"Tonight's....The... Night...."

TONIGHT's FOMC meeting and press conference has the potential to either put in a daily cycle bottom in the USD index or initiate a waterfall decline into the dollar's three-year cycle low. There is a lot riding on this meeting.

Let me explain. Today will be the 26th day of the current dollar cycle. That cycle typically lasts about 20-25 days. So it's already starting to stretch here. The last few days the dollar has been consolidating while it waits to hear what the Fed has to say. I suspect if the Fed clearly states it will close down QE2 in June that will give the dollar the impetus for another dead-cat bounce.

Make no mistake though: This will only be a dead-cat bounce. Just because Benny-boy ends QE2 in June doesn't cure the problem of the trillions of dollars he's already printed. The foolish attempt to print prosperity is going to have dire consequences; it is going to cause a dollar crisis. There's no way Bernanke can avoid that now. The damage has already been done. There's no way to push the toothpaste back in the tube!

In the event that the Fed does clearly state their intention to end QE (and I think this is the most likely scenario) the minor dollar rally should drive a continuing correction in gold and silver. They are due for a daily cycle correction. It will only be a correction though. The dollar catastrophe isn't done yet and gold's C-wave still has further to go (a lot further).

The other scenario, and the one I think is less likely, is Bernanke doesn't state a clear intention to halt QE and the dollar tanks, thus initiating a final dollar crisis immediately.

Only a Keynesian academic would think lasting prosperity can be created, with no unintended consequences, by printing money. But it would be crazy to risk sending the dollar over the cliff that it's hanging on. Bernanke had better say the right things tonight or all hell is going to break loose in the currency markets.

The Impact Of Budget Woes.

Regardless of whether a compromise is reached over the approaching lockdown of the United States ceiling and the raising of the debt, this impasse has momentous significance for holders of gold (SPDR Gold Shares (GLD) and silver (iShares Silver Trust (SLV). The serious weaknesses of the US economic structure is exposing it as a paper tiger. Instead of seeking fiscal sanity, the inability of our leaders to agree on even the smallest of issues is reminiscent of the Roman Empire dealing out bread and circus to the masses when Rome could no longer afford the good times and the games.

Let’s look at their pathetic reality. US legislators are unable to come up with as little as 2% of a total budget measured in the trillions. While the Republicans and the Democrats are separated by only several billions, the underlying issues are ignored. This may be because they are witnessing political theater in a dress rehearsal for the 2012 election. The actual battlefields on which both sides face one another are not only fiscal, but ideological as the debate raged over Planned Parenthood funding. The media in their attempt to sell newspapers and program time sensationalize the basic issues. Simply put, the US is approaching insolvency. Their ship of state is sailing straight into a sea of icebergs. Sooner or later they will have to come to grips with the urgent reality that belts will have to be tightened. If they do not sober up to the reality of our situation, the decision to keep her national vessel afloat will occur whether they like it or not.

Remember that they have to borrow forty-three cents out of every dollar that thet use to pay for their expenses. To put it succinctly, 50% of the US population pays no taxes. The revenues to pay their national debts are coming off of the hides of the middle class, the wage earners and the small businesses. It is somewhat peculiar that the basic truths for their survival are not mentioned. Do not be diverted by the ambient noise that tends to complicate the issue. They have been sidetracked by irrelevant issues; they are spending themselves into a financial quagmire. This is hurting the hard-working middle class who are dealing with a deteriorating US dollar (PowerShares DB US Dollar Index Bullish (UPP) and simultaneously carrying the load of increased tax burdens. Also long-term yields are rising and institutional investors are selling their US debt holdings raising long-term yields.

It would all be worthy of a Fellini farce if it weren't so sad. The situation cries out for solutions I've proposed in the heat of the financial meltdown, concentrating on precious metals and key natural resource stocks to hedge against a dollar devaluation and burgeoning debts.

