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williams012313.html
MARKET ANALYSIS
Adding Perspective To
The Dollar
February 3, 2013
Nearly all men can stand adversity, but if you
want to test a man's character, give him power.
- Abraham
Lincoln (1809 - 1865)
I go back almost six decades and that allows me to compare what I experience
now with things I experienced fifty years ago. In the countries I travel in
it takes close to US $100 to fill up a gas tank. By comparison I seem to
recall that in 1970 I spent US $5.00 to do the deed. I also seem to recall
that governments talked about “millions” when they discussed things, and
that increased to the hundreds of millions when Viet Nam was in full bloom
and Nixon took the helm. Things pretty much stayed that way until Reagan
took over and then the term “billion” began to receive attention. Slowly we
moved from tens of billions to hundreds of billions as the US moved from the
first Iraq war to the second Iraq war in a search for those elusive weapons
of mass destruction.
By the time George II was ending his reign we made the jump to “trillions”,
and now with Obama we’re talking about tens of trillions. If I’ve learned
one thing while living abroad it’s that the more zeros you put after the
first number on a fiat currency, the less it means to the people who carry
it in their pocket. With respect to the US dollar, I suspect there are few
people who can conceptualize one trillion dollars. Therefore I would like to
use some space here to see if I can provide some perspective as to what a
trillion really means.
Let’s start with the US gross domestic product defined as the total market
value of all final goods and services produced in a country in a given year,
equal to total consumer, investment and government spending, plus the value
of exports, minus the value of imports. If I put a number to this it comes
to US $16.4 trillion, and that coincidently is now the amount of the
national debt. So another way of expressing the national debt would be to
say that every man, woman and child would have to contribute one years
work/production at no cost. But hold the boat! We also have another US $65
trillion in unfunded obligations for things like social security,
Medicare, Medicaid and so on down the line. These are things we owe, but the
government has yet to consider. Finally, the Obama administration is
creating new debt at the rate of US $1.2/year in order to pay bills
and service old debt.
Projecting out to the end of 2013 we’ll have US $65
trillion in unfunded obligations and the national debt will stand at US
$17.6 trillion. Add them up and you have US $83.6 trillion meaning that
everyone would now have to contribute 5.09 years of their work/production
just to get back to zero. If on the other hand you wanted to grab the bull
by the horns and settle up now, every man, women and child in the US could
simply write a check for US $278,666.66. I’m a glass half full kind of guy
but I just don’t see this happening.
So far I’ve only debt with the Federal government, but the state and local
governments aren’t any better. The state and local government debt has risen
by 250% just since 2002 as seen here:
Of course none of this is ever discussed because it’s much easier to use the
ostrich approach when dealing with problems.
Now given the socialist bent of the current regime, and looking at past
performance, it is entirely possible that the debt could rise another 50%
during Obama’s second term. That would put the
national debt somewhere around US $25 trillion by 2016. If we had
pallets of one hundred dollar bills, this what one trillion dollars would
look like to someone standing next to it:
Notice that the pallets are double stacked and the man standing in the lower
left hand corner has all but disappeared (literally and figuratively). Now
multiply this by 25 and you begin to see the hopelessness of the situation.
Mr. Obama’s only solution is to simply eliminate the debt ceiling and then
trust Washington’s good intentions with respect to what is in your best
interest. With almost half the population on some sort of government aid,
the public would more than likely back him, until the money runs out. Slowly
but surely your access to real news will be limited as the governments
restricts the flow. The right to carry a gun isn’t the only thing in
jeopardy; there are numerous bills pending that will control Internet
speech. I for one am convinced that this is what the “Cloud” is all about.
They want citizens to collectively put their whole life in one place so Big
Brother can put it under a microscope and use it against you.
Everybody talks about growth and how the US is growing again, in spite of a
negative growth rate in the fourth quarter of 2012, but it’s all smoke and
mirrors. Take out the government spending from GDP and this is what it
really looks like:
As Federal deficits and debt increased in the 1980s, private GDP was
negatively impacted. Only the twin speculative bubbles of the late 1990s to
mid-2000s (dot-com and housing) reversed the trend. Once the housing
bubble popped, the effect of rapidly rising Federal debt has had a very
negative correlation to private GDP.
They get you coming and going! As government borrowing and spending
skyrocketed over the last decade, household income flat-lined during the
housing bubble and then fell off a cliff once the bubble burst. The
State-enforced bailouts of the economy hollowed out household wealth and
income. In an obscure welfare system like America's, the cost basis for both
enterprises and households constantly rises, pressuring wages lower for the
majority of wage earners. We see this here:
In conclusion we can see that the ballooning
government deficit spending and debt have a very real and negative effect
on private GDP, money supply, money velocity (not shown) and wages.
Printing money does not make us wealthier, nor does borrowing and
squandering money on consumption and bad investments make us wealthier. It
only serves to enslave us much like the coal companies did one hundred years
ago with their company stores. Back then you died of black lung and your
family was obliged to pay off the debt. In today’s world your great
grandchild will be paying off your debts.
