Questions For Us All

Good Evening: Despite some mid day misgivings, U.S. stocks rose a fourth straight day on Wednesday. Mirroring the back and forth nature of the day, both the corporate and economic news was mixed, with the Fed’s Beige Book release garnering most of the attention. The dollar, too, was behind some of the volatility, since the greenback tried to dig in after setting another 2009 low. Gold did the opposite, going from firm to weak, causing more than a few to wonder if Barrick’s decision to cover its gold hedges will mark a top in the precious metals. I have my doubts on that score, as does the fixed income research team at Credit Suisse. This London-based team’s latest “Market Focus” dissects the psychology driving risk appetites, and their piece forces us all to ask ourselves some interesting questions.

Wednesday’s session started quietly enough, with a nice rise in weekly mortgage applications offset by mixed results in weekly chain store sales. Stocks opened near the unchanged mark, though NASDAQ soon led the way higher in anticipation of Steve Jobs’ return to unveil Apple’s latest products (which were later viewed with mild disappointment — AAPL fell 1%). Equities continued higher until the S&P 500 started to run into some resistance just below its highs for the year. The Fed’s Beige Book was released during the afternoon, and while some tried to peg the resulting swoon on this compilation of economic conditions in the 12 Fed districts, I saw little market moving news inside this release (see below). The brief sell off back toward the unchanged mark better coincided with the lack of a wow factor in Apple’s new I-Pod line up.

The major averages still found a way to put on their rally caps during the final hour, however, and they went out not far from their best levels of the day. The gains registered ranged from the Dow’s 0.5% to the Russell 2000’s 1.75%. Treasurys were unruffled, despite the early weakness in the dollar and the subsequent equity rally. A falling dollar will matter some day to the bond market, but today yields were little changed. The greenback staged a minor comeback from the aforementioned yearly lows, but it still finished with modest losses. Commodities, too, reversed a bit before closing with smallish gains. Though gold and silver came in for some profit taking after a morning surge, gains in the energy complex enabled the CRB index to rise 0.25% today.

The yellow metal in particular was the subject of a brief flurry of questions I received from readers this morning. They wanted to know whether Barrick Gold’s decision to cover its remaining gold hedges near the all time high price for gold could be considered a sign of a top in the barbarous relic (see below). “Isn’t this move representative of the type of capitulation that occurs near important inflection points?” was a representative question. Another was more succinct, asking, “Ding?” (in reference to the imaginary bell that can be heard at tops when one listens hard enough). Since I am no different than any other, open-minded investor with a contrarian streak, I will concede that Barrick indeed threw in the towel on its hedge book and that gold might now correct.

How long or how deep any pullback in the yellow metal might last is unknowable, but I don’t think the Barrick news marks a top any more than the explosion in Ashanti’s substantial hedge book did earlier this decade. Amaranth Advisors had a spectacular blow up in 2006, but it didn’t mark a top in energy prices, either (oil more than doubled during the next two years). I think Barrick’s decision to cover their hedges is more likely to be a head fake, one of those classic, bull market moves that begs you to exit your position before the ultimate highs are seen. To me, the fiat currency-eating termites unleashed by quantitative easing will prove to be a much greater force than any news emanating from any one company.

Only time will tell whether or not ABX’s pain marks an important top in gold prices, but the direction of all risky asset prices is the subject tackled in the latest “Market Focus” from Credit Suisse. The title alone, “Angry Bears and Timid Bulls” gives readers a hint that the authors wish to look not just at the state of the global markets, but at the psychology behind them as well. It is a rich read, one that looks at the markets and their fallible participants from various philosophical angles. I could spill quite a bit of ink describing the various aspects of what amounts to a graduate level course in miniature, but I’ll leave it to readers to draw their own conclusions about this team’s take on the credit crisis and what might come next.

What I will say is that the authors posit that the 2007-2009 episode is more akin to a 19th century banking panic, one that isn’t necessarily destined to lead to some dark, “new normal”. CS thinks we’ll find a way to muddle through, that stocks could advance a further 20% to 30%, and that risk assets in general can remain firm. In considering risks to their forecast, they do allow that it is possible for all the fiscal and monetary stimuli forced upon the markets could some day lead to a funding crisis — should investors start to question the credibility of policy makers. CS even backs up their somewhat hopeful view of the future with some statistics, though, for them, it all comes back to psychology: The bears demand more punishment for the credit sins committed during the great boom, while the bulls worry that their recent gains might vanish any day now (hence the title of the piece). I will close with some interesting questions CS asks investors to ask themselves before passing judgment on their theories:

“Just ask yourself how much mental and emotional energy you have invested in thinking about how the healing process might be self-reinforcing, or on how some of the fall out from the crisis might help to lay the foundations for sustainable growth in the future. As opposed to how much time and energy goes into thinking about bad outcomes, and risks. Equally, ask to what extent the opinion formers you respect are — without being fully conscious of it themselves — positively looking for ways in which things can go (very seriously) wrong, and how much emphasis is now being put on a “new era” of negative feedback that children of the bull market can hardly comprehend.”

Not asking (or perhaps not honestly answering) questions like these led me to be caught under-invested during the rallies that followed the last two bear markets (’90-’91 & ’00-’02). Due to the potential for a funding crisis down the road, it might be different this time, but today’s psychological backdrop puts the onus on those expecting uniformly negative outcomes to reconsider their position.

— Jack McHugh

U.S. Stocks Gain as Goldman Advises Buying Industrial Shares
Fed Says Economy Stable or Improving in Most of U.S.
Barrick Sees $5.6 Billion Charge to End Gold Hedges

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