Gold, the Dollar, and the Economic Outlook

Gold futures on the COMEX have soared impressively over the past two days and have broken above benchmark $300 resistance, on an intra-day basis, even before we anticipated in our last commentary. This shows the urgency of buying in the gold market right now and proves to the "gold is dead" camp just how explosive gold rallies can be in the face of runaway deflation and bad economic news.

As of last month, the cycle channels controlling gold's intermediate-term moves turned up at almost a 90 degree slope and project a near-term top near $340. Also visible on the two-year weekly chart (which is something we failed to look at when making our previous forecast) is a clear-cut head and shoulders bottom pattern with the left shoulder between $270-$295 or thereabouts, the head at gold's recent lows near $255 and the right shoulder between $270-$295 a la the left shoulder. The measuring implication of this pattern confirms the cycle channel forecast of $335-$340.

Let's break down gold's dominant short-term and interim cycles over the past two years in order to gain a clear understanding of gold's underlying strength. Gold's dominant short-term cycle is the 20-week cycle, which bottomed in May 2000, then October, then March 2001, then August, and most recently in January 2002. This means the current 20-week cycle is in the ascending phase until around mid-March. That means that there should be a general upward bias in prices until then. This is seen visibly by the path traced out by the cycle channels. The dominant interim cycle-the 40-week cycle-is composed of two 20-week cycles and is the strongest gold trading cycle of less than one year's duration. It bottomed in May 2000, then March 2001, and in January of this year. The 40-week cycle is up until around the latter part of May, and this ensures gold should have a good first and second quarter this year. There will likely be a correction heading into autumn, but this will be quickly followed by yet another upward leg of the bull market to close out the year. A price forecast this far out is out of our reach, but suffice it say that gold should definitely be above $400, perhaps considerably higher, as we close out 2002.

It is also instructive that along with its dominant cycles bottoming, gold futures have overcome three successive lines of supply from January 2000 until the present, which is extremely positive from a technical perspective. It means there is very little standing in the way of gold's forthcoming series of rallies. Gold bears always pointed to the fact that gold rallies were always quickly capped in the past 3-4 years by the market makers. This was possible only because of the heavy supplies of gold that existed in the market at that time. But now that those supplies have been accumulated by buyers, the days of the "bull trap" rally are all but over. The action of the past few days is a portent of things to come.

Many investors are asking questions about the fate of the U.S. dollar. It is assumed that the dollar must trade in inverse proportion to gold for the most part, but this is not necessarily so. In a deflationary market environment such as we are presently experiencing, the dollar is in great demand, and so long as there is not a complete debt collapse the dollar will always have value. Due to the enormous debts and other financial commitments both here and abroad, the dollar has an enormous demand right now and the present high value of the U.S. dollar index is justifiable. The cycle channels on the weekly dollar index chart shows upside potential to 124-126 (currently just below 120) before the next major correction. The dominant dollar cycles are still in the ascending phase until the early part of the second quarter, so we should expect lofty dollar valuations until then.

Much is being made in the financial press about the enormous increase in MZM money supply since the fall of last year. It is true that the Fed has been drastically pumping out money on both an actual and a rate of change basis. But despite claims to the contrary, this is not and cannot produce price inflation in the U.S. economy. Why? Because of a critical factor that most analysts overlook when attempting to analyze the parse the money supply figures-the national debt. The collective debt of the U.S. for both consumers and the government is so enormous, and interest on that debt so high, that there could scarcely be enough money printed to pay it off if the presses were allowed to run day on end for 10 years. Another factor that analysts who forecast inflation fail to consider is the current heavy rate of taxation in the U.S., which prevents money from piling up in the economy. Finally, few seem to consider the effect that a series of rolling crashes will have on the financial markets and the economy-not to mention the value of the dollar-in the months ahead. A collapse in values where the public stores much of its wealth (namely the stock and real estate markets) will go a long way in absorbing whatever excess liquidity that may be out there. Bottom line: we are as far from inflation as the east is from the west at this point along the K-wave cycle. The inflation camp needs to re-evaluate their position in view of these facts.