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Boudreaux take his wife, Cloteele, to a dance down on the bayou, las' weekend. There was this guy on the dance floor dancin' like crazy - breakdancin', moonwalkin', back flips--the whole works. Cloteele turn to Boudreaux and say, "See dat guy? Twenty-five year ago, he propose to me and I turn him down." Boudreaux paused and say, "Look like he still celebratin'!"
BOTTOM LINE There are lots of indicators and signs that have mattered during the history of the stock market, but the one and only factor which matters right now is whatever the Fed is doing. And for the moment, that means pumping money into the system, and pushing up prices. At the moment when the market figures the jig is up, prices will be vulnerable to a correction. We see a drop of limited magnitude over the next 2 weeks, but then more upside. Gold is already looking bottom worthy, 2 months ahead of schedule, with the whole world seemingly panicking out and looking for lower price levels. That’s the type of sentiment condition which generally marks important lows. Bond sentiment still looks like a bottom for bond prices, allowing for a rebound over the next 2 weeks.
That uptrend continued until the Fed turned off the fire hose in June 2011, and the stock market responded almost immediately with an 18% drop in July and August 2011. During the periods when the Fed was pumping in money, the market had nice uptrends, almost linear. When the Fed tried to take off the training wheels, the market fell. variation called Operation Twist, buying longer term debt and selling shorter term debt, trying to flatten out the yield curve. It worked, and it helped the market some, although in a much more choppy way than during QE1 & 2. Now the Fed is back to doing pure QE, and the market is responding accordingly. The uptrend since the post-election low in November 2012
has been quite linear, matching the shape of the monetary inputs as shown below. This market strength has ignored seasonal patterns, momentum divergences, overwhelmingly bullish sentiment, and other classic signs of trouble. Those just are not mattering at a time when the Fed is smoothing over all conflicts with freely flowing money. And that creates a huge risk factor for when the Fed decides to turn off the hose again, or even when the market starts to think that the Fed might turn off the hose again. When that happens, all of those other factors which have mattered so much during the market’s long history will be allowed to matter again, and probably to a greater degree than is merited. For now, though, the Fed says that the liquidity will keep on flowing. But that bullish effect is more likely to matter starting a couple of weeks from now. The chart here on page 2 updates the leading indication for the stock market given by lumber futures COT Report data, which we introduced in our last issue. It still calls for a down market for about the next two weeks, after which all of the Fed’s money should get better traction for pushing the market higher. Bottom Line: The Fed is trumping other market influences, and that’s bullish for as long as it lasts.
Gold Oversold, Ahead of Schedule The 13-1/2 month cycle low for gold prices is not due to arrive until May, but gold prices already seem to be at a bottom-worthy oversold condition, as well as showing a really interesting sentiment condition. Let’s dive in. The top chart shows the 13-1/2 month cycle for gold prices. The major cycle lows tend to see important bottoms in gold prices, and there also tends to be a less important mid-cycle low about halfway between the major cycle lows. But it does not stop there. The relationship of the price highs before and after the mid-cycle low tells us about what lies ahead. A higher high after the midpoint says that gold prices are strong, and that the correction into the major cycle low should be minimal. A lower high, like what we have just seen in this current cycle, says that the mid-cycle low should be taken out, and that is what we have now seen in this instance. Up until recently, there has been one element of a gold price bottom which has been missing, and that is a big flight out of the gold bullion ETFs. We even commented in our last Report about that lack of a sign of capitulation, and how it implied that gold was not done.
But as the middle chart shows, we now have that flight fully underway. The latest drop in gold prices to below $1600/oz has resulted in a sudden flight out of GLD and IAU, as shown in the middle chart. One of the reliable signs of an important bottom for gold prices has been what we call a “big fast drop” (BFD) in these ETFs’ assets. Two weeks ago, there was no such drop.
Now, we have the biggest one in a really long time. Evidently the drop to test the 2012 lows just below $1600 are causing some traders to abandon positions in ways that they were not doing at any time in the past several years. That kind of extreme stress is usually a sign of a big turning point, although it is worth noting that just because we are noticing the stress now does not necessarily mean that the stress is all done. The bottom chart shows an interest interesting dichotomy compared to what we are
seeing in the ETF assets. Total open interest in gold futures contracts is actually making a divergent pattern of higher lows. So what does it mean if ETF investors are puking while futures traders are loading up? Without addressing that specific combination of conditions, we can see that lower price lows with rising open interest is a fairly reliable sign of an important bottom in gold prices. And seeing the total open interest number rise up above its own 10% Trend is usually a sign of an upward trend for gold prices. Bottom Line: The decline in gold has produced bottom-worthy pain in certain parts of the gold market. This is ahead of schedule for the major cycle low due in May, but not by so far as to preclude it from being legitimate.
Gold Stocks At Extreme Condition As bad as it is for gold prices themselves, the miners are getting hurt even worse. Gold mining stocks suffer from having one foot in the stirrup of the gold market, and another in that of the stock market. Sometimes they can get pulled in conflicting ways, which given the stirrups analogy can be painful to contemplate. Lately gold stocks have not been helped at all by the fact that major stock market averages like the Dow are pushing to multi-year highs. And gold stocks have also been getting hurt much worse than the decline in gold prices might suggest. Gold has just returned to the lows of last year, but as we see in the top chart on page 5, the XAU is now at its lowest level since 2009. Perhaps more important than the raw price level, the Price Oscillator for the XAU is now down to a level exceeded only once in the last four years. It can still go lower, and indeed it is still falling even now. But the moment when the Price Oscillator turns up from such a low level tends to be a turning point for the XAU that is worth catching. Detecting that turn means watching it daily, but the result can be worthwhile. The Price Oscillator is the difference between the 10% Trend and 5% Trend of closing prices. The Price Oscillator Unchanged level is the price above which a close would mean that the Price Oscillator would turn up.
A mathematical derivation reveals that the Price Oscillator Unchanged level is found as the 10% Trend plus the Price Oscillator. As of right now, that would mean a close above 132.79 for the XAU, which is almost 4 index points above the March 5 close. That level is currently falling at a rate of a point and a half per day, so that means an upturned Price Oscillator gets easier to achieve as more time passes.
