Nothing is black and white. Yes, there are trillions of derivatives at JPM, and no, the financial markets haven't fallen apart as the some of the gold-bugs had predicted for a long time. Just how normal are we in today's world?
Consider this - You can go to Citibank or MBNA.com and take out a 0% interest credit line for a year. How about your neighbour in Palo Alto who just took out another $100,000 cash from a 3% adjustable mortgage refinancing. Credits are easy these days and we venture to say in normal times we shouldn't see those things happen.
A quarter of new mortgages are now adjustable-rate, up from low teens (from Mortgage Banker Association), we expect this number to go up which will further squeeze profit margin of the likes of WM and CFC. Shall we short? Not yet, we will detail the reason in the 'market watch' section.
Money makes the world go around
The law of supply and demand is our central theme in market analysis. That being said, that's take a look at how much money there is.
Broad money supply (M3) has increased over 100% in the last 10 years. If inflation is defined correctly as increase in money supply, those who say there is no inflation are simply lying through their teeth. True, the effects of inflation may not have been reflected in CPI numbers. However, more money chasing fewer goods will always cause prices to rise. The money first poured into tech stocks, then bonds and real estates. In 2003 we witnessed 50% price rise in commodities such as copper and we expect prices of “basic things” to continue to rise.
Notice the clip of money supply towards the end of 2003. We are concerned of the drop in money supply. New money is primarily created through borrowing. There is a fairly high correlation (with some time lag) among long term bond price, money supply, and the stock market. Simply put if there is no new money, then there is no party to hold the bag during stock distribution. We will dive into that subject next time.
Market Watch
It's no secret that the Fed and other central banks regularly buy and sell bonds and currencies through their 'open market operation'. However since middle of 2002 the idea of the Fed's stock market intervention began surfacing.
Greenspan has stated once at the end of 2002 that that he saw no need to intervene stocks at the time. We however, believe Greenspan no longer calls the shot as he is near the end of his tenure.
Newsletter writers when proven wrong in predicting the market they often resort to the ' plunge protection team' theory. While we generally believed that there was no evidence of PPT, we recently had to rethink this subject based on market behaviour. There are three areas in question we like to share.
1. Notice the charts. On 9/22/03, 10/25/03 and 11/17/03, Nikkei dropped 350+ (3%), 450+ (4%), and 350+ (3%) points. Dow escaped relatively unharmed with less than 2% loss on each of those occasions.
2. Since March of 2003, Dow has not lost 1%+, two days in a roll. We don't recall this ever happened for extended period (going on 10 months now).
3. Following daily movements of the market, we felt we were watching the Dow ticker with a 386 computer. i.e. the market action is highly contrived, muted. This is in spite of days of high volume (2bil+ shares on Nasdaq) and damaging news event (such as intel's dimmed forecast or poor job reports).
It looks as though someone is massively accumulating shares on any dips. Who could it be we wonder with insiders dumping shares at 18 year record high and foreigners fleeing USD- denominated assets?
Analysing the markets is about making assumptions which may or may not be true. Any newsletter writers or analysts disregarding the PPT theory at this point however we believe is missing the picture.
Sticking with the PPT theory, we shall not initiate any shorts at this time. Government has unlimited ability to support stock prices. After all, if you wake up knowing the Fed owns 1% of all S&P 500, would you sweat? We would guess many will be relieved that the Fed is looking after their portfolio. We will turn short bias when Dow suffers 1%+ loss on 2 consecutive days, followed by a losing week. When Dow dips below the 200 day moving average we would be exiting most of our positions.
Gold, Silver, Commodities
Plunge protection team and an election year will be the most bullish scenario for gold and gold stocks.
If you had bought GG, KGC, or HMY in May of 2002 at the peak, you would have made no money in the past 18 months despite the bull market in gold. In the last two years many early investors who were die-hard gold fans lost their faith and threw in the towel during the current gold correction.
This is why we believe gold stocks have been consolidating for a dramatic move up unlike what we experienced in early 2002 when HUI rocketed from 75 to 150 in 4 short months.
James Sinclair interviewed with MineWeb this Jan which you should read. http://www.mips1.net/mgrd.nsf/Current/80256CD 100234F1242256E1600394C70?OpenDocument
He made a prediction of gold price of $480 this year. This is based on consensus for the euro in 2004 and how gold has tracked the euro. For gold to overcome $500 there has to be an 'event' to cause gold to start outperforming the euro and establish gold's symbol as true money.
We agree with Mr. Sinclair's assessment and we believe the 'event' could occur as early as April this year. $1.3 to a euro is just too much of a shock to any nation which conducts business with both US and European block. We travel to many Asian countries almost all view USD as the safest investment. For many, seeing euro climbing the way it did is starting to raise questions as to why the dollar is strong in the first place. They then raise the same question with the euro as many are still sceptical with the euro. This leaves them with only one legitimate store of value besides their home currency and that is gold.
We can theorize all we want. First break of gold above $435 without $1.3+ to the euro will confirm the next bullish phase of gold. You should accumulate gold stocks before the phase sets in. Markets don't move linearly when important perception shifts. We hereby make a bold prediction and expect this to happen by April.
Recommendations
As we mentioned, we are now the most bullish of gold stocks since spring of 2002. Our safe bets are ARQRF (platinum), TKOCF (copper), NG (gold), HMY (gold), KGC (gold), and WTZ (silver). We will outline each case as well as weighting in the next issue which should arrive in your inbox on Feb 1, 2004.
