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 December of 2008. In real (gold) terms, bonds commenced a secular BEAR market in 2001 that will continue until 2014-2020. (Last update: 4 April 2011)

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

Why do people lend to the US government at 0% interest?

The following chart shows that since November of 2008 the yield on the 3-month Treasury Bill has never exceeded 0.3% (the chart's scale shows the yield multiplied by 10, so "2" on the chart means 0.2%) and that the yield has dropped to 0% on a few occasions. In fact, the T-Bill traded at a 0% yield over the past three weeks and ended last week at a yield of only 0.03%. This prompts the question: at a time when the US dollar is clearly losing purchasing power, why would anyone lend money to the US government for three months in exchange for a guaranteed nominal return on investment of zero?

The answer is that if you have a lot of US$ cash, parking the cash in T-Bills is the most efficient way to achieve a guaranteed return OF your investment.

Consider that there is a lot of uncertainty regarding the true financial positions of many large banks and that proper accounting would possibly reveal that some of the most well-known banks are insolvent. Also consider that FDIC insurance only covers $250K per depositor per bank, and that a lot of money-market funds have invested in the debt of banks that could possibly be insolvent. With these considerations in mind, if you have hundreds of millions, or billions, of dollars in cash and your only goal is to place this cash where it is certain to be available at par when you need it, lending the cash to the US government at zero% could seem like the best option.

When will the Chinese and Japanese governments dump their T-Bonds?

The definition of money (from the foremost authority)

The Stock Market

These days we generally operate on a long-only basis. There's always a bull market somewhere, so rather than trying to find a bear market in which to go short we focus on finding a bull market in which to go long and stay long. This is a good strategy in a world where central banks have issued ironclad guarantees that money will be worth less in the future than it is in the present.

However, bull markets periodically get over-extended and then experience large 'corrections', thus exposing the long-only approach to the risk of a large draw-down. Furthermore, bull markets eventually end, but in real time it is often difficult to tell the difference between a gut-wrenching intermediate-term correction in a continuing bull market and the start of a new bear market. In other words, there's always a risk that the bull market ends and we don't get the memo.

The main way that we mitigate these risks is by increasing our cash reserve as the market ramps upward, and doing so most aggressively when the slope of the upward trend becomes almost vertical. On occasion, we also use put options to mitigate risk. Put options bought for this purpose can be likened to home fire insurance, except that in this case we are insuring against a portfolio disaster.

The above explains why we won't be betting on a decline in the US stock market, even though we are short- and intermediate-term bearish on this market. But for those who are inclined to make such bets, this looks like a reasonable time to establish an initial position. The following chart illustrates the reason. The chart reveals that the NASDAQ100 Index has just reached the top of its 6-month range while the HYG/TLT ratio (an indicator of risk tolerance in the credit market) remains well below its February high. We therefore have a significant bearish divergence on our hands, combined with a market that is 'overbought' and at resistance.

This week's important US economic events

Gold and the Dollar

Gold

Over the four trading days since completing a remarkable run of 10 consecutive up-days, the gold futures market has consolidated near its high. Sentiment is no longer supportive, in that the total speculative net-long position in COMEX gold futures has moved up to near its year-to-date high and Market Vane's bullish percentage for gold has moved well into the 80s; however, no market ever reversed course simply because sentiment became optimistic. Overtly optimistic sentiment creates downside risk, but in this case the sentiment indicators are consistent with the price action. The best way to put it is that sentiment is neither a positive nor a negative at this time.

As noted in last week's Interim Update, to get more information about gold's short-term outlook we will need to see how market sentiment reacts to a pullback to the vicinity of the 50-day moving average (currently in the $1530s).

A pullback to the vicinity of the 50-day moving average could begin immediately, although a study done by InstitutionalAdvisors.com's Ross Clark (the best technical analyst we know of) suggests that gold could continue higher for about three more weeks before embarking on such a pullback. Ross has determined that there were only six prior occasions over the past four decades when gold broke to a new high for the year in July. The typical rally extension following these prior July breakouts points to a mid-August peak, after which there would be decline to the 50-day moving average or lower. Note, though, that if the current market only matched the shortest rally following a prior July breakout, a peak would be reached this week.

Silver

A daily chart of the Silver ETF (SLV) is displayed below. SLV tracks the silver price very closely, although the price of SLV shares is now about $1 lower than the spot silver price due to cumulative silver storage costs since the ETF's inauguration.

In early July it looked, to us, like silver and gold would rebound to the tops of their 2-month ranges over the ensuing several weeks. This implied a move up to the $1550s for gold and $39 for silver ($38 for SLV). Both have done better than expected, with gold rising to a new all-time high and silver moving as much as $2 above the top of its former consolidation range before pulling back.

