Liquidity vs Hemorrhage Cycle Revisited

Liquidity (currency devaluation) has always been the solution to all crises. The Japanese have little choice after a devastating disaster. Unfortunately, the economic illusion provided by liquidity phase vaporizes like fog in the early morning sunshine with the inevitable transition to the hemorrhage phase (liquidity vs hemorrhage cycle). Have no doubt, it's coming again.

Headline: Japan sprays more cash over jittery markets

Japan's central bank sprayed more cash over jittery money markets Thursday as a major bank's ATMs suffered a two and a half hour outage nationwide and the yen shot to a record high.

The Bank of Japan injected an additional 6 trillion yen ($76.7 billion) in same-day funds after the dollar hit 76.25 yen in the morning -- an all-time low for the greenback in the aftermath of Friday's earthquake and tsunami that killed thousands and triggered an unfolding nuclear crisis. With same-day funds, banks in need can access cash immediately.

Source: finance.yahoo.com

Vicious Downward Cycle Intensifying

The vicious downward cycle (see Jim's formula) that started that started in 2001 and rematerialized in 2008 is beginning to intensify in 2011. This suggests an acceleration in the trend toward a lower standard of living for Americans as the shockwaves of public spending cuts negatively impact local, state, and eventually federal coffers. The public sector, contracting under the weight of a massive debt burden, has few options without the bankruptcy protection or ability to devalue. The message from national municipal bond market reflects this “damned if you do, damned if you don’t policy quandary. Expectations calling for an end of quantitative easing will once again be proven premature.

US Federal Budget (Surplus or Deficit As A % of GDP, 12 Month Moving Average) and Gold London P.M. Fixed:


Headline: Wis. governor proposes deep cuts for schools

Even though Walker isn't ordering immediate layoffs, his budget will put tremendous pressure on schools and local governments, which will be asked to shoulder huge cuts without raising property taxes to make up the difference.

Walker's budget includes a nearly 9 percent cut in aid to schools, which would amount to a reduction of nearly $900 million. The governor also proposed requiring school districts to reduce their property tax authority by an average of $550 per pupil.

Source: news.yahoo.com

Long Term Secular Trend In Stocks

TA driven predictions/forecasts that do not consider long-term secular trends and cycles tend to pick up only trend "noise". Trend noise never catches major inflection points.

Large Cap Stocks Capital Appreciation Index (LCSCAI) and Z Scores from Primary Trend (48 Month)


Talking Numbers

Should investors worry about a major sell-off coming? Walter Zimmermann, United-ICAP chief technical analyst, weighs in.

Gold Will Continue to Outperform Equities

The recent up tick in the stock to gold ratio has some suggesting that a secular shift away from safe haven (gold) to risk (equities) has begun. This interpretation is wrong. A secular shift from safe to risk will happen only when TIME is right.

Gold began outperforming equities in September 2010. TIME for a bottom is not due for months. This trend will become more obvious through hindsight analysis.

1929-1944 & 2000-Present Comparison: S&P 500 to Gold ($/oz) Ratio:

What's Not Bullish About This Long-term Chart?

Let's not confuse the message of thus post with technical jargon and fancy analysis.

What's not bullish about this chart?

S&P Gold (Formerly Precious Metals Mining)*
*S&P Gold from 1945, Barron's Gold Stock Index from 1939-1945, 1922-1939 Homestake Mining:


Harry S Truman, known for his plain talk, said it best,

If you can't stand the heat, get out of the kitchen.

Some might be tempted to add some profanity for emphasis.

While you search for the right word, I'll throw this chart to help pass the time.

S&P Gold (Formerly Precious Metals Mining)* to Gold Ratio:
* S&P Gold from 1945, Barron's Gold Stock Index from 1939-1945, 1922-1939 Homestake Mining:

Taking Candy From A Baby

How many have noticed the technical damage in the U.S. Dollar market recently?

U.S. Dollar ETF


The unfolding of yet another massive weak to strong hands paper transfer in the precious metals markets suggests no many. Selective media coverage, intensive, repetitive focus on obvious areas while important areas receive total blackout, reinforces the importance of the money flows and technical setups discussed below.

The break of the down trend in early 2011 suggested a change in trend for the U.S. dollar.

