Today's WrapUp by Mike Hartman 07.25.2003
Silver Breaks Out!
The broad stock market indices opened today roughly where they left off last Friday, and after the first two hours of trading it looked like we were headed to overall losses for the week. At one point the Nasdaq Composite Index was down 18 points, but made a fast turn to close the day with a gain of 29 points. Depending on your individual holdings, you could easily have seen stock prices move 20-30% based on earnings reports and guidance for the second half of the year. Overall for the week, the Dow Industrials added 96 points to close at 9,284, the Nasdaq gained 22 points or 1.3% to close at 1,730 and the S&P 500 just barely held onto gains for the week by adding five points to close at 998. With stocks adding narrowly for the week, the money continued to trickle out of the bond market and some of the big money was clearly planted into the Precious Metals Sector.
Bond prices fell again this week with the 30-year bond closing at 109.66 for a yield of 5.12% versus 4.91% last Friday. The 10-year yield rose from 3.97% to 4.18, which now puts 30-year fixed rate mortgages at approximately 5.7%. Just three weeks ago fixed rate mortgages were hovering right at 5.0%. Ever since Alan Greenspan announced the last rate cut back on June 25th of a quarter-point, interest rates have been going up. At that time the markets were asking for a 50 basis point cut to keep the party going, but Alan refused to spike the punch. That took care of the short end of the yield curve (shorted dated maturities). He then appeared before Congress and basically stated that buying longer dated maturities (30-year bonds) to keep long-term interest rates low “appeared unlikely.” With that, the bond market took over and protested. Bonds have been selling-off with a vengeance, and the money is looking for a home. Volatility will continue to remain at high levels, as there is just too much “hot money” chasing returns anywhere they can be found.
For a second opinion on stocks, bonds, precious metals, and the action of the Federal Reserve, I have extracted the following paragraph from the International Forecaster by Robert Chapman. Mr. Chapman’s nutshell version goes like this,
"NASDAQ is selling at 240 times earnings and 38 times next year’s estimated earnings. Of 1,500 large, medium and small stocks tracked by S&P, the 195 that lost money over the past year are up 101% on average since 10/9/02 and the 1,305 that made money are up 42%. This speculation is more excessive than that of 1999-2000 and we can lay that at the feet of the FED, first and foremost, George W. Bush and a supplicant Congress. The Fed’s market interference is colossal and fiscal irresponsibility is the worst in a century. FED and government intervention is what exacerbated the depression. As we look back the only silver lining in that entire period was falling prices which made dollars more valuable. Those in gold and silver this time around will have a great advantage, because we fully believe that the elitists will have to return to a gold standard or a gold exchange standard. If you are prepared, deflation and depression is not a horrible thing. Those who suffer the most are those with the most debt and those who suffer the least are those with no debt and have gold and silver. An inflationary depression, which we are facing, is the worst possible starting point. It won’t last long but it will be very damaging. Sir Alan told us last week there won’t be further bond market interference and in the same breath he said he was prepared to keep interest rates low for as long as needed. That, of course, cratered the bond market and ended the Greenspan bond put. Whether Sir Alan likes it or not, bond yields will be much higher by next March. Inflation is the worst possible path to follow. The delaying tactic only makes matters worse and that is exactly what the FED has endorsed as a matter of policy. The trick for both consumers and corporations is to work to protect your financial structure. Avoid going into debt no matter how low the interest rates are.”
On the Housing Front
I believe Mr. Chapman is dead-on track by saying that those households with the least amount of debt will survive the current economic climate MUCH better than those that are buried in debt payments. Americans have been extracting equity from their homes to buy cars, go on vacations, pay for school tuitions, home remodeling, and a plethora of other wants and needs. Rather than consolidating existing debt to capture lower interest payments, and therefore lower monthly payments, people have been taking out more debt and using the lower interest rates to keep the monthly payments roughly the same as before. It is wrong thinking to look at lower interest rates as free money. If you extract an additional, $30,000 from your home, but the payment stays the same because of a lower interest rate, the debt is still there. You have just surrendered some of your future financial freedom in exchange for debt payments. Only in America can we come up with the cliché, “I owe, I owe, so off to work I go!” You could do a study of your own finances to see just how much money you pay to the tax man every year, and to the bankers in the form of interest payments.
Thirty-year mortgage rates have risen from 5% to 5.7% over the last three weeks and it appears to have taken its first hit on the housing market. Existing home sales in June fell 0.3%, while expectations were calling for a gain of 2.9%. On the plus side, new home sales in June rose 4.7% to a record 1.16 million units annualized. The rising interest rates are just barely starting to affect the housing market. Home prices will soon begin their decline, but for now prices are holding. The median price for existing homes increased 6.1% since May. Probably the scariest trend that is beginning to emerge is the fact that more mortgage borrowers have had to resort to variable rate mortgages just so they can afford the monthly payments RIGHT NOW. With rates rising, how will variable rate mortgage borrowers be able to afford the monthlies when they are eventually adjusted to 7%, 8%, or even higher? Variable rate mortgages are dangerous, unless you are planning to sell the house soon.
