THE CURRENT NARRATIVE ON STOCKS REACHED DANGEROUS LEVELS

The markets cheered and climbed higher despite the potential of more interest rate hikes int he future. First, the PMI data came in at 54.2 vs expectations of 53.9. Then came the Housing Market Index which came in at 70 vs expectations of 63.

The we have another USD10B of gold futures contract being dumped into the market due to the rising USD. This caused gold to break the USD1,150 support line and as a result silver plummeted by a whopping 5%! Since election, total gold futures contracts sold have exceeded the global production many times over.

But first let's look at the PMI data. Zerohedge published an interesting comparison between the PMI data which is a survey of Purchasing Managers (soft data) vs the hard data which is the Industrial Production (see chart below). Notice how completely out of sync the two sets of data are. It is the Industrial Production data that gives better guidance of the Q4 GDP.

Source: Zerhedge

Next we have the Housing Index which is a measure of the confidence (soft data) in the housing market. But let's look at what is actually happening. The Purchase Mortgage Index and Refinance Mortgage Index fell -4.0% and -4.0% respectively vs the week earlier. Yes, the builders are confident but the buyers are showing signs of fear of higher mortgage rates.

And if you remember the chart I posted a few days ago on home ownership which is in multi decades low.

So the Housing Market confidence could be somewhat misplaced as rates are expected to soar going forward. Today, Wells Fargo's 30 year mortgage rate is 4.25%.

For refinancing, the rate is 4.625% and this has got Freddie Mac (a national mortgage giant) alarmed (see chart for refinancing). The number of refinancing has dropped more than 50% (from 8.3M to 4.0M).

Source; Zerohedge

The amount of US Treasury sold by foreign central banks on a rolling 12 month period surpassed USD403B a new record by itself (see chart). The previous record was USD375B. 

This is a sure sign that US government will have to pay higher interest for its US Treasuries going forward which swell its extremely high deficit.

Source Zerohedge

The Fed targets 1.25% interest by 2017. Assuming the US government debt remains at USD20T (which will never happen due to annual deficit of USD600B), the increase in 1% interest means that interest payment will increase correspondingly by USD200B a year which it needs to borrow by issuing new US Treasuries.

We have not even counted the impact of further tax breaks as proposed by Trump.

On top of that, non financial corporations outstanding debt stands at USD5.7T. This 1% increase will result in a debt service cost of USD57B a year which will eat into the earnings. On top of that, the strong USD will weaken earnings further.

So the markets continue to ignore the weakening fundamentals, the impact of interest rate hikes and strong USD in earnings and the bond carnage which put the risks at very dangerous levels.

It pays to be careful now more than ever as the curretn narrative ons tocks has reached dangerous levels

The above is just my opinion.

THE EXUBERANCE HAS REACHED WORRYING LEVELS

All the major indices in the US continue to push to new record levels. Such exuberance has not been seen since the dot com super bull run - which points to more risks ahead. Of course some may argue that this time is different. Trump is not in office yet but the markets are all pricing as though the US GDP will grow 4% - 5% a year.

Here's why I think the markets have gone ahead of themselves.

1) The good number in US Factory Orders which rose to its highest in 16 months.This led to a higher PMI number as well. And of course the market cheered. But take out the transportation (aircraft orders) and military spending, it is down. Coincidentally, the US budget deficit rose to US$600B and debt increased to US$1.2T in the year. It looks like the US government borrowed even more money to spend to boost the economy, presumably to help the Democrats retain the Presidency. The US government is spending money at an alarming rate, money it does not have (see chart below).

2) The Unemployment at 4.6%. That is pure manipulated data. A separate report showed that anther 446K joined the ranks of people of employable age but could not find a job. That number is now 95M. Just some months ago it was 94M. Meanwhile, the bulk of it are part time and minimum wage workers and the number of workers holding multiple part time jobs have also increased. So, do you see the picture? Number of jobs is not equal to the number of persons employed. Meanwhile the Labour Participation Rate continue to remain weak - weaker than the pre-crisis level. But the markets never analyse anything beyond the headlines

3) The economy is going to reflate. Interest rates will go higher. It’s good for the banks. Therefore it is not a surprise that the Financials are leading the indices higher. Since when are higher interest rates good for the economy? When the Fed normalised interest rate to 5% in 2008 the entire global economy went into a severe recession. Higher interest rate will impact housing and refinancing.

A person needs to have 45% higher income now to buy a medium cost house than four years ago based on the revised housing loan rate. What does this tell you? To me it looks like housing is getting further beyond the reach of the average income earner. 

Higher interest rate also means higher cost of debt service for corporations. Since the last few years US corporations have borrowed US$2T – US$3T. What will higher interest means to the earnings of these companies?