U.S. Dollar Index and the Commercial Traders COT Futures and Options Stochastic Weighted Average of Net Long As A % of Open Interest


The paper transfer in gold can only be characterized as “taking candy from a baby” - it’s simply too easy. This paper blitz by connected money is already the fourth largest since the bull market started in 2001. Moreover, the panic liquidation that ensued after 1/18/11 has yet to be recognized in the chart below. The ‘control’ still displayed in precious metals while a tidal wave of liquidity extends to every corner of the economic globe is truly amazing.

Gold London P.M Fixed and the Commercial Traders COT Futures and Options ZScore Weighted Average of Net Long As A % of Open Interest:


Paper control, however, has it limits. As James Turk recently pointed out in a commentary entitled “Silver in Backwardation, Set to Explode”, that spot price is higher than the futures price in silver (backwardation). It’s not only higher relative to the short-term but also twelve months forward.

Turk goes on to make the following observations,

Backwardation happens regularly in most commodities, but it is rare in the precious metals. The last time this happened Eric was in January of 2009. Over the next few weeks silver rose from about $10.50 to $14.50, a roughly a 40% move higher. The key to understanding backwardation is that the price must rise to entice holders of physical metal to sell and accept a national currency in return. I think we can expect a similar event to repeat over the next few weeks.

Turk's observation about the growing strain in the silver market is confirmed by extreme reading in London PM fixed (physical price) and silver ETF (paper silver) ratio. The last two extreme readings, an indication of extreme strain between physical and paper markets, were March and September of 2008.

Silver London PM Fixed to Silver ETF ratio:


In other words, what the markets are trying to say is that there’s a limit to paper control. The sheeple will always be slaughtered, but the market forces that drive price cannot. This implies that paper price, despite the best efforts of the sheeple to comply into fear, cannot be pushed beyond the limits of credibility as a reasonable price marker for physical it’s suppose to represent. If that happens, there will be no market left to control.

The Difference Between Methodology And Crystal Ball When Anticipating Direction In Stocks

Many experts, citing factors such as stretched fundamentals to relatively high investor sentiment, suggest that the time is right for a substantial stock market decline. The suggestion that the market remains on the cusp of a major decline denies that capital, seeking protection against further currency devaluation, has begun its secular transfer from the public to private sector. This transfer includes the movement from sovereign debt to global equities.

In addition, substantial stock market declines usually materialize a major cycle dates with clear evidence of a deteriorating long-term technical setup. This deterioration can include significant trend line breaks, the clustering of various sell signals, and various negative divergences within the trend. Interpreting anything shorter than the long-term fundamental and technical setup is better suited for crystal ball gazing.

Kennedy Gammage said it best,

“Those of us who make a living looking into a crystal ball will end up learning how to eat lots of broken glass.”

The following chart illustrates one of several long-term technical perspectives (setups) for the NYSE.

NYSE Composite:


Headline: Time For A Correction

Since January 1871, whenever the price-dividend ratio has spiked in a given month, stock prices passed through a trough (a short term bottom) 24.1% of the time during the same month as the spike, 59.4% of the time within one month of the spike and 81.4% of the time within two months of a spike.

Because there is no trough in average monthly stock prices in the months leading up to December 2010, that correlation suggests that there is a very high likelihood of one occurring by the end of February 2011.

Meanwhile, we don't see any significant deterioration in the fundamentals underlying today's stock price valuations, which indicates to us that the market will soon go through a short term correction, with stock prices rebounding quickly afterward.

Consequently, we view today's upward movement in stock prices as a selling opportunity. We would expect a buying opportunity to follow in the near future.

Source: businessinsider.com

Headline: Clouds Among Stocks' Blue Skies

In the stock market, another tune from that era, "Blue Skies," seems to capture the mood of the moment. "Never saw the sun shining so bright, never saw things going so right," Irving Berlin wrote back in the late 1920s. And that's the sentiment pervading the market these days.

Investors Intelligence's latest readings of advisers' opinions show the bulls have backed down a bit, to 54.5% from 55.6% the previous and their three-year high of 58.8% the week before that. Those calling for a correction moved up to 25.0% from 24.4% in the preceding week and 20.6% two weeks ago. But bears remain around the 20% mark, leaving a wide spread of 35 percentage points between bulls and bears -- a level of exuberance that's been associated with the market sitting on a precarious perch.

Source: online.barrons.com

American Association of Individual Investors Sentiment Survey:


Source: aaii.com

The Problem Is Debt Not Economic Growth

The rising stock market and U.S. dollar will be interpreted by some as an indication that the economy is improving. The reality is that stocks, commodity, and precious metals markets, and 'economy', all priced in US dollars, are surging due to massive stimulus and liquidity injections (trillions) over the past two years.

