NOT QUITE THE APPLES HE WAS EXPECTING

A comment in the last post challenged me to put up a chart of gold compared to bond yields. I think the poster was somehow insinuating that rising rates are bad for gold. Let's put it to the test shall we?

I don't think any one can deny that gold is in a secular bull market..at least not with a straight face.

I now believe that interest rates are also now in a secular long term bull market. As you can see from the chart they have had no trouble rising together since the beginning of the year.

I kinda like those apples ;-)

THE BOND MARKET IS PRICING IN INFLATION

If we were really on the cusp of another deflationary event and the end of the cyclical bull like so many bears want to believe, we should already be seeing warning signs in the bond market.

At almost every major turning point in the stock market we have seen bonds lead the way. In `07 bonds topped out 4 months before the stock market. The same thing happened in 2000. Bond yields started to rise 3 months ahead of the March bottom in stocks last year.

Far from topping out, bond yields are still rising. As a matter of fact they are still holding above a sharply rising 200 DMA.

If this was going to be something more sinister than just an ordinary profit taking event in an ongoing cyclical bull, bond yields should have begun dropping several months ago.

I believe we saw the end of the secular bear market in bond yields last year when Bernanke assured us he would artificially hold rates down to stimulate the sagging real estate markets.

Realizing that the only way Bernanke could have any chance of accomplishing his goal was to print untold trillions of dollars out of thin air, the bond market responded by rapidly reversing Bernanke's manipulated move and rates have been rising ever since.

Since the beginning of `09 the bond market has been discounting the future and deflation is not what it's been discounting. 

IS IT REALLY WORTH THE RISK?

Deflationist can and have offered up countless reasons for their view. I suspect most are trying to rationalize a short position in the market. But I have to ask is it really worth the risk?

Let's face it if you managed to catch the exact top and covered at the exact bottom last Friday you would only have profited 9.2%. And realistically I doubt anyone has managed to catch more than 6-7% of the decline. In the last two weeks the HUI has tacked on 11.8%.

One is never going to get rich on the short side of the market. Especially not in a cyclical bull. (It is an excellent way to get poor though.)

Now we've got a multitude of factors starting to line up in favor of the correction either being over or very close to being over.

Sentiment has reached bearish extremes, some even worse than what we saw at the March `09 bottom.

The yearly cycle low for stocks is due anytime now (and looks like it may be in).

The market has rallied in the face of extremely bearish news this week. Never a good sign for shorts.

The dollar's intermediate cycle is due to top any time now. Sentiment on the dollar has reached bullish extremes last seen at the March `09 top. And commercial traders now have the most bearish position on the dollar in the last 9 years.

Commercial traders now have the most bullish position on stocks in the last 18 months.

The expected 10% decline separating the second leg of the bull from a probable third has more or less occurred.

The fundamental picture hasn't changed. The Fed has flooded the world with liquidity and despite tough talk, has made no attempt to withdraw any of it.

Finally we are starting to see institutions coming back into the market.

With all these factors lined up against the bears and with the relatively small gains possible on the short side compared to the long it's probably not the best of times to continue holding short positions.

Now of course if one doesn't believe in the bullish view they certainly don't have to go long but it would be much safer at this time to at least go to cash than to continue holding shorts. The odds are starting to pile up against the bears and it's probably just not worth the risk for a minimal gain even if the bear still has one last roar.

Heck even if we have somehow entered another cyclical bear (doubtful) all the factors I've outlined above should lead to a violent bear market rally.

The only two rational options right now are long or cash. Pressing shorts at this point is tantamount to gambling, and if one wants to gamble you can find 24 hour action at any casino. There's no need to wait for the stock market.

WEAR YOU OUT, OR SCARE YOU OUT

When I see the frustration levels that we saw last week amonst gold bugs I know the bull is doing its job.

When I see someone slamming body parts in a file cabinet, I know the bull is intact.

When I see cavity-boy and his Baby Ruth's I'm confident the bull is still alive and well.

These are all signs that the bull is doing what it needs to do to shake off as many riders as possible. And that is exactly what must happen before a big move can begin.

I've said it before, the bull will either scare you out, or wear you out. This is how big moves start. They first shake everyone off. They have to make it almost impossible to buy. Just at that point when you feel like you're going to throw up that's when the next leg up begins.

Gold has gone through two scare you out phases and three wear you out periods during the last 4 years.

