Wednesday, December 29, 2010

A Sneak Peek into 2011's Crystal-Ball.




It's almost impossible to find anyone who's long-term bearish on the stock market or economy at this time. In the recent Barron’s poll, every single analyst expected a rise in stock prices next year and continued economic expansion.

I think they're all going to be wrong, horribly wrong.- The Chinese say : "droping one's specticles." I believe next year the stock market will begin the third leg down in the secular bear market. And the global economy will tip over into the next recession that will be much worse than the last one.

I've gone over the three-year cycle in the dollar index many times. The dip down into the next three-year cycle low this spring should drive the final leg up in gold’s massive C-wave. What I haven't talked much about is what happens after the dollar bottoms.

I actually expect this three-year cycle in the dollar to play out almost exactly like it did during the last three-year cycle. When the dollar collapses this spring it will not only drive the price of gold to a final C-wave top, it will drive virtually all commodity prices through the roof, the most important being energy and to some extent food.

It was the sudden massive spike in energy that drove the global economy over the edge into recession in late 2007 and early 2008. The implosion of the credit markets just exacerbated the problem. You can see on the above chart that just as soon as Ben Bernanke drove the dollar below long-term historical support (80), oil took off on its parabolic move to $147.

What followed was a collapse in economic activity and the beginning of the second leg down in the long-term secular bear market for stocks.

This was mirrored by the dollar rallying out of the three-year cycle low. That rally was driven by the severe, but brief, deflationary pressures released as the global economy and then credit markets collapsed.

We'll see the same thing happen again. In his attempt to print prosperity and reflate asset prices, Bernanke is going to spike inflation horribly as the dollar collapses down into the three-year cycle low next spring. Just like in 2008, that will tip the global economy back into recession and another deflationary period as the dollar rallies out of the three-year cycle low.

The stock market will begin the trip down into the next leg of the secular bear market that it's been in since 2000. The global economy will roll over into the next recession, which I expect to be much worse than the one we just suffered, though mainly because it will begin with unemployment already at very high levels.

Contrary to what economists and analyst are saying, at the dollar's three-year cycle low next year it will be time to put our bear hats back on and prepare for hard times and the next leg down in the stock market bear.

Wednesday, December 8, 2010

Good Times Ahead for Gold..AGAIN!




One of my favorite form of technical analysis: intermarket analysis. Intermarket analysis takes traditional technical analysis much further. Normally, I would look at a market by itself. I'll look at its price action, its potential patterns, and its momentum. Intermarket analysis takes this a step beyond by comparing the market at hand to various other markets. It gives us an idea of what is really going on and where market leadership is.

In regards to gold, intermarket analysis is even more important. Gold is the type of market or asset that thrives when other asset classes are not performing well. Rarely does gold perform well if there is persistent strength in another asset class such as stocks or bonds. We are in a gold bull market, so gold will outperform other asset classes over time. However, it is an important exercise in trying to gauge the near-term outlook for the yellow metal.

Above, I graphed gold against the various asset classes: commodities, bonds and stocks. And also graphed gold against currencies, as it is the currency of last resort.

We can see that gold has already broken out against both corporate and Treasury bonds. The breakout against corporates is very significant as it comes after a two-year base. Meanwhile, gold has just broken out against currencies (ex: US dollar) and a breakout against stocks appears imminent. Commodities are the only group holding up against gold.

The conclusion: In the near future, money will move out of Treasuries, corporates, currencies, and stocks and go into gold and likely commodities. The last time gold looked this strong in relative terms was in the third quarter of 2009 when it began a move to $1,220/oz. With this type of relative strength, it is very likely that gold makes another big move into 2011.

Saturday, December 4, 2010

Europe Driving Interest US Rates Higher?




Interest rates, across the board, have actually been spiking since the announcement of the QE2 program on November 3. Not to anyone surprise, the Fed was more or less powerless to lower rates from prevailing levels. I argued that QE2 was really not designed to drive rates down from prevailing levels but merely to “accommodate” the fiscal deficit and prevent a rise in rates that would otherwise occur due to crowding out and other effects.

The bottom line was that the real risk was that interest rates throughout the US economy would rise after the announcement of QE2. Indeed, I believe that the US is currently in a situation anticipated in QE2 May Not Prevent a Rout in US Bond Markets, in which I asked: “How much panic would it create if quantitative easing (QE2) is announced, the Fed starts purchasing Treasuries, and bond yields actually start to rise?”

10-Year US Treasury yields (TNX) have risen almost 60 basis points since the announcement of QE2, municipal bond yields have spiked, corporate bond yields have risen, and mortgage rates have spiked. Indeed, overall, interest rates across the board are actually higher than they were before financial markets began to discount the prospect of QE2.

Having said that, it's important to note that although rates have risen, they are still well below levels that could jeopardize the economic recovery. The question is what happens next.

In the short term, a few issues need to be monitored. For starters, investors should be aware of the fact that the crisis in Europe is actually “bailing out” the US in some sense. In the global competition for capital, troubles in Europe make the US seem like a relative safe haven thereby facilitating the financing of the US fiscal deficit. Furthermore, troubles in Europe will tend to depress global growth expectations and ease fears of commodity-driven inflation. Thus, the situation in Europe will be a key driver in US interest rate dynamics.

Second, any whiff of accelerating inflation in the US could have a dramatic impact on the bond markets. Again, developments in global commodities markets are key in this regard.

Finally, at some point, investor scrutiny is going to be turned toward congressional and presidential action with respect to the US fiscal deficit and sovereign debt fundamentals. Today’s news of the failure of the presidential deficit commission to garner the necessary votes to issue an official recommendation is a worrisome development in this regard.

Conclusion

US interest rates are supposed to be falling, not rising. At least that's what we were led to believe a few months ago when market consensus was excited about QE2 and the Fed’s power to stimulate the economy.

It's now becoming clear what I had been emphasizing prior to the implementation of QE2: The Fed is not really in control of US interest rates.

This sense that the Fed has lost control of interest rate dynamics could add an important element of uncertainty into financial markets in the coming months.

This is particularly important in a context in which investors generally are over-exposed to bonds.

A long bear market in US bonds has probably already begun. Bad news out of Europe is probably the only factor that will be able to sporadically arrest the upward assent of US interest rates in the coming weeks and months.

I believe that US bond rallies due to instability in Europe should be utilized to initiate short positions in various categories of US bonds.