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ANOTHER BLOW-OUT TRADE DEFICIT

The overall tone for the markets was established early in the morning before stocks began trading when the Commerce Department announced the U.S. trade gap increased to $60.3 billion in November. The October trade deficit was adjusted higher to $56 billion and analysts were expecting a modest improvement for the November deficit to around $54 billion. As you can see, the trend is clearly in the wrong direction as we continue to buy more items from offshore, but have less and less to sell abroad as time goes by. Some of the mainstream media spin was saying that we hit another record deficit because the U.S. is growing faster than other countries around the globe. An early headline from Bloomberg said, “U.S. 10-year Treasury Note Declines as Trade Gap Signals Growth.” I would suggest that the early decline in U.S. Treasuries was a signal to move away from U.S. dollar denominated assets because of the pounding the dollar took today.

With regard to the trade deficit, the fact remains that we are just going deeper into debt to continue buying all the things we need and want. The report showed import growth higher by 1.3% to $155.8 billion, but the big warning comes when we see that exports fell 2.3% from $97.8 billion in October to $95.6 billion in November. This was the first decline we have seen in exports since June 2004. The lower value of the dollar should be making U.S. exports more affordable to the rest of the world, but they’re not buying. Some analysts have suggested that foreigners are pulling away from U.S. products to voice their disapproval of the Bush administration’s foreign policies. Others are saying the huge imbalance with foreign trade indicates the U.S. is simply not up to the competition to produce quality products at a low price. It appears China and other developing countries such as India are taking more than just the “labor intensive” jobs. China is now preparing to make cars for sale in the U.S. The initial production scheduled for the U.S. is 250,000 cars…let’s watch and see how Ford and GM fight back or if they will have to concede sales to the competition.

The Dollar and Treasuries

The record trade deficit took its biggest toll on the dollar with the U.S. Dollar Index falling to 82.20, and today was the biggest decline versus the euro in the last three weeks. The euro added 1.1% to 1.327, the yen gained nearly 1% to 0.981 and the big gainer in the currency pits today was the Canadian dollar with a 1.5% advance to 0.833. The Bloomberg article I mentioned earlier said, “Trade Gap Signals Growth,” but the columnist went on to say that the reported trade deficit “is raising concerns that a weaker U.S. currency may discourage international investors from buying longer-maturity treasuries.” I would have to agree with that comment. Early this morning treasuries opened lower and continued to move lower, but it didn’t last for very long. Right after the initial decline, treasuries were bought right back up to breakeven from yesterday’s close.

I very much believe there was active intervention to prop-up the treasury debt market because the U.S. Treasury was scheduled to auction $15 billion in 5-year notes today. I have NEVER seen treasuries take a significant decline on a day when the government is conducting debt auctions; it just doesn’t happen! Bonds should have sold off today, especially with all the new Fed-speak about higher interest rates and the horrible trade numbers we got this morning. One of the analysts interviewed by Bloomberg had this to say. “We’ve got a dollar that is weakening and the Fed saying they are going to keep hiking rates so there is no compelling reason to buy Treasuries,” said Jonathan Lee, a fixed-income analyst in London at Barclays. “You can understand why foreign central banks are looking to diversify their portfolios out of dollars.” By the end of the day Treasuries moved marginally higher. You can expect more of the same tomorrow since the Treasury will be auctioning another $10 billion in 10-year TIPS. At this juncture the U.S. Treasury cannot afford a big problem with the dollar or treasuries since they plan to borrow more than $100 billion via debt auctions between now and the end of February. It should get interesting.

Stocks and Commodities

The stock markets opened slightly higher this morning, but immediately sold off with the Dow Industrials falling to a low of 10,500 by mid-morning, then back to breakeven by lunch time. The broad stock indices spent the balance of the day moving sideways until the last half-hour when the buyers stepped up to the plate to push stock prices higher for the close. At the end of the session the DJIA added 61 points to 10,617, the NASDAQ Composite gained 12 points to 2,092, and the S&P 500 moved four points higher to close at 1,187. Since the beginning of the year technology stocks have been under the most pressure and yesterday’s report from Intel was the big hope for tech stocks today.

