Yes, careful, it could be that time
on Wall Street when the proverbial watch that doesn't work actually
gives the correct time… bring out the bananas, it's gonna be a party...
a short one, but maybe it'll be fun.
We're here for a good time...
not a long time (Trooper).
one of CNBC's more rebellious henchmen, admitted today he didn't
know there was a "deep throat" (alias for the informer
that helped the press blow Watergate open and whose identity only
one person knows, to this day I think), and in the same breath
wondered why we're still talking about scandals 30 years old. I
wonder why. The world must be a better place otherwise the free
press, which is freer today than ever, would tell us it wasn't.
An upbeat earnings forecast from
McDonald's sent the bulls racing during a lull in the bad news on
Monday, or so it was reported. McDonald's said the weaker dollar
is helping its foreign currency earnings. That was important for
the bulls because they have been looking for a reason to get bullish
on a weak dollar.
The bulls worked themselves into
a lather over the spin they could potentially attach to all of the
various stocks or sectors ahead of the second quarter. They agreed
the market was oversold, after falling for four straight weeks,
and also that there was a ton of money in money market funds on
the sidelines (they have been in agreement on those issues for some
time - sort of like a stopped clock actually) waiting to invest
in shares. So they went on to bid almost everything up except for
gold and tobacco shares, which suffered on the excitement that even
spread to the bank shares.
US averages finished at their highs
for the day. The Dow was up 213 points, or 2.25%, while the S&P
500 closed up 2.9% in a surprise bull raid. Advancers outpaced decliners
almost 4:1. Volume on the big board was 1.4 billion, which was lighter
than Friday's volume.
Citigroup, JP Morgan, and American
Express were the Dow's best performers Monday after a crack of key
bullish support in the Dow on Friday. In the rest of the market,
it was the software, biotech, insurance, and semiconductor (Intel)
sectors that led the way higher. What
we're seeing here, I think, are the bulls punching back after being
pinned on the ropes for four straight rounds.
Fly butterfly, fly.
A recovery in bank shares is bearish
for gold markets. On Friday we felt that the Dow's recovery fell
short of the kind that would lead to more gains this week, barring
a swift one or two day respite (correction in sentiment). Perhaps
that is all Monday's rally was.
If it is more than that, we'll need
to see it extend through 9800 for the Dow; for the Nasdaq composite
that resistance is at 1600, and 1048 for the S&P 500. These are
short-term resistance points that ought to help us determine the
significance of this rally, and guide our perspective. Technically
we have to take it day by day. So far, there's nothing to suggest
it can't be just a good round for the bulls before the knock out
punch finally ends the match tomorrow or the next day.
For fundamentally, this argument
is about valuation, specifically whether stocks are cheap relative
to how they will be valued in the future.
For two years the bulls have not
been able to buck the interest rate hurdle, but now, at 40 times
earnings for the S&P 500 they're going to attempt a rally on stronger
commodity values, higher rates, as well as a weak dollar. Good luck.
It's a sucker's play, because the
bulls want to bid up stock values ahead of a quarter that could
turn out to be disastrous if McDonald's is the only one to report
good news (that's a joke sort of). By disastrous I don't mean that
earnings will be lower than expected. I don't know. I would bet
they will be, but current equity valuations still reflect high expectations
for earnings. Whatever those expectations are, I doubt they've fully
accounted for the impact on profits as well as on the valuation
process from the confluence of macro events, whose upside has perhaps
already been discounted today.
To get stock values to sustain these
levels or to expand, the bulls need to come up with an argument
that can overcome both the prospects for a weak dollar as well as
the prospects for rising interest rates.
In other words, a weak dollar, higher
interest rates, and higher commodity values are ingredients that
can affect not only profits for most participants in the economy
as we know it, but also alter the way that the market values financial
assets relative to other assets, commodities, and money. The equity
risk premium as it stands today continues to suggest that stocks
are at or near the top of the individual's subjective value list.
The bearish argument is that this premium should rise to better
reflect the uncertainty in corporate earnings streams. Bears (at
least we do) argue that the factors that have contributed to the
low ERP are not sustainable despite ongoing policy efforts to extend
their influence. Such an outlook means that shares are still overvalued
If, for instance, the market is valuing
yesterday's earnings at 40 times, which we all know is a historical
extreme, in a benign interest rate and price environment, what will
it value tomorrow's earnings at (per share) if prices and interest
rates rise tomorrow? Those earnings better come in good, that's
all we can say, speaking for the bears.
