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Fleck Rap



Note: Professor Fleckenstein provides his commentary every Wednesday evening for educational purposes - his insights are not intended as investment advice. You can find his daily comments at

16,000 Funds' Worth of Noise

Due to the wild moves in many markets, the format of today's Rap will be quite a bit different, as I take a stab at putting the action into some kind of perspective. Yesterday, nearly every market but the dollar was roiled dramatically by the perception that the Fed might raise rates someday. The fact that rates may rise eventually is not in itself shocking news, especially to those folks, myself included, who think rates are absurdly low. However, the consequence of a rate hike, whenever it comes, will dramatically affect the economy and the stock market, given that the refinance game and government tax cuts/refunds are essentially what's helped keep the economy going. (More about that below.) Meanwhile, the Fed's stimulus has definitely given us a certain amount of inflation.

White-Water Rafting on Lake Liquidation

I believe the precious-metals markets, and even base metals, for that matter, have sustained this degree of damage (on Al's silly rhetoric) because they were already in the process of a correction/setback -- exacerbated by the recent moves in the dollar. I have been talking about the euro trading to $1.16 to $1.18 for a couple months now, and I think we are nearing the end of that move. But as I've stated, when you get to the end of the moves in these outside markets (as we've seen in the precious metals, though that's not been the case in the currencies), the action can often be wild and wooly.

I think the size of the moves are a function of the panicky late stages of liquidation, as motion begets more motion, versus any real fear of rising rates. After all, a modest rise in rates does not change any of the reasons why one would want to hold precious metals, and most of them still lie in front of us: A resumption of the dollar decline, our monstrous trade/budget deficits, geopolitical problems, and prospective weakness in the U.S. economy.

Metals Gyrate to the Music of Goliaths

However, as I have also repeatedly said, momentum rules in the short run. Price movements can force people's hands and create more price movements. Let's not lose sight of the fact that there are approximately 8,000 hedge funds in existence, on top of the 8,000 or so mutual funds. Therefore, when 16,000 predominately short-term funds change their mind for 15 minutes before changing it back again, the kinds of gyrations we've seen in precious metals can ensue. (But remember this seven-session 25% blast seen in silver, as you will see it in stocks sometime in the future.)

I have tried to warn people in advance that these markets can get wild. Just as we've seen this on the downside, we will also see the wildness break out to the upside at some point, though I'm sure that right now, this seems impossible to most folks. In any case, these violent moves underscore the need to have a strategy for how you intend to manage your positions. To repeat, I think we're nearing the end of this decline, and this is the big buying opportunity I've been waiting for. But when things are this emotional and tempestuous, trying to determine exactly where the end may be is rather difficult.

Turning to today's metals action, silver opened down about 10%, tried to bounce, was unable to, and was flushed late in the day, finishing down 77 cents to $6.17. Gold was a little firmer. After opening down around $7, it bounced about $3, and then surrendered that, to close approximately where it opened, which was $391.40. Precious-metal stocks were quite a bit firmer than yesterday, despite today's drubbing in the metals. My two favorites, Nemont Mining (NEM:NYSE) and Pan American Silver (PAAS:NASD), shrugged off early losses to post small losses.

Deference to a Feral Silver Dog

As for what I did about this, I basically did a whole lot of nothing. I had bought silver at around $7 and took a pretty aggressive position, as previously mentioned, with the intent of getting more aggressive. Yesterday afternoon, I reduced my position somewhat because I was nervous that things might get a little wild, as indeed they did. I did not add to my positions today, though I thought about it several times.

Often when the metals close on the low, you wind up seeing more liquidation the next day. Whether that will occur tomorrow I don't know. But I fully intend to capitalize on this decline, in terms of very aggressively adding to my metals position both in gold and silver, and perhaps adding to my Newmont position, as well. (I can't trade PAAS, as I am a director.) My decision will be a function of how events transpire tomorrow.

Once again, what I do for myself is only offered up as food for thought for others. Everyone has different goals and different risk tolerances. Sometimes when I am speculating (buying a market that's cascading must be deemed speculation, to some extent), I usually use a stop. Where one wants to place one's stop is purely a matter of personal preference. Meantime, let me be clear about one thing: The rout we have seen in silver, though rather large, does come with the territory, but it in no way diminishes my bullishness for silver. I feel the same way about gold, though the decline there has been more subdued, as was the rally.

Motorola: Mother's Milk to Speculation

Segueing to stocks, I found it ironic yesterday that stock speculators were modestly upset about the prospects of rates going higher, as were fixed-income investors, though they were nowhere near as panicky as base-metal/precious-metal speculators. That said, as soon as Motorola (MOT) announced a better-than-expected quarter last night, the stock popped 25%. All night long as I mulled Tuesday's action and saw what transpired in Motorola, it reinforced my view at the start of the Rap that speculators are jumping around.

Obviously MOT was green last night, so everyone wanted to jump on it, even as they had wanted to sell everything else that had been red. And in the early going today, equity bulls wanted to make MOT a galaxy-wide boon, rather than the company-specific event that it was. Motorola had not shipped much in the fourth quarter, which set the stage for a big quarter this quarter. In addition, as I have noted, end demand for phones has been pretty much okay, even though there's been plenty of inventory building.

Notwithstanding Motorola's good results (I was not involved with the stock), they in no way alter my negative view of Nokia and a handful of its suppliers -- the former based on company-specific reasons, and the latter based on inventory-building reasons.

In any case, after the early-morning party on the back of MOT, stock bulls enthusiastically marked time, hoping that on Day Two of his Congressional testimony, Easy Al would say something soothing, and tell them he didn't really mean to confuse them and cause them harm by raising rates.

Mister Greenspan Ministers to Mister Market

As for what he did say, and as for the ink spilled afterward, it was mostly much ado about nothing. Once Easy Al started flapping his jaws, he basically told folks exactly what I assumed he would tell them: Just because we've conquered deflation doesn't mean you have to worry about inflation. I'll handle inflation when needed, but it won't be needed, because my inflation gauges will never register any. The guy is never ever going to have to tighten unless he's got a gun at his head. Right now there is no gun at his head because everyone is pretty happy, and no one's up in arms about the inflationary pressures.

As the market digested the net of that, it tried to find its legs after yesterday's mauling. We pretty much worked our way higher all day and closed on the highs, with the S&P and Nasdaq up about 1%, though the Dow was only slightly positive. Financials were kind of mixed, as was tech. The only group to sport green pretty uniformly was the homebuilders. Go figure, particularly after Al lured everybody into getting ARMs, and after what we've seen in the fixed-income market, you'd think the last group to rally would be the homebuilders, especially if the world is supposedly fretting about deflation.

One of these days, stock-market speculators will see a panic much like the precious metals have witnessed recently. Sometime in the next six months or so, folks are going to realize that the economy is not on a self-sustaining path, that we have inflation problems, as well as a litany of others I've previously described. That will completely undermine folks' confidence in the Fed, and stocks will experience a white-knuckle ride to make the white-knuckle ride we've just seen in precious metals appear like a picnic -- which, parenthetically, will be bullish for precious metals, in my view.

Debunking the Deflation/Metals-Correction Connection

Turning, lastly, to the subject of deflation, I myself am a little tired of hearing that we're having deflation every time there's a hiccup in the precious-metals market. I heard a fair amount of chatter last night about how the metals' decline was forecasting deflation. Dare I say that perhaps someday (remembering that the Fed is totally out of bullets), after stocks have collapsed, after real estate has collapsed, and after the dollar has collapsed, then perhaps we'll see some deflation, and we can worry about it as those events loom closer.

But in the interim, the fear of just that and all our policies will promote inflation. The thought that the cascade in metals is signifying deflation, with the Dow at 10,000 and home prices at record highs, i.e., they are signaling something that's about 15 moves in advance, is preposterous, in my opinion.

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