Howard S. Katz
March 31, 2008
When trying to predict short term moves in the precious metals (or any economic good), I find it very important to keep in mind the longer term period. Once the longer period is in the bag, the shorter period becomes much easier to analyze. To this end, I first divided the stock market into 4 levels of trend:
- the short term trend, which usually lasts several weeks
- the intermediate trend, which usually lasts several months
- the major trend, which usually lasts 2 to 4 years
the grand cycle trend, which is composed of at least 3 major trends. The longest grand cycle trend in history is in existence now and has lasted 25 years so far. The shortest lasted 10 years. (All time periods are approximate.)
It must be kept in mind that, for stocks, bear trends tend to be take half as much time as bull trends. They take half as much time, but they make up for it by declining at a much faster rate. Also, any trend will exert a strong influence on the next level down. For example, the major term bull market in gold which started in 2001 has been interrupted by 5 intermediate down trends: summer 2002, early 2003, spring 2004, first half 2005 and mid 2006. Corresponding to these there have been 6 intermediate up trends, all of which have lasted longer and been much more powerful. The major term gold bull has extended the intermediate rallies and shortened the intermediate declines. Using this principle alone I will not short gold in the present market even when it is giving me bearish signals because I know that any short or intermediate term decline will be over sooner than anticipated.
When we apply these concepts to bonds and commodities, there are some differences. With regard to bonds, bull and bear markets tend to be equal in time. Commodities are exactly the opposite of stocks. They spend only half as much time going up as going down, but when they go up, they go up very fast (as we saw this past winter). There is nothing quite so nice for the pocketbook as to either be long a commodity bull move or to be short a stock bear move. Ka-ching, ka-ching.
It is also worthy of note that major term moves (bull or bear) are caused by actions of the Federal Reserve. I call the bear trend in stocks of Aug. to Oct. 1987 a major term bear market because it was caused by the Volcker tightening of that year (even though it lasted less than 3 months).
Given all this, what is the trend analysis for gold?
First, it must be kept in mind that gold was (as all commodities) terribly undervalued back in 2001. Using the Consumer Price Index, the Commodity Research Bureau index was half the real value in 2001 that it had been in 1971 (the second most undervalued period in commodity history). 1971 is a key date in all markets because important trends started at that time which carried into the decade of the ‘80s.
Shortly before 1971, gold began a 10 year rise in price which carried it higher by a factor of 25 times. This move must be classified as a grand cycle move because it was composed of 3 major term moves: up from 1970-1974, down in 1975-76, and up again in 1976-1980.
Since the undervaluation in 2001 was greater than the undervaluation in 1971, it is reasonable to assume that the move which started in ‘01 was also of grand cycle magnitude. Therefore, the major term up move in gold from 2001-2008 must be the first part of a grand cycle upmove which will have at least 3 (major term) components.
Okay, was the decline in gold which started on March 17 the beginning of a major term decline (similar to 1975-76)? Was it the beginning of an intermediate term decline (similar to May-October 2006)? Or was it merely the start of a short term decline (similar to Nov.-Dec. 2007)? That will be the central question which will be addressed in issues of the One-handed Economist over the next several weeks (or longer).
It must be kept in mind that it is highly likely that we have just seen a spike top in several commodities, including gold. There was intense interest which built to that date, and volume in GLD for that day was the highest upside volume in its history. Then the price fell away rapidly. (You may have noticed that on its occasional down days gold tends to develop very high volume. This is not a bearish sign. It is rather a sign that among the gold bugs are many nervous Nellies who cannot stand prosperity. They scare easily, and this confirms that there is a giant, long term wall of worry for us gold bugs to climb. The outrageous behavior of many established gold mines in shorting their own product, aka forward selling, right at the bottom of the market was another example of this wall of worry as is the undervaluation of most of the smaller mines.)
Also, we must remember that there is a two-fold technical signal going on in gold. When a chart pattern breaks out, it will often give a minimum price objective. In good markets, it will usually go beyond the minimum. But before it does it will pause and make a short term pull back upon reaching the objective. For gold, the minimum price objective (on a semi-log chart) for the large triangle which formed in –‘06-’07 and broke out the week after Labor Day ’07 was a touch under $1000. The reaction which started on the 17th may have been the short term reaction associated with this pattern.
But there is another pattern. There is a symmetry to a triangle so that the move which follows the breakout is equal (on the log chart) to the move which led up into it. For gold, this is the upmove which started in July 2005 at 418 and ended in May 2006 at 732. This is an advance of 75%. If we project an advance of 75% coming out of the same triangle, we get a move to 1123. If gold is going to reach 1123, then the reaction from 1000 will have to be of short, or at worst intermediate, duration.
If there are two factors which have to be considered in any analysis of gold, they are the collapse of the U.S. dollar and its cause, Bernanke’s policy of extreme ease. If one studies currencies, then as a practical matter, what makes them go up or down is the tightening/easing policy of the country’s central bank. If the bank tightens, the currency goes up. If the bank eases, the currency goes down. In August 2007, Bernanke was not tight enough, as proven by the collapse of the dollar in ’06 and early ’07. So what did he do? He began to slash rates to the bone.
This, however, is not the full story. You have been told by the media that Bernanke has cut the Fed funds rate from 5¼% to 2¼%. But the Fed funds market is a small, unimportant credit market. The important market for short term credit in the U.S. is T-bills. And on 3-20-08, the rate on 3 month T-bills fell to 0.63%. So short rates here in the U.S. are not 2.25%, as the media are leading you to believe. They are in the neighborhood of 1%.
And if that were not a dead giveaway as to where the dollar is heading, one final observation. When a central bank does tighten, there is approximately a 6 month lag time before the tightening starts to firm up its currency. So even if Bernanke sees the error of his ways tomorrow, then we will not have to worry about a rising dollar until the autumn leaves start to fall.
These are some of the considerations which will guide my decisions over the next several weeks. I invite you to join us by 1) visiting my blog at www.thegoldbug.net, 2) taking out a subscription to the One-handed Economist. The first is devoted to applying sound economics to political and social issues and is free. The second is devoted to applying sound economics toward making money for our subscribers and costs $300/year. (subscription information via website). Thank you for your interest.
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