Amazingly enough the bull has now managed to shake just about everyone off and he's done it without even coming close to testing the $1000 level. As a matter of fact he hasn't even tested the $1034 breakout.

I think the brief break below $1075 last week was very telling. There had to be a ton of sell stops below that level. You just know every technician in the world was selling at that point. But gold didn't follow through. Someone was buying what the dumb money was selling. If the trend was down gold should have plummetted. If this was a D-wave gold should have crashed. It didn't!

The miners on the other hand almost always follow the scare you out strategy and this time was no exception. It probably explains how gold managed to create such negative sentiment despite the minor correction.

At 11 weeks the dollar is now in jeopardy of starting the decline into the intermediate cycle low at any time. That move, when it starts, should power the second leg of this C-wave.

For those that can hang on to the bull through all his tricks the reward will be big.

SECULAR TREND INTACT

We've been hearing for some time now how the dollar is in a long term bull market. Consequently gold is going down, stocks are going down, commodities are going down, generally it's the end of the world. :-)

Nothing could be further from the truth. Despite the worst deflationary event since the 30's the secular trend of the dollar has not changed since 2001. It has been and still is in a secular bear market.

The only thing that's happening is the normal regression to the mean that occurs in every market. When sentiment gets too bearish we get a counter trend rally back to or close to the mean. Once the market works off the extreme then the secular trend resumes.

Until we discover the next big technological advance (think internet, personal computer, electronics, trains, canals, automobile) the dollar will continue to languish in a long term bear market because the powers that be will continue to try and print their way to prosperity. It's never worked in history and it's not going to work this time either.

Money isn't productivity, it's a store of productivity. We need real productivity before the value of the dollar can enter the next secular bull market. These temporary rallies because of stress in the financial system cannot take the place of real productivity and as such they are never going to reverse the secular trend.

We've been hearing quite the cacophony of reasons lately for why the dollar is going higher. The thing is, we always hear this at or close to tops.

The fact is that retail traders now have the largest long position on the dollar in history. Large specs, the second largest long position. Meanwhile the largest, most knowledgeable traders, (commercials) have the largest short position in 10 years.

As bearish as sentiment was back in November it has now reversed 180 degrees and is now as bullish as it was at the March top.

When everyone is thinking the same thing, then no one is thinking.

The market is getting ready to hand the bag off to the retail trader again.

HAPPENS EVERYTIME

Selling pressure at intermediate and yearly cycle lows is intense enough that it takes down just about everything. This time is no exception. Until the market started to crack gold and mining stocks were just going through a mild correction. Gold was consolidating in a T1 pattern.

Once the correction in the stock market has run its course I expect the secular trend for gold to resume and I expect miners to get back to the business of correcting the massive mispricing that occurred when the market crashed in `08.

Right now we are witnessing irrational selling in almost everything, which is par for the course at a yearly cycle bottom.

For those that can keep their heads about them, wonderful bargains can be had in times like this.

IN THE RANGE

For a while now I've been expecting at least a 10-14% correction to separate the second leg of this cyclical bull from what I expect will be at least one more leg up before this bull expires.

Friday's intraday low got close at -9.7%. The pattern has been for the correction between the second and third leg to be larger than the one between the first and second. We've now accomplished that goal also as the correction in July racked up a 9.5% decline.

As you can see in `04 the correction turned into a multi month affair finally bottoming in August. This time it appears to be unfolding much faster (which is the norm by the way for bulls with our DNA).

We are still a bit short so I'm not sure this is done just yet but we're in the range of what I've been looking for. At this point I think we are probably just waiting on the dollar cycle to top. Today is the 17th day of the daily cycle which rarely runs much longer than 25 to 30 days so we are in a live area for a top in the dollar and probably a bottom in everything else.

I'll also note that we are close enough to March that this bottom should also mark a yearly cycle low. As the last two major cycle lows have occurred in March I am expecting this year to continue to follow that pattern.

I'm not really expecting this decline to make it all the way to March as sentiment is already reached bearish extremes, but I think we are close enough that we could get a slightly shortened yearly cycle bottom any time now.

I'll also add that the rallies out of yearly cycle lows tend to be extremely powerful. The average rally out of a yearly cycle bottom since 2000 has been 19% with the median being 15%.

Even if the bull has topped (which I doubt) we should expect a violent bear market rally soon.