Roger Wiegand: Despite Economy's Ills, Commodities Rally Has a Way to Go
Source: The Gold Report††(7/15/08)
As if the past few months haven't been ugly enough, newsletter editor (Trader Tracks) Roger Wiegand sees an ever-harsher reality looming. That bodes well for gold, as Wiegand predicts the onset of the biggest gold and silver rally in history.
TGR: Roger, when we spoke in March, Bear Stearns was dominating the news, and the marketís really gone down in terms of all the financials ó weíre hearing about Lehman Brothers losing $6 billion; Citibank has larger-than-expected losses; Merrill Lynch opened down today and I presume Sovereign Bank opened down today, too. Do we expect the whole Dow to go down as the financials go down?
RW: I believe markets took the first wave of problems and adjusted to them. Some were papered over and some were addressed, and we saw subsequent write-downs in the big global banks. Bear Stearns, of course, was the most prominent, and hardest hit. But, of course, Lehman Brothers has suffered their losses as well most recently. I have heard rumors Merrill Lynch has a lot more bad paper in back rooms that must be addressed.
At this particular point, we canít really determine how much that is, of course, but considering all the derivatives that were sold, and the actual and truthful reporting by others outside the banking industry ó people that I respect ó I think in actuality that only 10% to 15% of these problems have been addressed. Thatís pretty frightening if thereís that much more to go.
I think the only way for them to escape these problems is to sweep them under the rug as they have done, write off a portion, and try to write off more of them very gradually, on a reduced cost basis as they move forward. I think thatís the only way out of it. But there are lots of other trip wires out there in these credit markets, and people are getting very concerned.
TGR: What timeframe do you think it would take all of this to come to light?
RW: I think it could take as much as three years for everything to come out, and I donít think youíre ever going to see it all. One of the ways I thought about how they might write off some of this is if there are two large lenders together, and they have mutual counter-party risks from one to the other; they could mutually write-down offsetting losses.
That would reduce fee profits, of course, but a lot of this paper is off-balance sheet. That maybe a way they can escape from part of it. The most disconcerting news is the Federal Reserve and US Treasury offering to keep taking bad bank paper with cheap loans and soft terms. Some have observed this is borderline illegal.
TGR: So, obviously the financials will go down. Will it take the rest of the market down with it?
RW: I donít think thereís any question the rest of the market is going to go down. Hereís what I see for the rest of the year for the markets. This is an election year, and in an election year, the incumbents will do almost anything they can do within reason to keep markets propped up. We understand clearly that the Plunge Protection Team (PPT) ó Central Banks, the Federal Reserve, and Treasury ó are all in cahoots to keep things propped up because itís systemically to their advantage. If one key portion falls severely, the whole global system could go down in a daisy chain.
Consequently, weíve seen timely buying of S&P Futures and Dowís Futures on holidays, weekends, nights, and early in the morning to prop these markets. This is especially true for the Dow, which is basically the shares-proxy barometer for the world.
The Dow is so pushed around and manipulated right now that I give it little credence, but the thing that it does do, is to give us a market weather vane; a barometer to where things are headed. The entire economic world watches it very closely. It doesnít accurately represent very much because of all the fiddling, but it does contain the 30 top corporations, and these are a signal for what is going on out there. For now, these shares are showing nasty weakness.
So, we think these markets are going to be stuck in a trading range. Theyíre going to try to sell as thereís weakness across the board; however, whenever the prices arrive at the bottom of an important trading range, once again theyíre propped-up. Consequently, weíre going to see moves confined to a trading range or a trading zone; all the way up to Labor Day. There are other things that weíll discuss in just a moment that may change that condition dramatically.
TGR: Since it is an election year, what would be different from Labor Day through the election date? Why wouldnít they continue to prop them up?
RW: Well, historically, September has been the worst trading month for shares. October has been not quite as nasty, but itís been a pretty rough month as well, and those who have been out and ready to buy usually re-enter markets at the end of October. So that window of time between September and October is going to be very critical in terms of keeping these markets glued together. It is certainly going to be a strong test as to whether thatís possible at all within that timeframe.
