Rumors of dollar’s death greatly exaggerated

Sentiment is still very anti-dollar (though not as extreme as last February-April), but the index is no lower than a few months ago, nor even a few years ago. Despite all of the dollar-crash and hyperinflation hysteria in recent years, early 2008 still marks the bottom.

MACD and RSI also seem to back up the case that the next big move is more likely up than down:

3 year daily chart:

5-year weekly chart:

10-year monthly:

The 10-year chart says it all: the dollar has already crashed, and as is typical in the financial markets, few noticed or attempted to take action until the move was already over.

Silver superspikes: dollar-bullish, and they don’t last

First, the 25-year monthly chart:


Here’s a chart that goes back further but only goes up to 2010 (I couldn’t figure out how to get to draw me the whole thing, but you can just use your imagination – the line just goes straight up from $30 to $45):


Gold’s march upwards has been much more orderly, but silver is a thin market and prone to spikes. These things are tough to short, and to attempt to do so you should wait for a pause and use a stop above the highs, but even with a stop a fast market like this could spike dollars in minutes or seconds and close you out at a big loss only to reverse. This chart doesn’t show the action that happened intraday one day in Jan 1980 when silver traded over $50 very briefly.  No reason why it couldn’t spike to $70 next week only to crash and languish at a new normal of $10-20 for the next two decades.

It is safer in a way to buy puts than to short SLV or sell futures, since your risk is defined – you can only lose what you put up. The July 35-strike puts on SLV were going for less than 60 cents on Wednesday, and will get cheaper every day until silver falls. June 35s are under 40 cents and will decay faster but pay off better in a crash. At any rate, I’d take a disciplined approach and figure on losing my premium at least once, buying higher strikes if the spike continues upwards. Losing the first premium or two would be acceptible if a later position pays off 10:1.

Take another look at this long-term dollar chart. We had a major bottom in 1980 just as everyone was panicking into precious metals.  Silver spikes are apparently another symptom of extremely negative dollar sentiment, so should be considered bullish for the currency.


BTW, though gold’s price and action is much more sensible, the silver spike is very bad for gold as well – it may just have doomed its bull market. The metals have more than adjusted for the inflation of the last 30 years and the money printing of the last 3. It would make sense for their run to end soon and for them to settle into some middle ground. That doesn’t mean gold can’t touch 2500 and silver can’t hit 100 – it’s just that these moves are too fast and too high relative to their historic multiples to other assets, so these prices will not last.

Long-term gold charts (first one is a few weeks old – the second is current but doesn’t go back as far):

The dollar’s going to crash, the dollar’s going to crash!

Uh, it already has. The time to be shouting about a crash was 2000, but the dollar-crash meme only got mainstream in late 2007. As you can see in this 10-year chart of the trade-weignted dollar index, the dollar had by then already fallen, and is no lower today than 3 years ago. It may be putting in a triple bottom prior to a secular bull market. The sentiment has certainly been negative enough for long enough to set up a lasting upturn, and the price action in recent years is similar to that of the late 80s to early 90s.


EDIT: Here’s a 30-year dollar index chart.


A secular bull market in the dollar would coincide with more unwinding of risk assets, since the buck has been a favored short for the carry trade (it is weak vs. other currencies, and has very low borrowing costs).

It would also make sense for US Treasury rates to finally put in their secular bottom during the dollar’s bull market, but not in the first phase. Interest rates follow a very long cycle, with the last top in the early 1980s and the last bottom in the early 1940s. Sentiment is still too anti-bond, and there is still too much credit unwinding to come for me to believe that bonds are ready to start falling. Bonds, after all, are hard cash for big players, and people reach out the curve for yield as short-term rates compress during credit stress.

Inflation, deflation & the dollar – where do we stand?

We have had inflation since late 2009, using my favored definition of inflation as an increase in money supply and credit from Mish. By the way, commodity prices change with the speculative whims of of the financial markets, and are not a good definition of inflation (commodities fell from 1980 to 2000, as we experienced credit & monetary inflation and the price level doubled).

