GOLD AND THE DOLLAR ARE DROPPING TOGETHER WHICH IS UNUSUAL -- THE FALLING YEN MAY HAVE SOMETHING TO DO WITH IT -- SINCE MID-2007, GOLD AND THE YEN HAVE RISEN TOGETHER -- A PEAK IN THE YEN APPEARS TO BE DRAGGING THE PRICE OF GOLD LOWER
GOLD AND THE DOLLAR ARE FALLING TOGETHER... One of the most consistent intermarket principles is that gold (and most commodities) usually trend in the opposite direction of the U.S. Dollar. That inverse relationship has broken down of late. Chart 1 compares the Gold Trust (GLD) to the Dollar Index (UUP) over the last year. Both markets have trended in opposite direction throughout most of the year -- until recently. The dollar bottom during October coincided with a peak in gold which is normal. What isn't normal is that both market have fallen together over the last month. The 20-day Correlation Coefficient (below chart) shows their correlation turning positive. When something unusual happens in intermarket work, there's usually a reason why. Let's examine the UUP a bit closer for some clues. Although the Dollar Index (UUP) measures the dollar against six currencies, it's dominated by the Euro. The Euro is the biggest foreign currency in the UUP with a weighting of 57% (Europe's four currencies comprise nearly three-quarters of the UUP). Chart 2 shows that the Euro and gold usually trend in the same direction. That was the case until mid-November when a rising Euro coincided with falling gold. The 20-day Coefficient (below chart) turned has turned negative which is unusual. So the answer to the recent change in the gold/currency relationship doesn't come from the Euro. It may be coming from the yen.
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Chart 1
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Chart 2
GOLD AND THE YEN ARE HIGHLY CORRELATED... The Japanese yen is the second biggest foreign currency in the Dollar Index (13%). That means that yen direction has some bearing on dollar direction. That's why it's a good idea to keep an eye on the direction of the yen. Chart 3 shows a strong positive correlation between the Japanese yen and gold over the last five years. Mid-2008 was a crucial turning point in commodity and currency markets. A Euro peak (and dollar bottom) concided with a commodity peak. The two down arrows on the top of the chart show the Euro and CRB Index peaking together that summer. One currency and one commodity, however, kept rising -- the yen and gold. [Gold may have benefited from its dual role as an alternate currency]. Gold and the yen have been two of the world's strongest assets since 2008. Since mid-2008, the Japanese yen has been the world's strongest currency, while gold has been the strongest commodity. Since those two markets have been highly correlated on the upside over the last four years, it makes some sense to suggest that the recent breakdown in the yen may have something to do with the recent selling in gold.
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Chart 3
PEAKING YEN MAY BE HURTING GOLD... The monthly bars in Chart 4 show the Japanese Yen peaking. After breaking a five-year support line during October, the yen has now slipped below its early 2012 low near 120 (red circle). That bearish action has ended the uptrend in the yen that started in the middle of 2007. The monthly MACD lines (below chart) have turned negative as well. The recent drop in the yen (and upturn in Japanese stocks) is largely due to the recent election in Japan favoring more quantitative easing to weaken the yen, boost Japanese exports, and end the deflationary spiral that has infected that country since 1998. A falling yen is more inflationary than deflationary for that economy. The falling yen may be effecting gold. Chart 5 shows a close visual correlation between the two markets over the last eighteen months. That was most obvious early this year when the yen tumbled, and again since October. In both instances, the price of gold fell with the yen. Although the dollar has been weakening against other currencies, it's been rising against the yen and in a big way. That doesn't necessarily change the long-term inverse relationship between the dollar and gold. It simply suggests that the collapse in the yen during the fourth quarter may explain why gold (and other commodities) have not responded to the falling Dollar Index. Given enough time, the dollar/gold relationship should revert back to its more normal pattern.
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Chart 4
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Chart 5
TRANSPORTATION STOCKS TURN UP... Transportation has taken a leading role in the market rally. The weekly bars in Chart 6 show the Dow Transports breaking through the upper trendline in a triangular formation which has bullish implications. The chart also shows that the 2011 peak coincided with a similar peak formed during 2008. The transports may get another chance to retest those previous peaks. The most direct way to buy the transports is through the DJ Transportation iShares (IYT). Chart 7 shows the IYT turning up over the past month and within striking distance of a new 52-week high. The solid matter shows the IYT/SPX relative strength ratio turning up sharply since October. It's usually a positive sign when economically-sensitive transportation stocks are in a leadership role. I recently showed some airline stocks achieving bullish breakouts. Today's leader is a rail stock. Chart 8 shows Kansas City Southern (KSU) challenging two previous peaks around 84. A decisive close above that level would put this rail leader at a record high.
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Chart 6
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Chart 7