Some top analysts we know are predicting a drop in the Dow market, anywhere from 11,750, 10,500 or 10,400 even down to 9,750. I think itís very important for the Dow, as a line in the trading confidence sand, to hold above 10,000. We say thatís where the PPT will try to intervene keeping it propped-up.
TGR: The last time we spoke you indicated what really hadnít come to light yet is a situation with the regional banks and the potential financial crisis they will have because they are holding their own real estate paper. And you were suggesting we might have something like a Resolution Trust #2. Are you still seeing that?
RW: Absolutely, and it hasnít actually transpired yet to any great degree, and that goes back to your question. You havenít seen a dramatic regional banks failure yet either. They havenít been that prominent in the news. However, thereís been a few out on the edge.
This week in our newsletter, Trader Tracks, we had the Regional Bank Holders (RKH) chart as a cover story. This chart has fallen in a major decline. Now the regionals are acknowledging an average of 25% of total portfolio in bad real estate loans. Some of them with larger problems have addressed it, but regional banks holding 80% to 90% in real estate have not yet dropped to the degree that we were expecting, simply because the timeframe goes on for quite a period of time.
Youíve got homeowners who are going to struggle to pay first; that will extend it; the next thing that happens is they will have a foreclosure situation, which in some states can be as long as a year, while in others itís a lot quicker. Now, however, we forecast 1,000 of the 5,000 banks in the bank category of regional, will fail from bad real estate loans. Then, beyond that, sometimes banks will try to work with people in order to keep those loans alive. Ultimately, I think the problem is going to be publicly acknowledged, but gradually.
TGR: So, it will come after this election year; we will first see the Dow being hit by just the big players, as you mentioned earlier?
RW: Thatís a good observation. I think youíre right. We suggest they can hang on generally until after the election. The other market-moving event is the Chinese Olympics this summer. Theyíre having their own big problems. Once we get past the Olympics and the Presidential election ó which I believe are the two largest events for the rest of the year ó I would say in November, December and January, "look out below; itís going to be tough."
TGR: Will the regionals also pull the Dow down?
RW: The regional bank failures could frighten consumers and induce vast distress in the broken mortgage markets. The worst part of it is not that is cannot be systemically managed but the public relations problems are severe. The Dow will fall of its own weight because of big traders continuously selling into strength. The bank credit situation is basically off in another corner by itself, and is a much worse situation than the stock market problem. Credit and bonds are 70 times larger than stocks, and the credit situation is definitely in disarray right now, and itís getting a lot worse. Now we get rumors from Europe their banks are shunning any new business with New York global investment bank risks. New York is being black-balled!
TGR: Based on what you just said about the market falling apart, how will gold stocks and gold react in that environment?
RW: Gold can trade, from my perspective, from 1070 to 1275 in the last quarter of 2008, depending on what the plunge protection team (PPT) can do to prop the stock market up. But the big problem ó and itís not a for-certain thing, of course ó is that it appears to us now Israel and Iran are going to have a conflict. I learned just yesterday, Israel conducted large war maneuvers in Greece about a month ago. Those activities were so complete it appeared to be a major rehearsal operation; a simulation as to what would happen if there was a major attack on Iran. The Israel to Greece and back simulation was selected as that is the exact mileage the attack jets will fly from Middle Eastern bases to Iran and back.
It appears this event is going to happen. I give it a credible chance of about 80% to 90%. Two or three months ago I was saying this is very doubtful. I really didnít believe that it could happen because if it did, oil, gold and silver prices would to fly to the moon. Most importantly, we could have major interruptions in crude oil, gasoline and natural gas delivery. It is hard to say where crude oil prices would go under these circumstances, but obviously, itís going to be a much higher price. Our current positional trading reflects that situation. We had gold and silver spreads recommended for our traders this fall. We moved those positions to the first quarter of next year so we can basically cover anything that can happens for the rest of 2008 and also into the winter and first quarter of 2009. And I am very pleased with what weíre holding right now. Most of those new positions are doing quite well already.
