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Update: Energy, Metals, Stockmarket, Interest Rates

Bob Hoye
Institutional Advisors
May 25, 2009

Signs of The Times

Last Year:

"Is the Financial Crisis Over?"

This was the headline on the Investment Round Table held in Singapore on May 15, 2008. Jesper Koll, the head of Tantallon Research in Japan, gushed about the Fed's handling of last year's crisis:

"US policymakers deserve the Nobel Prize for applied economics. The policy response to financial asset deflation was not only extremely fast, but extremely well coordinated... [And] the second-round effects of asset deflation have been contained."

There is something about interventionist theories that to certain mentalities seems the equivalent to cat nip - particularly in May, which can often record a financial "silly season".

Well, we are not sure about Koll's count on "second-round" effects, but by our count this is the first big rebound out of a classic fall crash, that typically become enthusiastic in May. This was the case in 1930 and 1874.

Also, there is another "count" running. The high for the stock market was in October 2007, which was some 20 months ago. Twenty months after the end of the bubbles in September 1929 and September 1873 counts out to May of 1931 and May of 1875 when those post-bubble contractions began another nasty phase.

With appropriately-timed "joy" being expressed now, another turn to disaster seems difficult to avoid.

* * *

This Year:

News reports show considerable contrast. Some are of economic disaster, but by way of always late reporting are of an historical nature. Others, with more immediacy, are very bullish.

"Evidence is piling up that the worst of the recession is over." -AP, May 8, 2009

"Recovery to be A Powerful V-Shaped Recovery" -Bank of England, Telegraph, May 10, 2009

"Credit Crunch Dulls Glitz of Cannes Festival: Parties Cancelled, Yachts Empty" -Reuters, May 19, 2009

"World Regains Taste For Risk" -Wall Street Journal, May 11, 2009

"White House Sees 3.5% Growth by Year-End" -Bloomberg, May 11, 2009

Well, we wondered where Abby Joseph Cohen would end up.

"China Optimism Prompts Investors to Load Up on Commodities" -BMO Global Commodity Strategy, May 12, 2009

* * *


Energy Prices: We have had a target of 58 to 60 for crude and as with other items the action has been rather good this week.

Reaching 62.26 yesterday brought the RSI up a long way from less than 30 early in the year. The main point is that this has been good action and at the right time for a seasonal reversal.

Oil stocks (XOI) reached their best at 992 on May 12, and this matches the 993 reached in January, which we have had as target. There is considerable resistance and our last edition advised to start selling. There is often a seasonal decline into July.

Natural gas often lags crude and got in gear on April 27 at 3.25 and jumped to 4.57 in only three weeks. It has since slipped to 3.70, which could lead to an intermediate decline.

From when we made the call for a weaker dollar on March 9 gas stocks (XNG) rallied from 300 to 453 on May 10. Our May 7 edition noted that they might not do as well as base metal or gold mining stocks had done and advised some selling. The set back has been to 404 on Friday and the rebound has made it to 440. This is likely a test and should be sold.

There is too much bullishness on commodities and bearishness on the dollar and it is time to sell both oil and gas stocks in preparation for an intermediate decline.

Base Metal Prices extended the decline today, encompassing all five that we monitor. After plunging 6% yesterday, lead fell 1% today, which says that the canary died. Our index (excluding nickel) reached 423 on April 15, corrected to 371 at the end of April. The rebound made it to 425 on May 7, and is at 399 today. The 6% decline is interesting and taking out 385 sets the downtrend.

Our May 7 edition concluded: "Momentum for metals is at levels seen at previous important highs and for stocks it is exceptional - at the right time for selling." That edition also noted the Upside Exhaustion reading for copper, that had not been seen since the cyclical high two years ago. The red metal reached 4.25 and a test and rolling top would be the killer pattern. This is working out.

Mining stocks (SPTMN) set their high at 609 on May 8, and slumped to 494 on Friday. The test made it to 574 and, obviously, taking out 494 sets the downtrend.

We bought the sector at as low as 178 in November and December on the crash as well as on the seasonal low. The target has been the initial rebound out of a crash to around May, as well as the seasonal rally into spring. It is time to be absolutely out and traders to play the short side.

Gold Sector: During the February troubles, gold's nominal price and the Dollar Index went up as the stock market slumped. This was interesting as it was not according to goldbug dogma. Financial markets seem ready for another phase of trashing, and it is possible that gold could increase in dollar terms again, as the dollar firms against most currencies and commodities.

The problem is that big gold stocks will likely decline with the NYSE - again. However, over the next year or so, golds will accomplish outstanding gains as the NYSE suffers outstanding declines. Some profits could be taken on the senior golds and traders could begin to short the big silver stocks.

In the meantime, gold's real price will be the driver for the industry. One of the features of every post-bubble contraction has been a rising price for gold relative to the CPI, or against commodities. Our Gold/Commodities Index reached a cyclical low of 143 in May 2007, and turned up as the credit markets turned down.

With the crash our index soared to 519 in February, when we noted that it could decline as orthodox investments, such as commodities and junk bonds rallied into May. The index declined to 353 on May 12 and has recovered to 357. Stable to rising would be a warning on the expiry of the recovery in the "good stuff".

