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Since September 11th, I have suggested that the investment
emphasis was poised for change. This was not based
upon the terrorist attack alone, however the new war
does serve to accelerate and expand the mood swing.
The foundation for our current quandary was poured
during the 2000 summer. The exceptional exuberance
from our prior decade had saturated the market. Subscribers
should recall my initial analysis of The Journal of
Commerce shipping columns. A dramatic decline in commercial
transport suggested that the economy was rapidly slowing
down. My warnings that equities would fall victim
to this decline were unrecognized by compatriots in
the stock market sector as more bottom predictions
made headlines in The Wall Street Journal, Investor's
Business Daily, and The New York Times.
The revelation that Merrill Lynch and
other big-name brokerage houses gave bogus stock analysis
in favor of investment banking divisions was shocking,
but logical. These firms hire some of the sharpest
analytical minds in the business. It seems clear to
me that the same indicators I was examining were under
the scrutiny of these other highly qualified analysts.
Simply put, the pending economic condition was fairly
obvious.
This is not to say that the general
public should have known better as Neil Cavuto of
FOX News suggested when debating Bill O'Rielly over
the Enron debacle. The public is usually trusting.
The blame rests squarely with the analysts who violated
the public trust.
Interestingly, analysts have been slow
to correct the fundamental misdirection. There is
still an underlying insistence that all will be well
in the weeks and months ahead. Regardless of fines
imposed and potential class actions, Wall Street is
conducting business as usual...recommending stocks.
This seems to be meeting public resistance as reflected
by the Dow Industrial's inability to sustain above
10,000 while the S&P 500 gyrates around the "fair
value" mark. In the meantime, gold funds and
stocks have soared with relatively little fanfare
from the analysts. In fact, some say gold is "overbought."
In my attempt to keep my finger on the
equity pulse, I interviewed several stockbrokers and
financial planners about their current portfolio recommendations.
Virtually all believed U.S. debt was "overdone"
along with the gold sector. All were looking for "opportunities"
in the chip sector and healthcare (inclusive of pharmaceuticals).
In the meantime, 10-year notes continued to rally
along with gold and related stocks.
We are in a "quality" mood.
Even with encouragement from the Federal Reserve and
prospects for a 1/4-point rate hike in August, investors
would rather be safe than sorry. This flight to quality
comes at a seemingly unusual moment. We do not have
an inflation problem, yet. Excluding energy, prices
have been stable to lower. Labor productivity is up
while wages have remained static. Hmmm...what's wrong
with this picture?
The answer is, "Nothing."
Gold is a hedge against uncertainty. The current uncertainty
is not over the value of money (thank heaven), it
is based upon alternative investments. There are no
alternatives. With money market and short-term yields
at historical lows, the only alternatives are investment
assets with reasonably assured base values and returns.
Within this category, 10-year and 30-year government
paper provides liquidity and yield while gold offers
the ultimate security.
The gold story is more extensive because
it has broad international underpinnings. While our
focus is upon the War on Terror, India and Pakistan
are bristling. My sources tell me significant gold
is being moved to "safe havens" as a precaution.
Many from both countries are taking families on extended
summer vacations. We cannot comprehend the fear currently
sweeping the Subcontinent. At the same time, over
100 metric tons of gold has moved from the Middle
East to Indonesia, China, and Switzerland. While this
is not a huge quantity, it represents a beginning.
My sources indicate an additional 100 metric tons
is waiting for a direct buyer.
Despite the trend's dramatic slope increase,
there has been no lack of sellers. This rally is being
comfortably fed by producers and swap transactions.
Thus, any rumor that there is a "squeeze"
in gold is unfounded. As with all trends, there are
skeptics who envision a return to December lows.
The daily chart shows a classic recovery
from a rounded bottom with a three-tiered slope acceleration.
Technically, we could see a correction to 31400 or
even 30700 without interrupting the interim uptrend.
Given the distance already achieved in such a short
period, such a correction would be healthful for a
market that has remained anemic since the U.K. completed
its first auction.
Currency Consolidation Strategy
The last time gold showed signs of life,
the Euro was still in planning stages. As the EC weaned
itself from gold as an "official reserve asset,"
many believe there was a concerted effort by central
banks to depress the yellow metal in favor of the
"all-paper" economy. Whenever there is a
currency conversion, confidence is paramount. Any
deviation from full faith in the creditworthiness
of paper can send a new currency spiraling downward.
I know there have been numerous stories
and even a lawsuit filed with claims of conspiracy.
The problem with conspiracy theory is that the very
pressures applied by the alleged conspirators makes
the market. This is to say that Japanese dumping of
microwaves to capture market share creates oversupply
and drives prices lower and sends U.S. manufacturers
packing. Eventually, the intervention fails because
the cost exceeds the benefits or the objective is
achieved.
In a way, you can claim the Euro is
a conspiracy by European Member Banks to manipulate
the money supply. Of course it is. Who is issuing
the money? The key is not to complain that the price
is artificially low. The market price is always correct.
The objective is to take advantage of the intentional
skewing between buyers and sellers by selling with
the crowd or buying on at more favorable decreasing
prices.
The Gold Council makes a point that
all portfolios remain unbalanced if they do not have
a portion dedicated to hard assets like gold. This
is because gold's appreciation potential becomes exceptional
relative to conventional investments when paper begins
to deteriorate. Just before the rally, members of
the Council pledged over $100 million to bolster gold's
tarnished image. They would be wise to read the literature
on this noble metal. Gold doesn't tarnish.
