Waiting For The Dollar Top

It is Monday the 16th of April here in Asia. I managed to get out of my Silver / Silver Wheaton trades for break even (very very small profit) as the prices reversed. Bernanke's speech was a complete non event as he did not mention anything to do with further stimulus, nor did he talk about jobs progress within the economy. Out of all the global economic data on Friday, the stand out was Italian IP disappointment - signalling that Peripheral Europe is sinking further into recession. European equity markets and peripheral bond markets sold off hard, with Spanish IBEX and Italian MIB down over 3.5% each.

Important economic data releases for early in the week include:

• Japanese IP & Consumer Confidence
• British CPI & Eurozone CPI
• US IP & Capacity Utilisation

Despite below average economic performance of Europe, last weeks Chinese data was decent and the US economy is still not showing any signs of a recession according to the chart above by Chris Puplava. Having said that, the growth is quite anaemic, so we can easily suffer a set back if Eurozone crisis was to flare up again. Likewise, majority expect a soft landing in China, but the property sector is continuously worsening as months ago by.

Citigroup Economic Surprise Indices across the globe show that data keeps on disappointing economists expectations, especially in the US and other Developed Economies. It seems to be a reply of early 2011 and quite similar to early 2010 as well. As we can see from the chart above, whenever the economic data under-performs, Fed seems to step in. More on that later.

Earnings so far have been mixed. Alcoa beat estimates, while Wells Fargo, JP Morgan and Google missed. This week is going to be a big one for the earnings front. Following companies are going to report: Citigroup, Goldman Sachs, Johnson & Johnson, Coca Cola, IBM, Intel, Yahoo, Freeport-McMoRan, eBay, Yum! Brands, Bank of America, El du Pont, Morgan Stanley, Nokia, Philip Morris, Verizon, Microsoft, Wynn Resorts, GE, Honeywell Int, McDonald's and the list goes on.

Moving onto the markets, equity market correction is still in progress. On friday I said that "oversold equity readings from the short term perspective are creating a bounce, but I am not so sure that the correction is finished". In my opinion the VIX hasn't jumped enough just yet to wash us out. A move towards mid-20s could do that. Since the peak on 02nd of April, Energy and Financials are down the most, each more than 5%. Consumer Discretionary sector is down the least, only about 1.5%.

Certain parts of Consumer Discretionary sector are reassembling parabolic like behaviours that we tend to see at the end of a bull market. The same could be said about the Tech sector too (e.g. Apple). This is why it is difficult for me to get excited about the equity asset space. Unless you are a trader, who can successfully buy low end of the correction range and sell the high end of the correction range, I think the stock market is becoming overvalued by looking at Shiller's P/E10 or when we look at the age as well as the gains since March 2009.

Historically bullish sentiment readings across all surveys usually signal that stocks are either going to struggle in coming weeks / months or even correct, sometimes considerably. Two exceptions to this rule in the chart above, because no indicator is perfect: first, during the final bubble phase of the secular equity bull in 1997 sentiment meant nothing as stocks went into euphoria; and second, during the start of a fresh new cyclical bull in 2003 stocks rallied hard from oversold readings despite high bullish sentiment. Today, we are neither in the secular bull phase for stocks nor the bubble phase and we are definitely not coming out of a bear market where a new cyclical bull is fresh. That was March 2009… today is more than three years later!

So what to do? I do not want to short equities, as I think the stock market breadth indicators show no major warning signals just yet, even though medium term breadth is starting to weaken signalling the end of an uptrend (for now). We could make marginal new highs, without a doubt, but we could also correct sharply if the economy disappoints as well. In any case, top is a process - not an event, as we saw in late 1999, early 2007 and early 2011. Currently long term breadth still looks healthy enough to keep this cyclical bull alive.

While stocks show bullish sentiment and overbought readings, commodities show bearish sentiment and oversold readings with Continuous Commodity Index down 7 weeks in the row. From a contrarian point of view, this is what an investor wants to buy as we eventually bottom out. The question is when will that bottom occur? While I would love to know the answer myself, the probability would favour commodities to rally when the Dollar shows signs of topping and that sort of links to economic data and further Fed easing or money printing.

