Bruce Pile's  Instablog

A lot of predictions are being thrown out these days as gold surges and garners attention going above the $1000 mark.  It seems like about half (well maybe 1/3) say it has run too much - short it.  The rest are timidly stepping onto the train.  It can be confusing listening to the arguments for and against gold because most of them make good sense. Shorters say gold is getting crowded. Longs say it's not too crowded.  Have you seen any popular magazines lately with gold and silver cover stories? 

There is a totally dispassionate way of analyzing gold that doesn't try to figure what bank may be selling or what government may want to buy or what the human psyche is on moving money into it. There is pure technical analysis that does all of that of course, but then there is the new dispassionate way - fractal analysis. 

David Nichols is a pioneer in this developing science and has been incredibly accurate in calling the movement of gold.  For an overview of fractal analysis, read the July 5 post at my blog Is Gold at a Fractal Moment? where I summarize his call that early July would see a major turn begin out of the consolidation since March '08 and into the next hypergrowth phase.  Look at a chart and see if that isn't exactly when the present run began.

There are many things Nichols uses to form a projection, one of them being the fractal dimension.  This is a measure of energy level.  Fractal theory says that anything fractal moves in repeating patterns with an ebb and flow of energy.  An energy dimension can be computed that shows where a move is.  The current (as of Oct 28) fractal dimension of gold is:

Here we see the big picture (monthly chart) for gold's fractal dimensioning including the 1 1/2 year consolidation since last March, whose end was called to the week.  The 30 and 55 levels for the fractal dimension are important because they indicate when a significant move begins full of energy (55) and when a move is nearing exhaustion (30).  The big move up in late '05 through May '06 began with around a 58 as did the big climb starting late in '07.  As you can see, our current climb starts at 63 and is only beginning on a monthly basis.

Options are becoming more popular as a hedging tool against the next big turn of the market.  The next big turn of the market is, more and more these days, what you have to figure out because these big turns are dragging nearly everything along for the ride either up or down.  With options, you can limit the damage if the market turns hard the other way from your plan.  But options are expensive and take a big chunk out of your rate of return.  And they are priced per implied volatility and are thus priced per the VIX - the higher the VIX, the more expensive options become.  We are probably going to have to live with the VIX on the historical high side for awhile, so that makes using options to try to get good returns no matter what the market does a very complicated and difficult thing.

Well, put on your thinking cap and try this on for size.  Why not just buy and hold gold stocks?  It sounds too simple, but look at what gold stocks have done over a large variety of strong market disturbances - from deflation to inflation, from vicious bear to vicious bull:


With gold either steady (as in the '30s) or rising (as in the '70s and now) gold stocks do well no matter what the market does - up, down, or flat.  What complicated options strategy can average much better than that?  It's a buy and hold stock strategy where you don't have to make a directional bet on the market, freeing you from a lot a dangerous and usually self defeating week to week trading.  The investment jungle rarely offers this good of a deal.  You just have to be right on gold being in a bear or bull market. 

Since November '07, the start of our latest bear market, gold stocks as measured by the HUI Index are only about even, but that's a big outperformance of the Dow.  And if you look at this chart: (click to enlarge)

you see that the systemic failure issues of late '08 were enough of an aberration to pull gold stocks below the trend over gold's current bull market.  These credit and other problems are still a threat to gold miners as they are to any company.  But if we can avoid the end of the world, a bull or bear market may allow gold stocks to be one of the best hedging policies.

Disclosure: Long BVN, EGO, AUY, AU, ABX, GFI, RIC,NGD, NG, HL, SA, NXG, GG, RGLD, DROOY, GSS, ANV, HMY, GOLD, CGR, XRA, NEM, GRS

Iran has thumbed its nose at the deadline last Friday for its answer at the Vienna talks to facilitate Iran handing over 80% of its uranium to Russia and France for peaceful processing. They are thought to be working on a new proposal whereby they get to keep about a ton of the LEU, just enough to continue their bomb making work. They will present this brainstorm tomorrow.

If you look between the lines of the published comments of European and American foreign ministers and generals, people who know a lot more than they can explicitly say, you can do a little informal intelligence gathering. An article out today on European angst over Iran's usual stalling tactics quotes some of the FM comments as "Iran cannot play and play and play with us" and "dialogue cannot last forever". They seem to have had a vision of a scheduled light at the end of the "talk" tunnel. The French foreign minister said "Iran is wasting time because now is the time for talking. One day it will be too late."

As for more formal intelligence gathering, nobody does it better than STRATFOR. From their latest Iran report out today (Israel, U.S.: Negotiating Iran With Russia)

An Iranian state television report from Oct. 26 caveated that Iran would be demanding significant amendments to the proposal. Those amendments are unlikely to satisfy the P-5+1 negotiating team, and so the negotiations will continue -- or so Iran hopes.

Iran may be taking note of a critical meeting occurring in Moscow Oct. 28 between U.S. National Security Adviser James Jones and Russian Security Council Chief (and former Federal Security Service head) Nikolai Patrushev and Foreign Minister Sergei Lavrov. Patrushev is believed to have extended the invitation to Jones in the past week, and STRATFOR sources in the Kremlin have indicated that in this meeting, Lavrov will be trying to get a better read on U.S. intentions regarding Iran.

Before heading to Moscow, Jones said Oct. 27 that the United States will respond if the negotiations with Iran fail to produce concrete results. He reiterated that Iran "now needs to follow through on its commitments" and that "nothing is off the table" in terms of U.S. options in dealing with Iran. While maintaining an expected level of ambiguity, Jones is clearly signaling that the U.S. administration is prepared to take a tougher stance on Iran and will not allow this diplomatic phase to continue indefinitely -- a pledge that Obama recently made to Israel.

