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Gold Starts Off 2006 With A Pop
Asia was mostly higher overnight, although Japan was still closed since its last trading day on the 29th. Europe was up nearly a percent this morning (with most of the major indices making new highs), and the US futures were also sharply higher.
We gapped up at the open in the S&Ps and immediately began selling off. Then we got the November construction spending data, which was only up .2 percent vs. the .7 percent consensus, and likewise, the December ISM was a little weaker at just 54.2, which was down from 58.1 in November and below the consensus at 57.5. Nobody seemed to like that all that much, and the selling in the S&Ps accelerated a bit. We managed to finally V-out down at Friday’s low and slowly inched our way back to unchanged ahead of the release of the December FOMC minutes.
When the minutes finally hit the tape, the celebration in the stock market was almost immediate, as program buying suddenly came in exactly on cue. I would also note that the buying did in fact come in almost immediately after the release of the minutes. No human being could have possibly read the statement in that amount of time and made any sort of decision. In other words, it was simply the excuse and not necessarily the reason for the surge in stock buying.
In actuality, the minutes didn’t even say anything new. The Fed clearly wants to stop tightening soon, and the discussion hinted that the number of further rate hikes “probably would not be large.” In other words, one to three more tightenings may be all we get, which is not new information since that sort of script has been pretty well known ever since the housing market started to deteriorate rapidly within the last couple months. What we did not get was an indication that the Fed is already done, as many seem to want to believe. Once again the Fed also hedged somewhat by saying that the rate outlook was still data dependent (i.e.- if oil and gas take off again instead of moderating like most expect, they might have to keep going).
In any event, the S&Ps continued to ramp, and basically everything flipped from being slightly lower to being up big in the blink of an eye. The gold shares, which were already rallying at the time, also strengthened significantly. The meltup in stocks basically continued until the close, taking us out just off the very best levels of the session. Volume picked up significantly (1.9 bil on the NYSE and 2 bil on the NASDAQ). Breadth was over 3 to 1 positive on the NYSE but only slightly positive on the NASDAQ.
The chips were mostly higher by 2 to 3 percent. The equips were a little more robust and were mostly higher by 2 to 5 percent. The SOX rose nearly 3 percent.
The rest of tech was mostly higher, with names where the short interest was high getting the biggest moves. The Internet trash was of course out in front and leading the way, as it tends to do on days like this. YHOO popped nearly 5 percent. EBAY rose 3 percent, and GOOG jumped 5 percent to just shy of a new high after an analyst raised his price target to a modest $600, which is only some 40 percent above today’s modest 91x trailing EPS price.
The financials were mostly higher. The BKX rose nearly 2 percent, and the XBD rose over a percent. The derivative king rose over a percent. C rose over a percent, and BAC rose 2 percent. GE popped nearly a percent.
GM fell 3 percent and back to its recent multiyear lows on the rumor that it would soon be kicked out of the Dow. This also reminds us why looking at indexes “over the long haul” is a bit deceiving since companies that are losers typically get kicked out of the index and replaced with a “winner”, which naturally tends to skew returns to the upside. GM, for example, has now given back nearly all of its gains since the great bull market of the 1980s and 1990s began in 1982.
AIG rose 2 percent. ABK rose over a percent, and MBI rose just under a percent. The mortgage lenders were mostly up 2 to 3 percent. The mortgage REITs were up 4 and 5 percent on average, as people were apparently betting on a steepening curve. And while the curve did steepen somewhat today and reverse last week’s partial inversion, the 2/10 spread is still just a little over 3 bps (I.e.- hardly anything to get excited about). FRE was flat, and FNM fell a hair.
The retailers were mostly weaker early on after WMT warned that same-store sales were only up 2.2 percent in December, which was at the low end of its forecasted 2 to 4 percent range. It was also WMT’s weakest sales growth in the month of December in some 5 years. The afternoon meltup in stocks helped WMT recover from its initial selloff this morning, but it still ended down over a percent. The RTH retail index also recovered from being down to end up just half a percent. BBY rose nearly 3 percent, and TGT fell half a percent.
The homies began the day weaker but reversed sharply in the afternoon along with everything else to end up 3 to 5 percent across the board. I should probably also mention that while I was on holiday last week we got November existing and new home sales, and they both continue to slide in an accelerating manner. Inventories also continue to rise.
