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Honest Money Gold and Silver Report: Market Wrap

Market Wrap

Week Ending 7/10/09


We recently had a big move up in stocks and commodities from March to June, premised on the thought that the economy was going to get better, which would increase the demand for commodities and improve business profits.

Suddenly, this thesis is no longer embraced by the market, at least for the time being; although it may come back in the near future; perhaps the very near future.

But for right now it has taken a back seat. The rally definitely got ahead of itself and was overextended (overbought), which is one of the reasons I sold into the last move up, as opposed to buying or chasing the move.

However, we must remember that the Fed is creating massive amounts of credit/debt. Talk has begun that another stimulus package may be needed.

I don't agree with the first stimulus package (bailout) or any that may come, but according to conventional thinking and existing monetary policy, there will be more to come.

I don't see how the Fed will be able to walk the razor thin line it is trying to traverse over the abyss below. One wrong step to the left and we get deflation - one wrong step to the right and we get hyperinflation.

The Fed does not have a plan in place to soak up or cut off the stimulus it has created, let alone finesse it along the way. Eventually, it is almost assured that inflation or hyperinflation will result from the Fed's market interventions to try to fend off the threat of deflation. Bernanke has sworn an oath in blood to keep such from happening.

It is a mighty task that 12 men cannot possibly accomplish. It would best be left to the market. If left alone, a free market will regulate itself. That's what free markets do - that is one of their functions.

The Fed continues to expand its purchases of Treasuries, although overall its balance sheet declined for the week. The central bank is operating on stealth mode, trying to hide its tracks in the sand. Total Reserve Bank credit fell $9.5 billion to $1.97 trillion, after decreasing $9.6 billion the previous week.

While the Fed has reduced the amount of funds available to the various emergency loan facilities, it has been busy expanding its holdings of Treasury securities, which increased $12.4 billion following a $9.2 billion rise the week before.

The Fed bought $11.5 billion in Treasury notes and bonds just this past week. Fed Foreign Holdings of Treasury & Agency Debt this past week jumped $20.5 billion to a record $2.78 trillion.

Custodial holdings expanded at a 20.7% rate y-t-d, and were up $437 billion the past year (18.6%). Conspicuously absent were any purchases of mortgage-backed securities. Overall, MBS actually declined.

The chart below shows the huge expansion the Fed's balance sheet has taken in 2008-2009, and the recent decline there from. Fed credit is up 123% in the past 52 weeks; although it has dropped $269 billion year to date.

Based on the economic charts presented above (available in the full market wrap report) and their bent towards deflation, coupled with talk out of Washington of another possible stimulus plan; and one can expect further expansion in the Fed's balance sheet coming in the not too distant future.

This is why it is important to monitor the economic indicators above, as well as the Fed's balance sheet. If the Fed keeps creating more money, credit, and debt; we can expect inflation down the road, which would be long term bullish for commodities and gold, while bearish for the U.S. dollar and T-bonds.

In other words, the reflation/commodity trade may be dead in the water right now for the short term, but longer term it may very well pop back up. I would not count commodities out just yet, especially gold.


One of the themes I've harped on since the financial crisis began, is that the perception and pricing of risk will be critically important. In other words, at times investors will be more worried about the return of their money (fear), than the return on their money (greed).

The yen/euro cross is one of the best measures of how the market is pricing risk, along with yen itself. The yen/euro cross represents the dominant carry trade that financed the speculative bubble or boom that has now gone bust.

Yen, at near zero interest rates, was borrowed and then invested on the long side of any asset class that paid more (interest) or was deemed to be capable of being sold at a higher price (capital gain). This is known as borrowing short to go long. One of the main assets on the other side of the trade was the euro, another were commodities.

Until the pigeons came home to roost with the start of the financial crisis in 2007 - players were more than willing to accept risk; any and all kinds of risk: as derivatives now considered toxic waste, and untouchable by all accept the Fed, were once viewed as caviar by the rich and famous. They couldn't consume enough - fast enough; their appetites were insatiable.

As long as risk was acceptable to speculators, the yen fell and the euro gained versus the yen; hence, the yen/euro cross favored the euro. The chart below shows the steady move from the bottom left hand corner of the chart to the upper right hand corner - a bullish signature, indicating the euro rising against the yen.

Notice the decline of the yen/euro cross starting in July of 2009, as it broke below lower trend line support. This meant that risk was no longer embraced. Investors began moving out of stocks and into the yen, hence the yen rose. If the yen keeps rising, stocks will keep falling.

The daily chart of the yen shows its recent break out, which is approaching the 61.8% Fibonacci retracement of the entire decline since Feb. 108-110 represents significant overhead resistance. If it is broken above, the stock market will be in big trouble.

