What If. . .


"Bernanke has to know that QE2 is doomed to eventual failure."

"You must be the change you wish to see in the world." -Mohandas Gandhi
Yesterday, we saw some commotion and upheaval in a number of markets including gold and silver, the U.S. dollar, bonds, commodities and even stocks to a lesser degree. The turmoil in the gold and silver pits was attributed to the fact that they raised the margin required for silver futures contracts. We've seen this all before. Gold and silver get up a real head of steam and they raise the margin requirements. That in itself wouldn't be so bad, but it's hard to call this anything but manipulation. Other commodities have enjoyed significant rises in price, sugar, cotton, soybeans, copper and corn all come to mind but their margin requirements go untouched. Why silver? I believe that some of the big boys, like Citibank, have something caught in a wringer and are in excruciating financial pain, so the CME rides to the rescue. Finally, if manipulation was the only thing behind the decline, then I feel very confident we'll see higher gold and silver prices in the near future.

December gold traded as high as $1,424.30 yesterday and within $23.20 of critical resistance at $1,447.50, before gold started to tumble at 1:25 pm EST. Gold didn't stop falling until it hit strong

support at $1,382.20—support due to the fact that gold broke out from this level two weeks ago.

$GOLD 11/9/10

The spot gold price then went on to bounce and close at $1,392.90, while the December gold futures price closed at 1,410.10. If you look at the chart, or run all the numbers, no real damage was done. In fact, you can see that gold touched the upper band of the trendlines that go all the way back to the February low so a reaction at that point could even be described as normal

What would constitute a problem in the gold market? In my opinion, that is a threefold answer:
  1. A break and close below the horizontal line at $1,381.00; followed by
  2. A close below strong support at 1,372.90; and
  3. Any decline that lasts longer than seven days and cuts deeper than 7%.
Until these three conditions are met, gold is in a strong move to a higher high and a clear test of strong resistance at $1,447.50. What are the chances that gold and silver have formed a decent top? I would put it at 50%!

Manipulation is of little or no concern to me. I've been watching it for ten years and as the old song goes "I've grown accustomed to your face." What worries me more than the simple fact that gold declined yesterday is the action across a number of markets. The bond market looked like it was going to rally yesterday, reaching an intraday high of 131.00, and then it was taken out to the woodshed and thoroughly beaten. The December bond closed at 128.22 for a loss of 1.19, and well below what was good support at 129.28. This morning the December bond is down another .09 and looks like it wants to go lower. Also, the U.S. dollar looked like it wanted to go lower and suddenly reversed and headed higher. This morning it continues to rise, trading up .31 at $77.90.

As if that wasn't enough, most of the commodities were enjoying a good day yesterday until 1:15 pm EST when copper, oil and the grains all started to head lower; they continue to head lower this morning along with sugar and coffee. Only cotton seems to be bulletproof! Finally, we have stocks. Stocks were trying to head higher yesterday at 1:15pm and then began a selloff that eventually took them to a +100-point loss before some last minute buying allowed the Dow to close 60 points lower.

$INDU 11/9/10

The market internals were terrible yesterday with an 82% down day, a lot more losers than gainers, increased volume and a reduced number of new highs. Also, if you take a look at the daily chart, you'll see that RSI and MACD are both pointing lower and the histogram is declining. To me, it looked like the Dow wanted to go much lower but the lifeline to the Fed building in Washington, DC saved the day.

So we have a significant move in a number of markets that all began at more or less the same time and, to a certain extent, continues today. What was the catalyst for that move? It often next to impossible to tell what causes something when you are living the moment, but I have a thought that I would like to share. We know that the stock, bond, FX and commodities markets have all been pricing in another round of quantitative easing. Estimates ran anywhere from US$300 billion to US$2 trillion, so you could say that the Fed's proposed US$600 billion came in on the light side. Now, suppose for a minute that what we've affectionately come to know as "QE2" fails to materialize. Pressures mount and the Fed could decide to cave in and silence the printing presses. No more money! All the months of pricing in an avalanche of liquidity would have to be unwound. Wall Street, the big beneficiary of QE2, would be left swinging in the wind.

Aside from Wall Street, the new Congress would have to take initial steps to live within its means, something it hasn't done in several decades. Such a decision by the Fed would do two things:
  1. Lead to a serious crash and depression; and
  2. allow it to put the blame on someone else.
The Fed could claim that it had it right but opposition forced it to do the wrong thing. Right now, Bernanke has to know that QE2 is doomed to eventual failure and the only thing left is even more printing. That will destroy the U.S. dollar and lead to even more problems down the road. By silencing the printing press, all the sewage will float to the surface in short order, there will be a tremendous economic calamity, and then a real plan can be developed that will allow the U.S. to make real advances.

Perhaps this is just so much wishful thinking. Perhaps I'm completely wrong and we are destined to see the once mighty dollar end up in history's fiat trash heap. Watch the dollar, Dow, bonds and gold over the next several days. If the dollar continues to move higher beyond today's session and gold breaks below $1,372.80, and the Dow moves back below 11,246, I just might be on to something.

Anthony J. Stills
[email protected]

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