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Similarly, the NYSE, Small Cap, and mid Cap indices moved seemingly effortlessly to new highs day after day, with only short, minor, and comfortable corrections. This was the kind of market that could convince the densest speculator that he was a “stock picker.” Yes-sir-ee…there’s always a bull market someplace! The problem with this bull market was that it wasn’t based on any semblance of fundamentals. And from that standpoint, this “bull market” was even more fundamentally perplexing than the late ‘90’s technology stock bubble. At least in the late ‘90’s, one could reasonably rationalize that new and growing technology companies actually changed economic fundamentals to a level where standard valuations no longer applied. At least then, you could have rationalized, “this time it is different.” But during this bull market, it was the companies with clear and visible present and future earnings and business conditions that were bid up to bubble valuations. Transportation stocks, chemical companies, retailers, and restaurants all routinely carry P/Es of more than 30 and no dividends. What propelled this rally was the collective necessity of money managers of all types to not miss a rally, and to not get burned too badly on bearish positions. During this bull market, market sentiment, traditionally a long- or intermediate-term phenomenon often changed on a weekly, daily, or even hourly basis from bullish to bearish and back to bullish again. What made these fluctuations in sentiment occur was that the present market action itself was the chief factor in determining sentiment in regards to the future market action. Fundamentals didn’t count. The bull market also exhibited a propensity to shrug off bad news with ease. And while it’s not appropriate to discuss this in detail here, the world has changed for the worse during the tenure of this bull market (expressed in terms of US dollars), and this has yet to be discounted in the stock market. The worsening of the world will not be ameliorated if Americans simply “take their family to Disneyworld.” Yet, with such statements as encouragement from US’ political leadership, this seems to be the general approach that many Americans are now taking. In the wake of Enron, WorldCom, Tyco, and Martha, corporate America has re-settled into a world of pro-forma earnings, and one-time events. While a discussion of details will not be forthcoming tonight, all you need to know is that the average dividend payout of S&P 500 stocks is 1.6%. Viewed in the context of a century of stock market history, such valuations are laughable in their actual investment value. If you are a trader it may be a different story, but as stock investments, you should simply, “sell ‘em all!” The most distinct trait of the recent sell off was that there was simply nowhere to hide on the long side. There was a clue to this happening that was flashed since New Year's day 2006 when an unusual and almost daily correlation developed between the direction of the stock market and gold. When stocks went up, gold went up, and when stocks went down, gold went down. Similar behavior was also seen in the commodities/stocks relationship. This is an unusual phenomenon as precious metals and commodities tend to trend in the opposite direction as stocks in the intermediate and long term. What these unusual correlations were telling us was stock and commodity prices were to a great degree, being driven by the collective needs of many money managers to hop on board anything that moves up, for no other reason than the up-movement. This collective behavior was also being fueled with an ample supply of easy-to-borrow money. Recently, with the bond carry trade not as profitable due to a flattening yield curve, higher priced yet readily available short term money probably fueled a flight of this borrowed money into anything in the financial markets that “moved” up. Whether it was a short squeeze in a breaking down loved stock, commodities, oil, gold, silver, copper, stock ETFs or whatever, if it moved, it made sense to pile in. This was evidenced on the days where on no news, virtually every stock index worldwide was decisively up. So with evidence of the rally being fueled with what appeared to be unlimited liquidity, it is no surprise when most recently, almost everything is selling off in unison also. Could it be that this liquidity is somehow being removed from the system? The short term behavior of stocks, commodities, and precious metals suggest that it is. Gold Correcting – Evidence Suggests More Time is needed While gold is in a long-term bull market, a case can be made for gold continuing in its recent correction for two reasons. The first is that the rally in gold has moved in a largely unabated manner for a period of about 12 consecutive months, as shown in the long-term monthly chart for gold. Given that the price action over the last week suggests gold is in an overdue correction, it would be expected that the correction would last for a time period of more than just a few days. It is likely that it would correct over a time period of several months.
