market conditions thinned last week, after the prior
week's assault on the $355 handle. They were relatively thin everywhere,
at least until the final trading day of the year. Nevertheless,
we saw the Euro and Swiss Franc
accelerate to new three and four year highs, respectively during
the remaining sessions of the year, and we saw new 35-month lows
in the US dollar index. Even the Yen seemed to break out of a five-month
downtrend against the greenback by Monday. We like to say gold predicted
it all. It did you know, and we suspect it'll soon be predicting
more of it to come.
Interestingly, during gold's pullback
on Monday, mainstream's headlines read that gold was down due to
profit taking and a small retreat in oil prices. This is a monumental
shift from 'gold is down because it's dead!'
While most markets stayed thin in
holiday trading, however, rumor mill conditions in the gold world
thickened. Glossy eyed gold bulls ecstatic about gold's late season
bull market signal and about being
on the right side of the market heard Greenspan utter the word gold
but three times. To them it was a superbowl pass and they ran the
ball right past the end zone and onto the next field with the idea
that key Fed officials have been signaling the coming of a reversal
in more than 100 years of straight-line monetary debasement; that
they plan to reinstate the gold cover clause, which served as a
bridge to more soundless money under the Bretton Woods system.
The hope among these gold bulls is
that it marks the beginning of a move back to a gold standard, as
if, suddenly the Fed admitted that it had it all wrong. Haven't
you guys been watching? They've wanted to move away from one since
the Civil War.
Tea with Jim has turned into quite
the party. However, we're sorry to say that we saw no hint of a
move toward a gold cover clause in Greenspan's speech last week.
There was an admission that a decade ago, central bankers agreed
fiat currency was subject to excess.
recently as a decade ago, central bankers, having witnessed
more than a half-century of chronic inflation, appeared to confirm
that a fiat currency was inherently subject to excess -
Alan Greenspan; Dec 19, 2002; FRB website.
However, this knowledge resulted
in the New Economy, a counterfeit product of the real thing courtesy
of an inflation induced monetary boom. Maybe Mr. Sinclair is right
Gold Cover Clause). Maybe
the Fed is going to lobby for a gold standard now at the same time
it lobbies for expanding its open market operations mandate to include
mortgage backed securities? Well, if so, I didn't see it in the
speech myself. Wouldn't we have to see Greenspan admit that central
bank policies since then have continued to "confirm that
fiat currency was inherently subject to excess" before
running with that ball? As far as I could tell, the speech was all
about what a good job the Fed did during the nineties and that it
still isn't possible to prevent bubbles.
Mr. Sinclair has worked for the IMF,
and boasts lots of experience on such matters. But we have to differ
with him on the reality of this speculation.
For the head banker to hint that
banks are going to have to accumulate gold reserves at this point
would be like committing suicide for a banking system that is allegedly
short too much gold, or am I missing something? If Greenspan and
Bernanke hinted at a move like this, either they aren't aware of
any gold price suppression or figure it doesn't exist. For, can
you see the contradiction between acknowledging a massive bullion
bank short position and recommending a plan that will put a squeeze
on it? Or are we to think that Greenspan is one of the good guys
ready to punish his member banks for their profligate investment
and inflation practices conducted under his very own reign? Maybe
so. After all, he's presumably an objectivist. What's an objectivist
doing running a central bank anyway, has anyone stopped to ask?
According to Mr. Sinclair, the genuinely
excitable Chairman of Tan Range
Explorations that has decided to take the gold bull market by the
horns himself, the plan to implement a gold cover clause won't go
into affect until the dollar falls by more than 30% by the trade
weighted dollar index.
Now think about the effect on gold
prices from the prospect of a collapsing dollar combined with an
announcement that banks are going to have to buy gold later. Why
would the Fed add such bearish impetus to an already limping banking
system now? To fight deflation? Jim's wish effectively helps Greenspan
et al promote their own deflation fallacy, because
he suggests the Fed is deliberating dollar devaluation to fight
it. Tit for tat. With due respect Jim, for all your experience,
you may have been outfoxed by some of the shrewdest State propaganda
since the third Reich.
Of course it would be shrewd for
the Fed Chairman to publicly deny the likelihood of deflation, yet
prompt a gold bull into promoting the Fed's utility in fighting
it. Maybe I'm overestimating the Fed, but it's poetic at least.
In the big scheme of things, a central bank and gold producer are,
strangely, bedfellows, since after all, it's central bank policies
that fuel the biggest bull markets in gold.
