The Caterpillar and the Butterfly
While I was away, world stock markets were under pressure due to the ongoing dysfunction in Europe and, not to be underestimated, the fact that the world economy is slowing down dramatically (which should not come as a shock to anyone who reads this column).
I think at this point it is worth discussing the worldwide central bank response to the macro deterioration. As all longtime readers know, I have absolutely no respect for any of these idiots who run central banks. They are always wrong. Repeat: they are always wrong.
Do You Believe In Global Waning?
For the last six to twelve months they have all felt that their individual economies were all stronger than they were, and no one has been more wrong, or guilty of making more mistakes, than the Fed. It is so incompetent that, in addition to spawning two gargantuan financial bubbles and the consequent dislocations, it is not even capable of understanding that when you have the warmest weather in over 100 years, it skews the seasonally adjusted data. Thus, they were all patting themselves on the back this winter while I and others were pointing out that said seasonal data were drastically boosted by the weather. Now the underlying economic weakness can no longer be debated, and of course it is exacerbated by the uncertainty and chaos revolving around European government debt and the implications for Europe's financial system.
Recently, the Fed has sent signals that it is getting ready to do more easing (beyond extending Operation Twist) and many other central banks have taken a step at easier money as well (e.g., China, Brazil, the ECB, and the BOE). Today's Wall Street Journal headline, "Fed Weighs More Stimulus," pretty much says it all (the New York Times ran a similar story as well). In it, Fed mouthpiece Jon Hilsenrath makes the point regarding the meeting minutes released yesterday (which are now several weeks old, meaning there is even more weak data to bolster their concerns): "The minutes portray an institution in a state of high alert over the economic outlook. Fed officials expressed worry about risks to the American economy stemming from the eurozone debt crisis, the possibility of a 'significant slowdown' in the Chinese economy, and the prospects of deep U.S. government spending cuts and tax increases scheduled to go into effect at year end." Keep in mind, they had gotten their hopes up, so now those hopes have been slammed, which is going to make them doubly uptight, and more prone to panic (remember when Bernanke said subprime is "contained" in 2008," and what he did after he found out how wrong he was).
In any case, given the fact that they have been so wrong, I expect that when they finally decide to the do next round of QE, it will be bigger and bolder and might even include some imaginative new tricks. Today, Joanie succinctly described the current Fed predicament as follows: "They blew their chance for that after the June FOMC, opting instead for a wimpy move of extending OT. So they have to options remaining: get hugely creative/unconventional or fuhgeddaboudit altogether."
By extension, as I noted, other central banks will also be inclined to panic. That is why it is difficult to make money on the short side, even though stocks are leaking and in all likelihood may take a nasty tumble before the Fed finally panics.
They're Really Using Their Sinking Caps
Stock bulls think, "Why should I sell when the Fed has my back?" But even in the four-year-old "QE era" the market still has had to get brutal enough to force out weak-handed players, thereby unnerving those who had been intent on remaining calm. That is what has happened in the past, and could easily happen again, but it makes it tricky to be short stocks because even though some individual stocks might be working, if you try to up your exposure, it is easy to get run over by spurious rumors or more hope.
Even as the market has declined over the last couple of weeks, there have been a few hellacious rallies that would make you jittery if you had just increased your short exposure. This morning, for instance, the Spooz were lower by about 1.5% in the first hour, then cut those losses in the wake of absolutely nothing. It might be possible to make some money on the short side if you employ guerilla tactics, but just getting short, pressing, and sitting back to collect a big payday might be rather difficult.
As for today's action, after the initial decline and rally, the market continued to climb higher. The Dow/S&P got back to unchanged in the late afternoon before declining in the last half-hour to close with the modest losses you see in the box scores.
Away from stocks, the dollar was bit stronger, as it (and the yen) have been the one-eyed men in the land of the blind. Oil was flattish, and bonds were slightly higher. The metals saw a wild ride with gold and silver declining a couple of percent early on before silver staged a rally that drove it back in to positive territory. Gold cut its losses in half at the same time and closed only slightly lower.
Yellow Dog Still On a Short Leash
Turning to the gold market, obviously it has been under pressure too, and I'm sure many folks were disappointed today to see the WSJ headline noted above, combined with all the other stimulus we've seen, not only not make gold rally, but see it decline. Unfortunately, that is just where we are right now. The minute "good news" for gold doesn't work, it turns into bad news because it didn't cause the market to rally.
One of the problems the gold market has had is that Indian demand has been subdued due to the finance minister there trying to clamp down on gold purchases, and of course India's currency has been quite weak. That minister has now resigned, so we may see Indian behavior begin to revert back to what it has been. If so, we will be approaching the strong seasonal period for gold in another month (with potentially pent-up demand).
However, an additional big negative (in the form of negligible demand) for gold has been the lack of any serious American buying (although the hedge fund community was a bit of a big believer last year). Now though, when you look at their view, as expressed by positions in the Commitment of Traders Report, it looks like more of the big, futures-oriented hot money (i.e., hedge funds and CTAs) is short.
More importantly, a big buyer that needs to own gold, but hasn't thus far, is the "average" wealthy American. I think that is unquestionably what has ailed gold stocks, not their own fundamentals, which have been disappointing from time to time, though not nearly as badly as the stocks have behaved. The bottom line is that the bull market in gold has been more global than American.
Who Knew Mad Men Were So Sane?
At some point, though, I continue to believe that more American investors will start buying gold, though I have no idea what the catalyst will be. Recognizing that an idea has to start somewhere, or as the Chinese say, a journey of a thousand miles begins with the first step, today's Wall Street Journal carried a two-page pullout advertisement by Charles Schwab headlined, "A Different View of Risk," with a subhead, "Bubbles, crashes, and downturns are going to happen, but you can take steps to find opportunities in risk."
The ad goes on to give a short primer on one facet of the bull case for gold, which is paid off by another subhead, "All That Glitters: How Gold Is Impacted By the Paper Value of Money." The ad accurately concludes: "By printing money the Fed is actually debasing the value of its currency. This is where gold as an asset class comes in, because Cucchiaro [chief investment officer at Windhaven Investment Management, a Schwab affiliate] sees gold as an excellent way to measure the value of paper currency. It isn't possible to print more gold; the amount aboveground is relatively fixed, so as more money is printed, it takes more of it to purchase the same amount of gold. The result: the price of gold goes up and the value of paper money goes down."
There, ladies and gentlemen, is the bull case for gold in a nutshell, and eventually more folks are going to realize this. The reason I bring this all up is because gold bulls feel tortured after nine months of correction (and it may go on a bit longer). But in my opinion, given all the facts I have described above, the next rally in gold, when the Fed finally acts, is going to be huge. Thus, I think gold investors need to be mentally prepared for what they might do if that is the case. Anyone with gold exposure probably doesn't need to take that much action until it looks like the powers that be are finally panicking. But when that moment arrives, gold bulls should make sure they have the positions they want, so they can capture attractive (even if a little higher) prices, rather than paying up, after the market has rallied a long way, and exposing themselves to more risk.
For now, gold owners should remember the saying, "Just when the caterpillar thought the world was over, it turned into a butterfly."
We Will Credit His Account
I'd like to thank my good friend, Fred Hickey, for his help with today's column, as he pointed me to several facts that I might have missed due to my being gone and the mountain of stuff I have to sift through to catch up.
About Bill Fleckenstein
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