News Blog | iNNaToS.CoM

Submitted by Cameron Hanover

Submitted by David Galland at Casey Research

Uncle Scam

The latest data on global gold trends, Q2 2010, just popped into my email box from the World Gold Council. 

The bad news is that the higher nominal price of gold has caused a 5% decrease in jewelry sales over the prior year.

If you’re thinking “Hey, that’s not that bad!”, you’d be right. On this
date last year, gold closed at $950… which is $286 below where it
trades as I write. In other words, a 30% rise in price has resulted in a
decrease of just 5% in jewelry sales.

And even that number is skewed, because the currency value of the gold
purchased is up – way up. For example, India – the 800-pound gorilla in
the global gold jewelry market – saw total gold jewelry sales fall
only by 2%, but in local currency terms, there was a 20% increase in
the nominal value of the gold trading hands. China, which only
relatively recently reauthorized private gold purchases, saw a 5%
increase in jewelry demand, but that translated into a 35% increase in
local currency terms.

So, that’s the bad news.

The good news – at least for fiat money skeptics – is that total
physical gold demand in Q2 rose by a whopping 36%. More tellingly, the
increase was 77% when you take into account the dollar value of the
ounces purchased.

As you’ve already figured out, the bulk of the physical demand is
coming from investment – with the amount of gold held by ETFs growing
414% over the previous year.

Too far, too fast? I don’t think so.

In my opinion, as the fiat money monsters are brought to bay, the price
of gold can really only go higher. Overly confident? I don’t think so.

That’s because when people lose faith in a currency, as they will
before this crisis is over, they unfailingly rush to exchange the
unbacked paper money for something more tangible. While pretty much
anything with an intrinsic value will do – real estate, antique cars,
old masters – for all the reasons that Aristotle enunciated, gold is
viewed in a class of its own, and so has an unblemished history as a
universally accepted store of value. And, thanks to its portability,
divisibility, durability, and consistency, it has also always been
looked upon as a convenient form of money.

The most pressing macro-observation I’d like to make – an observation
that’s critical for investors to understand (though most don’t or
won’t) – is that the tectonic monetary shift now underway is truly
global in nature. And it’s not going to be over until a new and
markedly different monetary regime has been implemented.

It’s like this: Throughout history governments have experimented with
fiat money. They have done so because the benefits to the government
and the insiders that invariably latch on to power are just so damn
attractive. The Romans did it by debasing their coinage, but the modern
version goes one better by completely disconnecting a currency from
any value whatsoever, and then wantonly printing as politically
motivated needs or wants arise.

The latest fiat system kicked off in earnest in 1944 when Uncle Scam,
in Bretton Woods, NH, got the leaders of the world’s war-weary
countries to agree to accept the U.S. dollar as their reserve currency.
In return, the U.S. agreed that the currency notes it would
subsequently issue would be convertible into a corresponding amount of
gold. Then Tricky Nixon came along in 1971 and canceled the right of the
bearer to swap the notes for gold. Overnight, the link between the
currency and anything tangible was lost. 

That, of course, opened the door to all subsequent politicians to
engage in the whole print, print, print thing. The keystone asset of
the former system – gold – soon became a distant memory for the new
crop of central bankers and, remarkably, to the bearers of the notes.

For any number of reasons, most of which related to the illusion of
increasing prosperity, people simply stopped paying attention to what
Uncle Scam was up to. Of course, that illusion was largely based on the
increase in nominal wealth: if one year you’re worth $100,000 and
three years later you are worth $150,000, the tendency is to feel
richer even if your actual purchasing power has gone up by far less or
even has declined due to a debasement of the currency.

Today’s dollar is worth just 18 cents in 1971 terms.

But all scams must, in time, come to an end. And that’s what’s going on
now. It ends here. Before this is over, the current iteration of the
U.S. dollar – the vaporous construct with no actual value – will lose
its value as money.

Which brings me to an important nuance in this discussion.

Most failed fiat money experiments involve a single currency. The most
convenient recent example is provided by Mugabe’s Zimbabwe. Rather than
actually supporting the creation of marketable goods and services in
what he sees as his private fiefdom, he took the low road of
energetically abusing his fiat currency to the vanishing point.

In a situation such as that, the local citizenry suffers – as well as
anyone foolish enough to be holding bonds denominated in the debased
currency. But that’s about it.

In the current scenario, the keystone of the entire global monetary
system is the U.S. dollar. Which means that the primary reserve
holdings of virtually all the world’s significant central banks are at
risk of going up in smoke.

And it’s even worse than that, because the dollar is also the number
one trade currency – which means corporations around the world are
sitting on huge holdings or are dependent on commercial contracts
denominated in dollars. 

