Gold Slam

The Unavoidable Consequence of the Currency War

This Gold Slam Is a Massive Wealth Transfer from People's Pocket to the Banks

We are entering a new chapter in the unfolding of our economic emergency, one in which the risks to capital are greater than ever. And the rules are increasingly being re-written to the disadvantage of us individuals. 

Bernanke is blowing new bubbles, and as we have seen in the past, it is in the early inflation phases of new bubbles that gold struggles. Equity investors are getting sucked in again, and the gold bugs may have to wait until they get spat out again and the Fed’s cavalry again rides to their rescue, that gold comes back.

In any case I remain certain of one thing:

This will end badly.

The one advantage we have is that history is very clear on how these periods of economic malfeasance end. Let's exploit that as best we're able.

Obviously, early this Monday a 'lot more short term downside' was indeed in store. It is of course impossible to tell at the moment how much lower gold might go before it finds a durable low, but there are a few target areas one can consider at this point. For instance, the $1,300 level roughly coincides with the 50% retracement of the 2008-2011 rally, as well as the 38% retracement of the entire bull market from 2000-2011. So this is an area that could provide support. 

A more painful possibility is of course that gold could replicate its 1975-1976 mid cycle correction, in which case the lateral support at $1,040 might come into play at some point down the road. We simply don't know at this point, we only mention these levels as something one needs to keep in mind.

What is Really the Problem?

In recent days a number of reasons have been forwarded as to what triggered the rout in gold, some of which sound quite reasonable, while others are just obviously hokum. We are referring to fundamentals here, not technical conditions – obviously, breaking important support levels always triggers technical selling, as stops are taken out. Recall that over the past two years many analysts have made a big deal about central bank buying of gold. This never made any sense to us. How can 400 or 500 tons of net central bank buying in a whole year have any appreciable influence on a market the total supply of which is approximately 170,000 to 175,000 tons and that trades between 2,000 and 3,000 tons every day worldwide?

All one can really say about central bank buying is that it is very likely a contrary indicator, as central bankers as a rule are the worst traders in the world. After all, they were all selling hand over fist while gold declined from $400 to its low at $250 in the late 1990s and then kept selling hand over fist while it rallied from $250 to $1,000. Their decision to start buying at prices ranging from $1,500 and higher must therefore be regarded as suspicious and QED, it certainly wasn't a bullish omen at all.

Cyprus-ation

However, considering the timing of the recent crash and the news backdrop surrounding it, it seems actually quite likely that concerns about central bank holdings were what provided the psychological trigger for the sell-off. As a number of observers have argued, the news that Cyprus will probably have to sell its measly 10 tons of gold reserves sparked visions of Italy, Portugal or Spain having to do the same eventually. Not that it makes a lot of sense worrying about that either: in reality, the gold would likely be used as collateral for loans, or be transferred to other official holders (probably Asian ones) without ever hitting the market as such.

Moreover, try to imagine a situation where e.g. Italy's economic situation becomes so dire that is is forced to think about selling its gold. We believe that if it were to come to that point, the euro project would finally be rendered asunder. European nation states would then return to issuing their own fiat currencies again and would likely begin to inflate all out in the misguided belief that this flight forward might actually help them. It is either that, or the ECB will give up all pretense of being responsible and begin to inflate all out rather than risk the euro project's doom. However, all of this is probably in a still fairly distant future anyway, so it cannot really be the main reason behind the rout in gold – the Cyprus story and the deliberations flowing from it merely provided a trigger.

Bitcoin

Also, as far-out as that may sound, Jim Rogers may actually have a point when he says that the crash in Bitcoins could have had a psychological effect on the gold market as well. After all, if one state-less alternative currency is crashing, then it seems only logical that the other state-less alternative currency should do the same. And Bitcoin has certainly crashed, although we would regard that simply as part of its growing pains. Unless government manage to crack down on it somehow, Bitcoin isn't going to go away and its finite supply almost guarantees that it will continue to gain in value over the long term. 