If we really wanted the nation's
banks to accumulate gold reserves, the answer is simple, abolish
the Fed. The effect on markets might be the same as hinting at the
move to a gold cover clause. Either way, the Fed's survival depends
on gold's demise rather than its resurrection. The bull market in
gold is a market reaction to the poor monetary policies of the Fed.
It's a tax on dollar holders. It's the hidden tax that inflation
is rightly blamed for. It's not a tax the Fed wishes on its dollar-ridden
global banking system. Gold investors despise the Fed, but deep
in their hearts, many of them hope that its Chairman is still a
gold bug, as he had once described himself. You see, he'd learnt
way back then how to peddle hope. We've long given up on the idea
of Greenspan the savior. You should too Jim. It doesn't add up anymore.
Gold is going higher because it's
forecasting trouble for the dollar. The gold market is discounting
dollar devaluation, but one that's initiated by the market, not
the Fed as they would wish us to believe - if only to ward off a
hard-landing for the currency by implying control.
It's Still A Bear Market on Wall
US Treasury bonds firmed up last week in the context of a fourth
quarter correction. The chart bias turned bullish coincident with
renewed bearish bias in the Dow chart on Friday, as the Dow bears
pierced nearby bullish support at the Nov 13 low of 8298 intraday,
which is the last highest low in the not quite three month countertrend
bull leg that began on my birthday no less. Bulls were able to close
the Dow 6 points above that level at 8304 nonetheless, and edged
it back up to 8342 by Tuesday Dec 31st. It's
true, they could be hanging on by their fingernails, but nonetheless,
hanging on is what they're doing.
bears are still in control of the primary and intermediate trends
in Wall Street's stock market averages, but have let the bulls lead
stock prices higher in a countertrend sequence since October, resulting
in what was either a real reversal in the Nasdaq, or a fake one.
That has yet to be determined. Speculative
markets are prone to random volatility, however, which make chart
analyses often less reliable.
Our read of the November breakout
in the Nasdaq indicates a fresh wave of speculative froth at best,
and without confirmation from any of the broader blue chip averages,
we are skeptical it is going to hold up. In other words, we're confident
it was a fake move, or bull trap.
A break down through 1319 for the
Nasdaq composite, 8298 for the Dow Industrials, 872 for the S&P
500 index, and 465 for the NYSE composite would represent the surrender
of the near-three month countertrend sequence by the bulls, which
would confirm our hypothesis, and open up the possibility for new
lows. Bulls might be satisfied if it were only going to be a test
of recent lows, but the fact remains that the bears still control
the main trends, and there has been little the bulls have done to
alter that technical condition so far. Most of the averages barely
made it back up to their 200-day moving averages despite the added
Fed stimulus in November. Even the Nasdaq's would-be reversal didn't
include a crossover to the bullish side of the 200-day moving average.
It's still a bear market, and so,
investors should be open to the possibility of new lows in the averages.
Bulls have factored an earnings recovery for the fourth quarter
of some magnitude, but they fall short on premise as well as the
realities evident almost everywhere but the housing and mining sectors.
More importantly, they have yet to factor in a potential market
driven rise in bond yields resulting from the "inflationary"
factors that surface during any currency devaluation.
Perhaps one reason is because the
Fed has recently promised us it will keep a lid on longer-term interest
rates if it has to (Bernanke). Oh yeah, by the way, good luck doing
that while the dollar's falling. The last time they did fix long
term interest rates was during the fifties, after the prior secular
bull market in bonds gave way to a thirty year bear market. Whatever
the reasons then, a) it didn't work for long, and b) the dollar
was on a fixed rate regime. That means today, it would work less
I wonder if, under such circumstances,
Kudlow would be rooting for the Fed, free market enthusiast that
he claims to be. It's just a passing thought at any rate. I know
he supports the Treasury when it rigs bond market demand.
Outside of these policy machinations
and fresh bear tracks on Wall Street, the bonds probably also saw
a bid from additional bad economic news during the week as well
as war rhetoric.
I'd like to offer some speculations.
first regards US dollar rhetoric. When someone's got a lot of stock
to get off, they hire a promoter to talk up a good story while exiting
through the back door. It's no different in other markets. Any
large owner of dollar reserves, whose aim is to reduce them in favor
of at least a greater diversification of currency reserves, is going
to turn up the volume on how great the dollar is. If Japan wanted
to sell a portion of its gigantic dollar reserve, it wouldn't tell
you. Its politicians would undoubtedly be waving the American flag
on the one hand, while selling on the other. Of course, just because
that logic is valid, it doesn't mean that if you hear the rhetoric,
it isn't sincere. So our first speculation is that it isn't sincere,
and thus, that the dollar will continue to fall.