Another important indicator of changing fortune is the gold/silver ratio, which has been expected to decline into May. With the crash, this soared to 88 and it has declined to 64.1 - also on May 10 - when the real price stopped going down. The ratio often increases going into the discovery of a credit problem, and if it is severe, as in last fall, silver can dramatically plunge relative to gold.

Some have wondered why, in the face of another slide in the price of senior golds, we have been accumulating smaller caps on weakness. Well, it is the only time that they can be accumulated, and for bigger accounts it could take any number of months to get positioned. Funds that can could participate by taking down financings.

After such outstanding gains we are carrying a fair amount of cash that should not be fully employed on the short side. As to small-cap golds - the party could be starting by early in 2010 and rolling by this time next year. Always look to the bright side.



You can feel the excitement. The financial world is as it ought to be and last fall's classic crash was just a modest speed bump on prosperity's natural road. However, we have been expecting a classic rebound out to around May - and this we have, such that the S&P has generated a good overbought on our Summation thing. This is within a downtrend. The Upside Exhaustion readings register at cyclical highs.

Stock market sentiment is high, and flying with official sentiment about the economy. Support has also been expected from stronger base metal and crude oil prices, which is the case. Of course, this would be accompanied by the elixir of a weaker dollar.

We are reaching extremes for the move, and now we look for change. One big one would be the S&P setting a new weekly low, but there could be others before that.

Of interest is yesterday's downtick in metal prices. Zinc fell 4.7% as lead plummeted 6%, which makes one think about lead canaries in a coal mine.

There is some irony in this section's opening paragraph about things being as they ought to be. The street thinks that this "ought" to last, ours is that it is the set up for the next phase of the contraction that has been likely to become evident after June.

Of course, not all sectors will peak at the same time, and our advice is that while the panics provided buying opportunity this month's action is providing the exit.

More specifically, we bought the banks (BKX) in early March for the rebound, and exited the position at the double in mid-April. On April 23 we noted that the high needed a test and that one was exuberant on the rush to 43. Taking out 36 would turn the bank index down.

Our proprietary Bank Trading Guide, which turned up from 120 early in the year rallied to 154 on May 12. This has corrected to 149 and if this turns down it would be a technical "sell" on most banks.



The Long Bond has been likely stabilize as stocks and commodities rolled over from their outstanding run. Technically, we thought that there would be support at 120 and it became quite oversold at 119.64.

So far the high has been 123.5 on Monday and this could be the high-side of a brief trading range. But, the play is vulnerable to when the next liquidity crisis takes all bonds down in price. This has been expected to become visible at around mid-year.

In late December and at 142 the action registered an Upside Exhaustion, from which a lengthy bear would follow. This can be best related in real terms as following a great bubble rates typically increase by 12 percentage points. The low was -1.5 % in January and so far the increase has been around 5 points on the way to policymakers' hell.

One of the features of the post-bubble contraction is severe rationing of credit by old Mother Nature and this has been most vividly recorded with commodities declining as rates for long treasuries increase. The CPI could decline to around -4% and the bond yield could increase to around 7%.

Credit Spreads had been expected to narrow, along with other "good stuff" out to around May.

This has been the case, and the gains have been outstanding. Junk's disaster ended with the yield at 42% in early March, from where it has declined to 26.10% yesterday. From a spread of 3800 bps (no typo) over treasuries narrowing has carried to 2195 bps.

Money market spreads have also been narrowing with the difference between treasury bills and Libor coming into nothing. This is the narrowest since August 2007 - just two months after the troubles were likely to begin.

That along with headlines that risk is again fashionable suggests the best is in. Last week the Wall Street Journal recorded "World Regains a Taste For Risk." All longer-dated corporate bonds are again vulnerable to the return to disaster expected to begin around mid-year, and should be sold.

Yield Curve: Many analysts have been bullish on banks, citing all the money that banks usually make out of a steepening curve. Well that works most of the time, but not during a post-bubble contraction. The change from inverted to steepening was likely to occur in May-June 2007. This was the case and for us it signaled the beginning of the liquidity crisis.

Recent steepening has been anticipating this, and it is worth recalling that in May 2007 the curve led widening of spreads.

Currencies: The Dollar Index was expected to decrease from crisis highs with the fall crash to lows around May. A number of weeks ago we had a target at 82 and with the dynamics of the party the decline ran to 80.8 today. The action is approaching enough of an oversold to end the decline.

This condition is important because it is in conjunction with similar readings on the other items likely to reach extremes around May. This week has added to the increase in the Canadian dollar. At 88 it is time to look for the change to an intermediate decline.


May 21, 2009
Institutional Advisors

Hoye Archives

The opinions in this report are solely those of the author. The information herein was obtained from various sources; however we do not guarantee its accuracy or completeness. This research report is prepared for general circulation and is circulated for general information only. It does not have regard to the specific investment objectives, financial situation and the particular needs of any specific person who may receive this report. Investors should seek financial advice regarding the appropriateness of investing in any securities or investment strategies discussed or recommended in this report and should understand that statements regarding future prospects may not be realized.

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