And even that’s not the end of it. Because Uncle Scam has long served
as a role model to other world leaders, those leaders have
enthusiastically followed suit and universally launched fiat monetary
systems of their own. It’s bad enough that the world’s reserve currency
is a fiction – but the situation becomes really dire when you accept
as fact that all the world’s currencies are a fiction.

Man, we’re in a lot of trouble.

If you have so far resisted our constant urgings to make gold – which
is to say, real money – a core portfolio holding, it’s not too late.
Just start buying on the inevitable dips. I can assure you that as the
fiat monetary structures continue to crumble – and they will – more and
more people will be turning to gold. The latest World Gold Council
data is just a straw in the wind.   

In fact, thanks to the convenience of the gold ETFs (which you should
make an effort to understand before blindly investing in them – there
are important differences between them), once the show really gets
underway, the relative trickle of investment funds moving into gold
today will quickly become a torrent, completely outrunning available
gold supplies and sending prices much, much higher – and in a hurry.

While no one can say when the big spike in gold will occur, one can say
accurately that, given the systematic frailty, it could literally
happen on any given day. That’s what happens when scams are unveiled.
Remember Bernie Madoff? How many people do you think tried to give him
money the day after he was arrested, versus desperately scrambled to
get their money out of his sticky web? The answers are “No one” and
“Everyone” – that’s what happens when people lose faith in a currency.

Of course, gold bullion, and gold bullion proxies, aren’t the
only asset classes that will do well in the coming currency collapse.
The chart below shows what looks to be a trend change in the gold
stocks. In previous recent stock market corrections, people thought of
gold stocks more in terms of being stocks and overlooked their direct
connection to gold. That appears to be changing, with a divergence
between gold stocks and the broader markets. The leverage in gold
stocks to gold bullion could make them especially attractive.

Regardless of what you do, do something – because to stumble on as
if this crisis will end with a whimper would be a dire mistake.

The primary key variable when it comes to determining the future direction of US market is no longer corporate fundamentals and technicals, nor the US economy itself, as much as the daily gyrations in the Japanese Yen, which defines the move in the S&P on a tick for tick basis. As such, what the BoJ will do is likely far more relevant to US capital markets (or the sad joke that passes for them these days) than anything the Fed can pull out of its hat. And while there has been much posturing out of various Japanese administrations that deflation will not be tolerated (presumably unlike the past 20 years), and that FX intervention is near, few actually believe anything coming out of the BoJ or the Finance Ministry these days. Yet looking at what domestic Japanese investors are doing may provide a better clue as to what is in store for the Yen. As Barclays points out, in time of heavy FX intervention, such as the last period between 2002 and 2004, Japanese holdings of foreign securities tend to surge: a good example being precisely that period, during which Japanese holdings of US Treasuries increased by $320 billion, to go side by side with a BoJ which was actively selling Yen and buying up Dollars. In essence, investors there were frontrunning (or at worst investing side by side with) the BOJ. And as weekly data demonstrate, Japanese investors are once again gearing up for intervention, having purchased $60 billion of foreign securities in July and $75 billion so far in August, the highest number in half a decade. While the BoJ’s talk is cheap, Japanese investors appear to have decided that at prevailing JPY levels the BoJ has no option but to start its intervention regime.

From Barclays:

One factor that could lead to a continuation of the rally is Japanese FX intervention. Following the sharp rise in the value of yen, recent press articles have highlighted the possibility that the Japanese Ministry of Finance may intervene in the foreign exchange market. This would be a significant shift as its last intervention was in March 2004. Figure 7 shows that the MOF intervened quite frequently in 2003/4 and ended up selling JPY 35trn for US dollars, resulting in a sharp increase in FX reserves.

US Treasuries were the main beneficiaries as Japan’s holdings of Treasuries (as reported in the Treasury annual survey) increased by $320bn, accounting for 85% of the total increase in FX reserves from June 2002 to June 2004. Although the long-term impact of these purchases is tough to judge, as rates were quite volatile, (led by the convexity hedging episode, and improving economy) there is some evidence of short-term impact.  Figure 8 shows the regression between MOF purchases of dollars and the change in 10y rates on the day of the intervention (adjusted for the move in front-end rates). Larger interventions were accompanied by a larger rate rally. Japanese investors already seem to gearing up for some sort of intervention. Figure 9 shows that they bought $60bn in foreign securities (stocks, bond and short-term instruments), in July (mostly bonds), marking a significant shift from previous months. The weekly data suggest that the pace has picked up further, to $75bn, in August. The investor breakdown shows that although banks accounted for a large share, other financial intermediaries also stepped up their purchases.

We view this development as a risk to an outright short position and will monitor developments closely.