Our second speculation involves the
Loonie, and its implication for the momentum in gold prices. While
the European currencies are off and running, the Loonie is threatening
to fall to a new record low. The dollar index has continued to sink,
but the weakness in the Loonie coupled with a consolidation in the
Rand and renewed weakness in the Australian dollar are cause for
concern if you're bearish on the dollar, as we are.
trying to figure out what exactly ails the Northern Peso
in this editorial, our second speculation is that the Canadian dollar
gets nailed soon. This is premised on its chart behavior, which
has been conspicuously weak despite the broad weakness in the US
dollar this year. In fact, it has been the weakest performing major
market currency all year long, outside of the Latin American currencies.
If the current activity results in new lows, the break down could
send gold bulls a shock. In other words, a breakdown in the Loonie
could be the curveball we've been worrying about, even if it were
to be just a minor setback.
Our third speculation is that the
Dow is going to 6000 in the first quarter, and that gold prices
are going to surpass $400 somewhere in the first quarter, forecasting
further trouble for the US dollar, and despite a weak Loonie.
Valuations Must Submit to Rising
Our main argument for lower equity valuations is that a declining
dollar will result in price increases for various factors of production,
and ultimately, pressures for bond yields to rise. There are three
main opposing variables to our case.
- The first is the effect of the
Fed's rhetoric about fixing long term yields
- The second is the specter of an
earnings recovery, and
- The third is that the "odds"
favor the bulls
Bulls would claim the mere fact that
the bear market has lasted three back-to-back years (a post 1932
record) as indicating the decreased probability of further declines,
and they would add to that the implications of a coming presidential
cycle, as well as a whole whack of other superstitious mumbo jumbo,
such as the fact that this bear market has been the deepest one
on record since 1977. We have to congratulate CNBC on communicating
these odds to investors. They did a poll after reporting on them,
and 61% of respondents claimed to be bullish on equities for 2003.
We'll say one more thing to that.
The nineties bull market was a market that established new bull
market records, and we expect the bear market to also produce new
bear market records before it's all over. But just in case those
odds still hold today, in this new economy etc., we've worked out
the following scenario. Dow 6000 in the first quarter, or lower,
by way of a bear market capitulation/panic, followed by a sharp
reversal and the onset of a bear market rally as we approach US
Maybe the market even finishes up
on the year, which would require only a 2500-point bounce
into the end of 2003 for the Dow, off of the 6000 handle. This way,
CNBC's viewers might be right, even if they sell before they are.
The point being that our bearish scenario could still fit in with
the alleged probabilities this way.
A meaningful rally off of these levels,
however, would require actually improving earnings prospects. Moreover,
the Fed would have no mandate to fix yields in the case of a recovery,
so the earnings would have to be good enough that investors could
tolerate buying stocks while yields are rising. This is the one
place we could be wrong... that earnings come in surprisingly strong.
Certainly, that would be a surprise.
We just don't see enough room to
run from here for stocks, but that might be different at Dow 6000,
once yields have had a chance to rise and investors have discounted
that prospect, specifically its effect on stock valuations.
In light of developments in gold
and oil prices during December we'd be looking for poor fourth quarter
results from the banks, or at least poorer than currently anticipated,
assuming that recent settlements have already been factored for
the quarter. Undoubtedly we haven't heard the end of this kind of
litigation as the Spitzer settlements open the door for investors
to sick their own lawyers on the investment banks guiltiest of cheating
The future write-offs related to
such settlements, foreign country debt fallouts, further stock market
weakness, soaring gold & oil prices, and potentially rising interest
rates are fertile ground for establishing a bearish argument for
bank shares. I'm sure we've missed a few, but these are good enough
for us to stay bearish at the moment.
Oil prices might be about to complete
a major bottom. Note the 2-year head and shoulders bottom in the
chart for Brent. The Brent chart formation is less bullish than
the NYMEX Crude chart, but we couldn't get the right parameters
for NY Crude. If the recent breakout holds, bulls will have reversed
a two year bear market, confirmed the bull market signal in gold,
and set oil markets up for a primary jaunt to the $60 range, perhaps
even by next year if geopolitical tensions provide a catalyst. Yes,
fourth quarter earnings better be good on Wall Street, indeed, or
the bulls are going to simply give up trying to pick bottoms. And
that's fertile ground for a real bottom.