TGR: Itís interesting because I heard that the price of crude had jumped back up because of military maneuvers by Israel.
RW: Thatís correct; thatís what I was just talking about.
TGR: Well, wouldnít that just seem to kind overshadow whatís happening in the sub prime or just be a combination of the two?
RW: Well, it certainly is not going to help it; itís going to overshadow all markets for sure. If these oil prices go back to $100, for example, a lot of things would repair themselves and calm down. We donít see it. Weíre looking for higher prices in oil based only on the fundamentals ó never mind what Israel will do ó of $150 to $157. And our trades reflect those numbers. So, I think the potential Israel event is front and center; thereís no question about it. Itís not only a market mover; itís a trip-wire market crasher.
TGR: I think so, too.
TGR: And you think gold stocks would be coupled with gold at this point?
RW: I think they will temporarily, but gold stocks are partially coupled with the mainstream stock market. During the end of June and moving into July, we saw two divergence trading events. The XAU would rise as the larger stock indexes were selling. Now the question is when do they diverge completely?
Based upon some forecasting and stretching out of charts and doing some work with futures along with some Gann and Fibonacci (Fibonacci Retracement Levels) analysis and other indicators we use, I think a complete divergence without an Israel attack could occur in the last quarter of this year. I can see it a little bit on the edges already but there hasnít been any prominent, solid departure with the main stock market going down while gold and silver stocks go up. The charts are showing some very strong indicators on the XAU and the HUI that, in fact, gold and silver shares do want to pop. My forecast for this time roughly between now and Thanksgiving, depending on some other things that would be kind of crazy, is that we see a 40% increase in the shares. Also gold the metal versus the shares are often two to four weeks off-schedule from each other.
TGR: And these are juniors?
RW: These are juniors and seniors, yes.
TGR: O.K., because as you know, the juniors have certainly not participated on the broad level.
RW: I know that all too well. In my newsletter and the letters of others, we have a lot of shares under water right now. We warned about it the first quarter, telling our people to get out if they had profits, either part or all, and then re-buy for the summer. If you werenít able to escape, the best thing now is to hang on, grit your teeth and let them rally back into the fall and winter.
TGR: You said that the divergence without Israel would occur in Q4 08.
TGR: What if thereís a looming Israeli move?
RW: What if we get an attack?
TGR: No, what if itís looming, more press about it?
RW: Well, I think weíre going to get a lot of press; I think youíre right; thatís going to come. But if there is no attack, just the idea that it could happen would smother, or put pressure on all the shares causing them to sell or stay in a trading range. From the authoritiesí viewpoint in New York and Washington, that would be satisfactory for them as long as they donít see the Dow collapse under 10,000.
They donít really care about the gold shares and what we trade. But if those gold and silver shares were smothered and they were stuck in that trading range, they wouldnít necessarily gain very much, but they wouldnít lose much either.
TGR: So, the divergence in terms of the gold stocks decoupling from the mainstream market would be delayed if thereís a looming threat of an Israeli attack.
RW: I think so; I think they would wait for a resolution of something, either bad or good, to get it over with. War news would cause most shares to sell. But once weíre past the election, past the Olympics, and past this Israeli business, whatever it may be, I foresee the first quarter of next year as being a boomer for gold and silver shares ó juniors, seniors, everything.
TGR: What about the base metals?
RW: The base metals are acting toward a recession. Copper is soft; it went from around $4 to $3.30-$3.40. Now with gold and silver firming for a major last quarter rally, China is buying copper again simply because they have no choice despite the latest prices above $4 a pound. The big one is steel; that is still hanging on because there is a large demand for steel. Korea recently signed a contract for metallurgical coal, which was an all-time high price of $300/ton. Where that coal came from I canít recall, but they need it badly for stainless steel production.
TGR: So, do you see a slow down in base metals?
RW: Yes, I do. However, Rio Tinto and others just signed iron ore and steel related price contracts up 85% over last year.
TGR: Before the Olympics?