Of course, another explanation is that correlation is simply not causation, and the higher the Yen rises, the more bonds Japanese investors will end up purcasing in a Catch 22, with or without an actual intervention. Which is precisely what the BoJ is hoping for. If today’s action of a massive routs in Yen carry pairs is any indication, Masaaki Shirakawa achieved his ploy… at least for now. And just in case, the rumor has yet again leaked via Nikkei that the BoJ is once again considering an emergency meeting in which only one thing can possible be discussed. Alas, as the SNB has found out the hard way, today’s speculators learn to call the bluff on central banks very quickly. Either the BOJ will follow through with action within a week, or the Yen will surge to fresh record highs.

This week’s CFTC Commitment of Traders action, submitted by Libanman Futures.

But first our summary on the key COT activity: net spec long positions in wheat futures on the CBOT and the KCBOT hit fresh records, at 36.7k and 67.6k: is more food inflation on the immediate horizon? Net spec shorts in US Treasury Bonds, and LT Us Treasury Bonds, while still just negative at -5.8k, and -2.6k, respectively, are at the highest they have been in 2010: keep an eye on this metric as a positive inflection point may be the contrarian signal to sell. At least those concerned about the price of chocolate may rest easy: Cocoa ICE futures dipped to the lowest net spec total for 2010, at 8,092k. In currencies, the JPY posted the second highest net long exposure for 2010 at +51,069 Net Spec, an increase of 1,000 from a week prior, and a far cry from the -55.7k recorded on April 13. EUR net positions also droppe notably, after hitting a 2010 high of -3,731k, the net spec contracts have declined to -21.6k as of August 24.

General Commodities:

Financial Options:

In this week’s update on technical chart formations, Goldman’s John Noyce has nothing optimistic to tell clients. Noyce observes that while the market may have entered a short-term consolidation period with the 1,038-1,045, “looking further out the setup on the weekly charts of the S&P and the VIX, plus those for broader asset markets – fixed income in particular – make us think that a sustained bounce is unlikely and that broader risks remain on the downside.” Yet the most interesting chart formation is the imminent flattening of the 2s30s… not here, but in the UK. Will the Julian Robertson “suicide” trade shift across the Atlantic?

And other key observations on the SPX:

The setup on the weekly chart still looks very heavy – The market moving lower following the bearish weekly reversal which was posted two weeks ago:

• As discussed previously this was the third bearish weekly reversal pattern posted this year. Each one being posted from a marginally lower high  (January 1,150, June 1,131 and August 1,129). This seems to be a signal that the market has lost the momentum associated with the ‘09 uptrend.
• Looking at the market broadly a large Head and Shoulders like structure still appears to be in the process of forming (bearish).
• So while it’s reasonable for the market to consolidate, eventual further downside appears likely.
• To point to stabilisation we’d really need to see a weekly close above the June high at 1,131.
• The ultimate target of the H&S top is approximately 900.

Some other asset classes:

AUDUSD attempting to make a sustained break below the 0.8870-0.8840 pivot region

• Given the high correlation between AUDUSD and equities, the fact that the S&P has moved to support and entered a period of consolidation argues it’s reasonable that AUUSD does the same and consolidates around the 0.8870-8.8840 pivot.
• However, thinking further out, the overall setup continues to look heavy.
  • The bounce from the July lows took the form of a wedge, an exhaustion pattern which usually culminates in relatively sharp and extended downside corrections (AUDUSD has previously formed similar patterns prior to sharp corrections)
  • The eventual move below the 0.8870-0.8840 pivot which this implies would complete an H&S top targeting 0.85 and should also argue that the recovery from the May lows to the August highs was an ABC correction in Elliott terms
• Taking all of the above, plus developments in correlated markets as discussed on the following slides, into account, it’s very difficult to argue that AUDUSD is going to stabilise quickly. Further downside looks very likely eventually.

Those who are riding the AUD higher (whether vs the USD or the JPY) may want to consider the following:

AUD’s yield advantage is being eroded – Australian 2-year yields have now broken lower from their recent triangle like consolidation, If viewed as a double top the immediate downside target is now 4.08%.

The Australia/U.S. 2-year spread is also turning lower…

• The structure of the rate spread is quite different to that of 2-year Australian yields alone.
• But the implications are similar, the divergent wedge like move into the 76.4 retrace of the sharp drop from the wides of the previous cycle set in  February ‘08 implies a significant narrowing in the rate differential is likely.
• The chart [above right] shows the Australia/U.S. 2-year spread overlaid with AUDUSD. The two have remained well correlated over the past three months. Therefore it’s very reasonable to think a continued in the spread would be AUDUSD negative. Currently AUDUSD already looks a little over-valued relative to the level as implied as “fair value” by the spread (as highlighted by the blue box on the chart above).

And possibly the most notable observation: the imminent tightening of a Treasury Curve – this time that of the UK 2s10s, which we are confident will be the next major pain trade.