There's an old saying that the Fed can affect nominal but not real prices. The endless sea of rising markets is little more than a manifestation of this truism. The Fed cannot affect “real” or stable currency price trends. For example, the stock market rallied from 2003 to 2007 after the huge foreign liquidity injections in 2002 and 2003. The rise in stock prices, driven by devaluation, was also accompanied by a surge in gold. Gold adjusted or “real” stock prices peaked in 2005. This was well ahead of the US dollar highs recorded in 2007. Massive liquidity injections, much larger than 2003, has created yet another powerful US dollar (nominal) rally in 2009. While the headlines concentrate on surging stocks prices, they ignore the fact that the “real” price advance, similar to 2003-2007, remains weak. When TIME within the cycle is right, the stock market in stable currency terms will peak well in advance of the USD high. See charts below.

U.S. Large Cap Total Return Index (LCSTRI); S&P 500 Total Return Index


U.S. Large Cap Total Return Index (LCSTRI); S&P 500 Total Return Index to Gold Ratio


U.S. Large Cap Total Return Index (LCSTRI); S&P 500 Total Return Index to Gold Ratio Zoomed:


The oscillating periods of strength and weakness in the US dollar Index since 2008 is also being interpreted as an indication that the economy is improving. Brief periods of strength, however, do not necessarily signal an attraction of capital due to improving economic prospects in the US. Currencies can also appreciate as a result of economic stress induced by excessive debt. One must look no father than the unexpected rise in Japanese Yen despite an ever-increasing economic implosion since 2007. Inflows into the Yen with terminate when capital is no longer willing to return home to save a sinking ship swamped by excessive debt.

Japanese Yen ETF (FXY):


The US, unfortunately, is not far behind Japan. The endless - "the economy is improving" rhetoric provides only misdirection from the real problem – DEBT. History tells us that the reason for all the stimulus and liquidity injections, similar to what’s occurring in Japan, is not related to sub-par growth rates but rather the excessive debt burdens. Headlines also forget to mention that little has been done alleviate the excessive burden since its extreme high in 2009. As long as the malinvestments of the previous expansion are not liquidated, the solution will be more currency devaluation through global stimulus and liquidity injections. This is why gold continues to appreciate in all global currencies. The debt problem is global.

Total Credit Market Debt As A% GDP

Will We See A Santa Claus Rally in 2010 Poll?

40% of the 108 poll respondents said YES.

The trend continues to be the inverse of currency devaluation but it will not be a straight line.

Santa's team of research elves say that "when time is up, price will follow."

NYSE Composite/Volatility Ratio:

Investors Are Often Blinded By Personal Opinions and Biases

Not really, JBG. The long-term stock market trends and cycles have changed little since 1999-2000. Investors, often blinded by their personal opinions and biases, tend to consistently ignore the message of the markets. The message from the small cap sector remains the same in 2010 as it was in 1932, 1939, 1999 and 2009. Those that read this message have profited from it. Those that did not tend to complain that their personal opinions and biases have not been realized. For example, a common interpretation of market action implies that many if not all market are manipulated. While market manipulation and operations do exist, they cannot alter the direction of the secular trends and cycles.

U.S. Small Cap Stocks Total Return Index (SCSTRI):


U.S. Small Cap Total Return Index (SCSTRI) to Gold Ratio:


U.S. Large Cap Stocks Total Return Index (LCSTRI) to U.S. Small Cap Total Return Index (SCSTRI) Ratio:


Happy Holidays,

Eric

Hi Eric,

I have followed your web site for quite a while and really enjoy it. In the past you have written about small cap stocks and how they have historically performed during economic environments (i.e. printing money) like we are now experiencing. Do you have any updates?

Thanks,

JGB

Chicago Fed National Activity Index (CFNAI)

The Chicago Fed National Activity Index (CFNAI) is a monthly index designed to gauge overall economic activity and related inflationary pressure. The CFNAI tends to register numerous negative divergences, a trend of lower CFNAI highs relative to S&P 500 highs, before equities record their intermediate cycle peaks.

Chicago Fed National Activity Index (CNFAI) and S&P 500 Average:


Source: chicagofed.org

Investment Sentiment Highest Since 2007 Bearish or Bullish?