Let us not forget, Bitcoin already crashed once in 2011, falling from more than $47 to slightly above $2. Its imminent demise was darkly prophesied at the time by the same people who are at it again today – all or most of whom are committed statists, we might add,  this is to say, the usual suspects. They moaned and griped when it went up, alleging that its apparent soundness made it a 'bad currency' and now they moan and gripe even more loudly as it is going down. However, it isn't going to go away and we are willing to bet that in ten years time, its exchange value will be far higher than today's. We will explain this stance in some more detail in an upcoming post.

Bitcoin crashes as well 

So what is actually the problem, what important fundamental development may have upset the gold market?

We believe it actually does have to do with Cyprus, in an indirect way. When analyzing gold, one must never lose sight of the fact that it is a monetary metal, and investment demand for it can therefore be described as monetary demand. A such it competes with other currencies, most of which can be created in unlimited quantities by central banks with the push of a button.

However, what happened in Cyprus was a timely reminder that the fiduciary media created by fractionally reserved banks are ephemeral indeed and can  be sent to money heaven at any time if the authorities so decide. 

Deflationary potential ?

At the same time, it has come to our attention that bank credit expansion is slowing down lately, respectively even going into reverse in many regions of the world, in spite of heavy monetary pumping by various central banks.

In short, what the gold market may really be worried about is the deflationary potential of all these events. It is quite conceivable to us that another major deflation scare is just around the corner; after all, Europe's wobbly banks haven't magically become solvent overnight – they are merely temporarily reliquefied by the ECB's LTROs. Consider for instance the weakest of Germany's big banks, Commerzbank. Its CEO Martin Blessing is quite adamant that dispensing haircuts to depositors is the way forward. He is also, as Der Spiegel points out, an incorrigible optimist and bad market timer:

“SPIEGEL: Mr. Blessing, you have recently again used a good portion of your annual salary to purchase Commerzbank shares. What are you — a gambler or an incorrigible optimist?

Blessing: Neither. I'm a long-term investor and a staunch supporter of Commerzbank. In this combination, I feel very good about my investment.

SPIEGEL: Despite the fact that you once purchased shares at a price of €30 ($39) and the shares are now worth €1.17 ($1.53)?

Blessing: I have purchased Commerzbank shares on a regular basis and have never sold any — and I won't do so, either, as long as I'm active. Of course Commerzbank shares have been hit hard by the financial and sovereign debt crisis over the last few years. But that is true of all shares, particularly shares in banks.

SPIEGEL: Not many have fallen from 30 to just one euro in value. How far would the price have to rise for you to recoup your losses?

Blessing: The current price would have to roughly triple.

SPIEGEL: Taxpayers — who will still have nearly a 20 percent stake in the Commerzbank even after the planned capital increase — aren't doing any better. How do you intend to triple the price?”

[…]

“Blessing: In late 2012, these business activities — public-sector financing, shipping financing and commercial real estate financing — still made up €151 billion. By 2016, we intend to reduce this to slightly more than €90 billion. Currently, these reductions are going faster than planned.”

(emphasis added)

The important point is of course the last sentence – where Blessing explains how he plans to triple the share price to recoup his losses. Namely, by shrinking the bank's credit exposure.

Commerzbank share price with time line, via Der Spiegel.

Commerzbank may be an extreme case, but roughly similar deliberations are informing the banking business across Europe – definitely no-one is seriously considering growing their loan book. Besides, there is very little credit demand anyway. This is inherently deflationary. 

However, letting the deposits of depositors in insolvent banks go up in smoke is even more so, even if it is the right thing to do (it is definitely more just than simply stealing money from tax payers to prop these failed banks up). As an aside, a budding plan to simply cancel all € 500 banknotes under the pretext of 'hitting organized crime' may produce a big profit for the ECB, but it would be intensely deflationary as well.