Since 2007, the monetary base has of course soared (see below), but in 2008 and 2009 its increase was overwhelmed by the decrease in private debt (marked-to-market), and the mood of risk-aversion. Since then defaults have eased and new debt issuance has grown, so we have had significant inflation.

Monetary base:

Monetary Aggregates:

The world is still laden with too much debt to sustain, so we will likely be back into deflation and de-risking before long. The following debtors in particular have yet to have their come-to-Jesus moments:

  • US cities & states (muni-bonds)
  • Canadian and Australian homeowners (record high prices, prices too high relative to incomes and rents, absurd loan-to-value ratios).
  • Several European nations (Portugal, Spain, Italy, much of Eastern Europe). Actually even Greece and Ireland will have to default before long, since their bailouts were just extensions and added to their debt.

The Kondratieff cycle is not perfect, but its main point is that debt cycles are generational, since they have as much to do with attitudes as with numbers. The deflation/de-leveraging phase (winter) can last over a decade, and this one certainly looks like it will.

Previous recent generations were as follows, off the top of my head:

  • Winter: 1929-1940 (decrease in debt, falling assets, low interest rates, falling to stable prices)
  • Spring: 1940-1966 (early debt growth, rising assets, rising interest rates, moderately rising prices)
  • Summer: 1966-1982 (continued debt growth, falling assets, high interest rates, rapidly rising prices)
  • Autumn: 1982-2007 (rapid debt growth, rapidly rising assets, falling interest rates, slowly rising prices)
  • Winter: 2007- (decrease in debt, falling assets, low interest rates, falling to stable prices)

The dates are approximate – some say that winter began in 2000 when we first faced deflation. Also, all nations are not in sync. Japan went into winter in 1990, and is still in it despite massive and repeated central bank printing.  What clears the way for spring is the reduction in debt, and the west is making the same mistake that we criticised the Japanese for making, propping up failed institutions and not allowing the market to clear.


Bonus chart: US dollar index since 1985 – in classic form, by the time everyone started worrying about a dollar crash (2007), it had already happened.

Despite its central bank’s profligate ways, the Japan’s currency has risen dramatically since the 1990s. Don’t count the dollar out just yet. This chart shows yen per dollar (downward slope = rising yen):




Major dollar rally coming soon, to a trading screen near you.

Sorry for my long hiatus from blogging. I’ve been trading very little over the last six months, demoralized and righly so due to chronically awful trade execution and overreaching. I have a highly valid reversal strategy, but it is not a trend strategy, and I need to keep my bearish macro views out of the equation (though I suspect that they would be better suited to the next 2 years that the last 2 – but I need to forget about that and keep such discussions academic, for risk of corrupting a perfectly good trading model).

I’ve done some soul-searching and review of my trading history and this blog, and come to the conclusion that I should not abandon this pursuit but instead work to remedy my fatal flaws. A review of my history shows that I am able to identify turns in markets with a very high degree of probability. The fatal flaws are not analytical, but as is usually the case, emotional and procedural. This blog actually has a very good record of both initiating positions and closing or reversing them. As a trader, I would have done well to follow its advice, but I would often revert back to my bear bias, and way too soon, as when I shorted risk last March-April, booked huge profits and went long (including buying bottom tick in EUR and CHF) in June, only to reverse and go short again in July on bias alone without my proven criteria for a valid set-up.

My basic methodology as it has evolved here since August 2008 when this blog began, is to use sentiment and technical data to identify oversold and overbought conditions that are long in the tooth and due for clearing reversals.