AAII Investor Sentiment Survey (AAII) measures the percentage of individual investors who are bullish, bearish, and neutral on the stock market for the next six months; individuals are polled from the ranks of the AAII membership on a weekly basis. Bullish sentiment as percentage of the total reached its highest reading since 2007. Like clockwork, commentary suggesting that extreme bullishness is bearish for stocks has begun to circulate around the Internet. While this argument sounds plausible and can be support by the data at times, it ignores the cycles of TIME behind the trend.

TIME is more important than price or sentiment. The follow chart illustrates that relatively extreme readings (either high bullish or bearish) can precede both advances and declines. Why were extreme bullish reading positive for stocks in 2003 but not in 2007 and 2008. The cycles of TIME were different. When TIME is right price will follow either up or down. TIME does not concern itself with investor sentiment.

AAII Sentiment Survey:


There are better, less biased ways of measuring extremes than sentiment surveys within the context of TIME. The following chart illustrates 1-2-3 cycles within the trend. One is complete. Two is a work in progress.



Source: aaii.com

Money Is Repositioning for Another Dollar Decline

The dollar's decline against other major currencies will resume once the right money is properly repositioned.

Connected players will use the strength to reestablish their net short positions, while retail money, guided by well-timed and highly directed media analysis, is pushed (herded) towards the long side for the eventual slaughter. The flow of money is methodical and highly controlled.

U.S. Dollar Index and the Commercial Traders COT Futures and Options Stochastic Weighted Average of Net Long As A % of Open Interest:


U.S. Dollar Index and the NonreportableTraders COT Futures and Options Stochastic Weighted Average of Net Long As A % of Open Interest:

What Are Gold and Silver Telling Us?

Gold and silver, while similar, are not identical markets.

Besides, the daily trend is filled with too much "noise" to allow such detailed comparisons. The study of forcing during the test of support or resistance, i.e. filling or closing above a trading gap, is more important than price.

A variation on the Weimar experience within a dollar-centric monetary system has silver leading gold. This leadership is clearly illustrated in the Gold to Silver Ratio (GSR).

Gold to Silver Ratio (GSR):


The smaller and larger magnets represent targets within the cycles. The pull of the smaller magnet increased once mid range consolidation broke to the downside. A retest of the 2007 ratio lows is the minimum expectation of this minor cycle. Silver’s leadership will continue as long as quantitative easing remains a policy solution.

Eric,

Tonight you mention silver must fill the gap from Nov. 5. It just about did that today. However, gold (when looking at GLD) not only filled its gap but shot past it. Is there a mixed signal from these 2 charts?

Joe

1929-1944 & 2000-2015 Cycle Comparison: Are You Ready For The Next Step Down?

The more things change, the more the cycles stay the same. Are you ready for the next step down?

1929-1944 & 2000-Present Comparison: S&P 500 to Gold ($/oz) Ratio:

Physical Silver Demand Straining Paper Proxies

Physical silver demand continues to strain paper proxies. The London pm fixed (physical) to paper proxy ETF (paper) ratio, illustrated below, has already pushed beyond the June 2006 and March 2008 premium extremes. November's ‘mini scramble’ for physical silver is only exceeded by those of August and October 2008.

The recent adjustment to margin requirements and paper hit to price intended to cool off the market. The rising premium spread since 2010 suggests that the cool down won’t last long. The next surge will be more difficult to stop.

Physical to Paper Proxy Spread:

Fuel Squeeze in China Drives Crude Toward $100: Energy Markets

Global fiat devaluation is sending oil towards (and above) $100. Chinese demand provides a more media-friendly explanation, though.

U.S. Dollar Index vs Crude Oil:


The rising price of oil, however, does not mean it's the best hedge against currency devaluation. The lower channel magnet, driven by gold, is pulling hard.

West Texas Intermediate Crude Oil to Gold Ratio (Oil/Gold):

China’s drive to curb energy use is exacerbating a shortage of diesel, sending refining profits to the highest level in almost two years and raising the likelihood oil will trade at $100 a barrel in coming months.

The return from processing Dubai crude into diesel, or gasoil, climbed above $14 a barrel in Singapore today, the most since January 2008, after service stations ran dry in China’s eastern and southern coastal provinces, according to prices from PVM Oil Associates, a London-based brokerage. The margin from turning Brent into gasoil in Europe climbed 15 percent since Nov. 5, prices on the ICE Futures Europe exchange show.

