WHY GOLD CAN DO BETTER THAN GOLD STOCKS -- SILVER HITS 22-YEAR HIGH -- A COUPLE OF SILVER PLAYS -- ECB RAISES RATES, JAPAN IS NEXT -- YIELD ON 10-YEAR T-NOTE ON VERGE OF UPSIDE BREAKOUT
WHY BULLION CAN LEAD GOLD STOCKS FOR A TIME... Earlier in the week I made the observation that, at the moment, bullion might be a better bet than gold stocks. Naturally, I got a lot of e-mail questioning that view. After all, I've written in the past that gold stocks normally lead bullion in both directions. That's very true. But there's more to the story. Gold has its strongest upmoves when gold and gold stocks are rising together. When gold stocks correct downward, or enter a period of consolidation, the uptrend in gold may stall. But, at such times, the commodity will still do better than the stocks. In other words, the commodity and its related stocks take turns leading to the upside.
Chart 1
A STUDY OF THE GLD/XAU RATIO ... The gold line in Chart 1 shows the major uptrend in bullion that started in 2001 (represented by GLD). The black line is a ratio of the Gold & Silver (XAU) Index divided by the GLD. During that five-year uptrend, there were two periods when the commodity outperformed the XAU. That was from the middle of 2002 to early 2003 (first gold arrow) and from the start of 2004 to the middle of 2005 (second gold arrow). Both occasions when gold stocks underperformed, the rise in the price of gold slowed but didn't fall by much. Through 2004 and the first half of 2005, the commodity was a better place to be. From the middle of 2005 until recently, gold stocks did better. If you study the ratio, you'll see that it tends to peak over 2.50 and bottom under 2.00. That gives us a historical benchmark to measure the relative strength swings. A rise in the ratio from under 2.00 means that the stocks should do better than gold (black arrows). Pullbacks from over 2.50 means that the commodity should do better for awhile (gold arrows). That's essentially what I was trying to say earlier in the week. I remain bullish on the major trend of gold and gold stocks. The short-term pendulum, however, appears to have swung in favor of gold over gold stocks (Chart 2).
Chart 2
SILVER'S DOING EVEN BETTER THAN GOLD... While everyone is watching gold, silver is doing even better. That industrial/precious metal broke out to a new 22-year high yesterday. The black line in Chart 3 shows silver trading over $10 for the first time since 1984. It may also come as a surprise to read that the price of silver has been rising even faster than gold over the last three years. The green line in Chart 3 is a ratio of silver divided by gold. Although gold did better from 1998 to 2003, the ratio line has favored silver since then. At present, there's no Exchange Traded Fund for silver. But one is on the way. The SEC is mulling over one right now and its approval is anxiously awaited. Some people believe that the recent silver rise is in anticipation of the new ETF. I suspect it's the other way around. From a macro-standpoint, the more important point is that gold and silver normally trend in the same direction. They may take turns leading one another, but the major trend of both is higher.
Chart 3
TWO SILVER PLAYS ... Although most of the stocks in the Gold & Silver (XAU) mine gold and silver, the next two stocks are more closely tied to silver. And, not surprisingly, they're both doing very well. The weekly bars in Chart 4 show Coeur D Alene Mines (CDE) having recently broken out to a new two-year high. Notice the heavy upside volume since the start of the year. [And this been happening while gold stocks have been pulling back]. The relative strength ratio for CDE also shows a nice rounding bottom and a new uptrend since the start of the year. The weekly chart of Pan American Silver (PAAS) is even stronger. Chart 5 shows that silver stock having just completed a two-year "triangular" consolidation and a move to new record highs. Upside volume has been impressive and the RS line is at a new record.
Chart 4
Chart 5
GLOBAL RATES ARE HEADING HIGHER ... Yesterday's decision by the ECB to raise rates was pretty much expected. What wasn't expected was the hawkish comments that accompanied that rate increase with hints of more to come. The Japanese have been talking about doing the same and may do so before the month is out. From a global standpoint, I find the impending Japanese move to raise rates more significant. For one thing, Japan is the second biggest economy in the world. Another reason (that I've written about before) is my belief that Japanese deflation has been one of the reasons that long-term bond yields have stayed so low. Yields on the Japanese 10-year bond rose this week to the highest level in eighteen months (1.64%). It was reported this morning in Tokyo that core consumer prices rose 0.5% in February which is the highest since 1998 (when global deflationary problems started). Earlier this year, I wrote about the correlation between with the rise in the Japanese stock market (which hinted at an end to Japanese deflation) and the rise in gold. Both are pointing to higher global inflation and interest rates. Up to now, only the U.S. has been raising short-term rates which may explain why bond yields have stayed down. With the rest of the world starting to raise rates as well, I suspect that bond yields are finally starting to move higher. Chart 6 shows how close they are to doing just that.
Chart 6
10-YEAR T-NOTE NEAR UPSIDE BREAKOUT... The yield on the 10-year T-note is right up against the highs reached last November and again last spring. A close over 4.7% would put the TNX at the highest level in eighteen months and set the stage for a test of the spring of 2004 peak at 4.90%. The standard definition of an uptrend is a series of rising peaks and troughs. The chart shows a series of rising troughs since the middle of 2003 (red arrows). What we haven't seen (yet) is rising peaks. A close over 4.7% would fulfill that requirement and leave little doubt that long-term rates are finally headed higher. That would be bearish for bond prices (which fall when yields rise). It's a mixed message for stocks. Over the short run, it could be supportive. That's because some money coming out of bonds should find its way into stocks. Rising bond yields also hint at economic strength (witness today's strong report on the U.S. service industry), and should help relieve recent concerns about a negative yield curve. One area that would continue to suffer is housing, which is why homebuilding stocks continue to fall. Historically, bond yields turn up (and bond prices turn down) before stocks do. Chart 7 compares the trends of the S&P 500 (green line) with the price of 20-year T-bond iShares (red line) over the last year. Higher bond prices (and low yields) have been supportive to the stock market. To the far right, however, we see bond prices starting to fall. That's an early warning that the bull market in stocks may be on borrowed time.
Chart 7
