the dow~richard russell comments

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    February 7, 2005 -- THE MOST RECENT DOW THEORY LETTER has been posted to our website.

    My subscribers know my forecast -- "Inflate or Die." But what does that really mean? For instance, what does to "die" mean. You can get some idea of the "die" part of it when you examine what President Bush is faced with in his "promise" to half the Federal deficit during his term of office.

    Think of this. Consumers are loaded with debt and possibly close to being "burned out" on spending. Corporations are not really spending, in fact, they're consolidating and trying to cut expenses. So it's up to the US government to spend. But in the face of that, Bush has promised to half the deficit, which would mean cutting back on government spending.

    Next, I'm going to use a good portion of an article that appeared in today's New York Times. Here goes -- "In all, Mr. Bush has vowed to cut or eliminate 150 government programs. But Republican congressional analysts predicted on Friday that those cuts would be unlikely to save more than $15 billion. And even those savings may not materialize.

    "Last year, Bush called for cutting or eliminating 65 programs for a total projected savings of $4.8 billion. But Congress agreed to eliminate only four of those programs for a saving of less than $300 million.

    "'What's unrealistic is that they are trying to fund a government with today's demands on a 1950 stream of revenue,' said Robert Bixby, executive director of Concord Coalition, a research group. Tax revenues soared far beyond expectations during the economic boom and stock market bubble of the late 1990s, but budget analysts say there is little likelihood of repeating that feat in this decade.

    '"There is no way you can reach that goal by cutting only discretionary spending,' Mr. Reidl said, 'You have to go after entitlements as well.' About two-thirds of the $2.3 trillion federal budget now goes to entitlement programs. The Congressional Budget office estimates that costs for Medicare will rise $55 billion in 2005, to $380 billion. Social Security outlays are expected to rise to $540 billion, from $517 billion.

    "But Bush has focused almost all of his budget cuts on discretionary domestic programs costing a total of $466 billion last year. Freezing spending at current levels on the vast array of programs Washington supports -- thus allowing them to grow simply at the rate of inflation -- would save about $10 billion next year, according to the Congressional Budget Office; a politically difficult reduction of 1 percent would save about $15 billion."

    Now this is Russell talking. It's obvious that Bush is in an almost untenable situation. To make a real difference in government spending, he would not only have to make drastic (politically impossible) cuts and eliminations in discretionary programs, he would also have to cut into entitlements, which he can't do.

    So what are the answers? A deflationary collapse, as government spending programs are brutally cut or eliminated, despite all political considerations (assuming that this is possible, which I doubt). Or moving to somehow inflate the deficit away.

    Inflating the deficit away would mean an all-out program by the Fed to induce inflation. This would mean keeping rates below the inflation rate (which is where they are now). It would also mean building further bubbles in stocks, greater bubbles in housing, and rising consumer prices.

    The problem if this path was followed is that bond market would perceive that the government was moving to inflate away the debts and deficits and the bond market would "fall out of bed," driving up interest rates and thwarting the Fed's inflationary intentions. Furthermore, if our foreign creditors suspected that the US was on the path of inflating our debt away, would they continue to hold US dollars and US securities?

    I'll tell you the truth, dear subscribers. I honestly don't see how the US is going to get out of this debt and deficits situation while at the same time avoiding pain, maybe great pain. Of course, Bush could claim that he "tried to cut the budget, but the Democrats wouldn't give him the votes."

    What does all this mean for us as investors and as human beings and as, well, as "survivors." There isn't a man or woman on the face of the earth who has the ideal answer.

    I think we have to be ready to play all the odds. OK, just what does that mean? Here's what I mean by playing all the odds. You probably should own a home, preferable free and clear (so that a possible spike in interest rates won't pin you against the wall).

    You should own some gold -- two-thirds in coins, one-third in gold shares. This represents insurance and true wealth. You don't check the price of your house every day and you don't check the dollar-price of gold every day. Please read the Lassonde piece at the end of his site.

    You should have at least 25% of your wealth in cash or short-term money market securities.

    As far as stocks, this is a tough question. From a value standpoint, you can't justify owning stocks today. But you might own some dividend-payers such as some of the utilities, and some preferred and maybe some of the Pimco closed-end bond funds, but you must be conservative here.

    On another subject -- If you don't have a copy of Barron's, buy this week's issue and read the interview with the brilliant Stephanie Pomboy. She advocates holding gold -- "I think having gold is a vital hedge against what we are clearly trying to do politically --
    namely inflate away our debts."

    You might also read the article in the current (Feb. 5th) Economist. Title of the article is "Still Gushing Forth." A few quotes: "America's monetary policy is still extraordinarily slack." "The global economy is awash with liquidity, pumped by America." "The only real remedy for America's huge external deficit is a tightening of its monetary and fiscal policies to boost domestic savings."

    Russell Comment -- If the Fed "tightens" its monetary and fiscal policies, with the current amount of leverage in the US economy, we would face an all-out collapse. In order to boost their savings, US consumers would have to cut back on their buying. If they do that -- trouble, big trouble.

    Next, let's talk some markets. First, for whatever reason, the dollar has been rallying. Was it just oversold? Or was everybody on the short side of the dollar? Or is there a sudden need for dollars to cover debts? A while back I said that massive debt represented a synthetic short position against the dollar -- I haven't forgotten that.

    We know that the Fed has been churning out dollars at a mad pace. The worlds is loaded with dollars. So why is the dollar now rallying against almost every other currency? I don't have the "why." I just know the "what's happening."

    Below we see that current "mirror" of the dollar, the euro. And to put it succinctly, the euro appears to have topped out and is heading down -- big time! For those who have shorted the dollar or taken big positions against the dollar (Buffett? Gates?) good luck and all that. Because it appears you're going to need it.

    Hey, do you remember a month ago when they said that "bonds and the dollar had no way to go but DOWN. And the place to be was in the euro." Yeah, right.

    "Running Wild," or real estate today. Maybe I get a twisted view of home prices living here on the West Coast, but home prices here in San Diego are "up there," and I mean WAY up there. And the home builders are having a feast. The chart below of the Ryland Group of home builders is typical of what all the home builders look like. RYL is now overbought (look at RSI at the top of the chart), but that hasn't stopped the mad rush into home-building stocks. My opinion -- "You buy the home-builders, they're too wild and overpriced for this old-timer."

    As far as home building prices, this is where the US consumers' wealth is. The one thing the government cannot allow, is a major decline in home prices. The Fed and the government will do ANYTHING possible to keep home prices from falling!

    Gold -- According to an article in this week's Barron's, implied volatility in XAU is down to a four-year low. The goes along with so many other items (like the stock market) where volatility is low. What does this mean? I think it could mean that most of the selling in gold is over.

    It strikes me that the selling of gold when the dollar is higher could be close to over. Gold buyers today are buying gold because the dollar is this or that.. They are buying gold because they're beginning to suspect that the US is on the path to inflating our debts away.

    If the declining gold stocks are beginning to keep you awake at night, my suggestion is that you "sell to the sleeping point." Nothing in this business is worth you're losing sleep over or worrying about. When you're worried about your holding, "Sell to the sleeping point." That was J.P. Morgan's advice to one of his friends. It's still good advice.

    Where the action is -- The easiest way of determining where the action is -- is to check the number of new highs in various groups. As of Friday checking all three exchanges, there were 80 new highs in energy stocks, 43 new highs in medical, and 35 new highs in utility stocks.

    Warning -- These are very professional markets featuring action by hedge funds, mutual funds and professional traders.

    TODAY'S MARKET ACTION -- My PTI was down 4 to 5583. The moving average was 5540, so my PTI remains bullish.

    The Dow was down .37 at 10715.76. No movers in the Dow today.

    March crude was down a large 1.20 to 45.28.

    Transports were up 4.32 to 3602.13.

    Utilities were down .98 to 351.81.

    There were 1675 advances and 1662 declines. But down volume was 54.2% of up + down volume -- a mixed-up, unclear day.

    There were 367 new highs and 7 new lows. My 5-day advance-decline differentials improved from Friday's plus 1504 to today's plus 1648.

    Total NYSE volume was a shrinking 1.29 billion shares.

    S&P was down 1.31 to 1201.72.

    Nasdaq was down 4.63 to 2082.03 on a declining 1.68 billion shares.

    My Big Money Breadth Index was unchanged at 774.

    March Dollar Index was up .65 to 85.10. Mar. euro was down 1.01 to 127.80. Mar. yen was down .67 to 95.87.

    German DAX was up 27 to 4366. Mar. Nikkei was up 115 to 11,615.

    Bonds were higher again. Mar. 30 year T-bond was up 18/32nds to a new high of 116.15 to yield 4.42%. Mar. bellwether 10 year T-note was up 3/32nds to 112.24 where it yield 4.05%.

    April gold was down .50 to 415.40. March silver was down 8 to 6.55. April platinum was up 1.40 to 867.40.

    Gold advance-decline line was down 17 to 1243.

    XAU down 2.50 to 88.59 HUI down 5.36 to 192.37.

    ABX down .41, DROOY unch., RGLD down .69, GSS down.08, NEM down .84, PAAS down .24.

    Gold, the metal, giving up very little in the face of the pop in the dollar today. Gold stocks continue to back off and test the nerves of gold-bugs.

    STOCKS -- My Most Active Stocks Index was down 3 to 415.

    The five most active stocks on the NYSE were -- LU up .07, PFE up .68, Q down .48, XOM up .11, NT down .04.

    VIX was up .53 to 11.73.

    McClellan Oscillator was down 24 to plus 124.

    CONCLUSION -- Headline on page 2 of today's WSJ -- "Greenspan Expects Trade Gap To Improve After Dollar's Drop." Russell Comment -- Great, the only trouble is that the dollar has turned strong. Your turn, Mr. G.

    I want to emphasize again -- the one thing the government and the Fed can not tolerate would be a major decline in the price of housing. Remember, the US consumer's wealth is now in housing, not in the stock market. But what would the Fed do if the housing bubble burst? That's probably the question that's haunting Alan Greenspan right now. Maybe the Fed would do what Fed governor Barnanke suggested -- "Drop money from airplanes. I don't know, would that help housing?

    Right now I think the stock market is wrestling with the question of what Bush is really going to try as far as cutting back the US deficits.

    Deficits and housing -- the two major questions of 2005 -- oh, and add Iraq.

    See you tomorrow--

    The three paragraphs below are from Doug Noland's always insightful and instructive column, a column that you can see on the PrudentBear site. If there's a leading chronicler of the current "bubble economy," Doug is that person.

    "Ten-year yields are now more than 30 basis points below where they spiked in early December, while mortgage rates are at the lowest level since late last March. There remains a strong inflationary bias in the nation’s housing markets, and I believe there is an unappreciated expansionary bias throughout much of the economy. I cannot at this time buy into the “deflation” story, but instead continue to believe the surprise going forward will be the resiliency of the Mortgage Finance Bubble and the U.S. and global economies overall.

    "Perhaps I will be proved dead wrong. The U.S. Bubble economy could be weaker than I perceive and the global economy not as sensitive to the extraordinary liquidity backdrop. And, perhaps, the Wild Mortgage Finance Bubble is poised to quietly succumb. But there is just nothing in my analytical war chest that points toward a warm and happy ending to this story. Mortgage rates need to be moving higher, but the distorted marketplace and the global liquidity Bubble are thus far incapable of orchestrating an orderly adjustment. And these artificially low rates will stimulate continued robust demand for mortgage and other borrowings.

    "Imbalances – most important being the Current Account – will not conform to Mr. Greenspan’s expectations. And a ballooning Current Account equates to further inflationary distortions, including the inflating pool of destabilizing global speculative finance. And, I will suggest, a surge in economic activity would these days catch the bond market especially unprepared. Bubble dynamics have forced the marketplace into a destabilizing squeeze and derivatives unwind that creates only greater vulnerability for a reversal and problematic spike later on. My fear of a 2005 dislocation in the interest-rate markets is being anything but allayed."

    Newmont's Lassonde: 2005 To Be 'Quiet Year' For Gold
    02/03 12:22 pm (ON)
    Story 1011 (NEM)
    By Heather Draper


    DENVER (Dow Jones)--This year will be "a bit of a quiet year" for gold, but if history repeats itself, gold prices should soar in the next five to eight years, Newmont Mining Corp. (NEM) President Pierre Lassonde said Thursday.

    Gold will trade in the $400 to $475 a troy ounce range this year, selling at the lower end of the range in the first half of the year and rallying toward $475 at the end of the year, Lassonde predicted at a National Western Mining Conference breakfast meeting.

    The front-month gold futures contract on Thursday was trading at around $417 an ounce.

    Lassonde said the U.S. dollar will likely experience a "dead-cat bounce" in the first part of 2005 because it declined so much in the last half of 2004. The dollar's rise will subdue gold prices, he said.

    The price of gold and the dollar typically move in opposite directions because gold is seen as a safe haven investment in uncertain times.

    But gold should rise in the next few years because of trouble brewing for the U.S. economy and the U.S. dollar, said Lassonde, who is often cited in the gold industry for his price predictions.

    "If you look back at the 1970s, you'll get a really good idea of what the next five years will look like," Lassonde said. "There are a huge amount of similarities to where we are today."
    Lassonde cited a fivefold increase in the price of oil then and now: Oil rose from $2.20 a barrel in 1971 to $11.50 a barrel in 1974, and it rose from about $10 a barrel in 1998 to $50 a barrel in 2004.

    The U.S. was in the Vietnam War in the 1970s and is fighting in Iraq today, he said.

    And there was a "huge increase in the government budget deficit" in the 1970s, and the same thing is happening today, Lassonde said.

    The victim of U.S. policies in the 1970s was the U.S. dollar, he said, which lost about 50% of its value versus the Japanese yen and the German mark.

    "The biggest winner of all was gold," Lassonde said, noting that gold started the decade in 1970 at $35 an ounce and traded for $850 an ounce at the beginning of 1980.

    Lassonde said charting the price of gold to the Dow Jones Industrial Average historically shows that either the price of gold will rise dramatically or the Dow will fall in the next few years.

    In 1999 when the economy was booming, the Dow average was about 42 times the price of gold, he said. But in 1980, when the economy was struggling, the ratio of the Dow and the gold price was one-to-one at 800.

    "I think we'll see a ratio in the low numbers again - maybe (the Dow at) two, three or five times the gold price - in the next five to eight years," Lassonde said.
    -By Heather Draper, Dow Jones Newswires; 303 -293 -9294; [email protected]

    (END) Dow Jones Newswires

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