Tuesday, December 31, 2013

Sunday, December 29, 2013

BEAR MARKET BOTTOMS: ONCE-IN-A-LIFETIME OPPORTUNITIES

Last week I wrote an article on why I think the bull market in stocks is coming to an end. As usual the retail public is chasing a move that is extremely mature and ripe to reverse, while assuming that the  current trend will continue. Amateurs always make this mistake at tops ... and bottoms. Their emotions tell them the move will continue indefinitely. It never does.

As you can see in this next chart, dumb money traders are becoming more and more confident the further this parabolic move progresses. Professional traders, on the other hand, get more and more nervous as the market stretches further and further above the mean. 


Source: sentimentrader.com

I can assure you we are not done with the secular bear market in stocks that began in 2000. All the Fed has managed to do is blow another bubble in the stock market. And this bubble has again reached levels of overvaluation that will eventually collapse the market just as was the outcome in 2007.

The following chart illustrates that the stock market's P/E ratio is again at a historically extended level. The current reading of 26.30 is at a level where most bull markets top. Also, notice the extreme overvaluation in 2000 (P/E ratio of 45). This overvaluation was not corrected by one brief move back to the historical mean P/E ratio of 15; an overvaluation as extreme as what culminated in 2000 requires a corrective move that is equally extreme in the downward direction. An overvaluation as extreme as what occurred in 2000 is going to require a move just as extreme in the opposite direction before we finally clear this market of the excesses that were created during the tech bubble, and exacerbated by the real estate bubble. 

I don't expect this secular bear market will be finished until we reach P/E ratios similar to 1932.




On the other hand, while retail traders are chasing the bubble, professional traders are looking for real opportunities. I think I can say without any hesitation, real opportunity is not going to be found in the stock market after a five year bull run.

Opportunities are found at bear market bottoms. For those emotionally capable of going against the herd, buying a bear market bottom is where the really big money is made.

As a matter of fact if one can pick a bear market bottom the initial surge will often gain 40%-100% in the first few months. These kind of gains certainly make it worth the frustration and whipsaws that are almost always incurred trying to pick a final bottom. The following three charts of the S&P 500 (1982, 2003 and 2009) illustrate this point.







Not surprisingly the more severe the bear, the more violent the rally is once the final bottom has formed, and the bigger the bull market that follows. 

Here are two examples of extreme bear markets, and the initial rallies off of those final bottoms (HUI - Gold Bugs Index 2000 and 2008).





Now let me show you one of the most extreme bear markets of the last 30 years (GDXJ - Junior Gold Miners Index ETF).



While retail investors are blindly plowing money into an overvalued, overextended, overbought and parabolic stock market, professional traders are quietly accumulating massive positions in preparation for the end of one of the most severe bear markets in decades.



Once we have confirmation that the final bottom has been printed, I'm expecting at the very least an initial surge over the first 3-4 months to test the 2012 resistance zone. That would be a move of almost 100% (see HUI chart below).



I'll say it again; picking bear market bottoms isn't easy. Very few people have the patience, conviction and endurance that it takes to survive the volatility of a bear market bottom. Especially when everyone else they know is making money buying into the latest bubble. But human nature never changes, and those people always get caught when the bubble pops. Tech investors, real estate investors, and possibly Bit Coin investors come to mind.

In contrast, the few traders that can hold on and survive a bear market bottom become the millionaires and billionaires of tomorrow.

Friday, December 27, 2013

Thursday, December 26, 2013

Wednesday, December 25, 2013

ANOTHER BUBBLE LOOKING FOR A PIN

Well the Fed in its infinite wisdom has gone and done it again. They've created another bubble. And this bubble is arguably the 6th in the last 13 years (tech, real estate, credit, bond, oil, and now stocks - again). And let's footnote the Fed's creation of the present echo bubble in housing, for good measure.