Crude oil jumped $2.10 from Friday’s close to $63.14 on what appeared to be more “investment buying” by institutions. The XOI rose nearly 5 percent. The XNG rose over 3 percent, and the OSX rose nearly 6 percent to just shy of a new high. The JOC was off a hair, while the CRB jumped over a percent and back to its previous closing high. The XLB rose over 2 percent. Basically, anything commodity related was on fire today.
Gold continued to inch higher last week while I was away and opened up nearly $5 in the US this morning. The metal continued to rally for the rest of the session and went out on its very best levels before the release of the Fed minutes. For the day, the metal picked up a whopping $13.60 to go out at a new closing high of $532.50. Gold’s 2.6 percent gain today was also the biggest one-day jump since 2002. The intraday peak back in mid-December was $544.50. If gold can get through that within the next couple days, all bets are off.
The COT report last week revealed that specs were still sitting with a hefty net 189,000 contracts, although to be fair, this indicator hasn’t been as useful since early November when hedge funds became much more active in the metal.
I still have all the same reservations about gold being due for some sort of long rest after 5 years of a bull market, but it is possible that something very different and very explosive is occurring. When the Dow finally crossed over 1000 in 1982 after a decade of a trading range, it never looked back. In other words, it’s conceivable that with gold having finally convincingly broken through $500, it may just keep rallying without a big correction despite the recent sentiment extremes that we saw in December even though that would push its bull market to 6 years in length without a big cyclical correction. Is that a “high probability” bet? Not really, but we’ll see? If gold can get above $544.50, then the next surge could be truly spectacular. The buying is still primarily hedge fund based from what I am told, but hedge fund money is green just like everybody else’s, and by breaking gold out decidedly over $500 in December of last year, they could encourage new players to enter that are more long-term oriented.
We had a tech bubble in the late 1990s, and a housing bubble from 2003-2005. As we know, ever since the US economy became dependent on asset inflation to drive it, the Fed has basically been in the business of creating bubbles in order to cushion the aftermath of the previous bubble. But those were always “good bubbles” (in stocks and real estate). After all, the Fed can inject liquidity, but it cannot control where it goes. Perhaps we are already in the early stages of a gold and commodity bubble that the Fed has spawned? If that’s the case, the “rule” is that all the old rules are meant to be broken during the bubble.
It’s always been my theory that the next bubble that the Fed created would likely be in gold, as excess liquidity that the Fed would no doubt inject massive amounts of into the system had no place to go but into a store of value and place of safety during a recession that would follow the housing bubble’s inevitable collapse (something that would take down both stocks and GDP sensitive commodities). That’s not exactly how things are playing out since we have obviously never had the recession/injection phase, but it could also be that the market is already anticipating what will be coming. Thus, things are playing out a little differently as far as the timing is concerned?
The HUI boomed out an 8 percent gain to a new high. The juniors once again outperformed. MFN rose over 14 percent. GSS and MRB jumped 10 percent, and NSU rose 6 percent. Once again the shares outperformed the metal, which is bullish, as the shares continue to make new highs despite the metal merely moving back to within striking distance of its December peak. If the Fed does indeed stop soon, inflation could potentially accelerate if the drag from the housing market on the economy is not yet big enough to slow down the global growth significantly, and that could be what the gold shares are now getting out in front of.
I’d also note that the yield curve did in fact steepen today in reaction to the FOMC minutes, and the 30-yr actually sold off. Could it be that the market is worried that the Fed is stopping too early and stoking inflation, which only force the Fed to raise short-term interest rates even more somewhere down the line in order to contain inflation? Perhaps this year’s big surprise will be that wherever the Fed finally stops raising interest rates, the long end of the bond market finally sells off? I’m not sure, but it does seem like a plausible theory. Recall that the top equity performers in 1987 (before the crash) were the gold shares, as the curve steepened until the Fed finally raised short-term interest rates high enough to trigger an “accident”. Will the markets now force Bernanke to be “tough” on inflation and earn the market’s respect much like Uncle Al was forced to do during his first inaugural months as the Fed chairman in 1987? We shall see…
As for last week while I was away, the HUI ended near its high for 2005, but the big movers continued to be in the junior sector. Obviously, higher gold prices would be positive for all the mining shares, but I continue to expect that M&A and low valuations are likely to trigger a rally in the junior sector even if gold fails on this push and continues to correct. We also have a historical precedent for gold and the larger mining shares peaking, while the juniors have continued to rally back in 1996. The same positive things cannot be said of the seniors and intermediates at this time, where many shares are pretty fully valued at this point based on $500 gold. If gold continues to move up though, obviously the entire sector will likely rally, as was the case today. The risk/reward, however, (regardless of what gold does) continues to be with the smaller junior miners, in my opinion.