Another thing which investors are ignoring is the bond carnage. US Treasuries are being dumped, therefore pushing the yields higher. This could impact on the borrowing costs of the US government. The US would have to borrow at a higher interest rate to pay for debts which it incurred at lower interest rate. This is the most dangerous part which the markets ignored.

4) The strength of the US$ will hurt multinationals. According to Fact Sheet 50% of the companies in the S&P earn their revenue abroad. Yet the markets are not even pricing in the impact of the US$ on their earnings.

It does pay to be careful when markets are at such lofty levels.

In the meanwhile, avoid buying any gold or silver miners as I believe there could be a takedown in the precious metal in the run up to the FOMC meeting next week where the markets have price in a 0.25% hike in interest rate. The best time to reassess your position again is after the FOMC meeting. However, other miners in iron ore, lithium and copper have seen their share price risen in the past few weeks.

ITALIAN REFERENDUM AND GOLD AND SILVER TAKEDOWN

The Italian referendum came and went. But the markets have never been more chaotic.

As Zerohedge reported, in BREXIT, it took the markets 3 days to recover, in Trump's win, it took 3 hours and in the Italian referendum, it took 3 minutes for the markets to swing from a loss to a gain, thanks to central banks intervention once again. 

It looks like the central banks were able to act in unison to prevent any fallout. Gold was once a gain a victim. A total of US$3.5B of gold contracts were dumped starting with the LBMA open and then another huge sell off at the COMEX open. However gold recovered towards the end of the trading day losing just a few Dollars. Silver was likewise manipulated, but it held on to its position and was little change at the end of the trading day.

Although at the beginning the miners surrendered more than half of their gains achieved Friday, by the closing bell the some miners were mostly in the green.

The situation was not helped by rumours that India is restricting gold ownership which later was denied by the officials. Frankly I don't see that happening as many temples in India have vast amount of gold and it is unlikely the government would want to stir a hornet nest by imposing restrictions on gold ownership. Still the bullion banks will ride on any rumours to take gold down.

Then we have the liquidity problem in China that is causing the government to restrict import of gold despite the large appetite for the precious metal in China. The liquidity crisis in China is a major problem and could trigger a wide spread crisis in the region. Already, there are several restrictions on cash such as conversion to foreign currencies, bitcoin and merger and acquisition by state companies. China would not impose such restrictions if the situation is not dire.

However, the demand for gold in India continues unabated. Chinese are paying more than US$20 premium per oz over the spot prize. In India the black market for gold is more than US$3,000 per oz. The greater the restrictions the greater the demand.

So the bullion banks use the restrictions as a negative narrative to push down the price of gold, but events within the countries show otherwise. Therefore it is not surprising that many long term holders panicked and sell off.

If anything the crisis in India and China shows that when all else fail, gold and silver are the only protection against major crises.

Going back to silver. Silver has held up pretty well because silver is not only a precious metal but an important industrial metal.Silver is used for all types of electronics due to its super conductivity. it is also used in the medical industry due to its medicinal properties. None of these are ever recycled. So silver supply is falling and production now is lower than 2015.

Economic growth in US could lead silver higher, not as a precious metal but as an industrial product. Since May, the US has been importing tremendous amount silver. It could be a sign of demand and that bullion banks have shortage in silver. Silver therefore could be the Achilles heel of the bullion banks.

The US$ has weakened somewhat in the last few days. One thing to look out for is the USD/JPY rate. The elation of a Trump victory has caused the US$ to skyrocket and the Yen weak. What happened next was a carry trade in Yen (due to low interest rate) to purchase securities in US, which pushed US$ higher and the Yen even weaker. According to Phoenix Capital, the carry trade was somewhere in the region of US$10T. I will be watching for further signs for the Yen to strengthen due to the following:

1) As the US stock market losses steam and economic realities set in, a big correction could ensue and with that a falling US$

2) Further dumping of US treasuries. This is akin to dumping US$ which could weaken confidence in both the US economy and US$

3) A sell off in international bonds could reach Japan's shore. About 10% of Japanese bonds are owned by international investors. A sell off could spark a rise in yield thus making the Yen stronger and the US$ weaker

4) A falling US$ will mean a stronger Yen and this could cause a domino effect as the carry trade is unwound. There will be a massive crash as investors panicked pushing the US$ lower

In such a scenario, gold and silver, miners and related ETFs could do well.

Precious metals aside, I believe the next major trade will be in commodities, and companies involved with commodities could perform better than other industries. Some of the major movers recently are iron ore, zinc and lithium Another commodity which has reversed its downtrend is copper. It therefore pays to look out some good copper producers.

The above is just my opinion.