Naturally, there is every reason to doubt that the authorities will allow a system-wide deflation to happen if push really came to shove and the entire € 3.5 trillion in fiduciary media issued by commercial banks in the euro area were in serious danger of evaporating. This is even more true in the case of the US banking system and the roughly $7.8 trillion in fiduciary media outstanding there. However, we do think that a deflation scare has a high probability of occurring within the next year or two and that the decision to allow depositor haircuts to happen is imparting a certain impetus to this.

In short, gold's recent crash is probably an expression of growing market fears that a hitherto unexpected deflation scare may be on its way as a result of the decisions that have been taken regarding the status of big depositors following the Cyprus 'rescue'.

Addendum: Technical Conditions

As an addendum to our  yesterday website update, we want to show the weekly and daily charts of the HUI – the weekly RSI has now declined to an improbable new all time low of just 17.38, and it seems quite possible that the recent gaps in the chart represent so-called 'exhaustion gaps'.

The HUI, weekly – the gap at the end of the decline may be an exhaustion gap, especially as it coincides with an RSI of just 17.38. Hopefully it isn't a 'measuring gap', see the next chart as to why.

On the daily chart of the HUI we can see both potential 'measuring gaps' as well as the two potential exhaustion gaps in the latter stage of the decline. Note that an RSI-price divergence has formed as well on the daily chart (though not on the weekly chart – there is a remote possibility that the gap on the weekly chart is actually of the 'measuring' variety) – click on chart for better resolution.

Not surprisingly, the XAU-gold ratio has hit a new all time low as well (the BGMI-gold ratio, which has a longer history, remains at its lowest level since the Pearl Harbor market crash of 1941-1942).

XAU/gold hits a new all time low 

Conclusion:

It is not possible to tell where the ultimate low of this move will be. What we know for certain is where various areas of support and resistance are (note in this context that the $1,525-$1,540 area will henceforth be stiff resistance, as it has held almost two years as a support line) and that gold sentiment has morphed from 'intensely bearish' to 'outright panic'.

Above we have speculated as to what the decline in gold may be telegraphing and what the worries underlying its decline may really consist of. Naturally, should authorities allow many more banks to go under and take their deposits with them into oblivion, then the supply of the underlying currencies will begin to shrink. 

This would be genuine deflation and it would be normal for these currencies to gain in value against gold (deflation is not possible in gold). However, we also believe that these and other worries in the context of potential central bank gold sales in the euro area are quite overblown. It should be clear that not a single central bank in the Western world will in the last resort allow deflation to truly take hold. They would probably rather 'go Weimar' on us than allowing that to happen. In fact, a budding deflation scare all but ensures that even more money printing will eventually ensue. Note in this context that ECB governor Benoit Coeure recently already remarked that there is allegedly 'not enough inflation' in the euro area:

“The European Central Bank will monitor euro zone inflation carefully over the next 18 months as it threatens to sink further below the ECB's 2 percent target, Executive Board member Benoit Coeure said on Friday.

Euro zone inflation slipped in March for a third straight month to an annual rate of 1.7 percent, compared to the ECB's goal of close to, but not above, 2 percent.

"We have a rate of inflation which looks set to move away from the ECB's 2 percent target over the next 18 months," Coeure told reporters at a breakfast event, adding that a drop in inflation was as worrying as a rise. "It is still fairly close to the 2 percent target but it is moving below that goal and this is something the board of governors is clearly following as we have a goal of 2 percent," Coeure said.”

There you have it. Not even a mild decline in the CPI inflation rate below the 2% 'target' can occur without triggering the urge to increase the pace of monetary pumping. It seems abundantly clear to us that no genuine deflation will ever be allowed to happen – therefore the market's fears over this possibility seem quite misplaced.

There is only one environment in which it makes sense for Gold to go up, and that is negative real interest rates. The Gold bull throughout 70′s was a result of interest rates lagging inflation. As soon as Volcker raised interest rates above inflation, Gold topped out. The Gold bull since 2003 was a result of the Greenspan Fed turning interest rates negative after the tech bust. By 2008, the housing bubble had burst, turning interest rates positive. 

