In our last letter the Dow-Gold Ratio (DGR) was highlighted in anticipation of a reset/recalibration of investor sentiment, which is a normal part of how markets function. It is also a vital mechanism for getting the majority onto the wrong side of the trade although the evidence is strong that the majority has been on the wrong side all throughout Alan Greenspan's credit and inflation fueled bull market. Stocks have gone up albeit in a vastly under-performing manner compared to precious metals and commodity resources. Recently on the blog I updated the DGR from a daily standpoint that is worth a look.
To continue our theme, with the Dow threatening new bear market lows and even gold enduring a sustained correction, let's again check in to see which is real and which is 'Memorex', this time using simple nominal monthly charts. First up and in light of this bearish big picture of the S&P 500, we have the Dow looking bearish in the big picture as well. To the bearishly forked SPX chart we add the following monthly chart of Mr. Jones.
The 16 month exponential moving average works well here as an indicator of the Dow's health (or lack thereof). Throughout the five year long final leg of the major bull market the ema 16 acted as strong support. During Greenspan's inflation fueled bull (R.I.P. 2003-2007) however, with naughty players knowing on some level that their bull market was illegitimate in real terms (as measured in gold, silver and resources as opposed to devalued paper money), there were several breaks below this moving average only to have repeated monthly closes back above. This 'bull' was not as self-assured as its secular predecessor yet it still carries legions of conventional, pliable and unquestioning investors to where ever they are going.
The index is signaling that all is not well with parameters so clear and so close to breaking down. The bulls cannot afford to lose the moving average on a monthly close, but where are they going to find 800-900 points in week? Worse yet would be a breakdown below the highs from 1999 as noted by the green dotted line. It is no wonder that the only thing the bullish case has going for it presently is extremely negative sentiment. The above chart is a nightmare waiting to happen BUT THE DOW IS AT MAJOR SUPPORT. Until it breaks it is not broken and it is hard to believe policy makers won't try something, such as strong talk (Would they dare take action? Unlikely since the Fed follows the bond market and T-bills are are now in alignment with the Fed's current 2% funds rate) on inflation since the effects of inflation are certainly weighing on the market now. This mess is on the verge and no doubt Mr. Bernanke is feeling pressure to do or threaten something to change the mix. But it's all been said before, right? How long will markets be willing to suspend disbelief before gold inevitably begins its next leg up?
Speaking of gold and speaking of negative sentiment, the precious metals sector has certainly come off its euphoric highs where we lonely subscribers to old fashioned sound money and sound market beliefs were joined by global casino patrons looking for safety (and maybe a wink wink... play while they were at it) as they rushed into the barbarous relic along with short term treasuries and anything else they could find that was nailed down firmly to the deck of the listing Titanic as it struck an iceberg with a polar BEAR on it. Well, thankfully many of them are gone now. Nobody but nobody is buying the metal through BullionVault banners on Biiwii.com nor the blog. While I would appreciate the commission, I certainly do appreciate the 'tell' on gold. The majority are either scared or awaiting lower targets - among them is my 700-750 potential target from March, which I no longer think plausible due to current sentiment - that have been laid out in various media as the stock market hope rally continued, major world powers rattled their swords shouting "Strong currency, strong currency... shazahhhh, strong currency I tell you!!" and Ben Bernanke and Hank Paulson reassured markets that they've got it under control.
I don't believe them and when I look at this chart I realize all is well with gold which, with the relic finally back in its counter-cyclical suit, means all is not well with economies, financial systems and the idea of an orderly global macro framework. Here we see the picture of a true bull market coming off the over bought status that had me quite concerned back in March.
Have you ever seen anything so beautiful? Can you take a hit to 800 if you are participating in a real and secular bull market, sentiment is no longer overly bullish and authorities world wide are trying to convince you that the worst of the 'credit crisis' is over? The trend line from 2005, a visual lateral support cluster, 62% Fibonacci retrace of the last major upward leg, the 18 month ema (which has acted as impeccable support throughout the entire bull market) and the lower panel indicators coming back to comfort levels all argue that 800 is solid.
But this begs two questions; 1) Will it get down to that level? After all, there is long term support at the 1980 highs and 2) Will most investors who have not yet protected themselves have the guts to buy there? My answers, were I to guess would be 1) yes and 2) no. Short term desperation on the part of policy makers (aided by some downside wiggle room on this chart) may overwhelm the low ebb sentiment in the gold sector in regard to the first question. As for the second, the public has a long and proud history of buying any market when it feels safest to do so. They may not even begin feeling good about buying until the 1200 to 1500 range or after the pretense of current inflation fighting foolishness has gone by the wayside.
What will the Fed say tomorrow? What will Trichet respond with? How long will TreasSec Paulson be taken seriously? All unknowns that can affect the short term. Good thing in secular bull markets I do not think short term. I am positioned with cash and awaiting the 800 level but my bag is filled with core-plus holdings as well. Either I am on the wrong side or the conventional crowd is. That's nothing new since 2002 in my case and longer than that for the insightful minority that have been aboard since the very beginning of this real bull market. Meanwhile, the truths born of the previous secular (20 years) trends - bullish for stocks and bearish for gold - are still widely accepted by the mainstream and to me that is the most bullish fundamental of all in gold's favor.