The second reason is the long-term action in the US dollar, where an interpretation of Elliott Wave (EW) theory is cited. As is obvious from the chart, the long term chart of the dollar is down. Yet the correction of the long term trend off of the late 2004/early 2005 bottom occurred in a 5-wave move, as labeled. According to EW, 5-waves in a corrective pattern never occurs alone. This means that there will be some more upside to the dollar. When the additional upside to the dollar will occur is by itself, yet undefined. But the recent action in the precious metals market suggests that this will occur soon.
In the shortest of terms (as of Wednesday evening), the US Dollar (bullish) and precious metals (bearish) seem to be confirming each other.
This is further confirmed by the action in the HUI and the XAU.
Does this have any relevance to long term investors in precious metals? No. Precious metals are in a bull market. This is in spite of the current correction which is occurring for the primary purpose of shaking out momentum chasers. Bull Market Dead? Is the Bull Market dead? While in the recent past, it has been a loser’s game to proclaim this bull market over, there is extensive evidence to suggest that the bull market is coming to a close. One piece of such evidence is the price action in the Nasdaq 100 ETF, as shown in the 3-year daily chart, below. The thick blue line depicts a level that has served as resistance twice in 2004 and 2005, and support 3 times in 2006. Yet over the last few days, the former support has failed. With a lot of hope in the market still active, one would expect a rally back to the blue line. If such a rally is weak and feeble and comes on low volume, that would represent an optimal selling opportunity (with a stop loss a daily close decisively above the blue line). However, with that said, there are a lot of indicators such as put/call ration and sentiment that suggest an oversold rally is on the way. If such a rally gets started, there will be need amongst many money mangers to hop on board (again). It is not unreasonable to think we can see new highs in the Dow. But if such a rally does not come soon, that would indicate that something important has changed and that something is bearish.
Today’s Market The major market indices put in another distribution day today as all markets sold off in relatively high volume, but the volume was subdued compared to yesterday. Again, it seemed that momentum of every style and fundamental rationale got crushed. For example the Canadian oil and gas companies were hit hard, and now almost appear to be in free fall. There is relevant action taking place in the stock of Canadian Natural Resources (CNQ). The stock has acted well around its 200-day moving average over the last 2 years, and this is where it currently sits. The daily volume seems to be reaching a selling crescendo, but thus far, there has not been a reversal. A decisive break of the 200-day would suggest a change in the overall picture from bullish to bearish, and a hearty bounce off of the 200-day would signal that the bull market will continue.
After the bell there was good news out of Dell Computer and it is rising over 5% in after hours trading. Similar after hours for Nordstrom (JWN), and there was a buying frenzy in Sears Holding stock today on perceived good earnings news. In spite of the bad general market, retailers held up well, as did the action on many individual stocks. This evidence may be signaling a rally or at least a stoppage of the current market bleeding. The data-dependent fed put out some bad economic data (weekly jobless claims), which was good for the bond market, as interest rates fell. To hear the discussion in the media outlets, you would think that the economy is significantly dependent on what the fed does with short term interest rates. Now in the twilight of the short term rate hikes, it is relevant to look back on what the overall effect of the historically low borrowing rates was on the economy. At present, US corporate balance sheets are as clean as they have been in decades, meaning that the US corporations have relatively little debt. This is in spite of the recent round of easy money; in short, by and large, US corporations didn’t take the easy money debt bate. On the other hand the US consumer has taken on historically high debt levels in the form of government debt and household debt that he will have to pay back. With interest rates going up, the consumer probably will not be able to take on more debt, while the government will, and US corporations won’t. With regard to US corporations, there would be no reason to borrow more money at higher rates than the relatively small amount that they borrowed at the lower rates. With regard to the government, there is little doubt that they will have to borrow more money to support increasing levels of spending. With that said, you can bet that the markets will absorb whatever it takes in the short term to keep them propped up, because failure to levitate the financial markets will reduce the US consumer’s wealth effect, and this would cause the debt-based US economy house of cards to fall fast. This becomes even more important with the housing market cracking. For that reason, I’m looking for a rally in the near term. (Choose your favorite flavor of momentum.) But this won’t change the long term picture which, after special items and one-time events, is bleak. Have a great evening. Martin Goldberg
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