Before the bull market peaked visibly
in 2000, the averages would often run up ahead of the start of earnings
season (after the end of each quarter). When they did they would
often correct during or after the end of the profit announcements.
However, each pre season run up ended at higher levels than the
prior quarter's run because it was a bull market. Consequently,
the risk to playing this game of betting on earnings was low, at
the time, and so confidence grew and grew, quarter in and quarter
out. Every future bet would take into account prior bullish outcomes
before being assessed and laid.
we're in reverse. Since mid 2000, the S&P 500 rallied into earnings
season 4 times (out of the past seven quarters): the summer rally
of 2000, the May/June rally in 2001, the post 9-11 rally that ended
once 4th quarter profits for 2002 were being announced, and the
February/March 2002 blue chip rally we dubbed the "Wind Up"
at the time. While the correction in stock prices after the fourth
quarter ended did not force the bulls to give back all of their
profits from the post 9-11 bubble, the Wind Up that began ahead
of the last quarter culminated in lower lows, as did all the others
The point is that confidence in this
betting game is probably increasingly impaired as a consequence
of poor betting outcomes in the recent past. I think it will take
more than McDonald's to bring confidence in this game back, at today's
valuations. The purpose of assessing this is for short term players
wondering whether or not the bulls are going to be able to sustain
a rally into July.
currency profits! That's the new line. To be sure, bank stocks probably
saw impetus from a bounce in the tech sector as well as the overall
market. Stocks that had been trashed in recent sessions bounced
the most, leaving McDonald's, or one of the Dow's few better performers
this year, in fifteenth place (of the 30 Industrials) on Monday.
Although we can rarely tell how far
these kinds of rallies will extend when they start, the bears haven't
relinquished the reigns quite yet, fundamentally or technically.
The only damage that has been done
to the bearish case is that the Dow recovered key bullish support
at 9529, after closing below it on Friday for the first time in
seven months. That was the technical significance of Monday's action.
If bulls can hold that fort, they can neutralize the bearish momentum
for the time being. Note that we're not saying they could or can't.
We're just stating a supposition.
I think they'll (the bulls) fail
at that, but will be on watch to reassess that judgment if needs
For the moment we can suggest that
matching or beating expectations in the 2nd quarter is likely to
be a moot case for the bulls at this point.
any rate, the enthusiasm on Wall Street for the better earnings
outlook in connection with the weaker dollar resulted
in a stronger dollar Monday. The dollar's biggest support came from
gains against the Rand and Australian dollar.
Otherwise the dollar index was up
only marginally - hardly enough to count for much so far. But Wall
Street's rally was enough to splash some cold water on gold bulls.
I felt it first thing in the morning.
For, we know that any convincing bull run on Wall Street is likely
to drag the dollar up with it. That's the correct ball to keep your
eyes on if they're not already there - in our opinion.
Gold prices finished a touch lower
at about $318, while most gold indexes gave up from three to five
percent on Monday. All the gold indexes finished near last week's
lows but (gold) bulls were able to hold those lows for now.
rally in US shares closed at its highs on Monday, leaving the global
share merry-go-round to bid up enthusiasm further overnight. Japan
was off more than 2% Monday morning as well, and barring typical
bear market news to spoil the moment the Dow rally could put that
slide sharply in reverse in Tokyo by morning.
Tuesday's open looks strong in New York it is possible the correction
in gold shares could deepen. The short-term patterns in these charts
appear to have a bearish bias developing at the moment, and if last
week's lows are taken out, these shares could drop by another 10
to 20 percent before the swoon ends.
If that kind of drop in value would
hurt then it would be prudent to sell some shares sooner than later.
We are increasingly confident of the inverse relationship between
gold shares and the Dow, but any investor must realize that if the
Dow were to crash tomorrow the equity risk premium could rise across
the board so that the gold stocks would get it too.
It's important to be in a position
where one can be comfortable with corrections like that at times
when the outlook is not entirely clear. Our outlook discounts (as
in forget about it) a significant Dow recovery, and portends a further
rout after the indexes tap nearby resistance levels, plus or minus.
There is no reason to reduce our 30% allocation in gold shares unless
our outlook for the Dow and/or dollar changed in the near or long
One thing to watch out for is dollar
intervention, despite the controversy surrounding dollar policy
in recent months. Nobody expects it, perhaps because of that.
The fact is that the stakes are high,
if only because the Plunge Protection Team must increasingly have
a lot of paper to get off. Anything could happen, and anything might