Next up is the weekly chart of the Japanese Yen. Notice the red horizontal trend line connecting with the March 2008 high. Once this level was broken above in Nov. - Dec. of 2008, it then became support; as the yen continued on to make new highs in Jan. 2009. During this timeframe the stock market was falling into its March lows.

In Feb. - March of 2009 the yen broke back below this level, turning support into resistance. The recent move up above this level in June - July has once again turned resistance into support; and suggests that higher prices are coming.

During the past week the yen gained 3.74%, underscoring its recent strength. This is not good news for the stock market, especially if it continues.


Recall that all of the charts in the economic section (available in the full report) showed that deflationary pressures are in control at the present time. It is what it is until it isn't. I have suggested that the reflation/commodity trade may return, but for now it is dead in the water.

The daily chart of the CCI Commodity Index bears this out. The 13 ema has crossed below the 34 ema, flashing a short term sell signal. The 50% fib level out of the Mar. lows has already been reached.

Notice that although STO has made a positive crossover - MACD is not even close; as a matter of fact the ma's are moving farther apart. Until MACD makes a positive crossover (or at least narrows and flattens out) I would not go near commodities. The risk right now is still too great.

If the yen continues to rally (and especially if the dollar joins suit); and the stock market continues to fall (which I suspect will be the case), commodities will go down as well.

This is all in keeping with the economic reports that continue to come in on the deflationary side. Presently, both the fundamentals and the technical indicators say to stay clear. Keep in mind that this could change quickly, however. For now it is what it is.

The weekly CCI chart follows the daily. It too shows a 13/34 crossover. Notice the 50% fib level at 376 and the 61.8% level at 364. These levels should offer support on any further move down. A lot depends on the dollar and the stock market. The perception and pricing of risk will be critical.

Further to the above, we have the following news out of China:

"China's new lending more than doubled in June from a month earlier, increasing concerns bad loans and asset bubbles will emerge amid a credit boom. New lending was 1.53 trillion yuan ($224 billion)... bringing total lending this year to 7.4 trillion yuan...

...The government is countering an export collapse by flooding the economy with money to fuel domestic demand...

...Rapid credit growth poses a risk to the nation's lenders and a concentration of credit in some industries and businesses may damage the stability of the financial system, the banking regulator said..."


Gold got hit for -$16.50 for the week, falling -1.78% to close at $913.00 (continuous contract). Last week's market wrap comments on gold still obtain, so I will repeat them here again, as nothing of significance has changed:

Both MACD and STO have turned down and made negative crossovers, (on the weekly chart) which suggest lower prices are likely. This could be the head fake I have been concerned about. Prices could fall yet again and as long as the $850 level holds, the head & shoulders would still obtain, while shaking out a lot of players.

The above still holds true. As the daily chart below shows, the 13 ma has crossed below the 34 ma, giving a short term sell signal.

The chart also shows the various Fibonacci retracement levels coming out of the April lows and into the June highs.

The fist fib level (38.2% - 942) has already been taken out. The next target is the 50% level at 927. Overhead resistance resides at 949.

Notice the 61.8% price at 912; and compare this level with the 40 week (200 day) moving average that resides at 901.58.

This price level could be hit, YET if it were to hold, the inverse head and shoulders formation would STILL remain in effect, WHILE shaking out a lot of weak hands.

The daily gold chart below shows exactly the same thing: a 13/34 crossover is still in effect - suggesting lower prices are likely.

Diagonal trend line support is being tested. A break below support would indicate a test of the April - May lows is in store.

Until MACD starts turning up and positioning for a positive crossover - I remain on the sidelines watching.

The weekly gold chart shows the inverse head & shoulders formation still intact.

We saw the 13/34 moving average crossover on the daily chart that suggests further downside price action.

On the weekly chart we see that the 50 dma has been breached, with both MACD & STO under a negative crossover. This suggests that the 200 dma (881) is likely to be tested.

Notice that this price level is still above the right shoulder of the inverse head & shoulders formation.

The present move down in gold is shaking a lot of weak hands out of the market. I like this. When everyone recognized and talked about the inverse head & shoulders formation I became concerned. If everyone is thinking the same thing, I take that to mean no one is thinking - they're following the crowd or herd instinct. I mentioned that I thought the market would likely do something to throw most off track. The present move down is doing precisely that.

The above is an excerpt from the full market wrap report (57 pgs) available only at the Honest Money Gold & Silver Report website. Stop by and check out our recent calls on the downturn in the stock and commodity markets and our short position in the S&P that has been performing quite well. We were fortunate to sell our commodity stocks before the correction set in. See what stocks are on our stock watch list and in the model portfolio. A free trial subscription is available by emailing your request to: dvg6@comcast.net.

Good luck. Good trading. Good health, and that's a wrap.

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