Israel, meanwhile, is keeping quiet, but is also busy laying the groundwork for more decisive action against Iran.

As for the published lines from the quiet Israelis to read between, well there are very few. But there is the considered view of Middle East experts, as noted in my previous posts over at my blog, that "when the Israelis go really quiet, that's when you have to start worrying" (about a military strike, that is). The empty space being published seems to have a lot to say.

If you had to pick just two charts to look at in trying to guage the future of the stock market, you'd be hard pressed to come up with any two much better than the transports without the rails (TRANQ) and the Baltic Dry Index (BDI).  The BDI is a measure of actual planned (not speculated) shipping of dry goods and the Nasdaq Transportation Index, almost devoid of the rails, is a measure of what Dow Theory wants it to measure - transportation of goods activity.  Why do we want to exclude the rails?  Because they have become so heavily levered to commodity transport and commodities have become so heavily levered to the U. S. dollar mess. The transport indexes with a lot of rails look better, but that's just because the poor finances of the U.S. are driving down the dollar and driving up investor demand for commodities - the unprintable money. So to get a more honest look at economic health, it would be good to look at transports with no rails. TRANQ has just one last I checked.

Looking first at this TRANQ: (click to enlarge charts)

Here we see what I regard as a ghastly chart.  For one thing, it is down for the year.  You could call that a loud Dow Theory non-confirmation of the S&P 500's lofty new high for the year.  Another serious technical problem in this chart is the fairly well defined resistance level that was broken just briefly in September only to fade weakly back below it, breaking the 50 dma in the process.

Looking at the Baltic:

The BDI has been tracing out a pretty accurate roadmap for us so far over the last year giving us the forecast 3 months in advance.  There's no guarantee it will continue to do this nice favor for us, but it does have a history of foreshadowing our stock market.  It put in a top, a consolidation, and then a fairly meaningful decline about 3 months ago.  So the two trusty charts, TRANQ and BDI, agree on the next phase of the market. It would appear to be a weak consolidation of several months at best or a smackdown to the economy of the TRANQ at worst.

Disclosures: SH, TWM

We are at an interesting point on the map of our feelings on the economy and markets. Stock market sentiment is good, but not all that giddy with the rally still not getting that much respect. Many fund managers have been holding their nose and dipping their buckets into the stream because their benchmarks are leaving them looking like fools. Buying just because everyone else is tends to happen closer to an abrupt end to a move than to a surprise beginning.

It is the consumer's sentiment that I want to take a look at: (click to enlarge)


This chart tabulates, not the raw sentiment numbers, but preceding 6 month change in sentiment over the years. As you can see, we are now at a fast 6 month rate of improvement not seen for 15 years. And the only other two times in the past 20 years this was seen were both big turn points in sentiment back down.

An interesting comparison can be seen comparing our current recession to the previous one. The fast run-up to the turn level happens at the end of the recession, as you might expect. But then you had a debt hangover induced stock market and sentiment dive to the mid-to-late 2002 market lows after we had celebrated the end of the recession. We're seeing the same pattern played out with the latest recession, which most are saying ended mid-year. We have ballooned our debt to way higher, more unstable levels since the 2002 episode. If the pattern repeats, we are at a point where we soon have a psychology turn and some kind of debt hangover induced stock market trouble. This could be commercial real estate loans or the second wave of housing, a dollar debacle. It could be a variety of things.

I have been a market bull since April despite many bear signals, some of which I've summarized in my posts while concluding that I favor turns north from consolidations (based mostly on technicals). But now the technicals are starting to suggest a turn back down. Those who follow fibonacci curves point to the typical 50% retracement level that happens after big moves. That comes to 1100-1200 on the S&P 500. The ETF Profit Strategy Newsletter called the start of the rally with a March 2 alert for a move by the Dow to the 9000-10000 area. They are now seeing a big move down. Doug Kass started going long in February a few weeks early and called the tippy top bottom of the crazy gyrations on TV within a week of the event. He has been going short for weeks and is now reportedly at his highest net short position since February. I am going from bull to neutral until we sneak through this twilight zone. We should soon see how it plays out.

If we are to have some debt overhang induced market trouble, our emotional state would suggest it may start soon. The consumer confidence survey level is backing off unexpectedly from over that unstable 70 mark:


If we are considering our emotional state, we may even want to take a morbid glance at what the web bots are sensing. A misconception about bots is that they predict big events on particular dates. But with the markets, the software actually reads feeling changes and, I suppose, puts together some kind of centroid of all it reads for a time approximation.  Last year, they certainly did just that very accurately in timing the market's behavior.  George Ure and Clif High are the "two guys in a hole in the woods in Oregon" creating what they call "The Web Bot Project". In commenting on the bots' recent dire prediction about October 25 (see my blog post "Web Bot Weirdness") George Ure says this at his site urbansurvival.com

"What is October 25th? The way the data reads, we are less likely to see a single event driving things (although that's possible) so much as we are expecting an emotional tipping point. So, for example, the kinds of news events that might feature the beginnings of a showdown between 'the people' on the one hand versus 'the banksters' on the other. The forces have been building there..."

It will be interesting to see how our feelings might change going into November. If the seers who have been calling things to a tee lately are right again, we are all going to get a little cranky. Even Larry Kudlow, the irrepressible CNBC optimist and bull, has lately started sounding more like Peter Schiff, lashing out at those who are debasing the dollar and drowning our prosperity in a sea of debt and federal meddling. Lynch the banksters!

Disclosures: None