Master bond investors Bill Gross and Jeffrey Gundlach see the Fed engaging into the third round of bond purchases. Bill Gross has been cutting Treasury holdings and switching over to Mortgage securities instead. Both of the investors think further economic weakness and a more meaningful decline in the stock market will force Bernanke, Yellen and Dudley to reconsider another round of QE. As already stated above, economic data is weakening across the board.

As of this mornings Asian trade, almost all currencies are declining against the US Dollar once again. Euro went as low as $1.30 support level. The question on every traders mind is which way will the Dollar triangle break? Looking at the chart above, the answer should not be very far away as the triangle pretty much runs out of room. A breakout could send commodities even lower into a final wash out phase of the current two month correction, while a breakdown should bottom commodities almost instantly.

Positioning on the US Dollar is very bullish, which in my opinion remains a contrarian signal not to chase the prices higher. Euro has been in a bear market for almost a year now, so I think it is a bit late to be extremely negative here. It is not about great Euro fundamentals, but more about up-and-coming QE which will weaken the Dollar. We can see that huge short positions still remain and further selling most likely will not go below $1.26 bottom in middle of January. In other words, I see the Euro building a bottom here and creating a first HIGHER LOW and when the Fed does eventually act, a huge short squeeze will occur. Investors are very bullish on the Dollar across the board, not just against the Euro. Short positioning is present on the Pound, the Yen, the Franc and very reduced net long positions on the Aussie as well as the Kiwi Dollars.

I do favour the Agricultural space as well as the Precious Metals out of the commodity complex when the Dollar does show signs of topping once again. While I talked about Sugar on Friday, I would also like to note that investors remain extremely bearish on Wheat as well. We have been hearing about negative fundamentals and record high supply levels for months on end now... and yet Wheat prices refuse to make a lower low. In my opinion, that is very bullish as it seems that huge net short positions have already discounted majority of the bad news we hear and read from day to day.

Comex open interest on the Gold continues to drop, which is a very good contrarian indicator. Readings now sit at a two and half year low. Silver's open interest is close to very extreme lows last seen during the   2008 crash. Speculative activity is really not that present in the PMs market anymore. Gold Miners are becoming quite oversold from a longer term perspective. Furthermore, in recent weeks, Put Call ratios reached extremely bearish levels for both Gold and Silver and still remain at high levels in the Silver market. Short Interest ratios on GLD & SLV increased considerably over the last month, while sentiment surveys on both of these Precious Metals is now at levels where previous intermediate bottoms occur.

Corrections do not just occur in price, but in both price and time. Prices can consolidate sideways and work of previous gains too. When we run an analogue of all the Gold's major corrections since the beginning of this secular bull market, we can see that price wise the recent correction was as bad as 2006, but not close to the panic of 2008. Time wise, the current price is entering a phase where all other corrections have ended. This stands at about 170 days out from the intermediate peak. Therefore, this makes me think that the PMs market should bottom soon. Keep your eye out on the Dollar for the signal.

Moving onto the credit markets we can see in the chart above that LIBOR OIS rates remain quiet and continue to improve for the time being. That is a positive signal for the banking industry at present. Furthermore, the recent equity rally has been accompanied by out-perofrmance of Financials stocks, and if the banks were in trouble, we would not be seeing their shares bid up that quickly.

On the negative side of things. US corporate CDS have started to rise, both US & EU junk bond credit spreads have also started to rise and finally even corporate grade credit spreads have risen recently too, but these seem minor for the time being.

PIIGS continue to be the centre of attention in the current de-leverging crisis that the world faces. Main two countries that have taken front stage seats are now Italy and Spain. Italy was worse off last year during the Fall months, as its yields on the 10 Yr Bond went as high as 7.4%, while Spain seems to be the focus in early 2012 as its CDS reach a all time new high of 502 basis points. Spanish 10 Yr Bond is now approaching yields of 6%, while Italy trails behind at 5.5%. Rumours are now circulating that ECB could engage into more bond buying once again.

Summary
Overly bullish sentiment and short to medium term deterioration in breadth personally prevent me from investing in the stock market. Traders will of course find interest here and play the bounce, as the correction runs into more oversold levels. On the other hand, I'm waiting for the commodities to show signs of a bottom and the US Dollar to show signs of a top. When we do get the hint of Dollars top, be it from the technical side of things or from the Fed itself, I favour further investments into Agriculture due to supply & demand constraints; and into Precious Metals due to further currency diluting. Silver remains one of my favourite asset classes for this decade... not just for the next few months!