A Melman Minute
| By | Leonard Melman |
|---|
Long time readers know that I am in the habit of using motion pictures for some idea source material and I will turn in that direction this morning by offering a possible title for indecisive market action over the past few weeks. Instead of "Sleepless in Seattle" we might easily use the title, "Trendless in New York." During the past several weeks, virtually every time it appears a strong, sustainable move is about to take place, it quickly reverses itself and returns toward a short term mean.
Here are a three indicative charts.
Interest rate movements offer us an excellent example of this principle. Just when it appeared that bonds were making a decisive move to the downside yesterday and early this morning, they whipped around right back to the upside.
Crude Oil offers us another example. Just when it appeared Crude was going to break smartly to the upside and challenge chart resistance above $110, it immediately swung to the downside, again leaving traders grasping at thin air.
Gold offers us yet another instance. Overnight and early morning it appeared that gold was (regrettably to us) making a clear breakout to the downside and was perhaps going to challenge the low near $1,175 of a few weeks ago, in came the 'cavalry' and gold whipped around to the upside and back into its recent general trading range between $1,300 and 1,350.
We can also offer Crude Oil and trading in several currencies as additional exhibits of the principle. The objective analyst - which is what we aim for - can only note two things. First, (a) this type of action makes short-term forecasting difficult indeed and, therefore, (b) we must continue to focus on long term fundamentals and chart action for the time being.
I also cannot help but express the unproven suspicion that these type of virtually instantaneous reversals, almost always leading away from crises and toward re-affirmation of the tacit understanding that present government leadership will not allow calamities to occur, smack of some form of artificial manipulation. Admittedly, if manipulation was indeed occurring it would be taking place out of public view and therefore would be almost impossible to prove. However, the actions in some cases are so atypical that they cannot help but around suspicions that some form of artificiality is indeed taking place.
POTASH WORLD IN TURMOIL
Anyone looking at the trading chart of industry giant "Potash Corporation of Saskatchewan" can readily observe that something dramatic indeed must have taken place within the world of potash production and distribution over the past few days. That 'bombshell' was the publication of information that major Russian potash producing company, "OAO Uralkali" might be pulling out of their trading consortium which had used tactics such as limiting production to hold potash prices at artificially high levels.
Market analysts have projected that potash prices, now near $400 per tonne, could fall by about $100 to near $300. Should that decline take place, the consequences could be widespread and severe.
First, the profitability of major producers such as Potash Corp. of Sask. could see profit margins shrink dramatically. Of even greater impact, many exploration and early development projects may be suspended because they have been relying upon high potash prices for economic justification for those projects and, in addition, several high cost producers may no longer be able to maintain profitable production and might shut down.
Ironically, for the high-volume low cost producers, they may actually wind up in better financial condition as their low-cost production volumes would rise sharply as would their share of the total potash market as high-cost producers fell by the wayside.
One region which is very concerned about this development is the Province of Saskatchewan where potash exploration, development and production is important to their overall economic performance and the shut-down of some high-cost producers and the termination of some exploration projects could have a negative impact on overall economic performance.
The total situation is still in flux as OAO may yet reverse their position - but this market problem illustrates the kind of sudden and negative news bombshell with which the mining industry must contend.
GOVERNMENT DEBT AND INTEREST RATES
Wednesday's Melman Minute was devoted to some discussions about the potentially negative impact of high interest rates on housing and auto sales. Near the end of that presentation, I added the following: "...There is one other vital ramification - perhaps the most important of all - to the interest rates question and the one which could create blind panic within the world of international finance - to the potential benefit of the precious metals. That will be our prime topic for Friday's Melman Minute."
In our opinion, that vital consideration is the cost of financing the enormous mountains of government debt now outstanding on the balance books of many nations, most particularly the USA. The latest available figures show a National Debt of about $16.75 trillion on which interest or 'servicing charges' must be paid to either the public or to other governmental bodies.
Much of that debt is financed at short-term rates which range from near 'zero' to under one percent with some longer-term debt also outstanding, leaving an average interest rate cost of about 2.2%, or around $370 billion per year - at rates near their present level.
If rates begin to rise sharply, we believe that figure of $370 could begin to escalate sharply and soon reach a point where the entire credibility of the US government debt structure was called into question. For example, if the average rate paid on US debt rose from the present 2.2% to 8% - not an unreasonably high figure when compared to historic data - the interest bill would rise to about $1.3 trillion per year - or almost one trillion dollars higher than it is now.
Multiply the American government dilemma by several other heavily-indebted nations and you begin to fathom the ultimate debacle which could take place.
It appears to me that governments will do almost ANYTHING to prevent such rate increases - but if they fail to achieve that goal, the situation could quickly escalate into a major crisis.
As of 8:5 AM PDT, financial markets in Canada and the USA are moving in opposite directions with the Dow Industrials down by 30 points while the TSX Index is ahead by twenty. Gold and silver are both trading with little net change on the day as gold is priced near $1,310 and silver is trading just under the $20 per ounce mark. Base metals are slightly higher on balance while most mining share indexes remain close to 'unchanged' on the session.
In other markets, Crude Oil is down by $1.13 to $106.76 per barrel; the US Dollar Index has fallen by 46 basis points to 81.96 and the TYX Index of rates on 30-year US government bonds is now down by 66 basis points to 3.708% - after having traded at the highest levels in two years earlier today.
All quotes US$ unless otherwise indicated.
Our next "Melman Minute" now scheduled for Monday, August 5. Despite the fact that the day is a Canadian holiday, all American and other world markets will be open for trading. Also, the latest job figures were released this morning and we plan to comment on those Monday.