Weekly Market Wrap: 12 April 2013 – Gold tumbles as predicted, but is this the “puke point”?

This regular column reviews the condition of several different markets including: stocks, commodities, currencies and precious metals. This week focuses on gold, the S&P 500 index, WTI, natural gas and the Japanese yen.

Precious metals

Gold

For some time gold’s price action has been indicating that it would retest major long-term support at $1,525, and this morning we warned our readers to be prepared for “one last washout in the gold market” that would “likely take gold down through $1,525”, a level which has acted as support for 19 months.

At around 10:30am today in New York the US dollar price began to tumble and as the chart below shows, it may well be that our scenario in which gold falls “by $100-$150”, spiking “down to around $1,400 intra-day”, could be playing out.

A 1 daily (60 second) chart of gold (Click on the chart for a larger version)

A 1 daily (60 second) chart of gold (Click on the chart for a larger version)

Chart courtesy of IT-Finance.com

As mentioned in this morning’s commentary, this move in gold could be over “within 24-48 hours” and a “final plunge or ‘puke point’ will signify that the last few bulls have thrown in the towel and sold their gold in disgust. For those still holding gold this event will feel terrible, however it will represent the bottom”.

When the last of the weak-handed longs have sold their gold and the speculators who are short have had their fill, the wave of selling will quickly reverse as the short sellers move to cover their positions and the bullion banks continue to go net long.

Only time will tell if this is the move that will bring about the puke point that will give us a final bottom.

Stocks

S&P 500 Index

After four weeks of mostly sideways consolidation the S&P 500 resumed its powerful advance on Monday. On Wednesday 10th the index broke to a new all-time high and it is now approaching the psychologically significant 1,600 level.

The 4 year weekly chart of the index reveals that it is almost as overbought as it was in February 2011 before it made a series of corrections. If a pullback does occur, there is strong support at 1,540 and also at around 1,500.

A 4 year (weekly) chart of the S&P 500 index (Click on the chart for a larger version)

A 4 year (weekly) chart of the S&P 500 index (Click on the chart for a larger version)

Chart courtesy of stockcharts.com

In the article The Markets vs. the Economy: Examining the Great Disconnect, Steve Wilson examines the disconnect between the performance of the stock market and what is taking place in the real economy.

Commenting on this dichotomy in a recent piece, John Hussman, President of the Hussman Investment Trust, said, “The U.S. stock market presently reflects two unstable features. One is that extraordinary monetary policy – specifically quantitative easing – has created an ocean of zero-interest money that someone has to hold at each point in time, and that provokes a speculative reach for yield. The other is that extraordinary fiscal policy, coupled with household savings near record lows, have joined to elevate profit margins more than 70% above their historical norm, as the deficit of one sector has to emerge as the surplus of another. The result is that investors quite erroneously accept the distorted “earnings yield” of stocks (and the associated “forward price/earnings multiple” of the S&P 500) at face value, without any adjustment for elevated profit margins or the historical tendency for such elevations to be eliminated over the course of the business cycle.”

Hussman’s article Taking Distortion at Face Value, explores a number of scenarios, however the one he is “starting to lean toward” is that “the enthusiasm about QEternity (combined with a positive jolt to personal income from special dividends to front-run the fiscal cliff) represented another successful round of ‘kick-the-can’ to push a weak economy from the verge of recession for another few months”.

As noted previously, for the past few years the US economy and financial markets have followed a distinct pattern. The economy and markets start the year strong, however, by spring the leading economic indicators (LEIs) begin to turn down. Weak economic numbers and a selloff in the market cause the Fed to deliver fresh stimulus and by the end of the year things are improving once again.

This pattern, which is clearly influenced by another annual cycle that has been taking place in the oil markets, looks to be playing out again.

The US economy is once again showing signs of weakening. The ISM Manufacturing Index just dropped from 54.2 to 51.3 (a figure below 50 indicates economic contraction), the ISM Non-Manufacturing (Service) Index recently fell from 56 to 54.4 and has been weakening since March, the ECRI Weekly Leading Index also fell from 129.2 from 129.7, and on Friday the Bureau of Labor Statistics (BLS) announced that the US economy only created 88,000 payroll jobs in March, down sharply from the 268,000 created in February, and once again the labor force participation rate dropped. It is now at the lowest level since May 1979.

If the economy weakens in the second quarter and, or, the markets begin to roll over, we can expect talk of the Fed “exit strategy” to quickly die down. In fact, it’s even possible that the Fed’s monetary policy will become even more aggressive.

Commodities

WTI

The pattern identified last week in the US oil market continues to play out. Having bounced just above the blue uptrend line (circled), WTI began to slide once more, fuelled by the International Energy Agency (IEA) cutting its estimates for global oil demand for a third consecutive month. The IEA is now predicting the weakest consumption in Europe in almost three decades.

A 14 month daily chart of WTI (Click on the chart for a larger version)

A 14 month daily chart of WTI (Click on the chart for a larger version)

Chart courtesy of stockcharts.com

If oil breaks the pattern to the downside it could quickly fall to $77.28, a level last tested in June 2012.

Natural Gas

In contrast to oil, natural gas has rallied strongly in recent weeks and famed contrarian investor Jeremy Grantham, is bullish on the energy source.

Speaking in Toronto at a conference on value investing, Grantham said that investing in natural gas at today’s low price made sense because although the US currently has a glut of the fuel (thanks to advances in fracking and horizontal drilling), it will eventually be in short supply. Within five years “the price will have tripled” Grantham said, something that would bring big profits for long-term investors the position themselves correctly now.

Currencies

Japanese Yen

On 26 September 2012, Shinzō Abe defeated former Minister of Defense Shigeru Ishiba  to win the Japanese presidential election. Following his election Abe put pressure on the Bank of Japan (BoJ), urging the central bank to take proactive steps to counter deflation. On 30 October 2012 the BoJ announced that it would ramp up its bond buying program from 80 trillion yen to around 91 trillion yen. As the chart below shows, this announcement marked the start of the yen’s recent decline.

An 18 month (daily) chart of the Japanese Yen (Click on the chart for a larger version)

An 18 month (daily) chart of the Japanese Yen (Click on the chart for a larger version)

Chart courtesy of stockcharts.com

In the short-term the Japanese currency may well be oversold, however the longer-term outlook remains bearish.

On 5 April 2013, under the leadership of the new Governor Haruhiko Kuroda, the Bank of Japan released a statement announcing that it would be purchasing securities and bonds at a rate of 60-70 trillion yen a year in an attempt to double Japan’s money supply in two years.

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