The government would have you believe that you can print all you want, live
beyond your means for as long as you want, and you’ll come out smelling like
a rose. My experience tells me that in life you have to pay a price for
everything. Human nature being what it is today we are willing to sacrifice
our freedom and economy for the illusion of security and a hand out. For
years other countries were willing to subsidize the US because we bought the
goods they produced, but that’s no longer the case. If one is inclined to
look you can actually see the effect of the Machiavellian policies currently
implemented by the authorities.
The best place to start looking is the US dollar, and there have been some
significant developments this week. Take a look at this daily chart of the
spot US Dollar Index and then I will expound:
Note that early in the week it broke down through a trend line that
connected the December low with the January low. Then on Friday it moved
even lower and touched the neckline formed by the large head-and-shoulders
formation highlighted in the chart. The US Dollar closed out the week at
79.12 with a session low of 78.92, and you have to go all the way back to
September 19, 2012 to find a lower close.
I have no doubt that the US dollar will break down
below the neckline, and then it will challenge strong support at 77.93.
Later this year I look for the dollar to move even lower and eventually
test the all-time low from 2008 at 71.33, and I don’t think it will stop
there either. Currently the RSI is not yet in extremely oversold territory
(although it’s close) and both MACD and the histogram are pointing lower,
so I think we’ll see more downside before there’s any kind of a decent
rally. Finally, there is a point out there where foreign central banks
will no longer participate in an orderly withdraw from the greenback,
panic will enter the market place, and the dollar will free fall. I have
three guesses as to where that point can be found: 77.93, 75.45 or 71.33.
Personally, I don’t think they’ll wait to see 71.33.
Bonds are another US asset that can’t seem to find a friend, and for good
reason. After topping in July 2012 the bonds made an initial decline and
then rallied to put in a lower high in November. Since then you can see that
the bond has traced out a series of lower highs and lower lows right through
to Friday’s close at 142.04:
When you look at the chart, and specifically the decline that began with the
November lower high, you need to keep in mind that the Fed is purchasing US
$85 billion of bonds a month. Then you should ask yourself what happens if
and when they stop?
The simple answer is that bond prices would collapse and interest rates
would skyrocket. As it is the bond vigilantes are ignoring Fed proclamations
to keep rates at zero through 2014, and they are pushing rates higher almost
daily:
Rates bottomed one month after bonds topped, traded within a range, and then
broke out to the upside in early January leaving two large open gaps
in the process.
This is the market’s way of sending a message that it is going to take
control of the interest rate away from the Fed, and return it to it’s
original purpose. Rates are once again becoming a function of risk,
regardless of what the Fed, Congress and the ratings agencies have to say.
Many are convinced that the Fed will simply buy more, and they will, but
that is precisely the problem. If you want the dollar and bond prices
to go up, all you have to do is live within your means. It’s as
simple as that but no one within the Beltway would consider such a “radical”
approach.
Stocks are a completely different animal as the Dow made its first close
above 14,000 since October 2007! The Dow closed out the week at 14,009.79
and has left the October 5th closing high in the dust. If you believe that
the Dow is a forward looking instrument, and I do, then you have to believe
that the Dow sees smooth sailing for the next three to six months. I
would believe that to be the case if, and only if, the Dow manages to
close above its October 2007 all-time closing high of 14,169, thereby
confirming the new all-time highs we’ve seen in the Transportation
Index. In the following chart you can see that the Dow doesn’t
have far to go:
That is not as easy as it sounds though since the Transports have made new
all-time highs before, going back as far as 2008, and the Dow just couldn’t
seem to get the job done. Here’s what a similar chart of the Transportation
Index looks like:
I must say that the current blow-off is impressive as it posted nine
consecutive new all-time highs before it finally decided to take a breather
early this week. The Transports regained its winning ways on Thursday and
Friday and closed out the week at 5,857.23, just 14 points shy of yet
another all-time high.
I was long the Dow and took profits at 13,711 and will do nothing unless I
see the Dow confirm the Transports. Even if they do both indexes are
extremely overbought so I would still wait to see some sort of reaction
before going long once again. If on the other hand the Dow turns down
without confirming the Transports, I would probably initiate a small short
position. Right now I am on the sidelines enjoying the spectacle. You also
need to ask yourself where the opportunities would lay if the Dow does
confirm? The CRB Index has been trending lower for
Commodities in general have been on a downward slope since early 2011 and
only recently look like they could break out to the upside. If the Dow
confirms I think you’ll see the CRB Index break out above 580 and run
higher. That’s why I took long positions in copper, cotton, corn and
soybeans over the last couple of weeks.
Then we have gold. The yellow metal has been struggling
higher as smart money continues to accumulate gold on the dips. Included
within the smart money are central banks in Asia and Eastern Europe as
they shy away from the US dollar and look for safety. I might add that
there’s nothing safer than gold!
