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Newsletter January 7, 2006 Make a Change and Make It Stick Market & Sector Review Largest Changes This Week This Week's Economic Reports I would like to thank all of you who took the time to fill out the little survey. I have not had a chance as yet to tabulate all the results. However, in the future, should there ever be a need or a desire to charge for some of the additions to this site those of you who did respond will receive free access regardless. It's called one hand washes the other --> Thank You! Make a Change and Make It Stick The New Year is here and it's a time to renew commitments, make big changes, and live 2006 as if it is a new beginning. Changes can be hard to make, despite the best laid plans. If you want to make permanent changes to your life and to your market approach, you must understand how most people fail and make sure you avoid common traps. The most common trap is to be unrealistic in terms of the changes you wish to make and the rewards that you will receive. If you are realistic, you will be able to make the changes, and perhaps more importantly you will be able to make them stick. One common mistake is to attempt dramatic changes when modest changes are much more realistic. Do not strive for goals that you cannot possibly achieve or have expectations beyond reality, you will fail quickly, feel disappointed, and just give up. Do not underestimate the time it takes to affect change. For instance It would be unrealistic for a newer trader to expect to make huge profits without honing their trading skills or gaining a wealth of knowledge and experience with the markets. You can't just will yourself into becoming a seasoned trader over night, give yourself enough time. This coming year set some learning goals. Set aside a specific amount of time each day to hone your skills, and reward yourself for achieving minor goals, whether you profit or not. Make a small goal to read one trading or investing book a month, and reward yourself when you finish. If you start out with this strategy, you'll feel you are making progress and you'll find it easier to persist when the markets appear to fighting you. I have at times seen people give up trading prematurely simply because they thought that mastering the markets was easier than it actually is. Good traders spend years honing their skills, a hobbyist approach will not work. In 2006 make a commitment to master the market and work towards it. Do not under estimate the difficulty and expertise needed. When you are trying to master a challenging profession it's easy to react with overconfidence and unrealistic optimism. I have often stated to friends, the best thing that can happen to a new trader is a loss so they begin to understand this profession is not easy. If your hopes are dashed it's hard to continue fighting. I don't believe it is helpful to be a pessimist, but it is essential to be a realist. Cultivate a healthy skepticism regarding your trading skills and your trading strategies, you'll find you stay positive and focused. Setbacks will be a minor glitch, rather than a major tragedy. It is not only necessary to stay realistic when it comes to how difficult it is to master the markets but also it is essential to be realistic about your expectations regarding potential rewards. Novice traders often envision extreme wealth. Media images don't help matters. Expensive cars and luxurious homes are associated with happiness and bliss, and it's reasonable for people to think that making huge wins will produce ultimate contentment. These expectations rarely materialize and one usually encounters disappointment. Realize that even the most successful trader doesn't have a perfect life. The potential rewards most people dream about are often unrealistic. It's wise to make sure that your expectations of reward are realistic. When it comes to trading, long-term enduring financial rewards may take a little while. It may not bring the happiness you are searching for. It is useful to enjoy the process of trading. Trading is a fun and rewarding endeavor in and of itself. If you remember that fact, you'll feel happy and rewarded every day. And that will help you continue trading. In 2006, make a new commitment to trading. Stay realistic and enjoy yourself. The more you can do so, the happier you'll be and the more successful you'll trade. Market & Sector Review The reason I like to have longer term forecasts, or plans, written out and in my head is not to trade on those forecasts, but rather to have a bias as to the long or the short side for the foreseeable future. Personally I am primarily a position trader and not a short term trader (unless of course I am wrong) and longer term scenarios help me to position myself on hopefully the correct side of the market. For instance if I am a longer term bull on the market or a sector I then have a tendency to view corrections (sharp or otherwise) as opportunities not disasters, and will, everything else being equal, begin to position myself with the longer term trend and at advantageous prices. This is one mans personal philosophy and I don't expect anyone else to be me, so if you are a short-term trader this is not a dig, it's just a note that I operate a little differently than you and you should read that into any opinions expressed. If you are not aware for many years I was a stock/commodities broker dealing mostly with the general public. From those days I came to understand that most people prefer the long side in trading and investing. Selling short is alien to many and probably understandably so. However, there is also an old market axiom "There is always a bull market somewhere", and in the next few letters I will discuss where, in my humble opinion, those bull markets may exist. If I am correct in my market outlook as stated in last weeks letter that we are in a period very much like the 1970's then it is natural to look back to see what performed well or in general outperformed the averages during that period of time. The 1970's was a period of high inflation and hard assets were the place to be, as they performed according to the inflationary trends. Today overall inflation, ex-energy, is relatively benign yet hard assets are, as in the '70s, performing very well. Are they forecasting future inflation? While that is certainly possible, to date commodities are rising not due to inflation but depending upon the one you are looking at, they are advancing due to increased demand by developing countries such a China, or as a safe haven from paper assets such as the dollar. If inflation does become a problem, the advances could become parabolic. To begin with let's take a moment and look at a weekly chart of the Dow Jones U.S. Basic Materials Index (DJUSBM) vs. the S&P 500 over the last 5 years: As a general statement I suspect continued bull moves may well lie within this overall sector. Basic Materials is a large sector containing (in the case of DJUSBM): Chemicals - Commodity Chemicals; Specialty Chemicals; Basic Resources: Forestry & Paper - Forestry; Paper; Industrial Metals - Aluminum; Nonferrous Metals; Steel; Mining: Coal; General Mining - Gold Mining; Platinum & Precious Metals. This week we will cover Gold, a favorite topic of many and as long term readers know I have personally been a long term bull on this market since we began publishing. First a little history: (As you can tell, I am a fan of history) in 1933, President Franklin Roosevelt imposed a ban on U.S. citizens' buying, selling, or owning gold. While the U.S. Government continued to sell gold to foreign central banks and government institutions, the ban prevented hoarders from profiting after Congress devalued the dollar (in terms of gold) in January 1934. This action raised the official price of gold by more than 65 percent (from $20.67 to $35 per troy ounce). Gold at $35 set off a mining boom. US output rose from 2.6 m.oz in 1933 to 4.4 m.oz in 1936, and peaked at 6.0 m.oz in 1940 (not equaled until 1988). Canada hit 5.5 m.oz in 1941 (best until 1991). World output up from 20 m.oz to 38.6 m.oz by 1940. In 1971 President Richard Nixon ended US dollar convertibility to gold and the central role of gold in world currency systems ended. The dollar and gold floated and in January 1980 the gold price hit a record of $850 per ounce. Today, gold prices float freely in accordance with supply and demand, responding quickly to political and economic events. Gold is a vital industrial commodity. It is an excellent conductor of electricity, is extremely resistant to corrosion, and is one of the most chemically stable of the elements, making it critically important in electronics and other high-tech applications. Trading history is therefore limited to the past 30 years or so. As outlined in last week's letter I believe there is a symmetry that exists in various markets. This symmetry is rarely exact but we try and extrapolate these symmetries to get a longer term "feel" for what may be going on. After an 18 to 20 year bear market (depending on how you define it) in gold, which happens to be the longest bear market in commodity history, if there is a symmetry on the other side, it would auger well for gold not hitting a major high until, about the year 2020 (an equal length bull market that began in 2000). What you need to accept at this point, for this analysis to be correct, is the rule that the longer the bear market the greater the growth potential that exists in the new bull market. At this point gold has roughly doubled in price from its 2000 low, a handsome advance indeed. The question therefore becomes is that a sufficient advance to call an end to the 5 year bull move to date. While this is certainly a possibility I personally don't believe so, I believe gold to be in the relative early stages of a secular bull move. Let's bring the gold price down to a shorter time frame, see where we stand now, what the future may hold, and an interesting way to play this market whether visa vie the actual metal or the mining stocks. There are a few things to take note of in the above chart. First notice how this market has several times broken above previous high points advanced for several weeks and then reversed back to successfully test those previous highs. Secondly notice how previous high points were easily identified by Welles Wilder's 14-day RSI (applied to the weekly chart) above 70 then crossing back below 70. However on this last run the RSI crossed above and below 70 without any meaningful correction. This is an outstanding indication of a very strong market, remaining overbought. Finally notice the green line on the chart, thanks to Terry Laundry's observations this is the 65 week (this would be a 325 day on a daily chart) exponential moving average. Notice how the market has had a tendency to hold this moving average since it turned in 2001. At this point the gold market appears a bit extended, is entering its seasonaly weak period, and ripe for a correction of some sort. The strategies outlined above can be excellent benchmarks against which to plan futrue low risk purchases. Again this is a bias looking to go long and perhaps more importantly, looking for low risk opportunities. There are several ways to play the gold market. First there is the futures market, however understand that futures utilize very high leverage, while making the profit potential enormous, you must remember leverage is a two edged sword, small downward moves can wipe out equity very quickly. The futures, my old stomping ground, are only for well heeled experienced traders. Secondly we have two Exchange Traded Funds: (GLD) - StreetTRACKS Gold Shares ETF & (IAU) iShares COMEX Gold Trust ETF, both primarily hold the physical metal and their prices (1/10th the gold price) should track the price of gold very closely (primarily due to arbitrage if they do not) on a daily basis. While these two ETF's are a relatively new trading vehicle, mining stocks have been around for some time. The advantage to certain mining stocks over the ETF's, if you select the right ones, is simply the earnings component will rise exponentially with the price of the metal, since we are at prices well above production costs, each increase in the price of gold will be directly reflected in the bottom line. We all know or should know that earnings are what drive individual stock prices, and as the bull market becomes better known you can probably expect a P/E expansion as well. While there is a tendency as shown above for the stocks to lead the price of the physical metal this is not always the case. As you can see from the chart above the XAU is well above its December high while the physical metal is just now challenging that high. One thing to hopefully look for here, is the metal taking out its December highs and the stocks beginning to stall or even decline as measured by the XAU or HUI (Amex Gold Bugs Index) to signal the seasonally weak period beginning. Then look for that correction to approach the indications of a low risk buy point, as outlined above, to gauge any future entry. If you go to the compare stocks within groups or within indices, you can easily retrieve a list of component stocks for the XAU or the HUI indices and MG135 (gold mining group). Also if you follow the new multi year highs posted on Wednesday and Friday evenings you will notice several gold stocks appearing on that list as well and they have been appearing there for months. As always I try and approach the markets with a bias as stated above and then look for low risk entry zones. Gold right now, in my humble opinion is in a high risk zone as it enters its seasonally weak period. If I am correct at some point fairly soon we should see a correction, look to that correction, with some of the indicators listed above to guage any purchases from a low-risk point of view. One more thing, as in all bull markets as prices rise so does volatility which if handled properly translates into opportunity. Largest Changes This Week This Week's Economic Reports Have A Great Week! Bill Disclaimer: Trading in securities, of any type, may not be suitable for all individuals. The contents of this newsletter are not a solicitation to buy or sell securities. The opinions expressed are solely that of the author. You must do your own research, contact your own financial advisor for suitability of any investments. Data gathered is from sources believed to be reliable, but NO guarantee as to their accuracy is made.