The reason for the current Gold bull run is probably because of negative rates in China. The reason Gold prices have started coming down is because the china bubble has burst, turning interest rates positive. Since Gold pays no interest, there is no reason for Gold to appreciate in a positive rate environment.

see also :

http://www.financialsense.com/contributors/detlev-schlichter/gold-sell-off-there-is-only-one-question-that-matters

http://www.financialsense.com/contributors/chris-martenson/gold-slam-massive-wealth-transfer-our-pockets-banks

Point Break - Revisited

An update of our long wave cycle see Point Break 

MACRO ANALYTICS: A Technical Update

Start 1m50 end 21.28

HOW DID THE GLOBAL ECONOMY GET HERE & WHERE IS IT HEADED?

The 14 Steps From Credit Expansion To Speculative Bust

An over-indebted, overcapacity economy cannot generate real expansion. It can only generate speculative asset bubbles that will implode, destroying the latest round of phantom collateral. The following clip succinctly links Charles Hugh-Smith's 14 points in the global endgame to the cycle of deflation from the business cycle, credit cycle, and more critically to the emerging version sought by our current slew of Central Bankers.

FOURTEEN POINTS:

1. "Boost Phase" of Credit Expansion
2. Overextended Credit Expansion and Over Capacity
3. Financialization and Collateral
4. Era of Financialization
5. Growing Malinvestment
6. Phantom Collateral from Asset Bubbles
7. Bubble Implosions
8. Impaired Debt and Policy Decisions
9. Stalled Consumption
10. Cheap Money Offered
11. Shrinking Loans and Bank Speculation
12. Search for Yield from Shrinking Pool of Productive Assets
13. Increasingly Speculative Investments with high Risk
14. Stagnation - Over-indebted, overcapacity with limited growth.

HOW THEY MAP TO THE CYCLE OF DEFLATION

It probably comes as little shock to our readers when we say that the global economy is far from healthy. Indeed, between the European Union’s unemployment problem, global worries over “competitive devaluation,” debt monetization, and uneasy political alliances, economic analysts the world over will tell you the same thing.

So this raises the big question: How are the world’s money leaders (i.e. central bankers) handling things? Where is this all headed? Charles Hugh Smith (of Of Two Minds fame) weighs in on the matter: “An over-indebted, overcapacity economy cannot generate real expansion. It can only generate speculative asset bubbles that will implode, destroying the latest round of phantom collateral.”
Smith, who has been closely following global events and trends, presents fourteen points summarizing his recent work on what he refers to as the “global endgame” [all block quotes via Of Two Minds]:

1. Production Boosted

In the initial “boost phase” of credit expansion, credit-based capital (i.e. debt-money) pours into expanding production and increasing productivity: new production facilities are built, new machine and software tools are purchased, etc. These investments greatly boost production of goods and services and are thus initially highly profitable.

2. Expansion Leads to Overcapacity

As credit continues to expand, competitors can easily borrow the capital needed to push into every profitable sector. Expanding production leads to overcapacity, falling profit margins and stagnant wages across the entire economy.

Resources (oil, copper, etc.) may command higher prices, raising the input costs of production and the price the consumer pays. These higher prices are negative in that they reduce disposable income while creating no added value.

3. People Turn From Material Investment to Financial Speculation

As investing in material production yields diminishing returns, capital flows into financial speculation, i.e. financialization, which generates profits from rapidly expanding credit and leverage that is backed by either phantom collateral or claims against risky counterparties or future productivity.

In other words, financialization is untethered from the real economy of producing goods and services.

4. Financial Speculation Is Profitable – At First

Initially, financialization generates enormous profits as credit and leverage are extended first to the creditworthy borrowers and then to marginal borrowers.

5. Financial Speculation Starts To Fall Apart

The rapid expansion of credit and leverage far outpace the expansion of productive assets. Fast-expanding debt-money (i.e. borrowed money) must chase a limited pool of productive assets/income streams, inflating asset bubbles.

6. Credit Continues to Expand

These asset bubbles create phantom collateral which is then leveraged into even greater credit expansion. The housing bubble and home-equity extraction are prime examples of this dynamic.

