QE is not Producing Inflation here in the US

In response to some private emails, I wanted to post up a chart detailing why, in spite of the massive amount of money created through the Federal Reserve's Quantitative Easing, there simply does not seem to be a massive wave of inflation building here in the US. Some may be wondering why I tend to focus on this thing termed, "Velocity of Money" but in my view, even though at times it may seem to delve into the realm of the esoteric, nothing can be more important in determining the future direction of the gold price.

Many will recall that when the first QE program was instituted ( late 2008) commodity prices and stock prices both bottomed out. The view of the majority of investors/traders was that the creation of such enormous sums of money through bond buying and mortgage backed security buying was going to result in a sharp jump in inflation. Almost as if on cue, commodity prices began to rocket higher as hedge funds jumped in on the long side of that asset class.

As the initial QE I began to near expiration, the Fed announced round 2 and thus QE II was born. More commodity buying ensued with gold soaring higher, eventually reaching a peak above $1900.

A strange thing began to happen however after QE II wound down - after that was replaced by QE III, Operation Twist, and then QE IV, gold continued to move lower along with most of the rest of the commodity complex. The US equity markets continued to ascend however.

I am not an economist nor do I make any such pretense of so being. What I am is a trader and traders have to notice when markets no longer respond in the manner to which one expects or assumes that they will respond.

Something had changed and for whatever the reason ( we can leave that to those who are more sophisticated about such matters ) a general wave of deflationary pressures surfaced in the commodity complex. I maintain that most of the "money" being created by the QE programs has not and continues to NOT make its way into the broader economy. It has gone primarily into the hands of speculative forces which have directed into equities. In other words, while these QE programs have not resulted in the widespread outbreak of inflation that most market participants originally expected them to produce during rounds I and II, one thing I think we can say with absolute certainty, is they have indeed produced a MASSIVE WAVE OF INFLATION in the US EQUITY MARKETS.

Such huge sums of "money"/ liquidity cannot be conjured into existence WITHOUT SOME CONSEQUENCES SOMEWHERE. To believe otherwise is to suspend all economic common sense and logic.

Let me interject one note here when it comes to general commodity prices. Many who read this site have seen me use ( to the point of disabuse ) the phrase, " the best cure for high prices is high prices". What is meant by this is that high prices encourage those entities engaged in the creation/manufacture/production/growth of the various commodities that are rising in price to INCREASE their production in order to maximize their profits as they take advantage of this increase in the price.

This is capitalism at its finest - the market gives the signal and the industry responds to the signal. As the supply then increases due, it eventually overwhelms the demand at that level and price then falls to balance the new increase in supply with the current level of demand.

During the run up in commodity prices during QE I and QE II, producers/growers, etc. responded to the higher prices by ramping up the supply. As there is always a lag time between the rise in price and the subsequent increase in supply, we are now seeing that. One can merely look at the corn and soybean markets as an example. I had quipped to some newswire writers and some friends that these extreme prices for both of these commodities was going to send growers in both S. America and here in N. America down to their local Home Depot/Lowes to buy clay pots and other assorted window boxes so as to have even more space/"land" to plant these crops. Lo and behold, we put in a record corn crop this year and an extremely large bean crop. Ditto for S. America.

So now we have two forces that have been working against any rises in commodity prices ( in general ). The increase in supply resulting from higher prices a couple of years ago combined with an outflow of speculative money in SEARCH OF YIELD in this NEAR-ZERO interest rate environment.

This has been a bit of a digression from my main point here but I felt it was important enough to note this. Here is that chart again:

Note how in spite of the QE programs, this key indicator, has continued to fall. Again, not being an economist I cannot get into all the when, where's and why's about this indicator but suffice it to say, my understanding of the inflation phenomenon, in the sense of sharp jumps in inflation, requires that money be changing hands in the general economy at an INCREASING RATE. That is clearly not happening.

What is rather startling is that this indicator has fallen to its lowest level since this data set was collected. That was over 50 years ago!

Look closely at the last grey area on the chart indicating a recession. Can you see how the Velocity of Money plummeted during the onset and into the depth of the credit crisis that erupted in 2008? Then look at the brief blip higher on the right edge of that grey region. Velocity of Money shot up rather sharply when QE I was announced. However it did not last in that uptrend for long. The graph peaked in the second half of 2010 and has been moving lower ever since.

