The US$ and the Gold Sector

黄河之水天上来

The US$ and the Gold Sector  By Steve Saville August 12, 2008  

Currency Market Update

Up until the past week or so there has been almost incessant talk in the press and many newsletters about the weak US dollar, but the US currency hasn't been universally weak since last November. Last November was when the Canadian Dollar and the British Pound commenced intermediate-term declines against the US$. Then, in March, the Swiss Franc and the Japanese Yen embarked on intermediate-term declines against the US$, leaving the euro and the A$ as the remaining holdouts. These holdouts finally buckled over the past fortnight, meaning that all six major non-US currencies are now in intermediate-term declines against the US$.

The intermediate-term advance in the Dollar Index is probably still in its infancy, but just as the US$ bottomed against one currency and then another over an 8-month period it will probably top against different currencies at different times. Also, we suspect that the dollar's topping sequence will be similar to its bottoming sequence. For instance, we think there's a good chance that the Canadian Dollar will be the first of the dollar's fiat currency competitors to complete its intermediate-term decline, while the euro and the Australian Dollar are likely to be the last to bottom. In fact, the C$, which the following daily chart reveals to be nearing its lows of the past year, could already be close to its ultimate correction low.

Last week's up-move in the Dollar Index stopped just shy of the top of the channel drawn on the following weekly chart, which will undoubtedly give the dollar bears some encouragement. However, we think the odds are strongly in favour of the Dollar Index breaking out of its downward-sloping channel and making significant additional gains over the coming months. There's a reasonable chance that the close proximity of the channel top will prompt some profit taking and short selling, leading to a 1-3 week US$ pullback or period of consolidation, but last week's action was a very clear signal that the dollar's intermediate-term trend has reversed. The one thing that almost always occurs in the early stages of intermediate-term US$ rallies, but had not occurred prior to last week, is a weekly gain by the Dollar Index of at least two points. This formerly-missing piece of the puzzle is now in place.  

Many people will be asking the question: why is the US$ rallying when its fundamentals are so terrible? From our perspective, however, a more reasonable question is: why has it taken so long for the US$ to rally against the euro given that the US$ is extremely under-valued relative to the euro and the euro's fundamentals are just as bad?

The answer, we think, is that the currency market has believed that the US Federal Reserve would be as 'easy' as it needed to be to help the banking system through its crisis, while the ECB would continue to focus on minimising currency depreciation. We think the market was/is right to believe that the Fed will do whatever it takes to maintain the solvency of the major banks, but traders now appear to be coming around to the view that the ECB will also be loosening the monetary reins. Take away the interest-rate 'prop' and the euro suddenly becomes free to fall under the weight of its own over-valuation.

It is also worth mentioning that the recent sharp downturn in the world of commodities has probably had an important effect on perceptions, and hence on relative valuations, within the currency market. The reason is that with the prices of most commodities now in intermediate-term downward trends the decision-makers at the ECB should feel free to pay more attention to the serious economic slowdown currently underway, and less to the inflation problem.
Gold stocks and the US dollar

The Dollar Index will probably trend higher over the next few months. If so, will this prevent gold and gold stocks from rallying?

We don't think so. Why should strength in the US dollar driven by the realisation that other fiat currencies are just as bad as the dollar prevent gold and gold stocks from rallying?

When the US$ strengthens against the euro it creates a psychological headwind for gold-related investments and this psychological effect will usually dominate for a while, but the US dollar's trend relative to other fiat currencies is only one of several drivers of the gold price. Other important considerations are credit spreads (measures of financial market confidence), the yield spread (a measure of financial market liquidity), real interest rates, and money-supply growth trends.

The following chart provides a good example of how the gold sector will sometimes react to an intermediate-term US$ rally. The chart, which compares the performances of the HUI and the Dollar Index during 2005, shows that the HUI tanked during the first part of the Dollar Index's intermediate-term advance and then began to trend upward despite the dollar's continuing strength. Moreover, it shows that in 2005 the bottom of the HUI's correction occurred two days after the Dollar Index broke upward from a basing pattern. This means that we are potentially in exactly the same position today as we were at the May-2005 bottom (the Dollar Index broke upward from its basing pattern on Thursday 7th August 2008).   

It is also worth noting that the best part of the 1973 rally in gold stocks occurred while the US$ was strengthening relative to other fiat currencies.

黄河之水天上来

The Dollar has just impulsively smacked the world upside the head. That would be the entire world that was seemingly short or bearish the Dollar. This was an impulsive move that means business, technically. Any other interpretation is an exhibition in denial.

The daily is very over bought and USD is due for a correction perhaps back down to the congestion near the SMA 50 (currently 73.02). The weekly chart is strong and shows that the last time USD broke EMA 22 in such fashion, it held above it and maintained a rally of intermediate proportions. Finally, there is the monthly which shows a very normal but ultimately doomed rally in the world's reserve currency.