7. Credit Bubble Burst

The speculative credit-based bubble implodes, revealing the collateral as phantom and removing the foundation of future borrowing. Borrowers’ assets vanish but their debt remains to be paid.

8. Who’s Going To Pay Back Their Debts (Hint: Not Many)

Since financialization extended credit to marginal borrowers (households, enterprises, governments), much of the outstanding debt is impaired: it cannot and will not be paid back. That leaves the lenders and their enabling Central Banks/States three choices:

A. The debt must be paid with vastly depreciated currency to preserve the appearance that it has been paid back.
B. The debt must be refinanced to preserve the illusion that it can and will be paid back at some later date.
C. The debt must be renounced, written down or written off and any remaining collateral liquidated.

9. Consumption Has a Bit of a Problem

Since wages have long been stagnant and the bubble-era debt must still be serviced, there is little non-speculative surplus income to drive more consumption.

10. So How Do Central Banks Respond?

In a desperate attempt to rekindle another cycle of credit/collateral expansion, Central Banks lower the yield on cash capital (savings) to near-zero and unleash wave after wave of essentially “free money” credit into the banking sector.

11. Where Do Banks Turn Their Attention?

Since wages remain stagnant and creditworthy borrowers are scarce, banks have few places to make safe loans. The lower-risk strategy is to use the central bank funds to speculate in “risk-on” assets such as stocks, corporate bonds and real estate.

12. Debt Continues to Eat Away At Income/Assets

In a low-growth economy burdened with overcapacity in virtually every sector, all this debt-money is once again chasing a limited pool of productive assets/income streams.

13. Where Do You Think That Leads?

This drives returns to near-zero while at the same time increasing the risk that the resulting asset bubbles will once again implode.

14. Endgame?

As a result, total credit owed [remains] high even as wages remain stagnant, along with the rest of the real economy. Credit growth falls, along with the velocity of money, as the central bank-issued credit (and the gains from the latest central-bank inflated asset bubbles) pools up in investment banks, hedge funds and corporations.

Is the Secular Bear Market Coming to an end ? 

I suspect we are in for a harder long-term slog than the mere 3 year Bear market suggests.

Historically, this suggests an extended period of range bound trading as the highest probability long-term scenario in my view. I expect vicious rallies, and wicked sell-offs to occur — over shorter term cycles — within the larger timeline. Active management and capital preservation are going to be the key methods of outperformance.

Let’s put this into more specific quantitative terms. According to data from Fidelity:Average secular bull market lasted 21.2 years and produced a total return of 17.2% in nominal terms and 15.9% in real terms. The market’s P/E more or less doubled, from 10.1 at the start to 20.5 at the end.

Average secular bear market lasted 14.5 years and had a nominal total return of +1.0% and a real return of –2.3%. The market’s P/E compressed by an average of 9 points, from 20.5 at the start to 11.3 at the end.

Here we are, a few weeks away from the start of the 14th year of the secular Bear market that began March 2000. The question on more than a few peoples’ minds has been whether or not it is reaching its end.

To answer that question, we need to understand exactly what a secular bear market is. 

A Secular Bear Market is a long term cycle which typically begins after a long term bull market peak and crash. It is primarily characterized by strong, even excessive rallies and selloffs, all occurring within a broad trading range. Despite the strong rallies, markets often appear to be unchanged a decade or so into secular bears.
The psychology is one of compressing Price to Earnings multiples, as investors become increasingly unwilling to pay the same price for each dollar of earnings. There is often a general malaise to the broader society, sometimes encompassing political scandals and/or war.

On Main Street, there is a general disinterest in equities. Ratings for financial television and other media fall. Interest in non stock investments — especially Bonds, Commodities and Real Estate — rise.

To conclude that the Secular Bear is ongoing, we need to see a few factors:

— Are markets still rangebound? Have we made new highs in various indices?
— Are P/E multiples still contracting?
— Are financial news media ratings still falling?
— Is society generally pessimistic?
— Is Main Street still disinterested in equities?