Here is a closer look:

Here is a chart of gold:

It continued moving higher for nearly a year after the Velocity of Money turned lower. Some of this is the result of the sharp fall in the US Dollar that began at precisely the same time that the Velocity of Money chart peaked.

Here is a chart of the US Dollar index peaking at the same time VoM turned lower:

We then had the outbreak of the European Sovereign Debt crisis which triggered another huge round of gold buying but once that crisis was "contained" ( not solved ) there was nothing left to support gold based on the "inflation is inevitable" prognosis as the Velocity of Money continued moving lower.

Note how gold turned lower after the ECB took actions to stem the bleeding in the European sovereign debt market:

It seems to me that gold is now basically mirroring the Velocity of Money at this point. Outbreaks of confidence-rattling episodes have brought buying into the metal, but once that issue(s) is(are) resolved, or better, removed from the forefront of trader/investor's minds, the path of least resistance takes over and gold heads downwards once again.

This now brings me full circle to why I believe any sort of SUSTAINED RALLY in the price of gold will not occur until either CONFIDENCE in the ability of the monetary masters is shattered or rattled, or INFLATION EXPECTATIONS begin to arise. The latter is tied directly to the Velocity of Money in my opinion. When/if we see that indicator turn higher, gold prices should respond. I do want to note however that it will be important to also watch the bond/interest rate market to confirm market sentiment in that regards.

As always, we can posit a theory but until the market confirms it and sentiment shifts in that direction, a theory is simply that, a theory, or better, an opinion.

Barrick Gold

This chart is in response to a query from a reader....

The intermediate term shows the bears still in control of this issue. The downtrend was interrupted in late July. Since then ABX has been moving in a sideways or consolidation pattern. Price remains well below the key 50 week moving average.

The ADX is beginning to turn higher indicating the possibility that this stock could be resuming its bearish trend lower. Bulls cannot allow the price to fall below the July low or further losses will be seen.

If the bulls can take price past $22.50, they will regain control of the stock.

Gold Charts

Here are some gold charts once again to take a look at where things stand in that market.

Let's start with the Daily....

Note I am only using the ADX on these charts as I am trying to discern a TREND change.

The first thing to notice is that the ADX line has now turned down from a high level (above 43). That tells us that the downtrend has been temporarily halted. I have noted previous downturns in the ADX by ellipses. Note that the market has experienced some upward moves in price that followed such events. Therefore, the POSSIBILITY exists that we could see a relief rally in gold.

In my view, this will only occur IF the bulls can take price through the overhead resistance line I have noted. If that were to occur, you could see enough short covering to take the price up towards the 50 moving average which is currently moving lower ( the trend has been down) and which comes in near the $1292 level.

While the ADX has turned down indicating that the current leg lower has stalled out, the Negative Directional Indicator ( Red Line ) remains above the Positive Directional Indicator ( Blue Line) indicating that the Bears are still in control of this market on the daily time frame. I do not see any bullish divergences among those indicators at this time.


Let's shift now to the Weekly Chart...

Can you see the difference in the ADX line on this time frame? While it did turn down late in July indicating the disruption of the intermediate term downtrend, it HAS NOT TURNED DOWN at this time. Actually it is NOW RISING. Translation - on this intermediate time frame, the downtrend in gold appears to be resuming. That is in stark contrast to the daily chart.

Keep this in mind - all trend changes will FIRST be detected on the Daily Chart. Later action will then determine whether or not such a trend change is occurring as well on the intermediate or Weekly Chart or whether this is just another move higher in an ongoing bear market. One really has no way of knowing this at this stage. Only viewing subsequent price action can determine this. It is important to note however that the longer the time frame used, the more important the trend. What this means is that the onus is on the bulls to prove that control of the market by the bears is in jeopardy.

Note that the Negative Directional Movement Indicator ( Red Line ) is firmly above the Positive Directional Movement Indicator ( Blue Line ). The Bears are firmly in charge on the intermediate time frame.

Generally speaking, rallies in gold will thus be sold until proven otherwise.

Trader Dan Interviewed at King World News Markets and Metals Wrap

Please click on the following link to listen in to my regular audio interview with Eric King over at the KWN Metals Wrap.

http://www.kingworldnews.com/kingworldnews/Broadcast/Entries/2013/12/7_KWN_Weekly_Metals_Wrap.html

Gold - Commitment of Traders

Hedgies continue selling across the gold market ( at least they did before Wednesday this week - after that they were doing some short covering). In a near repeat of last week's behavior, they did not liquidate all that many existing long positions. They continue to gradually rid themselves of those, which is a bit surprising to me. What they are doing is adding more short positions as they maneuver to play gold from the short side.

I want to emphasize that for all this, this group still remains net long the gold market and has been since the inception of this particular reporting data going back to the summer of 2006. One thing to point out however, is that their overall net long position is the smallest since January 2007. Translation - hedge funds have not been this bearish on the prospects for gold in nearly SEVEN YEARS!

One could perhaps make a contrarian argument based on that fact but even contrarian arguments need a fundamental spark to turn sentiment. Unless sentiment towards gold changes for some reason, these specs will continue to sell the metal into rallies as they play more for the gains in equities that can be had versus tying up investor capital in an asset that is not throwing off any gains whatsoever right now.

Here is the overall COT Chart. Note the area within the ellipse.

Once again we see a continuation of the recent trend of overall net buying by the Commercials who have decidedly moved into a net long exposure to the gold market.

Swap Dealers are also buying on a net basis as they continue to reduce their overall net short position but they remain rather sizeable on the short side of the market. My thinking on this is that some of them are working hedges against custom made contracts for some mining company hedges.

The interesting thing is the little guys or small specs. They are net long, but ever so slightly! this report shows them with a combined futures and option position of 16 contracts on the net long basis! The last time they were actually net short this market was back during the same time frame that the spike low at $1180 occurred this past summer.

So what do we have? Speculators overall remain net long the gold market but continue to abandon the metal in favor of stocks. The Producer/User/Merchant/Processor category is now net long with Swap dealers still net short. Basically the short interest in the market is being held by this group.

After this week's wild gyrations and theatrics, there no doubt have been some consequential changes in the composition of the various groups of traders. I have my suspicions as to what took place but that is just an informed guess on my part. We will need to see next week's data for a better look inside this market.

Unlike some others who seem more obsessed with what the Commercial category is going, I am frankly far more interested in what the SPECULATORS are doing. They drive markets, not commercials. The fact that they are still net long overall concerns me in the sense that while bullishness towards gold is certainly on the wane, we have not yet seen a DISGUST with the metal that tends to make capitulation phases. Too many speak of capitulation in gold. How can that be when speculators remain as NET LONGS???

It may not seem probable right now, given the backdrop of massive QE, but I wonder whether or not we will actually see the hedge fund category move to a net short position in gold as they did in silver. I certainly hope not as a long term proponent of honest money but I rule out nothing in this environment.

Sentiment in regards to inflation fears/confidence in the Dollar must shift for gold to attract eager Western-based buying. Also we need to see Velocity of Money to increase and wages begin to actually rise instead of remaining stagnant. I am not sure that one or even two payrolls reports are going to get that for us.

I think we will see when Western-based demand for gold resurfaces when/if the reported gold holdings in those gold ETF's stop declining and start rising.

Silver Commitment of Traders

By request:

If you want to know why silver prices have gone nowhere lately, take one look at the chart and more specifically, the outlined ( IN YELLOW )  ellipse on the chart. That is the hedge funds' NET POSITION. They now have the largest net short position in the history of this particular disaggregated report.

These big and powerful speculators are what drive our markets and they continue to sell rallies in Silver. Either they are going to have to be forced out by some concerted buying or the path of least resistance in silver is lower.

My thinking is that it will take a definite shift in sentiment away from the current "economic growth is steady but slow" sentiment towards one of "economic growth is picking up speed and is increasing" in order to run these hedge funds out of their profitable short positions.

From a technical standpoint, that means we need to see an upside violation of some key overhead chart resistance levels. My studies would indicate that this region which will begin to provide a bit of discomfort to the funds will begin just above the $21 level and extend towards $21.25. If the bulls can take prices up to those levels, and NOT FALTER, they will spark some serious short covering.

Until then, rallies will continue to be sold.

Late Session Selling coming back into Gold

Both gold and silver have seen the return of sellers late in the session as the vigorous buying that marked the early part of the session has seemed to have runs its course for now. This is occurring while the mining shares are surrendering some of their gains. There still remains about an hour or so of trading in the equities before the bell rings so there is time for a last minute surge of short covering/fresh buying, but what started off looking like a very strong day in the mining sector appears to be fading. We'll see what happens on the close.

As far as the metals go, the short covering that took place earlier today was nearly identical to what we experienced on Wednesday this week. In both cases price had dropped down to the $1210 level where it uncovered very strong buying. That reinforced this level as important chart support but what it also did was force some of the bears to once again cover after they sold the rally. The resultant short covering brought in some fresh bottom picking which scooted the market sharply higher but then the bulls disappeared.

This leaves us with the downtrend still intact but with bears probably getting a bit nervous about just how much downside remains in the market.

The gold shares MUST CONFIRM a bottom is in this market before I will feel comfortable that the worst is over for gold. If the shares cannot move higher, there is a good chance that bears are going to attempt another retest of that $1210 level once again. That level is now HUGELY important from a technical analysis standpoint.

Silver could not regain the $20 level. It still remains a teenager. Price action in there is disappointing to say the least.

It is going to be interesting to see the Asian response to all these theatrics come Sunday evening.

Gold Ricochets off of $1210

Earlier this week gold scored a low near $1210 before violently reversing on an "out of nowhere" short covering rally. Today, the initial reaction of the metal after the payrolls number was to plunge right back down towards $1210 again. However, it then staged another violent reversal higher on very strong volume. This action has gotten my attention.

As a general rule of trading - a market that fails to move lower AND STAY LOWER on what is considered bearish news is a market that odds favor having bottomed - at least temporarily. Again, with so many computers running our markets nowadays, one has to be careful with generalizations but this sort of price action is noteworthy nonetheless.

Another interesting thing - the mining shares are also moving higher along with the broader equity market this morning. They are not up by much but they are certainly not going down for a change.

Yet another thing - the Japanese Yen is also sharply lower. That currency has tended to be a reflection of trader sentiments towards risk at times. During times of risk aversion; check that - during times in which traders are fearful of SLOWING ECONOMIC GROWTH - the Yen has been the recipient of strong money flows. The Yen is now moving lower.

Another thing - Copper is moving higher.

Another thing - the VIX just collapsed lower today with the index thus far down some 8% as I type this. The fear/concern/worry from earlier this week apparently just evaporated.

Could it be that there are some incipient signs that the market sentiment is shifting towards one in which it really does believe that the economy is actually improving enough to see some actual stronger growth? The case is not yet clear. What is fogging it for me is the price action in the long end of theTreasury market. Were it not for that today, I would nod in the affirmative to the question I just posed; however, interest rates are moving lower  ( not by much but they are lower) in today's session. That does not quite fit in with an increasing rate of growth sentiment.

Putting in a temporary bottom does not necessarily also mean and uptrend is about to resume. Just take one look at the corn market as a recent example. It stopped moving lower, temporarily, but has not been able to develop any sort of lasting move higher.

One thing I do know - gold has been an easy one way bet as far as a trade goes for some time now. Short rallies and make money as the price drops. The easy money might be over, at least for now... let's see how this thing closes today before getting too dogmatic however.

By the way, JP Morgan continues to be the large stopper for December gold during its delivery period. They are gobbling up all the issues.

One other item to note - silver is lagging gold today. That is not what one would expect to see if the "improving economy" theme was becoming much more widespread. Lots of variables to consider as traders.

It is really unfortunate that the Commitment of Traders report due out later today will not include the price action from Wednesday and from today. Both days experienced these violent reversals. I would love to get a bit of a better look inside the market but sadly we will not get that until next week. By then it is too late to do us any good. This report really needs to be more timely but under the current setup the CFTC simply does not possess the financial resources/wherewithal to be able to generate something that up to date. Also, the brokerage firms do not have the manpower either to keep their reports to the CFTC that timely also.

I will get something up later on today after the dust settles. We can take a look at the closes and go from there.