Source: finance.yahoo.com

Gold Is the World's Premier Currency

Eric, I don't have the technical skills to prove that We have a de-coupling taking place in Our precious metals from the 'not so almighty" dollar is this indeed what We are witnessing, sure would appear that these last few days the case could be made, imagine that perhaps the light of day when another short squeeze failed to work this time.

Bob C
Fort Myers

Gold is the world's permier currency, but don't expect many to officially recognize it as such.

While the inverse correlation of the US dollar, gold, and stocks is still present, it has "loosened" against gold. That is, rallies in the U.S. dollar no longer create as large of a downside reaction in gold. This loosening will continue as long as confidence in paper continues to deteriorate at an accelerating rate. The relative direction in the U.S. dollar, gold, and stocks can be view in the chart below.

U.S. Dollar Index, Gold London PM Fixed, and S&P 500:


A better indication of the decoupling of gold from fiat will be revealed by a higher order (parabolic) trend acceleration of gold priced in major currencies. This trend, which has already started, will intensify once the upper trading channel (2001) is broken to the upside.

Gold London PM Fixed and U.S. Dollar Major Currencies Index Ratio:

No let-up for Irish debt; pressure grows

Should Ireland make application to the Euro Bailout Fund ($1 Trillion announced) That would be without any doubt QE.

When a single currency bails out a member's bonds it is debt monetization which is Quantitive Easing. You have to realize the rhetoric by the euro zone concerning QE is pure and unadulterated BS

Jim

Agreed, Jim

The practice of debt monetization will again redefine sovereign debt as certificates of confiscation. No amount of BS spin will avert this market driven conclusion. This realization is nothing more than a long-term oscillation (cycle) between public and private sector confidence.
There are many ways to quantify this cycle. My personal favorite is the ratio between US long-term corporate to government debt. The break of the sharp downtrend in 2010 represents the first stage of the transition to a rising trend.

Long-Term U.S. Corporate Bonds Total Return Index (LTCBTRI) to Long-Term U.S. Government Bonds Total Return Index (LTGBTRI):

Clearing house LCH.Clearnet hiked margin requirements for Irish debt on Wednesday and Ireland's central bank said it would take a closer look at banks' residential mortgage books as concern mounted about the country's finances.

Source: reuters.com
Source: jsmineset.com

Gold Stock Slowly Increasing Dividend Payouts

As I have said many times before, the major producers will slowly increase their dividends from miniscule to huge as the secular gold bull matures. Investors tend to act without vision in regards to the gold stocks. They “see” the underperformance of the gold stocks as permanent – the way it is. Investors, often in disgust, discard those lousy gold stocks into any weakness.

Investors that live by the emotions will die by them.

History paints a very different picture for the gold stocks which few investors seem willing to see or understand. The historical correlation of the gold stocks with gold illustrates a strong or tight correlation (> 0.8) between the two assets during periods of aggressive currency devaluation.

Historical Correlation of Gold Stocks to Gold:


The tightness of this historical correlation has loosened since 2006, but I seriously caution against proclaiming that “this time it’s different”. Capital flows will reassert the strong correlation between gold stocks and gold because it will be profitable. Capital is not emotional and it knows history.

A side by side comparison illustrates gold leadership over the gold stocks at breakouts. This leadership, however, does not mean outperformance throughout the entire bull market.

Gold and Gold Stocks Side by Side Comparison


As Selim recognizes with Goldcorp results, the gold stocks not only provide capital appreciation but also significant increases in dividend payouts as the bull market matures.

S&P Gold (Formerly Precious Metals Mining)*
*S&P Gold from 1945, Barron's Gold Stock Index from 1939-1945, 1922-1939 Homestake Mining:


Let the world focus on the size of QE2. The real interpretations lie elsewhere.

Eric and Jim

Just out of interest, I would be curious what you both think about what GG did today. Not only were their earnings/cash flow outstanding, the POG averaged $1239 in the 3rd quarter and their by product cost of Gold was $260 per ounce. And I forgot to mention Silver was in the 19ish and as for Copper ... God knows where it was? And it looks like $4/lb seems to be coming our way!!

A dividend doubling should be a shot across the bow to the shorts. Gold guaranteed over $1300 and silver over $22 in the 4th quarter... Should hugely impact forward cash flow. And one last thing...I would be surprised if they did an acquisition in the 4th quarter,

Let us see is this is a kickstart for our beloved and much maligned HUI index and send GG into the 50's???

Selim

Source: reuters.com