The US dollar index fell over a percent. The euro rose over a percent, and the yen rose a percent. With the Fed hinting that the end is near for its rate hikes, will the dollar now collapse? I’m not sure. As I alluded to in December, I am inclined to believe that the dollar’s bear market rally may be over, and it may now be set to decline as the US economy slows and eventually slips into recession as a result of the housing & consumption bubbles popping. But if the economy “stumbles along” for a while, it’s conceivable that the dollar could merely move sideways or perhaps even a little higher, as was the case after the Fed stopped raising rates in May of 2000 until the dollar finally began to decline in early 2002, which was over 12 months after the Fed began to easein early 2001. We’ll just have too see what happens and be ready to react, but bear market rallies are very tricky. And today’s pullback to the Dollar index’s uptrend since March of last year could merely be another head fake to suck in the bears.
Treasuries were mostly a little higher, with the yield on the 10yr falling slightly to 4.36%. The yield on the 30yr actually rose to 4.54%. The 2/10 spread widened nearly 6 bps to 3.5 bps, reversing last week’s brief inversion. Whether the widening continues or not remains to be seen.
The 10yr junk spread to treasuries narrowed by 2 bps to 346 bps over treasuries.
Last week, Investor Intelligence bulls moved back up to 60.4%, and bears fell to 20.8%, which gets us back to levels last seen at the peak in December of 2004.
The first day of 2006 looked a lot like most of 2005, as stocks were chased and commodity stocks were once again loved the most. When we failed to peak in a call-option-buying frenzy into year-end (the peak in most indices was actually mid-December), I began to worry that the market could have its “Santa Claus” rally in January instead of December, since the script for a historically common year-end peak obviously requires a peak to occur at year-end.
So, despite the sentiment extremes that we have at the moment, it opens up the door to new highs for the indices between now and the end of January when we have the last FOMC meeting (where many will now likely assume that the Fed is done after 25 more bps of tightening), although the gold shares will probably outperform the rest of the market under such a scenario. Any such rally would no doubt be another weak breadth affair with all sorts of other divergences, but it would be a rally. We just have to take it one day at a time. I don’t want to make too much out of one day’s action, but that’s the way things could be shaping up to me at the moment. It doesn’t change the fact that regardless of one’s disposition, the odds of a fourth straight year of positive returns for the equity market are not good, as we discussed back on December 20th" in case anybody missed it.
Fundamentally, the housing market continues to deflate, and that’s going to put increasing pressure on consumer spending. At some point, the market will care, because earnings will be negatively affected by the drop off in consumption, which is over 70 percent of GDP. Business spending simply cannot make up for the deficit that is likely to occur as the housing ATM shuts down. Remember, after every peak in residential real estate investment in the US since WWII, there has been a recession. The only variable is the amount of time that passes between the peak in real estate and the eventual recession. The peak for the housing bubble was back in July, and the clock is ticking…
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Disclaimer: Lance Lewis periodically publishes columns expressing his personal views regarding particular securities, securities market conditions, and personal and institutional investing in general, as well as related subjects.
Mr. Lewis is the president of Lewis Capital, which manages a hedge fund in Dallas, Texas. This fund regularly buys, sells, or holds securities that are the subject of his columns, or options with respect to those securities, and regularly holds positions in such securities or options as of the date those columns are published. The views and opinions expressed in Mr. Lewis' columns are not intended to constitute a description of the securities bought, sold, or held by the fund. The views and opinions expressed in Mr. Lewis' columns are also not an indication of any intention to buy, sell, or hold any security on behalf of the fund, and investment decisions made on behalf of the fund may change at any time and for any reason. Mr. Lewis' columns are not intended to constitute investment advice or a recommendation to buy, sell, or hold any security. |