If one steps back far enough they can see what's really happening. The Fed has now manufactured a parabolic move in the stock market. This parabola is much more aggressive (and thus even more unsustainable) than witnessed at either the 2000 or 2007 stock market tops.



Now here is the problem - parabolas always collapse. There are never any exceptions. When the pin finds this bubble it's going to take down not only our stock market, but unleash a destructive force on the global economy.



At some point profit taking starts as nervous professionals fearing a regression to the mean event start to lock in profits. As the big institutional money starts to come out of the market the selling begins to accelerate and the losses quickly mount. 

The steeper the parabola the quicker the losses once the parabola breaks. It's not unusual to see 3-6 months of gains evaporate in the space of days when one of these structures collapses. I have a pretty good idea the level to which this market will fall initially, once the break begins; more on that in a minute.

The path creating this unsustainable market behavior began in 2011. If the Fed had just allowed the market to correct naturally and drop down into its 4 year cycle low in 2012 we would probably now be on a sustainable path into another secular bull market. 



Unfortunately the Fed made a catastrophic mistake. Instead of allowing the market to function naturally they began operation Twist, then LTRO, then QE3 and QE4. The result as you can see in the first chart is they've created a huge unsustainable parabolic move in the stock market. Try as they have to prevent corrections, the longer they allow this to continue the more devastating the crash is going to be when the market breaks.

Based on the extremely stretched nature of the current intermediate cycle (week 27) I'm looking for a top and the start of the collapse early next year. Possibly as we begin earnings season. If one is in the market trying to catch the last few percent of this upside price movement, please understand we are not in an investor environment this late in the bull market. This is short term trading only and at the first sign the crash has begun, get out and stay out.

Margin debt and money market funds are at levels indicating retail investors are now all in like they always are at market tops.




Source: sentimentrader.com

I expect we are going to see the market fall precipitously to test the previous bull market tops and erase most of last year's gains in a matter of days or weeks. At that point Yellen will panic and all thoughts of tapering will vanish. As a matter of fact I expect the Fed will increase QE, maybe drastically, to try and reflate the parabola.



But the Fed's likely attempt to reflate and sustain the stock market will be futile, as the damage will already have been done. All they will accomplish is a violent echo rally common to all collapsing parabolas. From there the bear market will have begun and the more QE the Fed throws at the market, the more and faster the liquidity will leak into the commodity markets until inflation completely destroys the economy and the next recession gets underway.

The Fed thinks they are creating a "wealth effect". All they've really done is sow the seeds of the next crash.  

Tuesday, December 24, 2013

Monday, December 23, 2013

Sunday, December 22, 2013

EARNINGS SEASON COULD BRING THE BEAR OUT OF HIBERNATION

It's been my theory for some time now that this QE driven bull market would top either in late 2013 or early 2014, followed by a multi-month stagnation process as liquidity leaked into the commodity markets.



At almost 5 years this bull market is right up there with the three longest bull markets in history. Sentiment and complacency have reached levels typical of a bull market top. We are clearly well into the final parabolic euphoria phase of the bull.



The Advance-Decline line has started to diverge.



Market breadth is deteriorating; this often happens at intermediate tops.



Money flows are also diverging. Another warning sign that is often seen at intermediate tops.



Even more concerning is the fact that this intermediate rally will be on week 27 next week. Most intermediate cycles bottom by week 20-24. QE 4 is stretching not only this intermediate cycle, but the previous intermediate cycle before it. This has in effect stretched the market extremely far above the mean, guaranteeing an exceptionally violent decline when this house of cards breaks. The Fed hasn't done us any favors by artificially pushing the market much higher than it should've gone naturally. All they have done is guarantee an exceptionally severe selloff when the market finally corrects.

We've clearly been in the euphoria phase of this bull market throughout 2013, and I expect this will continue through the end of the year and maybe into the beginning of earnings season. However, I expect we are going to see a very sharp move down in stock prices as we move through January and into early February.