As illustrated below, SLV ended last week about $1 above the top of its former range. The breakout from the multi-month trading range doesn't mean that the overall correction is over, but this breakout combined with gold's price action suggests a near-term upside target of $42-$43 for SLV.

Also as illustrated below, SLV's rising 200-day moving average has now almost reached its May low. Consequently, SLV will be able to drop back to its 200-day moving average at some point over the next couple of months -- and thus achieve the MINIMUM objective for an intermediate-term correction -- without trading below its May low.

It remains likely that silver will test its 200-day moving average before its overall correction comes to an end. Also, there is still a risk that the silver price will fall as far as the low-$20s at some point over the next few months, although due to gold's recent move to a new all-time high this is now a very low-probability risk.

Gold Stocks

With reference to the following daily chart, the Market Vectors Gold Miners ETF (GDX) 'double-topped' in December and April. It hit a new 6-month low in late June, at which point it was very 'oversold' in both dollar terms and gold terms. As expected, the subsequent rebound has been strong. Sufficiently strong, in fact, that GDX is now 'overbought'.

If the June low turns out to be the ultimate correction low then we've just witnessed the mildest intermediate-term gold-sector correction of the past 10 years. So, either it's different this time or there is more work to do on the downside during September-November.

"It's different this time" is rightly considered to be a dangerous phrase, but the reality is that sometimes it is different. Furthermore, there is a good reason why the gold-sector correction that began last December could have ended without sector proxies such as GDX and the HUI achieving the minimum downside targets based on earlier corrections. The reason is that for the first time in gold's current long-term bull market, the gold price has made a new high for the year in July. Putting it another way, gold bullion doing something different has potentially 'paved the way' for the gold sector of the stock market to do something different.

As things current stand, GDX's recent rally could be a rebound within an unfinished intermediate-term correction or the first leg of a new intermediate-term advance. If it's the former then the price will make a new low within the next three months, but if it's the latter then the next decline should stop near the 50-day moving average. Either way, GDX at $60-$64 constitutes a short-term selling opportunity.

Currency Market Update

Last week's big news was that Europe's political and monetary leadership had cobbled together another rescue operation designed to prevent the Greek government from defaulting on its debt, although the latest rescue operation does incorporate a "selective default". In this case, a selective default is a change in the terms of outstanding bonds, with some short- and mid-term bonds being converted to the long-term variety. It is hoped that by stretching-out the Greek government's obligations and injecting 109 billion euros of new money, the crisis will end.

The Greek government's financial position is no better today than it was a week ago, but it seems that the risk of a direct near-term default has been eliminated. Moreover, Europe's leadership has demonstrated a commitment to throw whatever amount of new money is needed at the sovereign debt problem to prevent the monetary union from breaking apart. So, although nothing of significance was done last week to improve the financial positions of the "PIIGS", the markets have been led to believe that there is no limit to what will be done to mitigate short-term pain and 'keep the game going'.

The whole concept behind the latest euro-zone rescue package is completely wrong, because it amounts to another massive intervention by central planners. It is being sold to the public as a means to a stronger Greek economy and more job opportunities for Greek citizens, but by propping up bad investments it will actually go a long way towards ensuring that a genuine economic recovery will not occur.

What's bad for the economy, though, isn't necessarily bad for the stock market. The stock market often benefits from monetary inflation, so last week's reaffirmation of the central planners' commitment to throw a lot more good money after bad gave the stock markets of the world a hefty boost. And these days, what is good for equities is bad for the US$. At least, it is clear that traders have become conditioned to sell the US dollar in response to stock market strength. Consequently, even though last week's Greek bondholder bailout was fundamentally bearish for the euro (because it will result in greater euro supply), it prompted a euro rally and a US$ decline.

The above-mentioned relationship between the equity and currency markets is the main reason we are bullish on the Dollar Index with respect to the coming 6 months. As illustrated by the following chart, the Dollar Index has consistently trended in the opposite direction to IOO (S&P Global100 iShares, a proxy for global equities). This relationship sometimes doesn't work on a short-term basis, but over the past 3.5 years it has always worked on an intermediate-term basis.

Does this mean that if we are too bearish on the stock market then we are probably too bullish on the US$?

Yes.

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)

Gold-Ore Resources (TSX: GOZ). Shares: 85M issued, 91M fully diluted. Recent price: C$0.85

We most recently suggested buying shares of GOZ, a junior gold producer with a mine in Sweden, at C$0.75-C$0.80 in May. Near last week's closing price of C$0.85, they are still good candidates for new buying.

Assuming no growth in production and no improvement in operating costs, we estimate that at the current gold price GOZ should generate at least $18M/year of cash. Applying an 8 multiple to this cash flow implies a valuation of around $1.60/share. With growth in production beyond the current 45K-oz/yr rate, the valuation would increase.

Chart Sources

Charts appearing in today's commentary are courtesy of: