Wednesday, August 17, 2011

It’s a Technical Mess All Over the World: Yamada

As markets around the world put the brakes on a nascent comeback rally after only 3 sessions, legendary chart analyst Louise Yamada says it's a technical mess all over the world. "We are at a critical juncture right now," warns Yamada. Be it the BRICs, other Emerging Markets, or Europe, Yamada says "all of them have come into long-term sell signals" with the exception of Japan, Thailand, Jakarta, and a few U.S. markets.

As if the debt concerns out of Greece, Italy, and France weren't enough, word comes today that the global slowdown is hitting Europe's largest and most stable economy: Germany. The country reported a weaker than expected second-quarter GDP rate of 0.1%, compared to 1.3% in Q1.

"Germany was the strongest market and it had a very severe setback...and went right to the bottom of the 2010 support," says Yamada. "So any further decline there and you bring into question whether the market goes to the 2009 lows."

In the case of the Germany's benchmark DAX (^GDAXI), that would be a fall to about 3600, nearly 40% below current levels. The index has suffered a 16% drop in August alone.

Another global powerhouse is also in question. Yamada points out that Hong Kong's Hang Seng Index (^HSI) is at the same ''critical juncture." Right now it sits at 2010 support levels and is now looking at the possibility of a further 40% support gap back to its 2009 trough.

But before you race off in search of a safe haven, Yamada says it's best to wait for some clear confirmation that the global downtrend has reversed. Until that happens, "rallies would be best used to lighten some positions."

Precious metals guru Morgan: Silver could fall more than 10% before soaring to $75

The new normal could be $75/oz. silver. In this exclusive interview with The Gold Report, David Morgan, editor of The Morgan Report, maps out a path for silver that could sink by $5/ounce (oz.) during the summer pullback and then bounce up to $75/oz. to establish a new base level. A consistent Silver Institute Production Cost Standard could help investors make smarter decisions during the coming upswing.

Companies Mentioned: First Majestic Silver Corp. - Franco-Nevada Corp. - Royal Gold Inc.

The Gold Report: In your Morgan Report, you have written extensively about the impact of global financial issues on gold and silver prices. At least temporary solutions have been found for the euro-Greek tragedy and the U.S. debt limit debacle. Will this give the U.S. dollar a boost at the expense of precious metals?

David Morgan: It is getting more difficult to predict what the market reaction will be to specific events. As people figure out that there really is no solution to the global financial system without a great deal of pain and some defaults along the road, more will seek the safety of precious metals. So, even when things calm down for the moment, it does not mean the precious metals will not get pushed down. You could see gold and silver react to the downside, perhaps dramatically—a $5/ounce (oz.) drop in silver is not entirely out of the realm of possibility. My best guess is we will see some pullback going into mid-August.

TGR: Today, gold hit $1,700/oz. during what is normally a summer slow season. Can this climb continue? What are the drivers?

DM: Yes, it can continue and the driver is uncertainty. Look at all the problems in the currency markets. It seems interbank lending is starting to freeze up in Europe. This was one of the main factors contributing to the financial crisis of 2008. So there is much to consider and it boils down to the fact we are in the final stages of a currency depreciation on a global basis.

TGR: A lot of the economic indicators—GDP and consumer confidence, in particular—are coming in weaker than expected, not to mention the Standard and Poor's downgrade of U.S. debt. Could we see another 2008-style sell-off, and how would that impact precious metals?

DM: Fundamentally, nothing of substance has changed since 2007 except that the banks have lots of money on hand. You have to understand that the silver market has a mind of its own. What happened in 2008 was a silver sell-off that caused a shortage, pushing the physical price of silver at the retail level to around $13/oz. while paper silver traded under $9/oz. on the futures exchanges. Excessive short selling then ran the price from about the $20/oz. level to the brink of $50/oz. The next leg up could take out the $50/oz. level after a few tries and then not look back until establishing a new nominal level of $65/oz.–$75/oz. (more)

A Second Look at the CMHC

"The CMHC guarantee is a direct and unconditional obligation of CMHC as an agent of Canada. It carries the full faith and credit of Canada, and constitutes a direct and unconditional obligation of and by the Government of Canada."

If the above quote doesn't bother you, it should, because it represents a potentially massive amount of debt that will be shoveled on to to backs of every man, woman and child in Canada. A government bureaucracy, staffed by unelected functionaries, has pledged over a trillion of your tax dollars as payments to investors should their decisions turn sour.

In The Canadian Moral Hazard Corporation I highlighted the issues faced by the Canadian mortgage and housing market. As a country we're faced with record high levels of debt in both absolute and relative terms, record high housing prices and record low levels of savings. Based on overly-rosy future outlooks, Canadians have by and large become extremely leveraged and could soon have little to show for it.

In order to really understand just what we're facing as a nation and how it will unfold, a closer inspection of the CMHC is needed. It's also instructive to compare the CMHC to other similar organizations. For this comparison, it will be appropriate to use Fannie Mae (FM) in its 2007 incarnation. The CMHC is essentially the Canadian-based clone of FM with only one major exception; the US-government had a choice whether or not to bail them out. FM was 50% owned by the US government and 50% publicly traded. The CMHC is, by contrast, a 100% government-owned crown corporation.

Raw numbers on their own aren't always useful, it's better to look at ratios and leverage ratios give us a good look as to how far down the debt-hole a company has ventured. So without further ado:

CMHC 2010 Fannie Mae 2007
Assets to Equity 25.64 20.05
Guarantees to Equity 73.46 65.63
Debt to Income 18.89 18.73

From the vital statistics above, it's obvious that the CMHC is in an even more precarious position than FM. It is more leveraged in every respect and so the conditions are ripe for a collapse in this company. Its exposures to credit, interest and market risk are extremely high and it appears that little is being done to correct this situation. Little can be done though since the contracts have been signed and promises already made to investors.

Further compounding the situation is the short-term nature of CMHC's debt. Much of which matures over the next few years.

Canada Mortgage Bonds
(in millions of dollars) Amount Maturing Yield
2011 36,152 4.07%
2012 38,956 4.30%
2013 36,128 3.40%
2014 36,025 2.53%
2015 31,008 2.52%
2016-2020 19,219 3.40%
Total 197,488 3.40%

Borrowings from the Government of Canada
(in millions of dollars) Amount Maturing Yield
2011 1,661 2.71%
2012 1,406 3.59%
2013 26,137 3.58%
2014 29,133 2.52%
2015 2,275 3.68%
2016-2020 1,442 7.18%
Thereafter 2,215 8.41%
Total 64,269 3.40%

Interest expenses are the largest line item on the income statement, making up 68% of all expenses. Rising interest rates will quickly wipe out what little net income the CMHC is still making, further endangering the company. If they start realizing losses, the company will either have to start selling off its assets or borrow even more at higher rates, further compounding the problem. Over half the CMHC's assets are made up of mortgage-backed securities that they themselves guarantee. Turning from a net buyer to a net seller of MBS will have a profound impact on the mortgage market.

In fact, it appears that the CMHC doesn't even consider credit risk an issue since they make absolutely no allowances for it. Instead we're faced repeatedly with the statement that "CMHC’s liabilities are backed by the full faith and credit of the Government of Canada and there is no significant change in value that can be attributed to changes in credit risk." When an organization knows that it can get in to debt and guarantee anything it wants in the pursuit of profit, and be able to put the taxpayer on the hook for it all if it goes bad, is it any wonder that this is what happens?

If US Gold Reserves Were the Same % as National Debt

One of the world's "smartest" markets says stocks could have much further to fall

Whenever the equity market is having big moves to the upside or downside, it often helps to compare the move to trends in the credit markets, and more specifically high yield credit spreads. When the equity market is rising, we should see spreads on high yield bonds contract, and vice versa when the equity market is declining.

With this in mind, the recent widening of spreads in the high yield market is a potential red flag. According to Merrill Lynch indices, high yield spreads widened out to 739 bps yesterday and took out the highs from last Summer (727 bps). At the same time, the S&P 500 is still 13% above its lows from last Summer.

Recent Gold Hedging Activity – a Warning Sign?

by Andrey Dashkov, Casey Research

In the first quarter of 2011 (Q111), net gold hedging was reported by GFMS and Société Générale. A gold mining company may hedge its production on expectations of falling gold prices in order to lock in high prices and possibly avoid losses. As gold hits one nominal high after another, is such behavior a sign that the bull market in gold is over?

To answer that question, we had a look into Boliden’s (T.BLS) latest interim report. The GFMS study mentions that in Q111, Boliden was one of the most active hedgers; it was accountable for 58% of gross hedging activity during that period. Let’s have a closer look at the company.

Boliden is not a pure gold mining company. Gold is metal number three in Boliden’s portfolio, after copper and zinc. In the second quarter of 2011, Boliden produced 158.5 million pounds of zinc and 45.2 million pounds of copper in concentrates. Gold production in Q211 amounted only to 35,062 ounces; silver, 1.9 million ounces. Boliden is a regular hedger.

Under the current gold price environment, in the beginning of 2011 Boliden decided to increase its gold production. It plans to accomplish this by expanding operations at its Garpenberg zinc-copper-lead-gold-silver mine and by starting up a new mine, Kankberg, which would produce tellurium and gold. Both are located in Sweden.

Boliden used hedging to insure its planned US$614 million (SEK3.9-billion) investment into Garpenberg and US$75 million (SEK475 million) investment into Kankberg. At Kankberg, it hedged all future tellurium production and 80 percent of the gold output. The company wants to leverage on the current high gold and tellurium prices to make sure Kankberg operations remain profitable.

Boliden’s case is quite understandable. Hedging has been the company’s policy for quite a long time, and the need to insure two large new production initiatives resulted in an unusual amount of new contracts.

While Boliden seems to continue committing a significant portion of its future sales in the form of forward contracts, about 60% of all deals at the end of the first quarter make use of a different vehicle: collar options.

The collar-option strategy provides the seller with a balance of limited downside and more flexibility on the upside. The strategy in essence provides a trader (a mining company, in our case) with a price corridor for the contracts to fluctuate within. This is more flexible than setting up a fixed forward price.

It is quite interesting to see what the current price corridor for future gold sales looks like, judging by the option positions held by gold hedgers. Have a look at the following table:

CompanyDownside CapUpside Cap
Minera Frisco, S.A.B. de C.V.1,229.521,799.45
Industrias Peñoles, S.A.B. de C.V.1,1002,140-2,622
Golden Star Resources1,050-1,2001,457-1,930
Coeur d’Alene Mines940.351,852.62

The numbers seem quite familiar. The “floors” remind one of some of the more conservative gold prices used in the current economic assessments of gold projects: US$940.35 is close to what Exeter Mines (T.XRC) used as the lowest gold price in its prefeasibility study on the company’s monster Caspiche deposit (US$1,000). The highest “ceiling,” US$2,622, is higher than most of the “best-case” mine scenarios, but is understandable as a gold price projection based on how the metal has been performing so far in 2011. In short, these numbers do not seem to reveal anything that we don’t already know… the timing, however, is quite interesting.

Timing is an important parameter in option pricing. As it turns out, on average the hedgers’ contracts span over quite a short-term period. Quoting the GFMS report:

While the industry as a whole appears to be less vehemently opposed to hedging than was the case a couple of years ago, we note that most hedging is still being undertaken over a short to medium time frame: little hedge cover extends beyond 2013.

There are outliers, however; and Boliden is one of them.

It is interesting to note that around half of [Boliden’s] contracts are scheduled for delivery between 2014-2017; the longest dated contracts seen for quite some time, put in place to secure the long term viability of the Garpenberg expansion.

As we see, the reasons behind the increase in hedging are understandable. There are no signs of a tectonic shift in producer attitudes towards gold. The most cautious ones take advantage of the metal’s price increase, but their actions are largely company- and even project-specific. Hedging can be a good way to increase investor confidence in a mining project, to insure their investments, or to secure a bank loan. We do not see that positive net hedging in the first quarter is alarming – the economic problems bubbling to the surface now should provide a lot of reasons for the gold price to continue rising for quite some time.

Finally, most of the global hedge book is comprised of recent contracts, the report says. They were entered into when gold hit nominal highs and some of the mining companies started acting protective of their future revenues.

Bullish News For Agriculture : CNH, CROP, DD, DE, MON, MOO, SYT

While the headlines focus on the problems stemming from the European Union, Greece, and the potential of a slowing economy, there is plenty of bullish news out there that longer-term investors can use. For those investors interested in the agriculture commodity space, the recent crop report points to higher prices. However, with the recent market rout, investors currently have the opportunity to pick up some good assets that could strengthen portfolio for years to come.

Lower Yields on the Horizon
Despite the slowing economy, the hot weather in America's heartland is having its way with agricultural commodity prices. The main growing region of the Midwest has experienced the hottest summer since 1955 and according to the USDA that will result in smaller harvests entering the dog days. Overall, the U.S. Department of Agriculture cut its corn crop estimate by 4.1%, soybeans by 5.2%, and spring-wheat production by 5.2%. These amounts were all revised lower than predictions made in July. The surprise downgrade has caught many analysts off-guard. A survey posted by Bloomberg showed that the average estimate of 20 analysts was 536 million bushels of spring-wheat. The USDA's predicts that number could total just 522 million bushels. Both soybean and corn estimates showed similar gaps.

The other bullish take-away from the USDA report is declining amount of declining planted acreage. The organization cut nearly 500,000-planted acres from Montana as well as an additional 450,000 acres from North Dakota from its forecasts. Again, weather was cited as the reason. According to the National Weather Service, parts of North Dakota, the nation's largest wheat producer, had tripled the amount of normal rainfall during the late spring/early summer. Farm real estate and cropland in the Northern plains has seen acreage prices rise nearly 17.2% over the last year and some analysts see continued increases in prices as less usable acreage is available.

The United States is a major exporter of these three key agricultural commodities and these setbacks to production and harvest amounts will greatly affect world prices. As world populations continued to increase and emerging markets clamor for more food, prices will undoubtedly increase. China is already on pace to purchase a record five million metric tons of corn this year, up from about two million tons in 2010. To satisfy its demand for wheat, imports into China will need to rise by more than 30% this year.

Buying Some Ag
As investors dumped risk over the last few weeks, the agriculture sector fell equally as hard. However, given the USDA crop report, many analysts suggest that ag related equities could see their prices rise over the next few months. Now could be the best time to add the sector to a portfolio. Both the Market Vectors Agribusiness ETF (NYSE:MOO) and IQ Global Agribusiness Small Cap ETF (NYSE:CROP) can be used to add exposure. However, they aren't the only ways. Here are a few other picks:

While Deere (NYSE:DE) gets most of investor attention when it comes to tractors, there are plenty of other manufacturers seeing gains. Dutch firm CNH Global NV (NYSE:CNH), through its Case IH and New Holland brands, continues to expand rapidly into emerging markets. Similarly AGCO (NASDAQ:AGCO) has been implementing high-tech solutions into its tractors, including soil data collection systems and automatic steering.

The recent weather problems in the Heartland, along with last year's drought/flooding in Russia and Australia, help underscore the need for GMO seeds and better fertilizers. The trio of Syngenta (NYSE:SYT), Monsanto (NYSE:MON) and DuPont (NYSE:DD) allow investors to tap into the best of the modified seed producers. While the Global X Fertilizers/Potash ETF (Nasdaq:SOIL) tracks 29 different firms associated with the sector, including leaders Potash Corp. of Saskatchewan (NYSE:POT) and Agrium (NYSE:AGU).

The Bottom Line
Despite all the bad news facing the markets, there have been some bullish reports. The recent USDA crop survey is one such tidbit. For investors, the recent market rout can provide the perfect opportunity to add some ag equities like Jefferies CRB Global Agriculture (NASDAQ:CRBA) to their portfolios.

Jay Taylor: Turning Hard Times Into Good Times

8/16/2011: Dow 1,000/Gold $4,000 Revisited with Ian Gordon

click here for audio HOUR #1 HOUR #2

Best Opportunity In 30 Years?

What The Money Spent In Iraq And Afghanistan Could Have Bought At Home In America

With talk of trimming the defense budget floating about Washington, lawmakers are eager to nail down what's being spent where but despite their best efforts, answers are proving hard to find.

Stars And Stripes reports that as of May 2011, U.S. efforts in Afghanistan and Iraq totaled $9.7 billion a month, or roughly the entire annual budget of The Environmental Protection Agency.

While the total amount spent on the two wars could range anywhere from $3.7 up to $5.2 trillion, depending how much the Pentagon pulled from its base budget, even small chunks could power many efforts at home.

  • The amount the U.S. spends in Afghanistan and Iraq each month could run the entire State Department for four months.
  • For the cost of one month in Iraq and Afghanistan, NASA could have launched the space shuttle five more times.
  • Medicare's 2003 expanded drug benefits for seniors that will cost $385 billion over 10 years could be paid for with 40 months of Pentagon spending in Iraq and Afghanistan.
  • Two years of air conditioning for troops in Afghanistan at $38 billion could provide 40 years of federal Amtrak funding.
  • Five years of fuel for vehicles, generators and aircraft in Afghanistan at $10.3 billion could have paid for the 2010 EPA budget.

Even the most basic estimates can be deceiving. From October 2010 to May 2011 the U.S. military bought 329.8 million gallons of fuel in Afghanistan at $1.5 billion or $4.55 a gallon. Reasonable at a glance, but that number doesn't reflect transportation costs to and around combat zones, injuries, deaths, medical treatment, and rehabilitation -- all of which drive the cost to hundreds of dollars per gallon.

Even as the wars wind down, costs are rising. It now costs the U.S. $694,000 to keep each servicemember in Afghanistan, up from $667,000 in 2009. In Iraq, the cost has gone from $512,000 in 2007 to $802,000 this year.

The irony to the increased costs is the military now has a smaller, less well-trained force, and older, run-down equipment as it buys materiel that's vastly more expensive than what it's replacing.