Putting the pieces together...

Night Traders

I ran across this interesting article while cruising SI:

http://biz.yahoo.com/tm/050527/12627.html

Those who trade futures know how easy it is to move the market at night with minimal volume. The term "Globex Bandit" has been around for a long time. Why not just skip the zillion scalper day session altogether? ;)

If you are a swing trader, as I am, use your swing signals and trade overnight only on long swings, and stay flat or possibly short over night on short swings. That's how I read the three equity curves on the chart in the article.

Other ideas?

Ms Market leaves the party a day early

Intercontinental Divide

"Eric Von Baranov" <eric@k...>
wrote:

""However, by our actions in the Middle East we are creating a common enemy.""
__________________________________________________________________

Eric, I see that idea, which you share with J Kerry and many, many others, as the weak point in the whole anti-war ethos.

We are not creating a common enemy. The enemy has existed since Mohammed's time, since the Crusades, since British imperialism in the Middle East, since Chevron paid gold coins to King Saud in the 1930's for concessions, since Israel was formed, since television of US programs and Hollywood movies in the Middle East, etc.

The enemy has been attacking the West since they learned their craft, or merely improved on it, from the Nazis and Soviets from World War I to recently (and perhaps still). The original "Assassins" were from Iran and operated in Iran, Jordan, Israel, and Lebanon in the Middle Ages, much like Hezb'llah. This is not new, Eric. They didn't start hating us in 2003. We were just too busy or too dumb before to notice.

What we are doing is finally responding to this age-old enemy after they knocked down some symbolically important buildings in a symbolically important part of a symbolically important city in a symbolically important nation. Before they were merely gnats on a camel's nose. Before they were a nuisance or another cost of doing business, like taxes or strikes, or floods. Buy insurance, get on with it.

This gnat-like action was going on since the late 1950's out of Syria and Egypt. Read the history of Nazi and Soviet intelligence operations in both countries and later local subsidiaries. Four decades ago when I was in Iran I heard people saying the exact same things zarkawi and bin laden are saying now. Old news. People here didn't want to hear about it then and still don't. We'd rather hire a social worker to sort it all out and get rid of any leaders of our own who lead. Too scary to deal with. Ignore it and it will go away.

We are not creating an enemy by fighting in Iraq and Afghanistan and many other places. We are *confronting* an enemy of mankind in an early reconnaissance and educational operation. Do not assume that even 5% of the people in Muslim lands want what taliban or qaeda want.

The leaders of those groups are just brutal protection racket mafiosi like Hitler and Stalin and Pol Pot and Saddam. John Kerry or even Lyndon Johnson wouldn't be able to "reason together" with them. They have to be exterminated as were Hitler and Pol Pot. They don't "represent" anyone.

I'm surprsed you are so bent out of shape by seeing people marching in Jakarta to protest someone pissing on a Koran, or whatever it was that Newsweek fabricated that we did. (I could do a whole series on the "independent" press.) If a bunch of Pentecostal hillbillies in West Virginia or Idaho marched over a Bible desecration we'd both be laughing.

Admittedly, wars suck. We'd much rather be sinning and getting forgiven, or just having calm and rational lives. I sure wish enemies hadn't bombed New York or Pearl Harbor.

Regards and with genuine respect,


Tom

Update of the 2C Sentimeter

No bubbles, just a trend

The following was a reply to a poster at a Long Wave site who posts a lot on bubbles in prices and the economy generally.  My answer is a brief summary of my views on the whole issue.

Jeff,

I'd be happy to look at the reasoning and/or data for your timing
of "Jeff's Bubble Cycle" (JBC) of 24 year 3 months. It sounds
intriguingly similar to a K Wave half cycle, although out of phase by
about five years.

For what it's worth, my own view is that JBC is only the most recent
sector of what I call the Social Democratic Credit Regime (SDCR).
I've written about his before, so I hope it will suffice to condense
it by saying that SDCR was enabled by the creation of the FED in 1913
but not implemented until Franklin Roosevelt's adminsitration hit the
floor running in 1933.

Just like the Royal Mercantilist and the Bourgeois Reactionary credit
regimes it succeeded, SDCR put into action the political and economic
goals of its political wing. In the case of the SDCR, these goals were
to empower the common man in an age of unversal suffrage; favor
borrowers over and against lenders; remove gold as the restrictive
underpinning of national currencies; and expand the monetary base and
economy.

I don't want to fall into the Intentional Fallacy trap myself, so I
won't insist that FDR sat down the day after inauguration and
said, "OK boys, here are my four goals, now go get 'em done." All we
can say is that "the thing speaks for itself", and that's what
happened. Perhaps only one or two of the four principles needed to be
enacted to cause all of them to happen logically and ineluctably, but
they happened.

Two charts are the best evidence I have for the birth of SDCR. The
first is of PPI from the mid 18th century to 1996, and the second is
a closeup of PPI from 1913 (FED formation year) to present.

http://img95.echo.cx/img95/8554/ppicpcug0cu.gif

Note the blip in the 1780's as the Royal Mercantilist Regime took its
New and Old World hits. Then note 1815: inauguration of the Bourgeois
Reaction Credit Regime (BRCR), put in power at the Council of Vienna
after finally trouncing Napoleon. From thence to 1933, the trend of
PPI was flat to down. This was due to the power of BRCR with its gold
standard and "pay as you go" mentality, and New Order businessmen and
other new conservative money in charge.

Then look at the blastoff in 1933 with the sizeable US dollar
devaluation set in train (occuring in 1934 but anticipated by gold
stocks) and all the other New Deal expansions. Centuries of price
stability were blown away forever in very short order.

Before leaving this chart, note that even during BRCR the Kondratieff
peaks are clear visible in ~1814, ~1865, and ~1919. In other words
BRCR kept a lid on prices, but Kondratieff cyclic pressures couldn't
be eradicated. The K Wave modulated the tight control of BRCR and
certainly produced booms and busts and great trading segments.

The second chart is the closeup of PPI from 1913 to present, showing
a greater than twelve-fold increase in all crude goods prices since
1933. The trend was and is up. Note how PPI plateaued at the new
higher level in the 1950's and for part of the 1960's. This was
called the "Golden Era" of growth, what we now would call
the "Goldilocks Economy". This what I believe we have re-entered over
the past few years, but more on that another time.

http://img95.echo.cx/img95/300/ppi19138qn.gif

Once the price controls from the 1930's and war years were blown away
in the early 1970's, and the dollar compelled to go off gold
entirely, the acceleration wave began. SDCR was in the saddle and
running. But price pressures had existed as early as the 1950's.

Even in this chart we see that the Kondratieff Wave was still
active: unbeaten and unbowed. In a guaranteed inflationary era of
SDCR one has to look at rates of change or other price oscillator
techniques to see the waves in PPI, but they are there. PPI price
pressure bottomed in 1949 and increased up to the mid 1970's and then
tapered off into the 2002/2003 low: 26 years up and 27 down, just as
Kondratieff found from the 18th century to the 1920's under Bourgeois
Reaction's credit regime.

The pattern of the PPI itself was up, but at a less acute angle, from
1982-2002, and it looked like what Elliott Wave practitioners call
a "running correction" which ends higher than where it started. This
of course was the hook which confused and waylaid many students of
the Long Wave and convinced them that either the Kondratieff Wave was
dead and gone in this "New Era" of techology, or that we were having
an extended "plateau" of two and one-half decades instead of the
usual five to seven years. The extended plateau neo-Long Wavers were,
and some still are, waiting for that "inevitable" crash and burn 19th
century BRCR wipeout, not realizing that the corrective wave was
already under way by 1981 with revisits to lows in 1985, 1991, 1998
and 2002.

With that said, if we have a "bubble" at all, it is the unfolding of
the SDCR since 1933, a 72 year bubble to date. "Bubbles" are said, however,
to be short term unsustainable freaks of nature which are quickly
punished and corrected.

My view is that the era of the Social Democratic Credit Regime is far
from over, even at 72 years old. Apart from last gasp attempts in
Russia and China and the Arab world to derail it or turn it back.
SDCR seems likely to continue spreading. Nor is it losing any
strength in its North American, European or Asian (ex-China)
strongholds.

People everywhere can now vote and the voters want SDCR to remain in
place and expand the program. Absent wordwide political revolution
bringing back royalty, bourgeois reaction, communism, or tribal
anarchy, the 72 year old "Bubble" isn't going away. The Kondratieff
Wave will continue to modulate the trend, and there will be
recessions and crashes from time to time, but the "bubble" trend will
remain alive and well.

Jeff, if you have data or a logical theoretical framework you can
show me which contradicts the evidence of two and one-half centuries
of PPI and the 72 year "bubble" trend, I'm all ears. Mostly what I
hear in such claims is anger about the politics of the trend about
which neither of us can do anything. We might even agree about the
politics being undesirable or hateful. But in the end, we have to
live when we live. My whole lifetime has been spent in the "bubble"
trend where I have had to work, have a family, enjoy the earth while
I can, and invest. I've found it immensely useful to understand it
better so I don't bump my head as often on door sills in the dark.

Tom

The no volume rally

Many thanks to AMG who pointed out the absence of volume in the SP500 e-mini on the April/May rally:

Three Geeks and a Cloned Mouse

http://img138.echo.cx/img138/3521/3geeks2kr.gif

There seems to be a renaissance for this bear pattern. I am seeing it everywhere recently. I thought I'd drag it in here as a part of a game face change occasioned by my conversion to the dark side. I may be a fickle or temporary bear at best if we roar on through all the resistance I see here in the SP500. I do not believe in self immolation.

Today I have 47.4 for the five day running total of VXO * combined P/C ratio, which I immodestly named the 2C Sentimeter of Bearish Sentiment. In the old bull market anything in the 60's was a sell and over 100 or more a buy. There was range upshifting in the bear market so that sells were in the 70's or 80's and buys in the 200's. We spent a lot of time late last year (almost two months) in the 40's. I know that in the mid 1990's the 2CS would have been under 40 or maybe even under 30 at times.

Still when combined with the other factors I have spoken about and shown you lately, I think it's too much for a while.

I should note that I have done the 2CS by hand daily since 1996, and I have been known to make arithmetical or transcription errors which others have later corrected. The current reading is the lowest I have seen since 1996. 64 was the reading at the 2000 tops, and 45.5 on December 16 last year.

I have no idea yet where this pullback or bear market, which ever it turns out to be, or not to be, is going. But I'll start working on it this weekend after I get some "mental stops" set.

Krugman's Bubble

Paul Krugman was thought at one time to be a likely candidate for best and best known contemporary US academic economist. He was tenured at MIT where some of the best academic economists of the last century sat and taught: Samuelson and Kindleberger among others.

But he suddenly left for the green pastures of Princeton and to become political gadfly-in-residence of the liberal left journalists at the New York Times. In short he morphed, or "Galbraith'd", into a spokesman on everything and expert on nothing.

His "Return of Depression Economics" which he rushed into print after the LTCM failure in 1998, and which I have on my crash books shelf, was embarassingly shallow and wrong-headed. All the reasons and implosion predictions we all read incessantly all over the rant internet websites were crystallized in the book.

In this NY times article he has descenced into bathos with stitched-together resumes of the popular cliches of public perma-bears, and "hopes he's wrong".

Where DID you go wrong, Paul? You had such promise.

Krugman Bubbles

---

May 27, 2005

Running Out of Bubbles

By PAUL KRUGMAN

Remember the stock market bubble? With everything that's happened since 2000, it feels like ancient history. But a few pessimists, notably Stephen Roach of Morgan Stanley, argue that we have not yet paid the price for our past excesses.

I've never fully accepted that view. But looking at the housing market, I'm starting to reconsider.

In July 2001, Paul McCulley, an economist at Pimco, the giant bond fund, predicted that the Federal Reserve would simply replace one bubble with another. "There is room," he wrote, "for the Fed to create a bubble in housing prices, if necessary, to sustain American hedonism. And I think the Fed has the will to do so, even though political correctness would demand that Mr. Greenspan deny any such thing."

As Mr. McCulley predicted, interest rate cuts led to soaring home prices, which led in turn not just to a construction boom but to high consumer spending, because homeowners used mortgage refinancing to go deeper into debt. All of this created jobs to make up for those lost when the stock bubble burst.

Now the question is what can replace the housing bubble.

Nobody thought the economy could rely forever on home buying and refinancing. But the hope was that by the time the housing boom petered out, it would no longer be needed.

But although the housing boom has lasted longer than anyone could have imagined, the economy would still be in big trouble if it came to an end. That is, if the hectic pace of home construction were to cool, and consumers were to stop borrowing against their houses, the economy would slow down sharply. If housing prices actually started falling, we'd be looking at a very nasty scene, in which both construction and consumer spending would plunge, pushing the economy right back into recession.

That's why it's so ominous to see signs that America's housing market, like the stock market at the end of the last decade, is approaching the final, feverish stages of a speculative bubble.

Some analysts still insist that housing prices aren't out of line. But someone will always come up with reasons why seemingly absurd asset prices make sense. Remember "Dow 36,000"? Robert Shiller, who argued against such rationalizations and correctly called the stock bubble in his book "Irrational Exuberance," has added an ominous analysis of the housing market to the new edition, and says the housing bubble "may be the biggest bubble in U.S. history"

In parts of the country there's a speculative fever among people who shouldn't be speculators that seems all too familiar from past bubbles - the shoeshine boys with stock tips in the 1920's, the beer-and-pizza joints showing CNBC, not ESPN, on their TV sets in the 1990's.

Even Alan Greenspan now admits that we have "characteristics of bubbles" in the housing market, but only "in certain areas." And it's true that the craziest scenes are concentrated in a few regions, like coastal Florida and California.

But these aren't tiny regions; they're big and wealthy, so that the national housing market as a whole looks pretty bubbly. Many home purchases are speculative; the National Association of Realtors estimates that 23 percent of the homes sold last year were bought for investment, not to live in. According to Business Week, 31 percent of new mortgages are interest only, a sign that people are stretching to their financial limits. 

The important point to remember is that the bursting of the stock market bubble hurt lots of people - not just those who bought stocks near their peak. By the summer of 2003, private-sector employment was three million below its 2001 peak. And the job losses would have been much worse if the stock bubble hadn't been quickly replaced with a housing bubble.

So what happens if the housing bubble bursts? It will be the same thing all over again, unless the Fed can find something to take its place. And it's hard to imagine what that might be. After all, the Fed's ability to manage the economy mainly comes from its ability to create booms and busts in the housing market. If housing enters a post-bubble slump, what's left?

Mr. Roach believes that the Fed's apparent success after 2001 was an illusion, that it simply piled up trouble for the future. I hope he's wrong. But the Fed does seem to be running out of bubbles.

E-mail: [email protected]

On Target

My professor and former colleague checked in today with the exact same timeline for SPX as I have for perpetual forward SP futures. That gives me even greater confidence that we are seeing a trading high between tomorrow and next Wednesday.

Click on the charts for larger pop-ups of them. 

Dicey Deal

I got the lowest ever (since 1996) 2CS bearish

sentimenter reading today. Put that together with yesterday's gap closure, bisect bounce, four point continuation "spando"/RPW/"pointer", and closing today back under the uptrend line from March 2003, and it's losing its looks faster than an aging actress. SP500 is supposed to go up until next tuesday, but unless the boys dress this pig up real pretty for the holiday, it's not going to be in the parade. I  hope i'm wrong.

Another Test of Intentions

I've been talking about the overhead SPM5 gap of 1202.70 for a while, but that gap was in the month of March and in the June contract, and we are now almost to June. On the constant 3 month forward SP500 futures on my chart, which is now almost September (if you get my drift), we virtually filled the gap today AND tapped the bisect or Andrews median line of the range of March to April drawn from the January low. The bisect is sometimes all you get on a retrace, or at least it's observable resistance. It doesn't mean we have to fall now, but we very well could. I have a timing line for Friday or next Tuesday (Monday is holiday), so maybe we can dither around this price or even go higher the rest of the week.

Bearish sentiment has tapered way off in the past three days too, so it's a concern for the bull case, as I see it. Caveat emptor.

http://img127.echo.cx/img127/9154/blue512rr.gif

SP500 Update

On SPM5, we hit or "back-kissed" the major uptrend line (bright green) from March 2003 on Thursday and Friday. That alone is often grounds for short term, or longer term, weakness:

Also sentiment went from being reasonably

bearish to wildly bullish in two days, as I measure it. We may go down and fill the gap of
earlier this week. I have no daily time lines in here, but some people I know have next Tuesday as a turn date. If my scenario is correct, that would be a low, and we would go up again into the day after U.S. Memorial Day. The goal would seem to be the breakaway gap of March which would be filled if 1202.70 prints, basis SPM5. That would entail
a spike above the uptrend line and the bisect of the March to April range from the January low. If "they" want to run it further, I suspect going to marginal new highs would be the end, as sentiment would be astronomically bullishly orientated at that point.

SOME ALTERNATIVES TO MONEY MARKET FUNDS FOR U.S. DOLLAR-BASED INVESTORS

Many U.S. dollar short term yields have tripled (yes!) since the Federal Reserve began their rate raising regime last year. The average U.S. very short term taxable money market fund (MMF) is now paying 2.40% (7 day average rate, annualized) http://www.ibcdata.com/

Given the current rather modestly upward sloping yield curve (http://www.ustreas.gov/offices/domestic-finance/debt-management/interest-rate/yield.html), the average MMF yield of 2.4% captures 52% of the 20 year Treasury bond yield, 57% of the 10 year note yield and two-thirds of the two year note's yield. The 2.4% yield comes to you with none, or virtually none, of the  risk to the note's and bond's market price should rates go up. And if rates DO go up, as I believe they will over a long period of time, your money market fund rate will go up too, something your note or bond rate will not do. (See below for the only partial exception which is inflation-indexed Treasuries.)

Despite these considerable advantages of a money market fund for investors, 2.4% per annum is quite "coincidentally" the current rate of increase of the U.S.Consumer Price Index, with food and energy excluded: http://www.nasdaq.com/econoday/reports/US/EN/New_York/cpi/year/2005/yearly/05/index.html. Thus the Lord, seemingly, both giveth and taketh away, and after taxes one is worse off still. The tax part can be avoided by using Municipal Money Market funds, currently paying on average 2.2% (IBC Data), but the toll of CPI inflation is still, alas, operative.

There are four inflation defensive short term bond funds which are fairly well known (and doubtless others less well known), from reputable firms, and with some operating history. These four also have reasonably small minimums required for purchase: Hussman Strategic Total Return, PIMCO Commodity Real Return, Permanent Portfolio, and Prudent Bear Global Income. Each of these has an effective note duration of under two years, so comparing them with the 3.64% yield of the current two year Treasury note is instructive. I also listed three Vanguard short term bond or note funds with similar approximately two year durations. Vanguard is one of the kings of US mutual funds and with very low operating expenses, even more important in low yield funds than, say, in stock funds. (Click on the image thumbnail for a large pop-up image.)

The Permanent Portfolio Fund and Vanguard Short Term Treasuries Fund have been around the longest, and it is instructive to look at their relative yields both for the past five years and for 17.5 years since late 1987. (All yields are total returns with dividends and capital gains reinvested as recieved without consideration of tax.) The Vanguard Fund's most recent five year return is 0.90% less than its 17.5 year return, while Permanent Portfolio's return for the post five years is nearly double it's 17.5 year return. Vanguard holds only US T notes, although it can and does vary the duration, while Permanent Portfolio holds foreign sovereign bills and notes to a much greater degree than US bills, as well as gold bullion and some stocks. The 1980's to 2000 were not kind, on balance, to foreign currencies or gold, but the kindness returned from 2000 through 2004. Nevertheless Permanent Portfolio's 17.5 year total return was only one-half percent less than that of Vanguard's despite a nearly continuous US bond bull market going for Vanguard.

The Hussman Fund limits itself to US bills and notes and US listed gold stocks and a few dividend stocks. The Prudent Bear Global Income Fund has a portfolio similar to Permanent Portfolio's list. PIMCO's Fund, despite its long name, is one of the simplest in its construction. PCRDX limits itself to fairly short duration US Treasury Inflation-Protected notes (TIPS), and carries in addition an unleveraged call option on the Dow Jones/AIG Commodity Index (DJACI). This is an anti-inflation double dipper since the TIPS principle (not the interest rate) is adjusted upwards quarterly by the amount of the CPI increase, and the DJACI option reflects the price variation of all US-traded physical commodity futures plus three metals traded in dollars in London. Therefore both consumer and producer price inflation is captured.

DJACI is also re-balanced by committee each July so that profits are taken in out-performers and put back into under-performers. (Check some of the excellent literature on this fund at: http://www.allianzinvestors.com/mutualFunds/profile/PMCR/literature_A.jsp)

PCRDX, although stressing the commodity connection, is unleveraged in the sense that if one deposits $10,000 into the fund one gets $10,000 worth of the commodity index's appreciation or depreciation via the option, and $10,000 worth of actual TIPS notes, less the cost of the option, which is a modest cost. This is NOT a commodity fund in the highly leveraged sense that either Jimmy Rogers or John Henry runs.

Each of these four funds has an operating cost to investors of over 1% per year, which is not high by industry standards and nowhere nearly as high as costs are to hedge fund or commodity fund investors. Since Vanguard has a TIPS only Fund (VIPSX) with an annual cost of only 0.17% (!), I suspect they will wake up one morning and clone PCRDX at one-fourth the PIMCO/Allianz investor cost. But Vanguard moves no faster than a tortoise at best, so it may be a while.

One naturally gets some price volatility with anything other than actual cash, a bank CD, or a short term money market fund, so one will still want such a non-volatile fund or account for living expenses even if holding one or more of the funds discussed here or ANY other bond fund.

I have owned PCRDX for several years as well as the Vanguard TIPS and Short Term Investment Grade Fund. I am still evaluating the others and have gained respect for the managers of all three others. I'm leaning toward David Tice's Prudent Bear Global Income Fund as an additional fund since it is less complicated and seemingly less rigid than the other two. Bear in mind that any of these funds would be considered only for that portion of one's investments allocated for shorter term interest bearing investment funds in a generally inflationary environment. If you believe deflation is coming or still exists, you would want to look elsewhere.

I must add that I am solely a private investor of my own and close family funds only, and with no ties of ANY kind to any of the funds or their advisors, the investment industry, banks, or any publishing medium whatsoever. If you are on your own be sure you do your own due diligence via Google or with your own sources.

Letters To & From

Hi Tom,

Below is an excerpt of a Prechter article that was posted on Xxxx today...  and though I didn't take time to read another article posted on Traders-Talk, the header was that Russell (Richard) is also looking for deflation to again rule the day:

http://321energy.com/editorials/russell/russell051605.html

..............................

--Xxx


rpccharts:  (Sun, May 15, 6:11 PM ET)
Prechter (and his ElliotWave colleague Peter Kendall) had an article in Barron's in May 2004 , laying out their vision for the coming deflation (yes, DE-flation).

Rising liquidity in a disinflationary environment is not only fuel for a rise in inflation-hedge investments, but also the lifeblood of the stock market, property investment and the economy. A recovering economy, in turn, supports the issuers of junk bonds and maintains investor optimism.

Such a confluence of effects, as we have argued over the last several years, can occur only in a disinflationary world.

Many observers say that these classes of markets will soon decouple: Either inflation will accelerate, pushing up gold and commodities, or inflation will remain moderate, benefiting the stock market and junk bonds.

We disagree. Liquidity is everything now, and it is driving the prices of all investment classes. These markets have been going up together, and we think that when liquidity contracts, they will go down together.

This outcome happens only at rare times in history when a society-wide credit expansion reaches its zenith and social psychology changes from expansive to defensive.

A change in financial market trends from up to down signals the transition -- exactly the situation we face today."

---------------------------------------------------------------------------------
Xxx,

I think of Prechter entirely as a marketer, like Bill Bonner. There are so  many ironies about Prechter, but one is that he was was a pretty darn good Long Waver early in his public writing career.

Actually this past week I have labelled as "Deflation Redux". I warned of the coming slowing late last year and early this year on various sites including xxxxxx (which I have pretty much abandoned as there is no interest in Long Wave there).

Everyone who never became convinced about the Long Wave bottom has jumped on the dollar rally finally after four months. This of course inevitable. People will
finally "get" it in about 2015. Meanwhile the marketers have a brand new theme to sell to people who never really bought the bull market OR bull market newsletters.

The dollar is up ~6.5% since New Year's Eve, about as much as the Dow is down, so all the blather last year about how the gains in stocks meant nothing with a declining dollar are reversed. But people are still thinking in terms of stock index investing instead of sector and stock picking as one needs to do in an inflationary era, within which  we are seeing a minor short or intermediate term correction. In an inflationary era one has to be very selective to get gains above the sum of the rate of inflation, the rate of increase of indexes, and the rate of currency decline. It takes some work and some portfolio management. Indexed funds and money markets won't do it.

Regards,

Tom

Blue Series

The Blue Series of SP500 futures is the outcome of my experience in a small but powerful movable traders internet chat group, "No Brain University" or NBU, between 1999 and 2004. I'll write more about NBU another time, but the result was a highly disciplined  application of the principles of Gann and Andrews in real time trading of stock index futures and index options.

The Andrews Median Line or "range bisect" (NBU) takes an important SP500 market range in price and time and draws a line through its 50% point in price and time from the opposite extreme price of the immediately previous range of  similar degree or magnitude. It is never a trend line except in future action. The first  chart in the Blue Series shows  the major bisects in the bear market from 2000 to 2002/03, and in the early part of the bull market thereafter. (Click on the small images for a full-sized pop-up chart.)

On these charts the ranges being bisected and the bisects are the thicker colored lines. We'll ignore the thin lines at this time.

The first important range is the yellow line connecting the April 2000 low and the September 1, 2000 high and the bisect is drawn through the exact midpoint in time and price (5 day per week charts) from the March 2000 high. All data was in place once the September 2000 high was confirmed, and the line could have been drawn as early as October 2000. The thick yellow bisect is precisely where the first major leg of the bear market stopped in March 2001.

The second (green) bisect divided the time-price range from that March 2001 low to the March 2002 high, drawn from the extreme point of the previous range at September 2000. These lines were in place as soon as price dropped off the March 2002 high, and the bisect caught the July  2002 as precisely as the prior bisect caught the March 2001 low. Note that the September 2001 low played no role in and wasn't advertized or predicted by a bisect as it was due to events totally exogenous to the market.

The next bisect is the red one from the March 2001 low through the price-time range from the March 2002 high to the October 2002 low. this bisect had rotated upwards, signalling that the bear market momentum was waning, but it remained powerful upside resistance though the end of 2002 and early 2003. The August and December 2002 rallies and the January 2003 were stopped cold by that bisect. It  was not until April 2003 that SP500 broke through and kissed the bear market bisects goodbye. All but one.

That bisect was Big Blue of the Blue Series. Big blue bisected the first leg of the bear market from the September 2000 high to the March 2001 high, drawn from the April 2000 mini-crash low. Except for minor penetration of Big Blue in the March 2002 patriotic rebound rally, Big Blue was nearly forgotten until 2004. Then in a long, long year of consolidation, Big Blue held firm from January to  June 2004 and beyond in a series of batterings.

In the summer of 2004 it became clear that there was another still active range bisect. That was a bisect of the same March to October 2002 range but this time from the September 2001 low. the black bisect had put a damper on upside action in the summer of 2003 and came back to retest it several times until November 2003. It was forgotten until August 2004 when SP500 futures came down to rest upon the black bisect and reverse: an impressive reconfirmation that the bear market was over.

However, it was still not clear that Big Blue was done. SP500 bounced down off Big Blue one last time in September 2004.

Finally in the week of October 7, 2004, Big Blue was bested but SP500 got capped again.

By November one could see open ground, as not only Big Blue but other shorter term bisects were bested.

It looked like SP500 was headed for the new yellow bisect up at 1250 in December 2004.

What we see since December is another frustrating consolidation.

The new red bisect runs from the March 2004 high through the range of the August 2004 low to the New Year's 2005 time-price range, and the recent mid April low bounced up off it. So far so good.

Note that at this time (May 10,2005) Big Blue and the black bisect of 2003/2004 are both right about at 1100 or a point or two below.  These are the key bisects of the bear and bull markets. These are the supports which need to hold or be quickly regained if penetrated.

This is how bisect analysis works in practice. You can see other lines and support/resistances on these charts. Some of these are also legacies of NBU for another time.

NB: All charts in this series are of constant 3 month forward SP500 futures (perpetual or "perp") and are charted on a constant 5 day week including holidays for scaling accuracy.

Simon Ward's Question

Under comments, Simon Ward asked about the crude oil/gold ratio. I can't answer that off hand, and I don't know of any comment by Hussman or others about it.

But I did see a Greenspan "rant" paper by Marc Faber today which mentioned Ed Yardeni's "FRODOR" index.  Yardeni thinks both gold and oil (and stocks) may suffer as FRODOR has been down for nearly a year:

http://www.gloomboomdoom.com/marketcoms/mcdownloads/050505.pdf

I'm just reporting this and have no fixed opinion on it.

Gold Stock Perspectives

Gold stocks have been an enigma for many investors  in the metal gold's dollar bull market since 1999, particularly since early 2004. Since I was an early gold investor and once published a gold investment letter, I have seen most of the theoretical arguments and excuses for owning or not owning gold stocks in a diversified portfolio.

Generally speaking, gold stock enthusiasts fall into two broad categories: inflationists, who think both broad commodity demand and dollar weakness during inflation will favor gold, and deflationists, who believe a massive credit crisis and financial system collapse will cause a rush for gold.

Most private investors and portfolio managers do not allow themselves the luxury of radical world views, and look at gold, if at all, in terms of what it can do for their portfolios. It is generally agreed that a variety of asset classes reduces the volatility of good portfolios. What this essentially means is that a bear market in one asset class does not cause nearly as large a drawdown in a portfolio with other assets. This is why even aggressive growth portfolios usually carry some bond assets so that when growth stocks go into decline, bonds will limit the losses. By adding a third or even fourth hopefully uncorellated asset class, this decrease in volatility can be improved. Naturally all of the asset classes have to be well chosen and managed or one is just exchanging reduced volitility for reduced long term gains.

In a paper written in 1999, John Hussman of Hussman Funds, wrote as good a description as you will find for non "gold bugs" of gold's dynamics and appropriateness in a portfolio. http://www.hussman.net/html/gold.htm

Says Hussman in 1999: "Let's get some numbers. Over the past 25 years, gold stock prices have gone nowhere overall, rising at less than 1% annually. From an efficient markets standpoint, this actually makes sense. Since gold typically does well in recessions, when other stocks are doing badly, it turns out that gold stocks have what's called a "negative beta". Over the long term, finance theory says that such stocks should theoretically earn less than the risk-free interest rate, and sell at above-average price/earnings multiples because they provide "insurance benefits" for a portfolio. And in the long-term data, this theory turns out to be true."

The thrust of Hussman's approach in general is not to make grand predictions of market direction but to buy under-valued stocks and bonds and to variably hedge with over-valued indexes depending upon overall market valuation and strength. In the case of gold Hussman identifies several situations in which gold stocks are not only under-valued but have had historically subsequent outsized returns.

Hussman: "In the rare instances when 1) The rate of inflation has been higher than 6 months earlier, 2) Treasury bond yields have been lower than 6 months earlier, 3) the NAPM Purchasing Managers Index has been below 50, and 4) the Gold/XAU ratio has been above 4.0, the XAU has soared at an astounding rate of 123.63% annualized. In contrast, when none of these have been true, the XAU has plunged at -53.21% annualized. That's a gaping difference." XAU is the Philadephia Gold and Silver Stock Index.

Read Hussman's full paper at his website (see above) for all details, but I think one can simplify the list of requirements he lists for taking advantage of such astounding gains. Instead of deciding how to measure inflation and subtracting it from the bond yield. I would propose using the inflation-adjusted US Treasury bond's current yield as compared to six months ago. This is the current "real" yield above inflation. An easy way to get that number is at Economagic's excellent and free site: http://www.economagic.com/em-cgi/data.exe/fedstl/tp30a28

We see that the real long term US Treasury Inflation Protected  (TIP) bond yield at the end of October was 2.17%, and at the end of April 2005 it was 1.88%: lower and therefore we've settled two of the four requirements for deciding to buy gold stocks.

I would also made a slight change in Hussman's NAPM Purchasing Managaers Index, now called the ISM Manufacturing Index. Hussman says it becomes a positive for gold stocks when it dips below 50, meaning the economy is no longer growing. My proposal would be to use that sub 50 number month or the month in which the index is lower than it was 12 months ago. This would catch those situations in which the rate of growth has been falling for a year from high growth rates, but hasn't yet gone into a contraction. In using this variation, February of this year would have qualified for a pro gold stock leaning. http://www.nasdaq.com/econoday/reports/US/EN/New_York/napm/year/2005/yearly/05/index.html

The final requirement in deciding to buy gold stocks is that the XAU be undervalued relative to gold itself. One way to measure this is in the ratio of gold to the XAU. Hussman now feels that a ratio of greater than 5/1 indicates gold stocks are undervalued.

The inflation-adjusted long bond rate has been favorable for several years, the 12 month lower ISM Manaufacturing Index has favorable since February 2005, and gold went greater than five times the XAU Index in recent weeks. http://stockcharts.com/def/servlet/SC.web?c=$GOLD:$XAU,uu[w,a]wallyyay[p][vc60][i]&pref=G

Thus without having an opinion on the economy, the stock market, or much else, one finds oneself knowing that this is a historically favorable environment for gold stocks. My approach would be to buy two or three of the strongest (largest, safest) stocks in the XAU Index, and to use some favorite timing or trade entry method to buy them. As Hussman says in a more recent paper, "Given increasing evidence of a potential economic slowdown, there's a good likelihood that precious metals may remain in a very favorable set of conditions for perhaps a year or more, first by reason of unusually favorable valuation measures, and subsequently by the combination of moderately favorable valuation measures combined with economic weakness." http://www.hussman.net/wmc/wmc050502.htm Thus there is no need to rush out and buy today or even all at once if you are filling a gold void in your overall portfolio. Pick your stocks and your time. Another time I'll talk about how gold fits into long range planning.

Although this will be clearer as we go along, I'd like to state up front that I am not an investment advisor, do not and will not manage other money than my own and close family's. I don't work for anyone or consult for anyone or represent anyone, and I have nothing to sell.