Gold and US Dollar Counts – Nov 09

November 3, 2009

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Binve’s beautiful chart menagerie, at Market Thoughts and Analysis – Ilene

Gold and US Dollar Counts – Nov 09

This post contains some of my updated counts for Gold and the US Dollar.

Please read these posts first to understand the context for these counts:

— The Gold Blog. Gold/Silver/GSMs (and a little Oil for good measure) – Sep 11, 09
— Thoughts on the US Dollar, Analysis of the USDX Long Term, Follow up on the Gold Blog – Sep 17, 09
— Thoughts on the Dow/Gold Ratio – Oct 19, 09

Some commentary before the charts:

I believe the Dollar has bottomed for the short term and the US Equity Markets have topped (for the long term). There is still inverse correlation between Dollar/US Equities. And likely this will come with pronouncements of deflation.

As long as there was and continues to be a Federal Reserve, no outcome has ever been deflationary nor will deflation be in our future.

Deflation is monetary deflation. The rise or fall of the price of asset classes is NOT inflationary or deflationary. Moreover, the falling price of the most visible asset class (US Equities) is NOT evidence of past or future deflation.

Because the outcome is and will continue to be inflationary. Many may believe that this will help US Equities to rise in nominal terms. A very incorrect assumption. Inflation will help asset classes with poor fundamentals (US Equities) from falling as far as they otherwise would. But fall they will. Which is a demand issue not a deflation issue.

The long term relationship of the US Dollar to US Equities is positive correlation. Here is an excerpt from my massive US Dollar Post (link above):

By and large, there is **far more** positive correlation between the Dollar and Equities than there is inverse correlation. They both go up and down together as evidenced in the chart above.

However, many, including myself, have observed that the "weak dollar" is currently fueling the the equity rally right now. So why the discrepancy?

Because we are still in the aftermath of the Greatest Deleveraging Event in History (2008)!

During the meltdown of 2008, everything was sold / redeemed for the relative "safety" (used exceptionally loosely) of Treasuries: shares in hedge funds, commodities, stocks, etc. As such there was a massive dollar repatriation. The dollar didn’t gain value because it was strong! It did because it was "in the way" (you have to buy dollars in order to buy treasuries, it is sort of a necessity that way).

In the ensuing months we have seen the Fed ream bondholders through ever more massive QE salvos, intentionally destroying the "value" of US Treasury debt and the US Dollar. Since that time, money has been moving back out of Treasuries (putting downward pressure on the dollar) and into more speculative endeavors (the stock market). You can see here that there is not a "if the Dollar goes down then Equities must go up" relationship here. Money was leaving treasuries and equities were oversold so they were bought. That’s it. Another force at work is the fact that the weak dollar and the oversold nature of equities a few months ago made stocks attractive to relatively stronger foreign currency holders, who could "get more bang for their Euro" so to speak.

You can see that the current inverse relationship between the Dollar and Equities is a product of a very particular setup and is not a given. In fact, the relative valuation of all of these asset classes (Treasuries, Dollar, Foreign Currencies, and US Equities) has shifted a lot the last few months. Anybody expecting this "status-quo" relationship to persist much farther into the future will be rudely surprised.

So what about the future? Are the deflationists right? Does all the world’s money rush back into Treasuries and the US Dollar during the next crisis? Any claim of a "strong dollar" is bunk. The Fed has made it abundantly clear that QE is not going anywhere and they are getting more aggressive with Treasury purchases, not less.

Which brings up the next interesting observation.

The POMO fund pool is nearly done. The US Equity markets have also topped and are headed down. There has been a lot of talk about not renewing the Quantitative Easing funding (i.e. money printing). So what are we going to get? A gold star to those of you who answered "Deflation Scare".

Yep, deflation will again become the hot buzz word. Everybody will see stock prices plunging and politicians (Congress / Treasury / Fed) will look like they are trying to *do something* (… the Treasury and the Fed are in more desperate straits however. They know that the US Government is insolvent and are just keeping the game going since foreign governments are not buying Treasury debt anymore / to a significantly lower degree. The Fed is the only body keeping the long end of the yield curve down).

A nice way to guarantee authorization for QE-II (and no, not the ship) is to allow the long end of the yield curve to rise while stock prices fall.

However, whether QE gets renewed, or QE-II is passed or QE comes into existence under a different name, the road of debt monetization is firmly paved. And no side streets are being built.

So if you are long the US Dollar to play the bounce for a couple of months – good call

However if you are long the US Dollar because you think it put in a *major* bottom, and that it is fundamentally stronger (relative to other currencies, including and most especially gold) …. good luck with all that.

So a valid question is: will another round of Quantitative Easing and associated POMO be enough to start another large rally? I think the answer is no. The last rally occurred because of highly oversold conditions, huge bearish sentiment, money looking for a move out of "safe haven assets" (after the rush into those assets from the Great Deleveraging Event of 2008) and into higher returns.

The Fed and Treasury pulled a rabbit out of the hat for equity investors based on a massive liquidity injection during a very particular set of circumstances.

There are no more rabbits. Just a lot of empty hats.

Gold Counts and Charts

I am very bullish on gold… no surprise. Both fundamentally and technically.

I think the fundamentals of gold are strong because a) All of the QE and the Fed buying US government debt with money created out of thin air is not only fiscally irresponsible but shows how *our elected and unelected officials will always take the path of expedience to avoid short term pain at the cost of larger long term pain*, b) that financial shenanigans are the norm, financials will always get bailed out, and are the biggest threat to the US economy, and c) the result of all these bad decisions will be monetary inflation, in a huge way.

And I think the technicals of gold most especially reflect the history of monetary inflation and bad / expedient policy decisions for dealing with economic issues.

I fully expect the occurrence of bad economic decisions to increase, not decrease, which again is bullish for gold. If you want to put your faith in government economists, politicians and the US Dollar, then please feel free to interpret the charts and long term counts differently.

Please read this post first before interpreting my charts below: The Gold Blog. Gold/Silver/GSMs (and a little Oil for good measure). [click on charts for larger images]