For those inclined to enter short positions or long term put positions in preparation for the next bear market, I think they could do so when and if the NASDAQ reaches its initial 2000 recovery high of 4250.



I think 2016 puts on the QQQ or SPY could pay off 1000% or more over the next two years. Remember never risk more than 5-10% on an option position. 

More in the weekend report.

Friday, December 20, 2013

Thursday, December 19, 2013

Tuesday, December 17, 2013

Monday, December 16, 2013

Saturday, December 14, 2013

Friday, December 13, 2013

Thursday, December 12, 2013

Wednesday, December 11, 2013

Tuesday, December 10, 2013

Sunday, December 8, 2013

BEAR MARKET BOTTOMS: SMART MONEY BUYING OPPORTUNITY

In this business there is no greater buying opportunity than at a bear market bottom. For those few investors able to control emotions, delay gratification, and go against the crowd, a bear market bottom is where millionaires and billionaires are made.

Unfortunately for the vast majority of traders, emotions are much stronger than logic. Most people when they see a market that has gone up for five years automatically assume that it's going to continue to go up. And because everyone else is getting rich and they don't want to be left out, they jump on board too. 

In reality a market that has gone up for five years is all that much closer to a top and the upside potential is limited, not exponential. Unfortunately at market tops traders are unable to think logically and all they know is that the money is coming easy. Unfortunately when something is easy, it's usually about over.

By the same token when a market has gone down for two years dumb money investors automatically assume that it will continue to go down for the foreseeable future. Let's face it why would anyone want to buy something that is going down when you can buy stocks, that are going up forever, and get rich quick? (This is the same mentality that was prevalent in the real estate market in 2005/06.)

Again if one would stop and think logically, a market that has gone down for two years is all that much closer to a bottom. This is how smart money investors think, they think logically instead of emotionally.

In the chart below notice how the volume exploded at the 2009 low. This is a classic example of dumb money emotional selling, and smart money contrarian buying. Now after five years we have the exact opposite. Big money is slowly selling into the rally to the emotional dumb money investors. Volume is contracting.


So if smart money is selling into the euphoria phase of this bull market, one has to wonder where they are putting their money. One need look no further than the closest bear market.


Smart money understands that all bear markets eventually come to an end. They understand that recency bias is a trap that catches investors at tops and prevents them from buying at bottoms. They control emotions, delay gratification, and understand that bear market bottoms are where the greatest buying opportunities in this business are generated. As you can see big money has been coming into this market since June in preparation for a bear market bottom.

I am cautiously optimistic that gold is in the process of completing a successful test of the June lows. If I'm correct then this will turn out to be one of the greatest buying opportunities of our lifetime.


Let me stress that this isn't the time to swing for the fences. Picking a bottom in a bear market isn't easy. If you're wrong and get caught in another leg down it's going to be painful as these can often drop 15 to 20%. 

At the moment I'm watching for signs that gold has formed an intermediate degree bottom. If that bottom can hold above the June low it will confirm that June marked a final bear market bottom, and I believe the start of the bubble phase of the secular gold bull market.

In a somewhat related vein I want to finish this article by talking about inflation. The general consensus at the moment is that there is none. That of course is nonsense. We have massive inflation right now. Inflation is an increase in the money supply. 

What most people don't understand, including members of the Federal Reserve, is that inflation doesn't typically flow evenly into all assets. During the beginning stages of an inflation liquidity usually flows into financial assets, as that is where the Fed targets its efforts.

Typically during the first stage of an inflation liquidity will flow into stocks, bonds, and in our case over the last decade real estate. It's only during the second stage of an inflation when these bubbles become overvalued and pop that the inflation that's being stored in the financial markets begins to leak into the commodity markets. At that point we "label" it as inflation.

