industrial commodities (the so-called "US$ carry trade"). 

In summary, the dollar's downward trend is very stretched, but there is no evidence that it is over and it probably won't end until after the stock market reaches an intermediate-term top. 

Gold and Silver

Some sort of correction has begun in the gold and silver markets, but at this stage neither market looks like it has reached a top that will hold for more than a few weeks. We certainly aren't yet seeing the sort of volatility in the silver market that typically occurs around an intermediate-term peak (silver tends to make important tops by rocketing upward and then crashing). 

The speculative net-long position in COMEX gold futures hit a new all-time high last week, but as we keep saying: this won't be a major issue until gold's price trend reverses downward for some other reason (an abnormally large speculative long position won't be the CAUSE of a downward reversal, but it will provide fuel for the next intermediate-term decline).

Gold Stocks

Our interpretation is that the AMEX Gold BUGS Index (HUI) is consolidating within the context of a short-term upward trend and will make new highs for the year over the weeks ahead. However, we are probably in the final phase of the rally that began in October of 2008. To be more specific: based on the history of intermediate-term advances in the gold sector and on our other market views, we continue to expect that the HUI will reach an intermediate-term peak prior to the end of November. In the mean time, the HUI's potential downside should be limited by support in the 420s. 

The downturns that follow intermediate-term peaks in the gold sector are invariably severe and there is no good reason to believe that the next one will be an exception. The higher the HUI goes before an intermediate-term peak is put in place the greater the subsequent percentage decline will be. Putting some numbers to it: history suggests that the coming intermediate-term decline will be at least 25% and perhaps as much as 40%. Also, it will probably last 6-12 months.

If the HUI's coming intermediate-term correction follows the typical path it will encompass a sharp initial decline followed by a rebound that retraces 50%-70% of the initial decline and then a larger/longer decline. We expect that many junior gold/silver stocks will make new 52-week highs during the counter-trend rebound that follows the HUI's initial decline. The reason is that the majority of market participants usually view the first part of an intermediate-term decline as just another routine pullback.

Update on Stock Selections

(Note: 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)



 
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