Should gold investors and gold stock traders be concerned? Well, should they have been during the USD rally that lasted the entire year of 2005? I have been watching the correlation between the Dollar and the Gold-Oil Ratio (GOR) and those charts tell me to hold on. Gold is not oil. Gold is not copper. Gold is not moly. Gold is not lead. Gold is not uranium. Gold is not coal. In the slowing global picture, I expect this stuff to magically become more readily available - before the eventual next leg up in the supply constrained complex. But first the focus will be on the dance that Uncle Buck does with his paper partners.

It's show time for currencies now and gold and silver are taking the hit as the proceedings get under way. But what is unfolding here is the long, slow realization that not only is the USD a piece of paper (or digital entry) backed by nothing but confidence, but the solution is not going to come in the form of euros, looneys, francs or yen. The GOR and USD have been going generally in the same direction for a reason I think.


Posted by Gary

黄河之水天上来

[size=+2]Precious Metals Stocks Major Buy Alert By: Clive Maund

-- Posted Tuesday, 12 August 2008 | : GoldSeek.com If you take a stroll around the financial district of any big city such as London, New York or Tokyo, you will walk past countless well dressed and groomed men, in smart suits and ties with tidily coiffured hair and neatly clipped nails, and if you listen to their conversations you will observe that many of them speak softly in measured tones. The image conveyed is one of poise and professionalism. Yet beneath the veneer of civility and reasonableness there frequently lurks a seething cauldron of greed, lust - and fear, a fact which many women are instinctively aware of and which business women are able to turn to their advantage. If you do not believe this you only have to pay a visit to some of the seedier nightspots that are not too far away, and not just at night but even in the lunch hour, and observe the same people "letting their hair down", but even more effective and convenient is to simply observe action in the stockmarkets, where absurdity and irrationality have free reign. This is the arena where all the anxiety of those countless worried looking commuters you see at the train station reading newspapers and peering into their Blackberries, and the trigger happy performance driven stressed out types in dealing rooms around the world is distilled into action. Want an example? - you need look no further than the action in the gold and silver market in recent weeks and especially in recent days, and especially in Precious Metals stocks, where worried selling has cascaded into the blind panic that we have witnessed over the past few days. Market panics are a "harvest time" for seasoned speculators who, armed with a war chest of cash, coolly watch from the sidelines as the great unwashed masses push and shove and beat their way towards the exits, gripped by blind fear that the world is coming to an end, at least as far as their investments are concerned, and that if they don't sell immediately their previously cherished holdings, they will get much less for them later and perhaps nothing. They jettison everything, regardless of fundamental or intrinsic value, and as the panic approaches maximum intensity and prices accelerate into a vertical descent, the Smart Money moves in and vacuums up all the trashed securities at firesale prices and then sits back and relaxes, assured of huge profits as prices stabilize ahead of the next long upleg. The investment masses, lying battered and bruised on the sidewalk, take a sideways look up to see the Smart Money limousines pulling smoothly away, their occupants chuckling with contented glee, and acknowledging their benefactors out on the street with a final "Thanks suckers!". That is exactly the situation we find ourselves in with respect to the Precious Metals sector right now, and especially with respect to Precious Metals stocks, which are close to or at a historic extreme low relative to the metals.  The oversold extremes and extremes of negative sentiment that we are now at are abundantly obvious on many charts. If we take a look at the chart of the XAU index going way back to 1990 we can see that that the steep plunge of the past couple of weeks has resulted in its MACD indicator, shown at the bottom of the chart, dropping not just to its normal oversold extremes, but way, way beyond them, so that it can reasonably be described as being insanely oversold, and as the index is likely to drop in the early trade to even lower levels, after last nights losses in the metals in the Far East, that take it into our target zone, this indicator will hit even lower levels. On this chart we are also afforded the perspective of seeing the entire Precious Metals stock bull market in its entirety from the trough late in 2000. This enables us to see that despite the savage losses that have just occurred, the long-term uptrend in the index remains unbroken and with it now approaching its long-term uptrend line, underpinned by the strong support level shown, and incredibly oversold, we are very close to or at a major buy spot.  While on the subject of oversold we would be remiss in not keeping the spotlight on the extreme disparity that now exists between gold stocks and gold itself. As many readers will not need to be reminded the drop in gold stocks in recent months and especially in recent days has been out of proportion to the drop in gold, a fact made clear by the long-term chart for the XAU index relative to gold shown below. The time period selected for this chart is the same as that for the XAU chart above, i.e. back to 1990 to enable direct comparison. On this chart we can see that after smashing through relative support in the 0.18 area a few days back the ratio has dropped to even lower levels and is now arriving at the freak low of late 2000. What this chart makes clear is that gold stocks are now grossly undervalued relative to gold itself, making them doubly attractive, and this is just the large gold stocks - if we stop to consider the junior and exploration stocks, they have been almost vaporised by the latest declines, and the better ones, which can lay claim to real resources, must now be very attractive to predators. Precious Metals stocks are expected to drop into our target zone below 300 on the HUI index and below 130 on the XAU index very soon now, and possibly in the early trade this morning. As these indices can be expected to bounce very strongly once their targets are met - and could turn a little above the target levels - it is thought wise to start buying ahead of the bottom.