The classic set-up is like this:

  • DSI sentiment has plateaued or bottomed at an extreme (<20% or >80% for at least 5 weeks, the longer the better – this can go on for 6 months at the outside, more commonly 4-12 weeks if we are talking <20% or >80% readings).
  • A major move comensurate with that sentiment has occurred (the market is trading at highs or lows), which to the mass of traders seems totatally justified by fundamentals.
  • Price action shows weakening momentum. This is indicated by a diverging trend in oomph indicators MACD and RSI. This usually means that the rate of change is slowing and that each new little push is slower and on lower volume, even as new extremes in price are reached.
  • A loose stop-loss level can be identified (a level that should it be broken decisively, would indicate that the prevailing trend still has legs). This is a mult-week strategy, so stops should use daily or even weekly levels — no use for 5 minute charts here.
  • Markets are highly coordinated in recent years. E.g., if the dollar is looking like it is going to rally, don’t be long stocks or commodities or short bonds.
  • Adjust stops downward to breakeven after the reversal, and tighten stops to a gain as DSI data reaches 40-60% middle ground.
  • Tighten stops much more or close positions after DSI data approaches the opposite extreme (e.g., if you shorted SPX when DSI bulls were 90%, prepare to close and consider the trade finished once DSI reaches 25%).
  • This is not a trend system! Repeat, this is not a trend system! Trade reversals only, as those have the highest probability. Once the oversold/overbought condition is cleared, the probability of the market continuing in your direction is vastly lower, and does not justify the risk (no matter your opinion of the longer-term situation or fundamentals). This last point was my fatal flaw.
So, we have a classic long-dollar set-up developing right now. I give it strong odds that we experience a major dollar rally within 2 months, with all of the de-leveraging that entails in other markets. This is not the place to put on a heavy position if you are not willing to accept big drawdowns, since this market could easily trend for a while yet, with the stock markets holding up as well.
Note that this trade is confirmed by the opposite in the stock market. Plateau in DSI and other sentiment indicators at a high level of bullishness for several weeks. This condition will be cleared to the downside as the dollar breaks upward. Copper, oil, etc will also correct hard down, and the anti-dollar currency pack (CAD, GBP, EUR, AUD and probably CHF) will fall as well. Not sure about JPY – it often trades up with the dollar during these little episodes of risk unwinding.
As always, the timing is the most uncertain factor here, but the longer the dollar sentiment stays low, the less risk there is in this trade and the stronger the resulting rally will be. I can’t say whether this will come next week or in early June, but we are at the point where traders should be nervous about short-dollar, long-risk positions, because that trade is running on momentum alone and meets the requisites for sudden reversal.
The archetypal set-up was long-dollar in fall 2009, after dismal trader sentiment since early June 09. The set-up was in place by late August, but the dollar continued to drift down through November, helped along by small clearing rallies and brief upticks in sentiment. Because average sentiment was low for an extraordinarily long time (6 months), we had a very powerful rally, from 74 to 88, over the following 6 months. This time, sentiment has been low for two months so far, certainly enough for a good rally, but not necessarily for the same killer trade. On the other hand it is somewhat better because the readings are more extreme.
The clearing episodes are the wall of worry or the slope of hope that keep the trend going.  A smoothy trending market with a flattening slope is more dangerous for followers and better for reversal traders. So far we have such a market, but if it gets choppy, with little sell-offs in stocks and small dollar rallies, it can last longer, and if the clearing events are big enough, it would cancel this trade. There will be others.

World markets holding up

Still no signs of a fresh leg down. The markets don’t seem to want to sell off this week, and have been making little lunges higher. Even the Athens stock market has bounced 9% since Monday. Who would have guessed?

Fear is abating in all major markets: the dollar has stalled, oil is up four bucks, treasury bonds have dropped, metals are inching higher, and the grains seem to turning the corner. Despite this repreive, investor sentiment on stocks and the euro remains nearly as low as a week ago.

This could be just the set-up for a short squeeze: if we inch a bit higher, bears could all throw in the towel all at once as their attitude shifts from an expectation of more winnings to concern about losses.