The most recent double play involves
buying gold while selling U.S. Dollars. Gold's appreciation
in dollars is partly due to the dollar's fall against
other currencies. If there is any doubt, observe the
chart of June U.S. Dollar Index (top) to June gold
(bottom). Essentially, you are viewing a mirror image.
For an Australian buying gold in U.S. Dollars, the
appreciation is muted against his or her home currency.
However, any depreciation of dollar parity can be
offset by buying an Australian Dollar hedge or selling
a Dollar Index hedge. Alternatively, one could execute
this protective strategy using options. With options,
you need a balance between price responsiveness (Delta)
and cost.
Gold's popularity among
sophisticated investors receives an additional boost
from the more direct parity correlation. True to form,
gold retains its purchasing power parity without interference
from interest rate policy.
In contrast, the dollar is supposed
to respond in tandem with U.S. interest rates. When
rates rise, the return on U.S. denominated instruments
becomes more attractive. This strategic stance was
formulated after currency was completely de-linked
from asset accounting. During the transition from
1972 through 1980, a rising interest rate was indicative
of a defensive stance against a deteriorating currency.
It was a warning to flee. Equally important, the strategy
when rates were disproportionately higher was to buy
the interest-bearing instrument and sell the equivalent
underlying currency as protection against deteriorating
currency parity. Thus, a "pure" rate of
higher return could be achieved.
Today's logic has been turned because
currency is a commodity as well as a means for exchange.
This confusion and exposure to contrary logic is absent
from gold where there is a single purchasing parity
assumption and, hence, relationship. We should not
be surprised to see gold reemerge as a de facto monetary
standard if the Dollar becomes more substantially
unglued.
Silver Lining Or Trail?
Is gold pulling silver or do silver
fundamentals stand alone? This week's Wall Street
Journal covered digital photography (a favorite subject
of mine) in Mossberg's "Gadgets" column.
The article seeks to "demystify" this increasingly
popular technology and essentially confesses to the
reality that a 4.0 mega pixel digital image in an
8 x 10" format qualifies for any size enlargement
(within reason) without distortion. This medium has
come of age and is rapidly encroaching upon conventional
film.
Granted, my original prediction for
silver's demise was aired on the NBC Today Show back
in 1988. I was premature in theory, but correct in
my assessment that silver's foreseeable future remained
bleak. This opinion is echoed in my book, The New
Precious Metals Market. As a "poor man's gold,"
silver has displayed equal enthusiasm for the long
side. I am not one to buck a trend. However, where
gold has a substantial horizontal base that includes
coins, bullion, jewelry, certificates, closed and
open ended funds, and mining stocks, silver is more
limited. The efficiency of solvent extraction technology
in base metal refining has made silver an increasingly
inexpensive byproduct. I am not one to hoard silver
bullion. It can tarnish.
The wake-up call in metals has stimulated
general interest in commodities. How does the song
go? "If I can make it here I'll make it anywhere...It's
up to you New York?" Well, metals are traded
on the New York Mercantile Exchange COMEX division!
Yet, other markets are receiving a benefit. Commodities
are about the only place where you can make a positive
return. With stocks becoming as volatile and "risky"
as futures, why not get the better return from more
leveraged financial vehicles?
Strategy
We have been taking advantage of volatility
to sell call/put strangles in interest rates, stock
indices, and energy. As silver approached $5, I am
tempted to sell calls against our futures as partial
protection against a correction. At the least, we
would achieve the additional profit from current levels
to the strike...say 525. We can also pocket the premium.
At worst, our futures would be stopped and we would
cover the call at the lower price while liquidating
the futures.
The same strategy makes sense as we
roll from June into August gold. Tomorrow is first
notice and we have been holding our long for enough
time to be in the top third of the delivery roster.
As I end this week's Report, I simply
cannot resist calling attention to the old saying
that silver follows soybeans. Hy Maidenberg used to
write the "Commodity" column for The New
York Times when he wasn't assigned to Latin America.
He loved this correlation. I don't want to confess
how long ago that was!
June 1, 2002
Philip Gotthelf
Commodity Futures Forecast
P.O. Box 566, Closter, New Jersey
201-784-1235
www.commodex.com
********
Philip Gotthelf-
publishes the COMMODEX® System and COMMODITY FUTURES
FORECAST® Service. He is also President of EQUIDEX
Incorporated (registered Commodity Trading Advisor)
and EQUIDEX Brokerage Group, Inc. (registered Introducing
Broker). Mr. Gotthelf is a graduate of Lehigh University
with a B.S. in Economics and Finance and a minor in
statistics. He is known for extensive work in the
futures industry and is the son of world renowned
Edward B. Gotthelf, developer of the COMMODEX®
trading methods. Philip Gotthelf's works have appeared
in major industry publications including FUTURES MAGAZINE
(formerly COMMODITIES), INVESTING, STOCKS & COMMODITIES,
TOP FARMER, PRO PRODUCER, BARRON'S, and ENERGY IN
THE NEWS. He is quoted regularly in BARRON'S, THE
WALL STREET JOURNAL, THE NEW YORK TIMES, FORTUNE,
FORBES, U.S. NEWS & WORLD REPORT, MONEY, and has
acted as consultant to major financial and consumer
publications. He is a regular guest on CNBC, MS-NBC,
The Cable News Network (CNN), and appeared on The
NBC TODAY SHOW and NBC Nightly News. He has also been
featured on THE WALL STREET JOURNAL REPORT, CBS, ABC,
and FOX News.
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