The market is now breaking materially below the 55-wma for the first time since July ‘08

• The 200-wma as an extended target stands nearly 200bps below current levels. Very close to the prior cyclical peak/wide for the curve from March ‘03.
• Fiscal austerity leads to low rates for a long time and a reach for yield further out the curve?

Anyway, all this is probably completely irrelevant, as are all fundamentals (after all, who knows who the next idiot HP/Dell combination is that will pay 4 times fair value for some non-descript company). The only trade is and has been since March 2009, to frontrun the Fed, and/or to be faster than the bulk of the sheep investors, and to hopefully beat the computers are their own frontrunning game. Everything else is sure to generate losses.

For those who do care, the full Noyse presentation can be found here.

In this week’s Big Interview, the WSJ’s Simon Constable interviews Robert Shiller who flat out says that an economic double dip may be “imminent.” This compares to his earlier warning that he saw the chances of a double dip at over 50%. Guess that probability has now doubled. Notably, Shiller also believes that when the NBER looks back at the data, Q3 of this year will mark the beginning of the second dip of the recession. Ironically, since up to now the previous recession has never actually officially ended, very soon the NBER will merely confirm that the recession which started in December 2007, will have continued for three years, in what is possibly the longest recession on record. Furthermore, those looking to sell houses are advised not to listen to the interview, as the co-creator of the Case-Shiller Home Price Index also added that he
is worried housing prices could decline for another five years. He
noted that Japan saw land prices decline for 15 consecutive years up to
2006. Following up on this week’s weakest new home sales data in history this should probably not come as a big surprise to most. Also for bond fans, Shiller confirmed Rosenberg’s view that bonds are not in a bubble. Hopefully Mr. Shiller bond prophecying skills in bonds are better than in houses, where it was mostly in hindsight in early 2007 when the bubble had already popped.

So sit back, grab some popcorn and listen to this 20 minute interview on how GDP is about to take a leg down, and buy some stocks (or not, the robots already front ran your decision before you even thought of it), cause in the new very inappropriately named normal one does the opposite of what one does in a normal world.

From Elliot Spar of Stifel Nicolas

Selling the opening rally worked again. How easy is this becoming? The bears were on their way to the bank after the Intel pre-announcement but I don’t think they stayed on the Fidelity green path. Everyone got short and then the Bernanke prepared statement said the Fed stands ready to act. When traders realized that INTC was going to reopen flattish, the buyers came back in a big way. Did anyone notice that the key 1040 level held on the S&P 500? How about that VIX? It held below Wednesday’s peak. What’s next? There are overhead down trend lines that have to be taken out in
order to change the short-term trend:

Down Trend lines:      SPX 1070
                                 Nasdaq Comp 2160
                                 RUT 605 (a bit above now)
                                 NDX 1810
Bottom-line: 1040 is your stop out point on the S&P 500 for your long market type stocks.

COMMODITY IN FOCUS
October Crude Oil
CL/V0 1 74.27 (+ .91)
Bulls have a lot of work to do here. First down trend line at 74.50 and then 76. A slippery chart.

INTEREST RATES IN THE NEWS
10 Yr. Treasury Yield Index TNX 1 26.29 (+ 1.30)
Looks like a key reversal day. A close above 25.80 would be another plus for the TNX. Next resistance up at 26.80 area.

VOLATILITY INDEXES IN FOCUS
VIX, VXN, RVX
Today’s drop has them all testing up trend line support. A clear break implies higher stock prices.

Full report (PDF)

Presumably this is in response to the ongoing lock out of Michael Mayo, who as Fox Business previously reported claims Citi is cooking its books by misreporting its deferred tax assets, by Citi management. We assume the letters are of a congratulatory nature, and commend Citi management on alleged ongoing fraud, also sharing tips on how the firm’s HFT traders can flash dash its worthless stock to a few trillion/share, guaranteeing that unlike in daily isolated flash crashes none of the transactions will be D/K’ed.

The analyst, Mike Mayo, of the securities firm CLSA, has been telling investors that Citigroup (C: 3.68 ,+0.02 ,+0.68%) should take a writedown, or a loss on some $50 billion of “deferred-tax assets,” or DTAs. That is a tax credit the firm has on its financial statement that Mayo says is inflating profits at the big bank by as much as $10 billion.

For that critique, Mayo has been denied one-on-one meetings with top players of the firm, including CEO Vikram Pandit, Chief Financial Officer John Gerspach, and any other member of management, while other analysts enjoy full access to the bank’s top executives, FBN has learned.

More here.

More as the fluid situation solidifes:

Gasparino’s sources say the SEC has sent Citi at least two letters asking them to justify their accounting DTAs in question by Mayo. Citi tells Gasparino “We are in continuous contact with our regulators, including the SEC, as part of its normal comment and review process on our SEC filings.  We respond to all such comments in due course.”  In addition, Citi told Gasparino: “We will meet with Mr. Mayo in due course.”