RW: I see a slow down; I see problems for China for a variety of reasons. Chinaís not going in the tank, but their growth rate will be cut back drastically. Their stock market, the Shanghai Index is off 50% right now. Normally, thatís just a strong retracement in a bull market. If that is true and they are not yet entering a full-fledged bear market, it will probably base and bounce and come back. Over the longer term, say many years, I think base metals will continue to perform, but not nearly at the levels where they have been, especially nickel..
TGR: Is that a contrarian viewpoint? A lot of people are saying with the infrastructure build between Brazil, Russia, India, and China, base metals will continue to rise because the infrastructure wonít slow down that much, even if there is a recession in the United States.
RW: If weíre going to worsen beyond recession in the U. S. and in some other countries; experiencing a full-fledged recession or worse, commodities and base metals (with exception of precious metals and grains) can stall and move lower. When things get that far, I think those base metals are going to stop rising on industrial slow-downs. Now, are they going to cave in entirely? I donít think so.
But itís hard to predict this because the longer-term view is up. Thereís no expectation different from that in my view. If you look historically at the commoditiesí rallies, one of which weíre in today, they last anywhere from 13 to 17 years; thatís from the low to the high. Thatís been proven over time.
So, if we started in 2001, we certainly have several more years to go, even before the short side. I think it could go on the longer-term side, quite frankly, because thereís been such an aberration in all these markets. Weíre looking at a 15-16-17 CRB (Reuters-Jefferies CRB Index) year run, and weíre in the seventh to eighth year right now, so we have a long way to go.
Reuters Jefferies CRB Index - Courtesy DecisionPoint/BigCharts.com
But in the middle of all of this, weíre headed towards a recession. I think weíre actually in a recession, and itís my view that late next year because of credit disruptions and other things, we could actually be in a depression.
TGR: How would you define a depression?
RW: During the United States Depression in the 1930s, official unemployment was 25%. Todayís employment numbers are difficult to measure simply because the stats are all screwed up. These fallacious numbers make people think things are a lot better than they really are.
In my state now, theyíre acknowledging over 8% unemployment, which means using my rule of thumb is that you can get pretty close if you just double official stats. So, today weíre looking at 16% to 17% unemployment in Michigan, and thatís not all that far from 25%. The layoffs are coming faster than they have in the past two years.
The big three auto companies are on the edge of disaster, with Merrill Lynch telling us the bankruptcy of General Motors is not far-fetched. GM shares are under $10; a price not seen since the 1950s. Worse than that, reports tell us GM has 12 months of cash remaining to run their business. So I think thatís where weíre going; into a worse recession followed by hyperinflation, then depression. A war usually follows depressions as a method for government to exit these problems.
The next thing is the national unemployment rate. The last number I saw claimed 5.5% or 5.6% unemployed. A reality double would be a rate of 11% or 12%. Now, considering thatís our entire nation, itís will take a lot longer on the cycles moving the bad news further out. Meanwhile, Michigan has only 2.8mm left in the unemployment payments account. This is a disaster.
About Roger Wiegand: In addition to editing and publishing Trader Tracks (http://www.tradertracks.com/), a stocks, futures and commodities electronic newsletter publication for active traders, Roger writes a weekly column, ďRogís Corner,Ē for J Taylorís Gold and Technology Stocks Newsletter. (See http://www.webeatthestreet.com for information on Jay Taylor's and Roger Wiegand's newsletters. Tel: 718-457-1426 Claudio Bassi, Manager [email protected])
A native of Michigan, Roger has had an interest in precious metals and futures since the commodity rallies of the late 1970s and early 1980s. His background in a 25-year real estate development and construction career specialized in forward planning, consulting, and using creative skills for conceptual project thinking. His present work is focused on the precious metals, currency, energy and interest rate markets for trading on the primary American exchanges. Experience in land, development and base material projects has evolved into consulting for mining companies and analyzing those markets. He has developed longer-term ideas for finance and mining marketing doing work on behalf of private and public mining companies. Rogerís consulting work is to focus on concepts and ďbig pictureĒ forward planning for mining companies. His newsletters utilize the global news, and his personal research and knowledge for expressing personal trading ideas.