Most global equity indexes have been in a strong rally for the past few weeks. But that is all it is, a rally in an ongoing bear market. But what is of extreme concern is that the rallies have all moved back up underneath the major resistance level of the massive head and shoulders patterns. This is one of the most dangerous areas of market psychology.
Short term rallies give a relief to the main downward trend and are often regarded as the bottom of the bear market with euphoria creeping in as the rally approaches its peak. Everything is OK after all, is the general feeling. Nothing could be further from reality. Rallies such as that since the end of September are the most dangerous areas of the stock market. Yes, they imbue a sense of relief but that is only a temporary respite. It is like taking an aspirin for migraine; it may mask the pain but does nothing to combat the cause. Rallies disguise the true nature of the trend.
Major head and shoulders patterns, such as those existing on all major equity indexes, herald much lower price levels, in this case further potential sell offs of about 50%. Yet it is not the drop that concerns me but the resultant effect on investment attitudes. After the buying frenzy that hit all equity markets and the NASDAQ in particular, there is likely to be a backlash as disillusioned investors dump stocks and swear never again to play in this casino. Unfortunately we are nowhere near the pain threshold necessary for investors to start dumping stocks. While the relief rallies continue most investors are likely to adopt a policy of holding and waiting for the better days that they hope are soon to come. Unfortunately at some stage in the future they will become totally disheartened and want to get out of stock market investments at all costs.
But what is likely to cause a 50% crack in worldwide markets? Your guess is a good as mine. But whatever the cause, investment attitudes will radically change for years to come.
Wealth accumulation has been synonymous with stock market growth. Unfortunately once paper wealth has been apparently unassailably created the greed syndrome kicks in and assets are put up as collateral for further investment stakes. Gearing becomes the name of the game. Making money in the market is the easiest game in town. This has certainly been the case with American households where spending and the resultant debt levels are at unsustainable levels. Couple this with the continuingly increasing layoffs and jobless figures and you have a potential disaster brewing.
Whilst Enron and World.com embarked on creative accounting practices, GM and Ford have utilised creative selling techniques with discounted prices and no interest repayment terms. No wonder their sales are increasing. Let me ask you as a business person just how long you could survive in a competitive environment with this kind of sales approach?
I believe that the consumer spending spree generated primarily by the no interest repayment terms will not gradually fade but will stop abruptly. When the realisation that times are becoming harder kicks into the household psychology, families will put a lid on spending in order to save for the potential lack of income that may occur if their bread winner is laid off. This day is not long away. I look for a sudden fall off in US consumer spending with a resultant decrease in company earnings.
So the bottom line is that I remain unrepentantly bearish for all global stock markets.
Now we come back to the acrimonious debate, will it result in deflation, inflation or stagflation. Most observers have plumped for deflation and thus concluded that this is not good for gold. But that belies all the data on the gold charts especially the stock prices. They are still in major bull market trends and looking, once this minor correction has ended, for further upsides. Bullion, currently trading at just above $313 should attack the main overhead resistance at $322 in the near future. Once above $322 and the previous $325 and $330 highs will present little resistance. The short term upside counts to $350 will be triggered.
Many of the more marginal mines are, in my opinion outstanding buys. Durban Deep (DROOY) has cleared its hedge book so that it is now not only subject to the usual gearing of a high cost marginal mine but also has the double whammy of being fully geared to the gold price. At current price levels I rate DROOY as a major buy for a 150% upside. My other favourite is Randgold Resources. This is a cash cow. Its interests lie in an extremely profitable gold field in Mali, West Africa in which they are a major silent partner to Anglo Gold, the actual miner. As Randgold Resources is situated in London they are effectively immune from any reverberations from the much debated recent South African mining charter. Frankly the transfer of 15% equity to black interests in five years is hardly an onerous task and boils down to 3% annually. I also find it of interest to note that there is substantial US activity in building a major naval base on an island just off the coast of West Africa that apparently will rival the size of Diego Garcia.
So where does that leave us? Well I am going to ensure that I am fully invested in gold stocks and leave the rest of the equity markets to their own devices.
30 October 2002
Dr. Clive Roffey is one of South Africa's leading market strategists. He is an independent analyst, expert press and TV market commentator and leading advisor on stock market and unit trust portfolio selection. He is the author of Gold Action a fortnightly newsletter specialising in gold analysis. Trial issues can be obtained from Dr. Roffey by email to chartist@hotmail.com. Website www.utm.co.za
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