Intel shares gapped higher today and added 62 cents to close at $23.16, but couldn’t break through the downtrend resistance at $23.40. The big spin on Intel has them hitting new record sales exceeding $9 billion with plans to increase capital spending in the coming year. In reality they had excess inventory they needed to reduce so they blew the inventory out the doors only to show a DECREASE of 2.3% to net income. They had big sales with less profit and now they need to spend money to modernize their plants. It appears there is no lacking for competition in the chips-sector.

With the dollar taking another hit today, commodity prices were all over the board. Grain prices were mostly lower today with corn down by 3% and soybeans down nearly 2%. Beef and pork prices came down slightly, but coffee and O.J. were both higher by more than 4%. Energy prices were quite volatile today with the release of the inventory data from the Energy Department. Analysts expected crude inventories to decline by two million barrels, but the surprise came with a reported decline of three million barrels.

Energy prices moved higher right out of the gate, but turned negative with some really bad spin about prices moving lower because of an unexpected build in distillate inventories. The first Bloomberg headline read, “Crude Oil Rises as U.S. Inventories Decline More-Than-Expected.” Then they started backpedaling and came out with the headline, “Crude Oil Falls After Report of Surging U.S. Fuel Inventories.” After that headline came out crude, heating oil and gasoline prices all started to move higher again. It looks like the build in distillate inventory went into the wrong place with unleaded gasoline adding a million barrels to inventory and heating oil inventories FALLING by 513,000 barrels. They really needed the heating oil because temperatures in the Northeast are expected to drop with a new cold front on the way. By the end of the day crude oil moved higher by 72 cents to $46.40 a barrel, heating oil moved fractionally higher to $1.30 and unleaded gas added a penny to close at $1.22 a gallon. From a technical standpoint today’s close for crude oil was significant by closing above its 50-day moving average. The last time crude closed above the 50-DMA was back on November 5^th following the high of $55.79 on October 27^th. Today’s close could be signaling the end of the consolidation from the highs reached back in October. The supply disruptions in Iraq are certainly adding to supply problems and with the elections in Iraq just two weeks from now the tensions will most likely increase.

Gold woke up a bit today with a gain of $4.20 to $426.60 and silver added ten cents to close at $6.73 an ounce. Last week I basically said silver is my favorite investment for the coming year. Last Tuesday silver reached a low of $6.35 an ounce and closed today at $6.73, a gain of 6% from the low. Yesterday silver gained 19 cents and followed through with another 10 cents, but the stocks failed to confirm the advance in the silver price. Many of the junior silver mining companies had some nice gains today, but the larger-cap silver mining companies all had losses today. The non-confirmation from the shares tells me we will get one more pull-back in the silver price. They can do all they want to prop-up the dollar and play their paper short selling games in gold and silver, but I believe we will have physical supply problems in silver as commercial users and investors begin to realize there just isn’t very much silver to go around.

Many analysts have written papers describing the ever increasing industrial uses for silver at a time when silver production and inventories are declining globally. We all get a bit worn out by all the noise in the media about oil prices, declining production, growing world demand, blah, blah, blah… Well, the same can be said for silver, but very few give it any attention. Believe me, without silver our lifestyles would change dramatically, since there is no substitute for silver in electronics, medicine, photography, and much more. Since I put silver in the “MUST HAVE” category along with oil, let’s take a look at silver relative to oil.

In the last 14 years a barrel of oil cost anywhere from two to eight ounces of silver. Right now a barrel of oil is roughly equal to seven ounces of silver. Over time I expect the ratio to return to the mean around five ounces. The historical relationship "suggests" that silver will out-perform oil. When the silver shortage arrives we will find out just how indispensable silver has become to support our modern lifestyles. I’ll be dancing in the streets the day the fundamentals of supply and demand overwhelm the paper short sellers in both gold and silver! 

Have a Great Evening!

Mike Hartman

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