This week the yellow metal closed at 1,667.60, up 8.80 for
the week and above the 1,661.90 support level. As it turned out Monday’s
intraday low of 1,655.00 turned out to be a higher low and that’s what we
want to see.
You can also see how gold has traced out a flag formation and I am now
looking for it to break out to the upside with a move and consecutive
closes above the 1,694.00 resistance. I view this resistance as more
important than the psychological resistance at 1,700.00, and once broken we
should see an increase in the upside momentum. We continue to see bear raids
on gold for no reason, usually just after New York opens for business. This
will continue but I now see that each dip is once again finding buyers and
sooner or later the shorts will get squeezed. You have central bank buying
and it now appears that both Germany and Switzerland want their gold out of
the US. Since that gold no longer exists, the Fed will be forced to either
buy it back or default.
Excessive Fed printing is creating the perfect atmosphere for gold as
worried foreigners opt out of the US dollar and dollar denominated assets. On Friday a senior Chinese official said that the United
States should cut back on printing money to stimulate its economy if the
world is to have confidence in the dollar. Asked whether he was worried
about the dollar, the chairman of China's sovereign wealth fund, the China
Investment Corporation, Jin Liqun, told the World Economic Forum in Davos:
"I am a little bit worried." He went on to say that, "There will be no
winners in currency wars. But it is important for a central bank that the
money goes to the right place."
Speaking at the same session, French Finance Minister Pierre Moscovici
voiced concern that the Euro was becoming overvalued as a result of
quantitative easing and other stimulus actions taken by other nations'
central banks. "Certainly, the level of the Euro is high and creates some
problem," he said, attributing the single currency's recent gains partly to
the return of confidence created by the European Central Bank and euro zone
governments in starting to overcome Europe's debt crisis. These types of
concerns will only serve to drive investors into the only real money that
cannot be created out of thin air, gold! What’s more I think the move higher
that most investors have given up on is almost here. I know from the many
e-mails I’ve received that a lot of long time gold buyers have given up on
the yellow metal, forgetting the lessons learned during the 2008 correction.
That tells me I won’t have to wait much longer.
CONCLUSION
There are unintended consequences to just about everything we do in life,
but more so when our actions go against the grain. For instance more than a
year ago the Swiss National Bank decided that they would devalue the Swiss
Franc one way or the other. Since the trend was definitely higher, moving
from US $0.549 to US $1.41 over ten years, they felt justified:
The Swiss National Bank began to print Francs and drove the rate back down
to par with the US dollar. Since then the Franc has started to move higher
in spite of repeated intervention!
So the Swiss earned a reprieve buy excessive printing and much lower
interest rates. That’s the good news. The bad news is that they’ve
created a bubble. The Alpine state’s housing market is now in
overdrive, and there is speculation that it could be forced to implement
restrictions. “We don’t have a bubble in the way that Spain or Ireland did,
with double digit price increases year after year. But we have had a boom
for 15 years, and at some point things become unsustainable and you get a
correction,” says Claudio Saputelli, an economist at UBS. The average price
of an owner-occupied apartment in Switzerland has risen 75 per cent in the
past decade, according to property consultants Wüest & Partner, fuelled
by a combination of high immigration and, latterly, the rock-bottom interest
rates to which the Swiss National Bank has committed itself in a bid to stem
the appreciation of the franc. Mortgage volumes, meanwhile, are higher than
Swiss national output.
So now we are at the intersection of the rock and the hard place. We all
know how housing bubbles end. Just ask anyone in Japan or the US. The Swiss
National Bank refuses to consider higher rates because that will drive the
Franc higher. Under Switzerland’s new rules, the SNB can address such
threats by asking the government to force lenders to build up capital
buffers worth up to 2.5 per cent of their risk-weighted assets,
and economists increasingly believe such a request could be in the offing.
“If the market developed as quickly in the fourth quarter as it did in the
third, then I would expect [the SNB] to ask the Bundesrat [federal council]
to introduce the capital buffers,” says Mr. Saputelli. Other observers take
a similar line. “I think a lot of people in the mortgage market are quite
nervous about it – they expect to hear every week that the buffers will be
introduced,” says Fredy Hasenmaile, head of real estate research at Credit
Suisse.
Unfortunately, the Swiss economy has been slowing of late, and its principal
trading partners are all struggling, so capital buffers we exacerbate the
problem. Finally, while the big banks may be able to handle the increased
capital requirements, a number of small banks could suffer. So if a
basically sound economy like Switzerland has found itself confined to a
Chinese box, imagine the struggles that face a country like France? The
current labor minister openly admitted three days ago that the “country is
broke”. When you look at the big picture, it’s not hard to see how it all
ends.
(I very seldom write for public consumption, content to talk to myself
when I feel I have made some worthwhile observations. I do however feel
that we are at a critical stage, and since so little is known about
gold, some comment is necessary. Should you have any questions, you can
reach me at robmwilliams@hotmail.com
and I will do my best to respond in a timely manner.)
Robert M. Williams
St. Andrews Investments, LLC
Nevada, USA
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