What goes completely unmentioned is the role of the Fed in the entire equation. The Federal Reserve Bank is the one factor in this equation that has the unquestioned, uncontrolled power to change unexpectedly the best laid plans. The Fed is omnipresent, omniscient and omnipotent. All this time it watches and waits. One change in the Fed discount rate, one raise in margin, one change in the direction of interest rates and quantitative easing by the Imperial Fed can rewrite the whole script. They are accountable to no one and answer to no one. They can and have, if needed, print fiat money and cheap paper to obfuscate growing budget deficits. All eyes are on QE ending in June and what will occur with long-term interest rates. As the act continues in Washington, as the Democrats and Republicans try to show the masses who is more fiscally prudent, the reality is that the Fed will have to continue printing cheap dollars to pay off huge debts. Investors realize this and that is why I am seeing these major moves in gold.

Let us keep a firm hand on the wheel and steer a sound course with the compass tuned to the North Star of our technical discipline. It is important to remember that the charts give us clues during this treacherous times and allows us to go where the smart money is moving.

We are living in extremely volatile times and the market will play on our mind and emotions. That is why it is crucial that we become stronger than the average investor who easily gets caught up with the herd mentality. These amateur investors get aggressive at overbought levels and dump their positions during sell-offs. Remember when you invest in anything you become subject to inner feelings of anxiety and greed. You need to realize that a technical system protects you from becoming subject to the dangerous, contagious emotions of the investment community. I have unfortunately learned that what takes you months to earn can be taken from you in a matter of days.

The gold silver:ratio has dramatically favored silver since I wrote that. Silver is extremely volatile and has often in the past exceeded its measured targets. It is much less reliable for timing purposes than gold and could easily overshoot my late January $40 target. The US dollar is heading into new lows without showing any sort of dead cat bounce, which is quite concerning. Investors have flocked to the Euro (CurrencyShares Euro Trust (FXC)) which is quite dangerous for some countries paying back huge debt burdens and for countries who rely on exporting overseas. Do not be surprised if we see some economic weakness resurfacing in the eurozone.

Yen Carry Trade May Return.

Japan had lost the race to the bottom against the US. " Ben, Ben, he’s our man / if he can’t print ‘em / no one can! "

As the risk of yen revaluation in deflationary Japan exceeded the risk of dollar inflation in the US -- where the Fed declared its intentions to have inflation rise and then abjured responsibility for inflation when it did rise and as Japan’s customers were forced into “must-do” trades for buying the YEN to pay their Japanese suppliers -- why would anyone take the risk of borrowing the yen when they could borrow the dollar instead?

Now the US is faced with the situation where the G-7 central banks have arrested the upward spike in the yen threatened after the country’s disasters and affirmed the old highs just under 80 as resistance. The net result of this move is a global borrower can now borrow the yen without fear of further revaluation!

The Dollar Carry Into the Yen

If we turn the trade around and look at the two components of the dollar carry into the yen, the interest rates spread and the spot rate return, we can see just how meaningless the interest rate component has been since the US went to a zero interest rate policy in December 2008. The spot rate return on borrowing the dollar and lending the yen has moved higher as Japan has been unable to break away from its deflationary miasma while the Federal Reserve has convinced investors the US will, one day, defeat the deflation that never existed.

Reviving the Yen Carry Trade

If the US does adopt an exit strategy from QE2 and the dollar becomes more expensive to borrow while the yen is not at risk of running away to the upside, the wider interest rate gap between the US and Japan will make Japan the preferred funding source once again. As noted last November, this has not been the case since the financial crisis; we can match the carry return of the dollar into a basket of emerging market currencies quite closely, but the yen carry trade has been irrelevant.

Where does this lead? If the dollar carry seized the baton from the yen carry trade and allowed all manner of emerging market assets to shoot higher in 2009 and most of 2010, then the yen carry trade can return the favor and finance the US should the Federal Reserve adopt an exit strategy. US would tighten; they would un-tighten for the US.

That would be quite bullish for US financial assets should events unfold this way.