Chart Presentation: Trend Thoughts

Mar 7, 2012 Volume 66 Issue 1

Chart Presentation: Trend Thoughts by Kevin Klombies Yesterday's asset price sell off was likely one of two things. It was either the start of yet another period of crisis or... a much less serious correction of the trend. The former will tend to go with rising gold prices while the latter will feature gold correcting with other assets. Let's set the stage somewhat. The price

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of gold peaked in August of last year. This is the trend (i.e. declining gold prices) that we believe that we are still in. We can always be wrong but... this is our premise. Just below is a chart of the S&P 500 Index, the sum of the Canadian and Australian dollar futures (CAD plus AUD), and the ratio between the pharma etf (PPH) to the SPX. Let's start with the PPH/SPX ratio. Notice that it has gone through a few trend changes over the past five or six months. The ratio rises when the markets get more defensive and then declines when money starts to move towards into the cyclically aggressive sectors. Up and down and up and down. All of this has taken place within the back drop of weaker gold prices. When the PPH/SPX ratio starts to rise it means that the commodity currencies are turning lower. The commodity currencies trend with commodity prices so relative strength in the pharma stocks tends to occur when there is weakness in the commodity currencies and commodity prices. The S&P 500 Index is still locked in with the commodity price trend and has tended- for years- to trade in the same direction as the Cdn and Aussie dollars. If this is nothing more than a correction then the commodity currencies have to sell of far enough to find some kind of sustainable intermediate-term low. We are not arguing that the SPX can't go lower because it most certainly can. It could easily lose a 100 points on the way back to the 200-day e.m.a. line (around 1270). Yet a correction back to 1270 would still be a correction within an overall rising trend. Best case? Just another crazy counter-trend Tuesday. Most likely case? A short-term correction bottoming this month and pushing higher through the second quarter. Equity/Bond Markets Below is a comparison between Bank of America (BAC) and the ratio between gold and the CRB Index. The gold/CRB Index ratio held between around 1.2:1 and 2.2:1 from the early 1980's into the end of 2007. The flat trend for the ratio went with a powerful bullish trend for BAC. The subprime crisis that began in 2007 blasted BAC down through the bottom of its trading channel as the gold/CRB Index ratio exploded to the upside. Our argument has been that weakness in gold prices will go with some kind of recovery for the banking stocks. In other words... asset price weakness with a rising gold/CRB Index ratio suggests 'crisis' while periodic sell offs in the face of weaker gold prices are consistent with a recovery. Next is a shorter-term view of the gold/CRB Index ratio along with the combination of the Japanese 10-year (JGB) bond futures times the Japanese yen futures. The argument from a few days back was that the JGB times yen had reached critical support. A bounce up off of support is to be expected so the key is how the gold/CRB Index responds. The bullish trend for the equity markets began late last summer once the gold/CRB Index ratio reached its peak. If the ratio resolves to new highs this month then we are tipping back into a state of crisis. This is not, of course, what we are expecting. So... what was yesterday all about? A much needed decline in the commodity currencies and... the failure by China's stock market (Shanghai SE Comp.) to rise above its 200-day e.m.a line. The chart below shows that the Shanghai Comp. failed at this level last July which led to falling 30-year Treasury yields AND a rapid escalation of the gold/CRB Index ratio. The Shanghai Comp. up through 2500 would go some way towards settling things down over the next few weeks. About the Author Kevin Klombies is a prolific writer and market analyst. After graduating in 1980 from the University of Saskatchewan with a Bachelor of Commerce degree (Honours) in Finance/Economics, he was a broker for about 16 years for Wood Gundy Inc./CIBC Wood Gundy (changed name around 1990) Private Client Division. While at Wood Gundy, he began to create the intermarket work that would later become the IMRA newsletter. He recalls starting with a DOS version of Metastock that he used to print out charts, drawing lines on them with a pen and ruler and taping them together upside down (at times). The first market review that he put together was in 1988 and was based on annual percentage changes in U.S. M1 versus the equity markets. It ended up going from desk to desk right to the Bank of Canada, which said there was, in fact, no relationship between money supply growth and the equity markets (“which probably explains why I have so little respect for central banks,” he says). Klombies says his broker career was uninspiring, mainly because he spent way too many hours running charts and too little time prospecting for business. He found that what he liked best was analyzing the markets and what he liked least was selling, marketing, and client service. So he eventually left the business and continued to work on the analysis while doing some trading and consulting. He has been featured on a number of web sites, interviewed by Reuters TV in London and marketed by Agora Inc. (Daily Reckoning, etc.), but the majority of what he does is done privately and quietly.