The boys in the boiler room

Toward the end of 2004, I began receiving a lot of phone calls from brokers who wanted to "put me into euros" or help me "take advantage of the weak dollar". To one of these do-gooders (who only had my best interests in mind I am sure) I replied "why would you want me to buy the top?", but the click on the other end of the line gave me the answer. It was time to offload the weak dollar trade to Ma 'n Pa.

Thanks in part to the boys in the boiler room, I was well prepared for the current dollar rebound, and in fact, until the end of this past week, held a total of zero gold stocks (excluding Central Fund of Canada and the gold ETF's) as the mining sector headed toward a short term capitulation. So, thanks boys!

Goldbugs bugged

It appears that a recent biiwii article was an irritant to some perma-bull goldbugs. It read, in part "Gold related investments should not be treated as religion. In so far as one may want to preserve wealth during times of declining faith in a fiat currency regime, gold should be strongly considered. But to place it on a pedestal above all other assets known to man is to be blinded by its mystique, its lore and its legend. It is a tool to be used for economic survival or prosperity, and if you're reading more into it than that, you may well be setting yourself up to be on the wrong side of the trade one day." In fairness, it is more the gold mining stocks that I view with suspicion as the metal is truly timeless and deserves a place in a balanced and sensible portfolio. Still, the response to this sentiment, combined with the perma-bullishness observed in many quarters, gave a good indication of what was to follow. Namely, a painful correction was visited upon a sector that has actually been consolidating its gains since late 2003. Bullishness needs to be wrung out and a lot of the come-lately "bugs" need to be flushed and sent back to their tech stock speculations or whatever flavor of the day is next. Could it be that a sizable amount of the "Go Gold!" crowd is made up of miners-only bugs? Meanwhile, those who hold physical metal are probably not losing much sleep and I would guess, have been doing much less cheering all along.

It is time to watch for capitulation in the mining sector. Judging by last week's action, it seems the process has begun.

The Professionals

It amazes me how generous the pros are in providing the signposts a contrarian needs to get on the right side of the trade. Goldman-Sachs' loudly trumpeted call of "oil to $105" was a gift for anyone looking for a near term top in that market. Another gift was the input I received from an investment professional three weeks ago, after I warned of a deflationary "whiff" in the air. His words were [paraphrased] that "commodity bull markets usually run for 20 years and China is a huge engine for growth". After that, I was no longer content just sitting out the coming gold stock and commodity massacre, and in fact bought puts on the XAU and Newmont Mining (since closed out). For what it's worth, I believe both of these calls are valid for the longer term. It's just that I hate sitting through gut wrenching corrections when it is far more pleasant sensing their onset and stepping aside, waiting for the bargains to show up.

Financial Media

I truly regret that by the time I am able to tune in to CNBC, the financial channel's programming has shifted to comedy, news magazines and reality shows. All the best contrary indicators ply their trade earlier in the day. I miss Larry Kudlow. A strong dollar tout from him always seemed to set the stage for another leg down in the buck's bear market.

A few months ago, a well known Smart Money analyst wrote an article espousing the virtues of owning gold in a dollar inflation environment. I posted the article on biiwii's News & Analysis page along with a tagline that read "okay goldbugs, here comes the mainstream". What I meant was, tread carefully, the boat is getting kind of full on one side.

By the end of 2004, virtually every major financial media outlet was trumpeting the decline of the dollar and highlighting Warren Buffett's dollar consternation and dollar-contrary positions. They will ultimately be right of course, but you can't get the boat more loaded on one side than this. A huge counter-party for a short term strong dollar trade was created. This is the essence of the saying "if everybody knows something to be true, chances are it's wrong", at least in the short term.

Ma 'n Pa

I was hearing entirely too much of these words in local daily life: "Dollar", "Inflation", "Energy" and "China". To me it sounded like fade, fade, fade and FADE! It is sad that all too often, Ma 'n Pa will become aware of and take action on a story just in time to be chewed up by its first major negative adjustment. Fundamentally of course, it certainly looks like Ma 'n Pa will be right if they can just hang in long enough, with deflation once again providing a nice carpet for future liquidity bombs.

Da Bears

These guys are on top of the world right now. Most markets are getting croaked and it looks like all the lumps they have taken over the last two years can be left in the past. One should watch for signs of overconfidence, as well as accelerated hedge fund shorting activity, and of course, the dreaded bear on the cover of Business Week. Here are two charts that show sentiment is changing from blindly bullish to bearish on a short term basis:

Charts courtesy of stockcharts.com

Sentiment is eroding quickly. Can pervasive "The Bear Is Back!" type headlines be far behind? Late last week I took small initial bullish positions in gold stocks, alternative energy and the Dow. This may have been a bit early, but it was time to grit my teeth and begin to buy the fear. The news is mostly bad with corporate America showing stress fractures, talk of a crash and depression, Ma 'n Pa worried about the economy and Joe Six Pack calling the top in the Dow. As you may know, biiwii has not sported the most rosy outlook for the big picture, so I will have to allow for the possibility that this is indeed the endgame. But I will also allow for the possibility that the Fed will stick to Dr. Bernanke's vow to never let IT happen here. So I remain open to positioning for a hyper-liquidity scenario. In this scenario, perma-bears may be an endangered species.

Me, Myself and I

I reserve the right to fade myself. My own greed impulse clouded my judgment in one particular stock speculation that "blew me up" beyond what I would normally allow. It happened because I felt quite sure of its prospects. The trade is currently ongoing and may indeed pan out. But the pain it has caused to this point is a lesson that is worth heeding. There is always another side to the trade and it is worth one's while to thoroughly explore all angles from a contrarian viewpoint.

"Always on the outside of whatever side there was" -Bob Dylan

It is not natural to be constantly on the other side of the accepted mass viewpoint. It takes work, as human instinct is to herd. In the herd there is comfort, reinforcement and belonging. Success in the financial markets demands that you take uncomfortable positions at those times when the public mindset claims that you are most wrong. It's a crazy business at which many people are simply not wired to succeed. That is why they seek out investment professionals to manage their finances for them. It is a scary situation when you consider that one of the most reliable contrary signposts is indeed the professional mainstream money manager community. Still, it does my heart a world of good every time I receive an email from a certain CFA who puts great thought into his clients' well-being, into capital preservation first. He understands that there is indeed a counter-party to every investment and sometimes that counter-party may be right.