Notice in the chart below that from 2002 to 2007 inflation expressed itself as rising stock prices and a bubble in the real estate market. During this time the general consensus was that we had little to no inflation. The reality was that we had massive inflation, it's just that everyone was looking for it in the wrong place. Once the housing bubble and stock bubble began to deflate the inflation that had been stored in these markets began to leak into the commodity markets and the second stage of the inflation began. This culminated with a spike in the CRB and oil reaching $147 a barrel.


I would argue that we are now about to begin a second stage inflation again. It appears that rising interest rates have already pricked the echo bubble in the real estate market, and at five years the bubble in the stock market is almost certainly in the final euphoria stage. Once stocks begin to stagnate and rollover we are going to see that same process that we saw in 2007/08 as inflation leaks out of stocks, bonds, and real estate and moves back into the commodity markets
.

If I'm correct about gold forming a final bear market bottom then this second stage inflation is going to be an incredible driver for the next leg of gold's bull market, which I believe will probably turn into the bubble phase and top some time in 2017/18.

Friday, December 6, 2013

Thursday, December 5, 2013

Wednesday, December 4, 2013

Tuesday, December 3, 2013

THE NEXT BLACK SWAN: A DOLLAR CRISIS

Analysts everywhere appear to be wondering what could possibly be the catalyst to turn the gold market around. I maintain it's the same catalyst that drove the gold bull market from 2001 to 2011. Out of control currency debasement.

Does anyone seriously think that we can print trillions of dollars out of thin air for five years and not eventually have something bad happen? The next the black swan is already staring us in the face. It's going to be a collapse in the purchasing power of the US dollar.

Since the beginning of the year the dollar has been showing signs of extreme stress as it began to oscillate violently back and forth in what is known as a megaphone topping pattern. When this pattern breaks to the downside it is going to initiate the beginning stages of what will likely be a fairly severe currency crisis by next fall.



In this environment I think it's going to be impossible for the manipulation in the gold market to continue. As a matter of fact I got a signal last Tuesday that indicates to me that the forces trying to manipulate gold down to $1000 have probably thrown in the towel and given up, realizing that an impending dollar crisis is about to begin.

On a cyclical analysis basis, the intermediate cycle is now running out of time for a move all the way back to the $1000 level. As you can see in the chart below the average duration for an intermediate degree cycle is between 20-25 weeks. Currently gold is on the 23rd week of this cycle.



On a smaller time frame you can see the current intermediate cycle already has four daily cycles nested within it. I don't believe there is time for a fifth daily cycle, and a fifth daily cycle would be required if gold were going to make it all the way down to $1000. 

On top of that the current daily cycle is now stretched to 34 days which is already longer than 90% of historical cycles. What this means is that gold is very late in its daily cycle and a bottom is due at any time. The logical trigger would be on the employment report Friday, although I think the market will be expecting that so we may get a bottom earlier in the week.



Last week's sentiment polls are also suggesting that bearish sentiment has reached levels where the market is at risk of running out of sellers. I expect when the current weekly sentiment poll comes out later this evening we will see sentiment in both gold and silver at levels comparable to the June bottom.



Source: sentimentrader.com

To top it all off I'm starting to hear some of the usual clich├ęs that always appear at major turning points. 

"The charts are pointing down"

Folks, at bottoms the charts will always say the market is going lower. And at tops the charts will always say the market is going higher.

Then there are the numerous calls for completely unrealistic targets. I'm now starting to hear $700 price targets for gold.

I believe we are within days of a final bottom in this intermediate cycle. I think an initial 10-20% position can be taken anytime this week. Then once we get confirmation of an intermediate bottom one can start adding to that position.

I'll say it again, if one can pick, or even get close to, buying at a bear market bottom the initial move out of those bottoms are where the biggest gains in this business are made. The first two months out of the 2008 bear market bottom miners rallied 100%. I don't think it's unreasonable to expect something similar this time as this bear market has been every bit as severe as the one in 2008.

And one final confirmation before I forget. Oil appears to have put in a final intermediate bottom. Look for oil to lead the commodity complex out of this bottom.


Monday, December 2, 2013