You can see in this 1-month chart of round-the-clock trading that Dow futures and the dollar index have been inching toward the trendlines that have contained their moves since the stock markets peaked three weeks ago:

Source: Interactive Brokers


A break of those lines could send traders scrambling to reverse positions. A break of the shorter lines could mean that the majority will actually be right and we will make new stock and euro lows within days (and maybe even have a frightening but brief mini-crash, which the put:call ratio, DSI, VIX and summer 2007 analogue allow for).

(EDIT, 6:23 EST) It is interesting also how put equity buyers and call sellers stepped up their enthusiasm yesterday, finally nudging the 5-day average put:call ratio up past the mean, a condition that I have long viewed as a prerequisite for the end of this stock decline:


This is certainly not the time to hold aggressive shorts (that was a month ago, when the above indicator was super bearish). I think the odds now even favor a rally.

Some highly scientific projections

S&P 500:

That’s not a projection for a final bottom, by the way… that would be lower.

Gold, from 1971 (Richard ”I am now a Keynesian in economics” Nixon):

Note: Under Bretton Woods, the dollar of course was pegged at 35 to the ounce from 1933 to 1971.

Gold has been in a parabolic move since ’04, and the degree of speculative interest got high enough to call it a mania, just like every other asset class this past decade. It is money, though, so although I expect some frightful drops, on the whole gold will preserve your capital through the mayhem. The high inflation that everyone has thought is right around the corner since 2007 could actually happen several years from now after enough debt has been wiped away to end deflation. In that case, history says the best assets could instead be real estate (leverage!) and agricultural commodities (government-induced shortages). *Professor Jastram showed that gold, as a form of money, doesn’t do as well in real terms in inflation as most people think, though it sure beats paper money during high inflation.

Remember, 1980 – 2001 was an inflationary period. So was 2001-2008, so go figure — I figure gold did well in the latter inflation because there was a commodity mania. Since 2008 you could say it has been strong for the “right reasons” – financial panic and deflation. That said, it still gets ahead of itself and does tend to fall with other commodities when the margin loan department calls.

US Dollar Index:

More deflationary panic ahead — what’s so great about all the other fiat currencies? Why is everyone so afraid of the dollar? Answers: nothing, and because it fell for 7 years.


*Here is a free paper by Jastram I found on Scribd: The Behavior of Gold under Deflation

Commodities roundup

Hi all. Sorry for the long span between posts. I’m going to try to be a bit more diligent about daily postings, as I was in the earlier days of this blog, even though things aren’t as exciting as they were the second half of last year. After all, there is always market action somewhere, and government is an endless fount of stupidity.

The currency, cocoa, sugar, natural gas, and of course gold markets have been of interest lately.

Let’s start with King Dollar, sprung from the grave. This of course is a warning to all stock and commodity bulls to keep an eye on the exit. My target here is over 90, maybe even 110 (meaning the euro could fall under parity).


Here is a 25-year chart of cocoa, which clocked an all-time high this past week at nearly $3500 per metric ton (1000 kg):

Source: (a wonderful compendium of long-term charts and all sorts of data)


I’ve got a short position in cocoa from 3406. Friday was a big down day, with a drop of as much as $130 per ton off of Wednesday’s record in the high 3400s). This is a very thin market, in which it’s impossible to finesse positions, so I’m just shorting and holding. Cocoa tends to move with the broader commodity complex, last having topped in mid-08 with the rest of the bunch. For its own reasons it has outpaced everything this year but our next feature, sugar:


In this 2-year daily chart from, you can see a classic 4th wave triangle consolidation over the last few months:


As prices drifted slightly lower in an ever smaller range, DSI bullishness declined to about 20%, meaning that most traders believed that the highs were in. After all, sugar hadn’t been above 20 cents per pound since the 1970s, when it had gone from under a penny to 60 cents! Here’s a chart from 1961-2006 in which you can see those monster spikes (the 1974 peak would equal about $2.50 in today’s prices):


Now, I’d stay out of the way of this blast-off (and maybe even participate if we get a pullback with a clean stop), but when it exhausts there will be nothing but air under this market.


