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

Vacation Reminder

Just a reminder that we will be on vacation as of Tuesday 22nd December and that the next TSI commentary will be the Interim Update scheduled for Thursday 7th January 2010.

Very best wishes for a joyful Holiday Season and a happy and profitable 2010!

Money Supply Distortions

Base Metals

The Stock Market

The number of consecutive trading days that the S&P500 Index has spent within a narrow horizontal range is now at 28 and counting. Since 9th November the S&P500 has not closed lower than 1087 or higher than 1111. The absence of volatility, combined with the sideways price action and low volume, indicates a lack of enthusiasm on the parts of both the bullish and the bearish camps.

We suspect that the breakout from the current range will point the way for the ensuing 2-4 weeks. For example, if the S&P500 breaks out to the upside within the next few days then it will probably rally into the first half of January. However, the direction of the breakout won't, by itself, tell us much about what's likely to happen beyond the ensuing few weeks. In isolation, it won't signal the start of a major market move.

Other indicators will give us a better idea as to whether the eventual move out of the current narrow range has implications beyond the very short-term. For example, credit spreads have been contracting since late last year, and especially since March of this year, telling us that credit-market confidence has been in an upswing. This upswing in confidence is reflected by the upward trend in the HYG/TLT ratio, a chart of which is presented below. A stock market decline that is not led by or accompanied by a pronounced downward reversal in the HYG/TLT ratio probably won't get very far.

The NDX/Dow ratio is another example of an indicator that will potentially tell us whether something important is happening, or is about to happen, in the stock market. As evidenced by the following chart, NDX/Dow has been oscillating within a horizontal range since July.

We probably shouldn't get excited about any downturn in the S&P500 Index unless it is accompanied by the NDX/Dow ratio breaking to a new multi-month low.

This week's important US economic events

Gold and the Dollar

Gold

The gold price ended last week at its 50-day moving average, meaning that it has reached what we considered to be the most likely short-term downside objective. We won't be surprised if it turns out that last week's brief dip below $1100 created the price low for the correction, but significant short-term risk remains.

We would be more confident that the correction had run its course if the decline from the 3rd December peak had prompted a 10%-15% reduction in the speculative net-long position in COMEX gold futures, but the latest Commitments of Traders (COT) report showed that the speculative net-long position had fallen by only 1% from its high.

The purpose of a downward correction in a bull market is to shake out the 'weak hands' prior to the next advance. By the same token, corrections usually don't end until there has been a meaningful shakeout of the 'weak-handed longs'. The COT data therefore suggest that gold's correction is not over.

The COT report is just one part of the sentiment picture and sentiment is just one part of the overall picture, so it is certainly possible that gold bottomed near its 50-day moving average last week despite the lack of movement in the COT data. A 10%-15% contraction in the speculative net-long position would just have improved the odds of a sustainable price low.

One positive development late last week was silver's ability to hold above the low of the preceding week. Last week's resilience in the silver market meant that gold's drop to a new correction low was not confirmed by the silver/gold ratio. This is just a minor positive divergence right now considering that the silver/gold ratio has been drifting lower since mid September (refer to the following chart for details), but it could evolve into something of importance.

If you had planned to buy gold as a trade following a pullback to the 50-day moving average then in our opinion you should go ahead and do so. You could then manage risk by placing an initial stop just below last week's intra-day low. For example, plan to exit trading positions entered near the current price if February gold closes below $1095.

Gold Stocks

Last Thursday's plunge by the HUI to a new low for the move was a little surprising. We expected it to make new correction lows, but not as soon as it did.

The following daily chart shows the channel that has defined the HUI's progress since its October-2008 bottom. If the correction that began on 2nd December turns out to be the intermediate-term variety (it probably will, but a more bullish scenario is still possible), then the channel bottom will be breached before the correction ends. However, it should not be breached during the first short-term decline (the current decline). This means that as far as the next several weeks are concerned the remaining downside risk is probably limited to about 5%.

Our short-term gold-stock outlook will automatically shift to "bullish" if the HUI trades below 410 within the next three weeks. A drop to 410 would prompt us to exit our put-option hedges and, quite likely, do some buying.

On an intermediate-term basis we think the remaining downside risk is somewhere between 10% and 30%. This is based on the fact that all intermediate-term HUI corrections during 2000-2007 resulted in peak-to-trough declines of 25% to 40%.

A daily chart of XGD is displayed below. XGD is a proxy for the gold sector in Canadian Dollar terms.

XGD broke out to the upside in November and quickly gained an additional 10%, but since the beginning of this month it has given back all of its post-breakout gains and then some. This is obviously not bullish, but the point we wanted to make is that the XGD is now within about 5% of an area of strong support defined by a trend-line and the 200-day moving average. With reference to the chart, notice that every short-term correction since March has bottomed at the 200-day moving average.

The XGD chart supports the view that the remaining near-term downside risk is about 5%.

Currency Market Update

Last week's price action provided us with more evidence that an intermediate-term bottom is in place for the Dollar Index. For example, the following weekly DecisionPoint.com chart shows that the Dollar Index's weekly PMO (Price Momentum Oscillator) has now confirmed the upward reversal.

However, the dollar's INITIAL rally is probably now close to a peak. There is considerable resistance at around 78, and the initial rally from the low has done as much as it should do if the dollar is following its typical bottoming pattern. As was the case during the first quarter of 2005 and the first half of 2008, we expect that the initial rally will be followed by a pullback to 'test' the low. We are therefore expecting to see the Dollar Index drop back to around 75 during the first quarter of 2010 before commencing the best part of its intermediate-term advance.

In addition to being very 'oversold', there are fundamental reasons to anticipate substantial strength in the US$ relative to the euro (the Dollar Index is dominated by the USD/EUR exchange rate). For one, despite the best efforts of the Fed (the US Fed has been doing its best to reduce the value of the US$), the euro is at least 20% over-valued relative to the US$ on a purchasing power basis. For another, at some point in the not-too-distant future the European Monetary Union will have to deal with the dire fiscal predicaments of its weakest members. This could entail a more inflationary monetary policy or a change in the membership.

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)

Stops on Natgas Trades

Trading positions in US Natural Gas Fund (UNG) and Fairborne Energy (TSX: FEL) were recently added to the TSI Stocks List with initial sell stops at US$8.45 and C$4.27, respectively.

We are switching to a 10% trailing stop for UNG, based on daily closing prices. This means that from here on we will exit the trade if UNG closes more than 10% below its highest daily closing price. For example, UNG closed at US$10.62 on Friday, so our stop is now at US$9.56 (0.9*10.62). If UNG were to close at $11.00 on Monday then our stop would increase to $9.90.

We will leave our FEL stop at C$4.27 for now, but will switch to a 10% trailing stop after the stock closes above C$5.20.

    Pediment Gold (TSX: PEZ). Shares: 47M issued, 53M fully diluted. Recent price: C$1.35

PEZ reported the initial NI 43-101 resource estimate for its La Colorada gold project on Friday. The project has 0.6M ounces in the M&I category and another 0.6M ounces in the Inferred category. Across its two projects (San Antonio + La Colorada) PEZ now has a total resource of 2.8M ounces, 2.1M of which are in the M&I category. This means that the company is presently being valued by the stock market at around US$21 per ounce of in-ground gold, or at only US$15/ounce if PEZ's $16M of cash is taken into account. This relatively low valuation creates the potential for significant additional gains in the stock price.

As stated in the 2nd December Interim Update, we think PEZ is suitable for new buying at around C$1.30. Some profit-taking would be appropriate at around C$2.00.

Chart Sources

Charts appearing in today's commentary are courtesy of: