Commentary on Gold

I was scanning the news headlines on MarketWatch.com and came across this story, titled "Getting it Right and Still Losing." In the article by Mark Hulbert, it is mentioned that experienced investment newsletter writers Harry Schultz, Howard Ruff, and James Dines have lost a significant amount of their investment funds by investing in gold and silver during the market turmoil of the last year. According to Hulbert, the losses sustained by these three market professionals ranged from 64.9% to 70%.

Mark Hulbert's conclusion in this article is that although the newsletter writers had foreseen the coming declines they didn't know exactly when it would occur and therefore were unable to take advantage of the profit opportunities by maneuvering their money on the opposite side of the market downdraft. Because Mark Hulbert has been reviewing newsletters for quite a while it would appear that his conclusions about these three market professionals is accurate. Unfortunately, just as the newsletter writers got the gold market wrong, so too does Mr. Hulbert in his assessment of the actual reason why these people to failed come out winners.

Despite their experience, the mistake that Harry Schultz, Howard Ruff, and James Dines made is very simple. They believed that if the stock market was going to collapse then gold and silver would be the place to invest all of your money. Unfortunately, when the price of stocks fall so too does the price of gold, and to a greater degree, gold & silver stocks.

The only time that gold and silver prices rise at the same time that the stock market falls is when the government itself is on the brink of bankruptcy. While it may be the assertion of the newsletter authors that the government is on the brink of failure the process of actually getting to that point requires a significant amount of bailouts.

So, what evidence do we have to show that gold and silver actually does go down more than the general stock market? Below is a table that shows the performance of the Dow vs. the price of gold and the gold stock index (XAU.) This table was originally created by David Marantette, former publisher of the Goldstock and Dear Dow Letter. In his research, Marantette wanted to emphasis the importance of this concept so he included the available data from the period during a gold bull market (1975-early 1980) to make his point.

Marantette picked all periods that the Dow Jones Industrial Average fell by 10% or more and compared that performance with the price of gold until 1984 and the Philadelphia Gold Stock Index (XAU Index) from 1986 until March 2001. I gathered the data from May 2001 until October 2007. Take note of the fact that out of thirty Dow declines of 10% or more the price of gold/gold stock index declined 28 times. Of those 28 declines, gold fell by a greater percentage than the Dow Industrials in 27 instances.

Given what has been demonstrated the lesson should be clear, gold and gold stocks cannot climb higher at the same time that the Dow Jones Industrial Average is in a declining trend. If the newsletter writers believed that gold was the place to be when the stock market declines then it stands to reason why they lost so much money. Timing wasn't the problem, instead it was the lack of understanding of the relationship between the selloff in the general stock market and a selloff in the price of gold and gold related assets. Touc.

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Gold beats Stocks to the Downside

Gold Stocks vs. Dow Declines
In last week's issue, we showed you what happens when the Dow declines 10% or more compared to the XAU. Our conclusion was that each time the Dow declined 10% or more, the XAU, and therefore the gold stocks, went down a greater percent and for a longer time period.
"Yes, but, but …this time, it will be like it was before 1980 … like the last bull market in Gold. In those days, when the market went down, Gold went up." And so the numerous challenges went this past week.
We knew it was only a matter of time before someone pushed us to take a look back before 1987, and so this week, we made the trip - all the way back to 1975.
What did we find? Does our conclusion, that when the market goes down, gold stocks do also, hold up in Gold bull market times?
Should we still expect that if the general stock market tanks, the gold stocks will too?
First, how did we set this study up? Our comparison was between the Dow and declines of 10.0% or more, and the Philadelphia Stock Exchange Gold/Silver sector index - the XAU. We found that the XAU began trading on 12-19-1983. Our XAU data base starts on 05-15-1984.
The Dow declined -16.70% in 1984, but the decline began in January of 1984, so we kick in our Dow-XAU comparison on the next trade, which doesn't begin until 09-05-1986.
Our Gold data goes back to 12-31-1974. We don't remember when Gold began to trade, but we start with what we have. The first Dow decline of 10% or more, after our Gold data availability, is 07-15-75 to 08-21-75.
Our comparative study covers a range from 07-15-1975 to 06-22-2001. We have taken each Dow decline of 10% or more and compared the performance of Gold (1975 to 1984) and the XAU (1986 to 2001) during as like time periods as possible to the Dow declines. During this period, there are a total of 25 Dow declines of 10% or more. We have put this article and all the trade data relating to it on our www.goldstock.com website. Go to the home page, click on A Recent Issue & Article Archive. Click at the bottom of the page for Archives.
Below are our figures in summary and all the actual trades. Here is what we found: There were a total of 25 Dow declines of 10% or more. Of the 25 declines, there were two times when the Dow went down more than 10% and Gold went up.
Of the 23 remaining trades, 22 of 23 times, either Gold or the XAU went down more than the Dow did. Worthy of note are the 5 Dow declines on the way to the January 1980 price top in Gold.
Three of the five Dow declines caused Gold to decline as well. This was in the heyday of the Gold bull rise.
Our conclusion basically remains the same. Over the past 26 years, we observe that when the general stock market, defined in this instance as the Dow Jones Industrials, declines 10% or more, gold stocks decline a greater percentage over a longer period of time.
The reason this is important is that the myth of "stock market down, gold stocks up" still resides in the minds of investors.
Our general cyclic analysis, in our weekly Dear Dow letter, shows the stock market is vulnerable. Possibly a Dow Jones Industrial decline from the current 10600 level to Dow 7000.
If it happens, we are concerned that it will take the gold stocks down with it. You think this time it will be different? We're betting on history.Following is an example of our data compilation for the entire period:

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Dow Industrials Bull Markets

Below is what the Dow Industrials would have generated if a person had the ability to buy at the exact bottom and sell at the exact top. Of course this is a "no duh" moment. No person could have ever pulled off such a feat. However, this data is intended to put in place a perspective that is seldom mentioned even though it is the goal of most investors.

This is not Dow Theory, it is strictly the Dow Industrials. $100 grews to $403,106,218.46 from 1896 to 1989. This is an average annual return of 43,344.74% over the 93 year history.

I have simplified the information so that a person can compare all Dow Industrial bull markets with the previous information on the Dow Theory.

Original Fund of $100 Date Indu. Average Price % Gain Proceeds Invested August 10, 1896 29.64 $100 sold April 4, 1899 76.04 156.5 $256.50 reinvested June 23, 1900 53.68 sold September 19, 1902 67.77 26.2 $323.70 reinvested November 9, 1903 42.15 sold 19-Jan-06 103 144.4 $791.13 reinvested 15-Nov-07 53 sold 19-Nov-09 100.53 89.7 $1,500.77 reinvested 26-Jul-10 73.62 stocks sold 30-Sep-12 94.13 27.9 $1,919.49 reinvested 24-Dec-14 53.17 sold 21-Nov-16 110.15 107.2 $3,977.18 Funds reinvested 19-Dec-17 65.95 stocks sold 3-Nov-19 119.62 81.4 $7,214.61 reinvested 24-Aug-21 63.9 sold 14-Oct-22 103.42 61.9 $11,680.45 reinvested 31-Jul-23 86.91 sold 3-Sep-29 381.17 338.6 $51,230.47 reinvested 8-Jul-32 41.22 sold 10-Mar-37 194.4 371.6 $241,602.88 reinvested 31-Mar-38 98.95 sold 12-Nov-38 158.41 60.1 $386,806.21 reinvested 8-Apr-39 121.44 sold September 12,1939 155.92 28.4 $496,659.18 reinvested 28-Apr-42 92.92 sold 29-May-46 212.5 128.7 $1,135,859.53 reinvested 17-May-47 163.21 sold 15-Jun-48 193.16 18.4 $1,344,857.69 reinvested 13-Jun-49 161.6 sold 5-Jan-53 293.79 81.8 $2,444,951.28 reinvested 14-Sep-53 255.49 sold 6-Apr-56 521.05 103.9 $4,985,255.66 reinvested 22-Oct-57 419.79 sold 3-Aug-59 678.1 61.5 $8,051,187.88 reinvested 25-Oct-60 566.05 sold 31-Dec-61 734.91 29.8 $10,450,441.87 reinvested 26-Jun-62 535.76 sold 9-Feb-66 995.15 85.7 $19,406,470.56 reinvested 7-Oct-66 744.32 sold 3-Dec-68 985.21 32.4 $25,694,167.02 reinvested 26-May-70 631.16 sold 26-May-72 971.25 53.9 $39,543,323.05 reinvested 4-Oct-74 584.56 sold 21-Sep-76 1014.79 73.6 $68,647,208.81 reinvested 28-Feb-78 742.12 sold 27-Apr-81 1024.05 38 $94,733,148.16 reinvested 12-Aug-82 776.92 sold 29-Nov-83 1287.2 65.7 $156,972,826.50 reinvested 15-Jun-84 1086.9 sold 9-Oct-89 2791.41 156.8 $403,106,218.46

Source:

• Sperandeo, Victor. Principles of Professional Speculation. John Wiley & Sons. New York. page. 106.
  

Bank of America Redux

Bank of America (BAC) was reviewed by me on September 15, 2008. I only applied Dow's Theory to my analysis since there are so many unknown factors in the market. My conclusion on BAC was as follows:

Since Bank of America is now a bellwether stock for the banking industry, Dow's Theory is saying that either this banking crisis has hit bottom (for now) and might trade up from here (possibly in a range) or that anything below $18.44 is going to be chaotic.

Yesterday BAC fell below $18.44 by a wide margin to the level of $17. Prior to the decline below $18.44, BAC's price action seemed to do everything it could to avoid falling further. When and if it happens, a decline below the $14 level will be a period of utter chaos for the banking sector.

Bank of America is ranked #1 in the US in terms of assets. Right behind BAC is Citigroup (C) which is now selling for less than $10. Globally, BAC and C are ranked #1 and #2 respectively. That's Globally! Why is this important? No banks that are ranked #1 and #2 in the nation and the world should have their stock price cut in half in the last two months.

The stealth nature of the most recent banking sector declines will shock the financial system and require more talk of bailouts on top of the already proposed auto industry bailouts. In an economic environment like this, one needs to consider preservation of capital. The base of preservation of capital is the banking system. Right now the banking system is being challenged. Watch these two stocks for indications of where the banking system might be headed. Touc.

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Put a Tarp on it

I like words. I especially like the words that have multiple meanings depending on how the word is used. The important thing about words is that you never really know the meaning until there is context built around the word that is being used. One such word is tarp.

In my minds eye, I’ve envisioned that a tarp is something, usually blue, that you use to cover up another object. In the federal government’s most recent bailout, deemed the Troubled Asset Relief Program (TARP), we have been led to believe that the TARP is meant to “protect” us therefore we as taxpayers should be reassured.

However, the use of every word becomes clear(er) based on the context of the other words and ideas that follow it. With this in mind, I thought it was fitting that the Federal Reserve is now unwilling to disclose the recipients of almost $2 trillion since the $700 billion bailout package was passed. This is a change of heart on the part of the Federal Reserve and the Treasury since they both agreed to “congressional demands for transparency” before the signing of the bill. Considering that this approval of the bailout was with taxpayer money, it would only seem “fair” that taxpayers and guerrilla journalist news organizations, like Bloomberg, have access to the knowledge of where the money actually went.

With the Fed’s unwillingness to reveal the information that is the rightful property of the public, I now know what kind of “tarp” we are looking at. Let us explore the exact etymological nature of the tarp that Congress, as opposed to Progress, passed.

First, tarp is the shortened version of the word tarpaulin. According to Merriam-Webster’s Online Dictionary a tarpaulin is “a piece of material (as durable plastic) used for the protecting of exposed objects or areas.”

However, if broken down to its most basic elements tar-, according to the Dictionary of Word Roots and Combining Forms, falls under two possible meanings. The first is the Greek tarph which means thicket. The other possibility is the Greek tarphy which means thick or close. Given the context of the Federal Reserve’s handling of the TARP program I now have a better understanding of what this program is about. So far the TARP program has proven to be a thicket of bureaucracy meant to be so thick that it is essentially closed off from the public.

Now let’s look at the suffix portion of the word tarpaulin. The –paulin portion is derived from the word pall. What is a “pall?” As a verb pall means “to lose strength or effectiveness.” Another verb definition of pall is “to cause to become insipid.” What is insipid? Insipid is the “lacking in qualities that interest, stimulate, or challenge.” Has the government’s TARP program managed to lack a stimulating effect as was initially promised? I think so but some would argue that the “true” effects would not be felt until at least six months from now.

Since we looked at the verb definition of the word pall, let’s move on to the noun definition. This is my favorite definition of the word pall because it seems so fitting. The noun form of pall means “ a heavy cloth draped over a coffin” or “something that covers or conceals; especially: an overspreading element that produces an effect of gloom.”

Again, it is context that helps us understand the meaning or intent of all the words that are conveyed. Given the context of the TARP program and what has followed so far, I think I have a better understanding of what is happening and what is to come.

If only I knew this was the definition of the TARP program before the vote took place in Congress, I would have been even more outspoken against it. However, my new found knowledge allows me to feel comfortable about what is likely to occur next. There will continue to be a lack of transparency until the death. This would make perfect sense to have a tarp handy so that we as taxpayers don’t have to see the carnage. I have only come to this conclusion because of what I have seen and not what I would like to see. Touc.

Sources:

• Dictionary of Word Roots and Combining Forms. Borror, Donald J.Mayfield Publishing. 1988.
• Fed Defies Transparency Aim in Refusal to Disclose. Pittman, Mark. Bloomberg.com. November 10, 2008.
• “pall.” Merriam-Webster Online Dictionary. 2008. Merriam-Webster Online. 11 November 2008.
• “insipid.” Merriam-Webster Online Dictionary. 2008. Merriam-Webster Online Dictionary. 11 November 2008.
• "tarpaulin." Merriam-Webster Online Dictionary. 2008. Merriam-Webster Online Dictionary. 11 November 2008.
  
  

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Commentary on Gold

I was scanning the news headlines on MarketWatch.com and came across this story, titled "Getting it Right and Still Losing." In the article by Mark Hulbert, it is mentioned that experienced investment newsletter writers Harry Schultz, Howard Ruff, and James Dines have lost a significant amount of their investment funds by investing in gold and silver during the market turmoil of the last year. According to Hulbert, the losses sustained by these three market professionals ranged from 64.9% to 70%.

Mark Hulbert's conclusion in this article is that although the newsletter writers had foreseen the coming declines they didn't know exactly when it would occur and therefore were unable to take advantage of the profit opportunities by maneuvering their money on the opposite side of the market downdraft. Because Mark Hulbert has been reviewing newsletters for quite a while it would appear that his conclusions about these three market professionals is accurate. Unfortunately, just as the newsletter writers got the gold market wrong, so too does Mr. Hulbert in his assessment of the actual reason why these people failed to come out winners.

Despite their experience, the mistake that Harry Schultz, Howard Ruff, and James Dines made is very simple. They believed that if the stock market was going to collapse then gold and silver would be the place to invest all of your money. Unfortunately, when the price of stocks fall so too does the price of gold, and to a greater degree, gold & silver stocks.

The only time that gold and silver prices rise at the same time that the stock market falls is when the government itself is on the brink of bankruptcy. While it may be the assertion of the newsletter authors that the government is on the brink of failure the process of actually getting to that point requires a significant amount of bailouts.

So, what evidence do we have to show that gold and silver actually does go down more than the general stock market? Below is a table that shows the performance of the Dow vs. the price of gold and the gold stock index (XAU.) This table was originally created by David Marantette, former publisher of the Goldstock and Dear Dow Letter. In his research, Marantette wanted to emphasis the importance of this concept so he included the available data from the period during a gold bull market (1975-early 1980) to make his point.

Marantette picked all periods that the Dow Jones Industrial Average fell by 10% or more and compared that performance with the price of gold until 1984 and the Philadelphia Gold Stock Index (XAU Index) from 1986 until March 2001. I gathered the data from May 2001 until October 2007. Take note of the fact that out of thirty Dow declines of 10% or more the price of gold/gold stock index declined 28 times. Of those 28 declines, gold fell by a greater percentage than the Dow Industrials in 27 instances.

Given what has been demonstrated the lesson should be clear, gold and gold stocks cannot climb higher at the same time that the Dow Jones Industrial Average is in a declining trend. If the newsletter writers believed that gold was the place to be when the stock market declines then it stands to reason why they lost so much money. Timing wasn't the problem, instead it was the lack of understanding of the relationship between the selloff in the general stock market and a selloff in the price of gold and gold related assets. Touc.

Burn Rate Revisited

In today’s crisis news we are faced with the prospect that General Motors, Ford and Chrysler are on the brink of failure. One indicator of the speed at which these companies are about to fail is the cash burn rate. The cash burn rate is the speed the company is using its available cash or credit to stay alive. It has been estimated that General Motors is burning through $6.9 billion a month. It now appears that the government is about to grant another $25 billion bailout package to the auto industry. This would be in addition to the $25 billion granted to the auto industry on September 25, 2008.

The discussion of a company’s burn rate reminds me of the beginning of the end of the dot-com bubble with the cover article in Barron’s titled “Burning Up” published on March 20, 2000. It was this article that pointed out the cash burn rate of many internet companies. After the article came out the dot-com bubble burst and it is reflected in the chart of the NASDAQ Index below. The NASDAQ fell 75.40% from the high in March 2000 to the low in September 2002. The NASDAQ has not fully recovered from the previous decline and is currently only 32% above the September 2002 low.

Are we headed down the same road as the dot-coms with the American auto industry? Is it true that “what is good for GM is good for the nation?” In my previous articles I have pointed out the fact that the government was setting up to bailout Cerberus Capital Management and that all forms of bailouts will eventually fail. Now with the news of General Motors’ burn rate of cash exceeding prior estimates we can only expect that the auto industry will first get bailed out (again) then collapse of it’s own weight. Touc.

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Confirmation of the Trend is Due

The moment of truth has arrived. We will now get the indication of where the market is truly headed in the next 3-6 months. According to Dow's Theory, the Industrials and Tranports need to hit a new low and reverse that trend together in order to indicate that the market is tentatively headed in a new direction. That is exactly what happened on October 27th when the Industrials closed at 8175.77 and the Transports closed at 3364.98. From that level both indices moved higher and close above the previous high level set on October 13th. The close above the October 13th level occurred on November 3rd.

The most important point here is that Dow's Theory states that there must be a confirmation of some sort before committing money to or pulling money from the stock market. Confirmation would occur if both the Industrials and Tranports fell back to the prior low (October 27th) with one or both indices moving higher once again (point A in the chart below.) If this scenario were to play out I would commit all of my investment money to the market. The alternative would be if both indices fell below the previous low of October 27th. If that were to happen then the Dow would be on track to head much lower. If the market were to decline 3%-5% below the previous low then I would consider closing out any open positions that I have.

Again, if both indices fall to the prior low and one heads up from there then we would have confirmation that the bottom is in for the stock market, especially big blue chip stocks. However, if both indices fall through the prior low then we would have a firm confirmation that the bear market is still in effect. Let's watch what happens because the next few days may reveal the ultimate direction of the overall market. Touc.

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SELL Archer Daniels-Midland (ADM) at the Market

The time has finally come to issue a SELL recommendation for Archer Daniels-Midland (ADM.) The stock has performed moderately since the Research recommendation was issued on September 5, 2008. It is highly recommended that anyone who bought the stock based on my research should re-read the posting. As I was wrong about the extent the stock would fall, I will most likely be wrong about the upside as well. From the current level of $25.06, ADM is poised to reach the $30 level with no effort. However, the returns that this stock has provided in the last two months say that it is worthwhile considering alternatives.

ADM was recommended when it was trading at $22.97. As of Tuesday November 4, 2008 ADM was quoted at $25.06. This equals a return of 9.09% in 2 months. Conservatively, on an annualized basis this would equal approximately 54% return. Selling this stock now also generates a return 4 times the amount of the dividend yield if the stock was held for a whole year.

It is always recommended that when selling a stock, one should not place an order after hours or when the market is closed. This leaves the seller in the position of being vulnerable to the whims of the market makers. Instead, place your sell orders only as a market order during market hours. Some would complain that a market order during market hours might leave some profits on the table. However, I would rather leave some money on the table rather than have it taken away from me by the trades that are placed by institutions and market makers.

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Big Picture Observations and 1929

My concern with this market and economy is the fact that analysts and commentators have great justifications as to why stock valuations are the best it's ever been, yet the methods by which the valuations were generated had been questionable methods from the start.

How could anyone believe GAAP accounting rules (or suggestions) when this method was clearly managed and manipulate all along? How am I supposed to believe, now that we've been routed in the stock market, that this method of accounting is useful? Didn't we have the same problem crop up after Enron and Worldcom? Didn't we have the same problem with the Dot-com bust? Wasn't Sarbane-Oxley legislation supposed to stop the use of off-shore investment vehicles?

Despite the credentials of Mr. Bernanke and Mr. Paulson, how could we believe the Federal Reserve and Treasury will fix the problems in the banking system and economy? Mr. Bernanke has spent much of his time as an academician pouring over the financial crisis of 1929 yet he does just the things that replicate many of the worst reactions to financial crisis throughout the history of the banking world . Mr. Paulson had spent his time as CEO of Goldman Sachs creating the very financial instruments that threaten the world economy. Are we now expected to believe the Mr. Paulson will impartially manage his role as Treasury Secretary?


Didn't the ratings agencies like Moody's, Fitch, and Standard & Poor's have a clear and present conflict of interest on the debt they were rating as top quality? It seems to me that collecting fees from those that you're supposed to be rating is a lot like a conflict of interest.

Since when do banks name their own lending products "NINJA" or "no doc" loans? Why would banking institutions offer products that normally require due diligence but give up that right and responsibility? After not doing their due diligence and being on the brink of failure the banks get a bailout with taxpayer money and the public is told "consider the alternatives."

From my studies of economics and banking history since the first banks of Genoa in the 1400's, each day that money is shoveled into the market and banking system the pain of prior periods is prolonged. This is what has made this market seem to drag out the pain of the last year of stock declines. Using the market decline and banking panic of 1929 as a template, we're not projected to hit a bottom in the stock market until 2014 if no new bailouts come into play and 2018 or longer if the Fed and Treasury keep adding money to the system.

Stock Market Observations About the Period From 1929 to 1932

Nothing, so far, that has happened in this stock market is inconsistent with what happened during the decline of the stock market in 1929. The only exception is the fact that the banking system is being threatened at the onset of the stock market decline, whereas banks weren't truly put to the test until 1931. What follows are my observations of the bear market rallies from 1929-1932.

Within every market decline or rise there are at least three major periods (or legs) to the move. The three periods in a declining market are offset with short moves higher. These moves are typically called a bear market rally. Bear market rallies often look like a new bull market but are really expressions of exhaustion. This means that the market should continue its decline however it just needs a break. The stock market decline of 1929 to 1932 was exceptional in that it has six major bear market rallies. Giving investors plenty of chances to take advantage of the markets rise which inevitably wiped out whatever remaining assets that small investors had.

Let’s examine the six bear market rallies of 1929-1932 to better understand what we might experience in the current market. After the Dow Industrials declined 47% in two months from the high of 381.17 to the low of 198.69 the first rally began on November 13, 1929 and ended on April 17, 1930 at a level of 294.07. The amount of the increase in that period was exactly 48% and lasted five months.

The second bear market rally started on June 24, 1930 at the level of 211.84 and ended on September 10, 1930 at a level of 245.09. The amount of the increase in that period was 15.7% and lasted less than 3 months.

The third bear market rally took place from December 16, 1930 and ended on February 24, 1931. The increase of that rally was 18.96% and lasted a little over 2 months.

The fourth bear market rally started on June 2, 1931 at the level of 121.70 and ended on July 3, 1931 at the level of 155.26. The amount of the increase was 27.58% and lasted 1 month.

The fifth bear market rally began on October 5, 1931 and ended on November 9, 1931. The amount of change during that period was 35.05% and lasted slightly over one month.

Finally, the sixth bear market rally lasted from January 5, 1932 to March 10, 1932. The amount of gain within this period was 19.85% with two periods of 20-plus percentage gains within that period which lasted only 2 months.

The decline of the stock market from 1929 to 1932 was very short. Yet it was brutal on the downside. In just under three years the market dropped 89%. We may not be on track for a 1929-style decline. The alternatives could be the one like that of the period from 1966 to 1974 which didn't get to break-even until 1982. The decline from '66-'74 lost 60% on an inflation adjusted basis. Another idea is that the markets go dramatically higher without ever looking back. This scenario seems highly unlikely but it could happen just the same.

The period from 1929-1932 declined very quickly and for one reason, the government didn’t have its hand in the bailout of the financial institutions along the way. The decline in the stock market wasn't the cause of the depression, I believe the cause was the banking collapse of 1931. The banking crisis then, as with today, was due to the prior periods of malinvestment and projections based on apparent prosperity. Touc.

Background on some of causes of the worldwide Banking Panic of 1931 and collapse are below:

• BodenCredit
• CreditAnstalt

It Happened Before...

The last time the Dow Jones Industrial Average hit a 4% yield in a declining trend, as it did in 1987, the market reversed its decline. While I am not overly enthusiastic about the American economy or the stock market over the long term, I believe some relief has to come our way, however short the respite lasts.

Who knows if it will do the same now but it is worth watching for the possibility.

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A Worrisome Sign...

A factor that needs to be considered when looking at the Dow Jones Industrial Average is the Dow Jones Transportation Average. When someone says "how'd the market do today?" most people are referring to the Dow Jones Industrial Average. However, the Transportation Average is also a key element to determining the health of the stock market and the economy. In fact, the Industrial and Transportation Averages are a critical components of Dow’s Theory.

Right now the Transportation Average is at the level of 3416.16 while the more widely known Industrial Average is at the level of 8253.58. Although these indices are far from former highs there is an alarming characteristic about both market barometers that must be pointed out.

According to Dow’s Theory, a new major market upturn is signaled when both the Industrials and the Transports have bottomed and are both moving higher. As long as both indices go above the high of a previous peak in the market then the “bull” market is in place.

In the chart below, from the period of Oct. 1995 to Oct. 2004, you will see that the Industrials (blue line) reached a new low (green circles) on September 30, 2002. The Transportation Average (red line) reached a new low on March 3, 2003. Even though the Industrials were already moving higher in late 2002 it didn’t mean a new “bull” market was in place. Only when both the Industrials and the Transportation Average have hit [a] bottom and move higher together does it confirm a possible reversal of the trend.

As I mentioned before, both indices hitting a bottom is only the first indication of a possible bull (rising) market. The next step is that the indices needs to go above the previous market peaks (purple dashed lines) in the order of lowest peak to highest peak. Initially, the Industrials didn’t go over the 2nd market peak but ultimately did. On the other hand, the Transports went above the previous peaks without any problem.

The dilemma that we’re faced with in this market is the opposite of what happens during a bull market. In a bull market the indices will have to go back to the last and highest prior peak to confirm the strength of the move upwards. In a bear (falling) market, prices will (or need to) fall to prior lows in order to confirm the trend.

In the chart below you see the current state of the market and how much the market rose from the bottom in 2002/2003 (green circles.) On the chart below the Industrials (blue line) are currently near the low of 7528.39 back in 2002. Also notice that the Transports (red line) are very far from the low level of 2042.48.

My concern with this picture is that in order for the Transportation Average to fall back to the prior low it would have to decline a total of 41% from the current level of 3462.67. This is a tremendous amount for any index to lose in a market where losses have been to the tune of 30% or more. Even more alarming is the fact that the Dow Industrials have fallen a total 10 points for every 3.5 points for the Dow Transports.

If in fact the Dow Industrials were to fall to the equivalent of the decline of the Dow Transports then the Industrials would have to fall and additional 5344 points based on the 10:3.5 ratio. This is a phenomenal amount to consider given that we’ve seen so much destruction of wealth so far. Touc.

Nassim Taleb tells it like it is...

Please follow the imbedded link to an abbreviated interview with Nassim Taleb author of the book Black Swan. Touc.

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Brutal upside movement

Today the Dow Jones Industrial Average has jumped over 900 points during the trading day. While this is very exciting, we have to be aware that the Dow will face significant difficulty in getting to 10,000 and staying above that level.

As mentioned before on this blog, The Dow will trade in a range slightly above or below the 9531.11 level or fall back down to the 7773.71 level. A decline to the most recent low would equal a decline of 18%. If you can stomach the downside risk then hold your position. On the way up to the 9500-10,000 level, rather than take additional risk, consider this a good time to research the best and safest alternatives. This market will continue to provide gut wrenching moves, so prepare yourself now for what is to come.

If you have an interest in the nature and extent of the banking crisis then I strongly recommend that you read the Bloomberg article titled, "Banks on the Edge." So much information is in this article that you'd probably come away with a license as a bank examiner once you're done. A hard copy version of this article is strongly recommended. Touc.

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Get ready to be fleeced again!

In my October 1st article, I pointed out how ineffective the Federal Reserve Bank's $1.8 trillion has been on the economy and the banking system since December of 2007. The point of the article was to show that bailouts don't work, never have and never will.

Well, today I look at the news headlines and I see that General Motors (GM) is interested in buying Chrysler but it doesn't have enough cash. But wait, wasn't it just this past Thursday that GM hit a new 58-year low in the stock price and was thought to be under threat of filing bankruptcy. Hmmm, how could a near-bankrupt company acquire another money losing car company when it is also in the throes of death?

Wait a minute! Didn't they just pass a bill in Congress on September 25th granting the auto makers a $25 billion bailout loan intended to prolong or save the industry? What hasn't happened in the 16 days since the passage of the bill? What in the world is going on with this system that money can be easily drummed up for an industry on a moments notice and then it is lost or proven ineffective?

I'll tell you what I think will happen to the money though I can't prove it yet. I suspect that Cerberus Capital Management LP, majority owner of Chrysler, took whatever money is available from the gov't and kept it for themselves. Then, they get GM to merge the bad assets into the newly combined entity. Only problem is that even with some portion of a $25 billion bailout loan, GM doesn't have enough money to complete the deal.

This transaction has all the characteristics of the PG&E bankruptcy in 2002, whereby the company "ring-fenced" it's assets so that bankruptcy courts couldn't or wouldn't include this wealth in the bankruptcy proceedings.

The Federal Energy Regulatory Commission (FERC) on Wednesday upheld a plan by utility PG&E Corp. to shield assets of its unregulated subsidiaries from creditors, denying objections raised by California state officials and by other companies.

"FERC Upholds PG&E Plan." The Oil Daily (Feb 22, 2001)

What's worse in this case is the fact that Cerberus Capital exploits the taxpayer and then keeps the valuable stuff while either merging into GM or filing bankruptcy. The process of bankruptcy or merging with GM would be the final step in fleecing the taxpayer. Touc.

Sources:

• Simon, Richard. "House OKs aid plan for automakers." Los Angeles Times. September 25, 2008. C-1.
• Strumpf, Dan. "GM shares tumble 31 percent to 58-year low." Associated Press. October 9, 2008.
• Krisher, Tom. "Analysts: GM would need cash to acquire Chrysler." Associated Press. October 11, 2008.
• "FERC Upholds PG&E Plan." The Oil Daily. Feb 22, 2001.
• Lazarus, David. "PG&E Can Spin Off Profitable Assets." San Francisco Chronicle. February 22, 2001.
  

Big Money Exit

Many people are confused as to the reason why the markets are falling day after day without any real relief. Why are the declines in the market so orderly and smooth? Why hasn't there been a crash, which in theory would mean that there might be an actual bottom?

The reason might be as simple as a strange rule that was set up as a result of the stock market crash in 1987. The rule know as the "circuit breaker rule" which says that if the stock market was to fall by 10% before 2pm EST the stock exchange would be closed for one hour. If the stock market was to fall by 10% after 2pm but before 3:3opm EST, then the market would be closed for 30 minutes. A similar rule exists if the stock market were to fall by 20% before a specified time.

So you see, if the market were to fall by 10% then there would be an outright panic in the stock market. The big institutions don't want the public to see a halt in the market at a time when the public already didn't want the bailout bill to begin with. Imagine what would happen to the markets if the average mutual fund investor said, "forget it, once the market reopens I'm outta here."

The solution to this problem is to program the big institution computers to avoid the selling if the market gets within 2.5% of a 10% down day. If you look at the stock market movement at the end of the day today, you'll see a concerted effort by the big money to conceal their effort to get out without disrupting the "orderly" nature of the overall decline.

Essentially what the "circuit breaker rule" has done is to provide every incentive by the institutions to make the market not hit the 10% decline which would halt the market and spark a panic. Since the Big Money has all the tools at their disposals to offset a true panic we get declines in the 3% to 7% range. It was quoted on Fox Business Network that of the approximately 2 billion shares traded today 4 million took place after the New York Stock Exchange closed bringing the index down 100 points after the official close of the day.

Clearly this is an effort by the Big Money players to get their money out while not inspiring a panic and at the same time getting the taxpayer to pay for the reckless mismanagement of our money in the Big Money institutions. This is a truly sad day for capitalism and the free markets. Touc.

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The Battle Lines May Have Been Drawn

The above chart shows what the Dow Industrials have done since hitting the 9525.32 level. Yesterday, the Dow attempted to go above the 9525.32 level and didn't succeed...so far. I don't think many traders or investors are intentionally targeting this level. However, it appears as though there is a battle for control of this price level on the index. What are the implications of this "battle line?" My guess is that we'll see this level revisited after falling to a extreme (albeit temporary) low or high in the market. At which point the index would wander around this level for what would seem like a long period of time (3 weeks to 4 months.)

Note:

On the right hand column please take a look at the Dow Yield Watch indicator. This indicator follows the current yield of the Dow Jones Industrial Average and places it in the context of the historical yields of the index. Traditionally, whenever the Dow had a yield of 6% the index would start a new bull market towards a yield of 3%. Likewise, when yielding 3% the Dow would embark on a new bear market towards a yield of 6%.

At the current yield of 3.50%, the Dow is slightly overvalued and, if continuing on its trend, is headed to the undervalued level of 6%. To put this concept into perspective, if the Dow were yielding 4% then the index would be at the 8,107.75 level. Touc.

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Book Recommendation: Crisis Investing

Because of the extraordinary circumstances that we are faced with in the financial markets, I am compelled to ask that everyone buy the book Crisis Investing by Douglas Casey. Are you wondering what the safest place to invest in markets like this? Do you want to know what happens to your money during inflation, disinflation or deflation? What happens to government bonds when the government can't pay?

You have questions and Crisis Investing has a perspective that you won't hear about on any cable television station. Crisis Investing helps you to look ahead of the current problems and see things from an angle that is both unique and useful. Good Luck. Touc.

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Review: Stock Research Using Dow’s Theory

Today I will review the dividend paying stocks that I did research recommendations on using Dow’s Theory. The reason I am selectively choosing these stocks to follow up on is that they, like the Dow Jones Industrial Average, have shown the ability to go to or near the levels that I calculated in earlier postings. For the time being we’ll have to assume the price movement in the stocks is merely a coincidence. With that in mind, let’s follow up on what I said and what the stocks have done so far.

Air Products and Chemicals

• On September 29, 2008, I said: “Air Products and Chemicals Inc. is estimated to fall between the $61.84 and $53 levels.”
• On October 6, 2008 APD actually went as low as the $57.69 level before closing at $61.93 the very same day. $57.69 is $0.27 away from the exact middle of the range between $61.84 and $53.

Walgreen

• On September 24, 2008, I said: “With all the drama that we’re seeing in the stock market I’d assume that the [Walgreen] price will go as far as the $26.91 level.”
• On October 6, 2008, WAG went as low as $26.17, a difference of $0.74 from the estimated low and closed at $27.54 the same day.

Archer Daniels Midland

• On September 5, 2008, I said: “The next stop for the 3rd and final support level before total collapse is $20.95.”
• On October 6, 2008 ADM fell to the $16.55 level and closed at $18.37 the same day.

Nucor

• On September 3, 2008, I said: “Dow Theory says that NUE may fall to the $38 or $32 level.”
• On October 6, 2008 NUE fell to the $$28.97 level and closed at $33.75 the same day.

Personally, I believe all of these stocks are poised to increase in value from this point until the Dow Jones Industrial Average reaches the first of the three resistance levels at 11,734. After reaching the 11,734 level it is strongly recommended that you consider your exit strategy if you end up purchasing any of these stocks. Good Luck. Touc.

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A Key Point for the market

Today the Dow Jones Industrial Average has fallen to the minimum of 9525.32. This exceeds the Dow Theory projection of 9531.11 posted on this blog on September 17, 2008 by 0.0006%. Nothing that has happened thus far is surprising according to Dow's Theory.

It becomes academic at this point to suggest that we are either going to the 7197.60 level or either of the next three points on the upside:

• 11,734 (23.18%)
• 12,969 (36.15%)
• 13,727 (44.11%)

Like today's action, the move will be violent on either side up or down in a very short period of time. Touc.

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The Fed's $1.816 Trillion Lifeline Didn't Work

The figure in the title of this site is the amount of money committed by the Federal Reserve Bank since December 17, 2007 until September 23, 2008 in an effort to boost confidence in the financial system. Since December 17, 2007 we've had the failure of Bear Stearns, Fannie Mae, Freddie Mac, IndyMac Bank, WaMu, Wachovia, Merrill Lynch, and various other financial institutions which would have failed but were sheltered in some way or another.

The above figure of $1.816 trillion is the amount that the Federal Reserve has committed to no avail. This does not include the many decreases in the discount rate and Fed Funds rates. These rates have fallen as dramatically as the Fed's tab has increased.

Sure, not all of the money went out at the same time and not all of it was evaporated into nothingness. However, $1.816 trillion is the amount that has been holding the hands of weak or hobbling financial companies. Did it stop the bleeding? Of course not. Which is the reason why the Treasury now feels the need to step in and bail out AIG and ask for $700 billion as the first of many more requests for funds to "save" the financial markets.

As a market historian and participant, I know that no amount of action like restrictions on short selling or throwing money at the problem will solve anything. Notice that the ban on short selling didn't stop WaMu and Wachovia from falling 95% after the ban was put in place.

We cannot seek solace in the fact that our Congress feels compelled to commit an additional amount of $700 billion to the problem. Not only that, giving the Treasury Secretary immunity from criminal charges while handling the nation's purse strings seems troubling to say the least.

The markets cannot correct themselves until the bailout efforts stop and the market resolves the problems that we're experiencing. We as investors can only hope that we're better than Japan in resolving the exact same problem that they experienced over the last 2 decades. If we're not equal to the task at hand then we might be fated to experience a similar 18 year recession (depression) which included Japan's stock market falling from 38,000 level in 1989 to the current level of 11,000.

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Research: Air Products and Chemicals Inc. (APD) at $71.43

In my previous research recommendation of Walgreen’s, I reviewed 3 periods that should have demonstrated, according to Dow’s Theory, the most opportune time to buy the stock (the stock is up 5.58% since that Research Recommendation.) At this point, an investor could feel comfortable about considering the sale of this stock. However, I suspect that my own Sell Recommendation will not materialize for a while.

Today’s Research recommendation is Air Products and Chemicals Inc. (APD.) APD has increased its dividend every year for 25 years in a row. According to Dow’s Theory, APD went through a total of 9 cycles from trough to trough or peak to peak since 1980. This means that the stock has a tendency to take a very short time to reach it’s previous high. I will review only the most recent cycle to determine the projected point that the stock should fall to its ultimate bottom.

From the bottom in October of 2005, APD went from $53 to $106.06 in May of 2008. According to Dow’s Theory, the price of APD was expected to fall from $106.06 to any of the following three levels:

• $88.37
  
• $70.68
  
• $53.00

Thus far, APD has fallen to the $71.43 level but not before reaching a low of $69.22 during Friday’s trading session. In prior cycles from 1982 to 1998, whenever APD was declining from its peak it would fall between the 1st and 2nd price levels (i.e. $88.37-$70.68). However, in the last five cycles APD has fallen, on average, to the level between the 2nd and 3rd levels (i.e. $70.68-$$53).

Air Products and Chemicals Inc. is estimated to fall between the $61.84 and $53 levels. However, if an investor were to take the risk of buying the stock right now then the potential downside is between 13.42% and 25.8% respectively. Considering that this stock has a cycle that averages 4 years from trough to trough you could consider this a stock that will reach the previous high in 1½ to 2 years.

Below is the worst case scenario if the Dow Jones Industrial Average were to fall dramatically. The chart below shows how APD performed compared to the Dow from May 26, 1972 to October 4, 1974. During this period the Dow fell 39.8%, a period which was considered the worst bear market since the crash of 1929. Notice that APD actually went higher to the tune of 65% at the high. Good luck on your research of this stock. Touc

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The Ultimate Dividend Playbook

Now more than ever investors need to understand the reasons why investing in stocks is worthwhile. The primary reason for investing in stocks, as with any other investment, is the income you should be receiving on your investment. When it comes to income investing with stocks, a handy book to have at your side is The Ultimate Dividend Playbook.

Written by Josh Peters, The Ultimate Dividend Playbook offers insights and strategies for investing in stocks that...well, pay dividends. The best parts of this book are the end of chapter "Rules and Plays" and "DividendInvestor Case Study." The "Rules and Plays" section summarizes the chapter in a clear and succinct fashion. If you're the kind of person that gets bored with non-fiction books then this section would be all that you need to know...for the time being. The "DividendInvestor Case Study" provides a closer examination of ideas or assumptions that are either confirmed or shown to be exceptions rather than rules. For those who love to "run the numbers," this book provides ample formulas to run on each stock that you're interested in.

No matter your level of understanding, you will benefit greatly from having this book on hand as you decide which stocks to buy and why.

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Research: Walgreens (WAG) at $31

Today’s Research recommendation is Walgreen’s (WAG), which is trading at a low of $31 today. Let’s get straight to the numbers. Below I will list the Dow Theory interpretation of the price movement of prior periods (which is supposed to assist us with finding the final low in the price) and contrast that with the actual low for the stock.

From the bottom in July of 1994, WAG went from $4.22 to $33.94 in February of 1999. According to Dow’s Theory, the price of WAG was expected to fall from $33.94 to any of the following three levels:

· $24.04
· $14.12
· $4.21

WAG actually bottomed at $22.06 in March of 2000.

From the bottom in March of 2000, WAG went from $22.06 to $45.75 in October of 2000. Dow’s Theory says that the stock should fall to the following levels:

· $37.85
· $29.95
· $22.05

WAG actually stopped falling at $26.90 in February of 2003.

From the bottom in February of 2003, WAG went from $26.90 to $51.60 in September 2006. Dow’s Theory says that the stock should fall to the following levels:

· $43.37
· $35.14
· $26.91

WAG is currently selling at around the $31 level.

Walgreen’s has shown from previous periods that the stock price tends to overshoot the second price level on the downside. The current price movement is no exception. With all the drama that we’re seeing in the stock market I’d assume that the price will go as far as the $26.91 level. However, even at the current price this stock is a bargain and would warrant taking the risk of holding with the potential for a 13% decline in the short run. Good luck on your research of this stock. Touc.



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Henry Paulson: Our man at the helm

CEO Paulson was definitely living it up as head of Goldman Sachs back in August of 2005. However, it seems that my favorite magazine Bloomberg was worried about such a firm deviating so far from the tried true revenue model from years past.

The October 2008 issue of Bloomberg shows Secretary Paulson with less of a shine. Don't worry though, at least we know that, no matter what happens, Goldman Sachs has its back covered in case some large losses magically pop up. Almost makes me feel like a can't miss bet is in the offing. Touc

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