On to oil… I think $70 a barrel is nuts in this economy, and that this year’s rally is just the natural reaction to the $100 decline off the July 2008 peak.


That doesn’t mean we can’t vault higher still, but even considering that global production is likely peaking, the price just doesn’t reflect the drop in demand. Don’t tell me about China — China is still due a major set-back to liquidate its own bubble. I highly recommend the preceding link to Mish’s site. Few understand the extent of debt-driven malinvestment in the People’s Republic.

Here’s a 1-year view of West Texas Intermediate crude. Note how it violated support last week, indicating flagging momentum. Once this bounce exhausts, there could be a very nice short set-up:


Here’s a 25-year view of natural gas:


What’s remarkable about this fuel is that because storage capabilities are so limited, and because of the nature of its use as a heating fuel and for electricity generation (gas plants are the most expensive to run, so many are only turned on during peak demand days), it is prone to tremendous spikes and deep valleys.

What the above chart makes clear is that 5-6 dollar winter gas is on the cheap side of things for this decade, so even if demand is soft (and it is), a spike is possible. That said, I don’t think it’s likely, because we’re not quite due for one yet. Gas has only been of interest to me lately because it formed a nice slope into a bottom this summer, then ramped up in September and re-tested the bottom this month. The re-test was a nice long entry, and I rode the futures from $4.50 to a shade over $5.00 (silly of me to tighten the stop too much and miss the last $0.80).


I’d look to get back in here on a pull-back with a neat stop (tough to get in this volatile market), since there seems to be plenty of momentum left.


Now onto everyone’s favorite commodity lately, gold. Here’s a chart from 1974 to present from kitco:


You all know my opinion. I think this bull market has started a major set-back, similar to the ones that started in April 2006 and March 2008, the peaks of previous parabolic runs that ended after weeks of extreme bullish sentiment. I’m going to continue to trade the short side off of rallies. I covered my short from $1215 at $1150 last week, then traded a small bounce, and have since attempted a couple of long positions only to have them taken out. In past months, we would have had a nice snap-back rally by now, but like the euro and carry-trade currencies, this market is looking very weak. Note how it has now broken its 50-day moving average:


For now though, I do like the long side of gold and hope that we get our corrective rally soon, firstly because I’d like to play it, but more importantly because it would provide such a nice short entry. Downside momentum seems to be stalling around the $1100 level, even as the dollar has chugged ever higher.


RSI seems to be rounding out, and the $1095 is a pretty clear stop, so the short-term odds seem to favor a long position. Who knows, maybe the big rally isn’t dead yet. We still haven’t busted cleanly through the 50-day average, though with the dollar having turned with such gusto much of the impetus for the rally is gone.

Gold:Silver ratio approaches support

The relative values of gold and silver are a measure of risk aversion, akin to the VIX. Silver is largely an industrial metal and reflects appetite for commodities in general, whereas gold is owned as hard cash for safety.

Witness the premium silver fetched in the commodities mania of 2007 to July 2008, and the soaring value of gold in the panic last fall. Like the VIX, it registered a peak in October and November and did not confirm the equity lows in March. There is also a correlation in recent months between Gold:Silver and the US dollar index (only 3% bulls there yesterday, by the way).

We’re now a few points above a level where two major trend lines intersect, though the RSI and MACD are already in oversold territory. A quick, terminal spike in silver would complete the pattern nicely:


Readers know that I am a stomping dollar bull and precious metals bear at the moment. Gold bugs, take a chill pill — I’m all for a gold standard, and yes, gold will continue to outperform most other assets in this depression, but that doesn’t mean the metals aren’t overbought like everything else in this reflation/recovery mania. Possible spike tops notwithstanding, I expect both silver and gold to fall from here, and for silver to fall harder. I expect $14 within 6 weeks, followed by $12 early next year, and possibly even $8 in a year or two.