Some of the answers to these questions are purely quantitative, and do not require any human judgment. A few of these do require a squishier answer. After 36 months or so of capital outflows from equity funds, we should not rush to judgment after the first month of inflows.

And there is a major caveat to this: The Fed’s extraordinary ZIRP/QE intervention creates an impression of inorganic gains. Without the unprecedented FOMC actions, I am unsure markets would be anywhere near current levels.

Regardless of your answer to our broad question, there is one thing that I believe to be clear: We are much closer to the end of this secular cycle than to the beginning. Many optimists — most notably, famed technician Ralph Acampora — believe the secular bear market has ended. Even skeptics have to agree that we are more likely in the 7th or 8th inning than earlier stages of the game. Only the “America is Japan” crowd thinks we are in the 3rd or 4th inning.

The key question for investors: Are you prepared to make changes to your portfolios?

LINK   The Daily Reckoning

Bullion Action and the USD

We haven’t looked at the US Dollar in awhile so lets see what it’s been up to. 

Yesterday (wednesday 20) the dollar index opened at 80.51 on Wednesday morning in the Far East...and faded down to 80.28 around 3:00 p.m. in Hong Kong...and less than an hour before the London open.  From there, the dollar began to rally...and by 2:00 p.m. in New York it had made it up to about 80.81...and then jumped up to 81.10 following the Fed news.  From there it traded sideways into the close, finishing the Wednesday trading session at 81.05...up 54 basis points from Tuesday's close.

The dollar index rally was well under way before the high-frequency traders showed up in London just after the morning gold fix, so to hang yesterday's precious metals price action entirely on the currencies, is a stretch...and that's being kind.

It's my opinion that this was a manufactured rally so 'da boyz' could hide behind this fig leaf as they did the dirty in the precious metals...and that's certainly not the first time the've used this technique.

The first chart I would like to show you is a weekly bar chart of the H&S top pattern that everybody is focused in on at the moment. It does have nice symmetry to it and looks like the real deal. Please note the blue 5 point triangle on the right side of the chart where the current price action is strongly testing the top blue rail. As this triangle is forming below the H&S top we need to see a pattern that has at least 5 reversal points to reverse the downtrend to up. A breakout above the top blue rail will give us our first big clue that the potential H&S top will fail. Chart 1

Below is another way we can look at the price action from the Dollar high made back in July of last year. Some of you may recall the blue morphing triangle on the left side of the chart that broke out to the upside after a false breakout to the downside at point #6. We have a similar morphing triangle on the right side of the chart. If we start the triangle from the July top then it only needs to have an even number of reversal point to make it a consolidation pattern. I have to admit its not the prettiest triangle I’ve ever seen but the way the breakout and backtest is progressing it could very well be completing the breakout phase. We will know very soon if this is the case as the top blue rail will have to reverse it’s role and act as support on any pull back. Note the gold chart at the bottom. If the dollar does in fact breaks out of the 6 point triangle to the upside that will put alot of pressure on gold.

Lets look at combo chart 3 for the US dollar and gold. On the chart below with a brown shaded area and a blue shaded area based on the two red triangles on the dollar chart on top. What this chart shows is the inverse move that the dollar.and gold tend to make. You can see that when the red triangle on the left side was building out gold moved up to point #4 on it’s rectangle and when the dollar finally broke out to the upside gold corrected down to point #5 at the bottom of the rectangle. This is where it gets interesting. 

Note the red triangle on the right side of the dollar chart that is getting real close to breaking the top rail. If the US dollar breaks out above the red rail that will put serious pressure on gold that will break the bottom red rail of it’s small downtrend channel. And if the dollar has a strong move up the blue bottom rail of gold’s big rectangle will be in jeopardy which would be a serious blow to gold if the bottom blue rail ever gives way. A break of gold’s bottom blue rail of it’s rectangle would then turn from support to resistance on any backtest. So we have plenty to watch over the next week or so. 

Stay tuned

By Rambus