Fannie Mae and Freddie Mac
The last thing I need to say about housing and mortgages in general is the fiasco that is going on with the GSE’s (Government Sponsored Enterprises) known of as Fannie Mae and Freddie Mac. I believe this is a pressure cooker ready to explode! I am in the middle of researching where the whole mess is headed, but for now I will leave you with another quote from the International Forecaster.
“It has come to light that Freddie Mac will have to put back $6.5 billion in gains from its derivative operations. Management took huge gambles in derivatives beyond the level needed to hedge their mortgage holdings, and then held back some of the profits from this as a hedge against events turning against them. Their exposure is to hedge contracts valued at over $1 trillion, hence $6.5 billion is a small reserve should interest rates begin rising. Interest rates have just risen .96% in three weeks from 3.04 to 4.00%, so they have to be in trouble. This is a bomb waiting to explode, and the Fed is trying to run a blocking action for Freddie and Fannie that no matter what they do will be ten times bigger than LTCM. The two derivative positions are so massive they can’t be unwound for years and if one of the writers goes under the entire financial system is doomed.”
Doomed is a strong word, but if not doomed, I would go along with “Too big to fail” and “Government bailout.” This could very well become the ten-sigma event that Jim Puplava has been researching and commenting about.
Investment Alternatives
American investors are going to have a very difficult second-half of the year if we encounter many days like yesterday, when stocks, bonds and the dollar were all down in the same day. American financial assets sold-off across the board. So where does one go for a relative degree of safety? As paper assets decline in value, we have focused on companies with a base in natural resources such as oil, gas, water, and precious metals. We have also taken advantage of the falling dollar by investing overseas in foreign currencies from countries that have a strong resources base. While our foreign currency positions have been grinding out some excellent gains over the last year, this week the precious metals holdings took-off like a rocket!
Gold closed today at $362.70 per ounce for a gain of $15.65 or 4.5% since last Friday, while silver added 36 cents or 7.6% to close at $5.07 for the week. For silver, this is a big victory to climb over the $5.00 mark and have the last three trading days close at $5.06, $5.09 and $5.07. Technically speaking, the shot through $5.00 this week also broke the 20-year downtrend line, which is quite significant. Since October of 2001, this is the third time silver has gone through $5.00, and with the 10+ fundamentals of low inventory, shrinking mine supply and increasing demand, it should be difficult for the short interests to push it back down. Anyone in their right mind would not want to be caught short on silver at this point. A short squeeze and subsequent covering would send silver to $7.00 like it did back in 1997 when Mr. Buffett bought his mountain of bullion.
While gold had a very nice week by adding over $15 per ounce, the HUI Gold Index moved from 144.27 last Friday to close at 167.03 today for a one week gain of 22.76 or 15.8%. You can see the leverage that the shares offer over the bullion by the percentage increases. In the case of silver, the price moved from $4.71 a week ago to $5.07 today for a gain of 36 cents or 7.6%. There is only one silver equities index that I am aware of, which is on the gold-eagle website in their silver section. It is called the Silver Seven Index and shows history back to 1998. The downside is that the index is only updated through July 3rd, so to get a snapshot view of what the silver stocks have done over the last week I have prepared the following data table.
Silver Mining Companies
Ticker Company Name Close
7/18 Close
7/25 Gain %
SIL APEX Silver Mines 14.34 16.58 15.6
PAAS PAN American Silver Corp. 7.33 8.31 13.4
SSRI Silver Standard Resources, Inc. 5.20 6.72 29.2
HL Hecla Mining Co. 4.57 5.69 24.5
CDE Coeur D'Alene Mines Corp. 1.48 1.85 25.0
32.92 39.15 18.9%
In the effort of fair disclosure I must say that I personally own some of the stocks above, and also hold them in our client accounts. It has been a difficult exercise in patience, but has now been rewarded handsomely. The best part will be to see the fireworks yet to come. This is a PRECIOUS metal that has been consumed as if it were a base metal with unlimited supply. The suppression in the price of silver via paper short selling should be coming to an end as physical inventory continues to vanish. That same suppression will act as the proverbial “coiled spring” to cause a further explosion in price. The above ground inventories that the U.S. government has been feeding to the physical market over the last twenty years, is gone. The U.S. Mint must now purchase silver on the open market in order to continue minting the Silver Eagle program. This is an exciting and rewarding time for those that have been patiently waiting for silver to POP!!
It’s been a great week here, and I hope for you as well. May you prosper in all of your investment decisions. Have a great weekend!
Copyright © 2003 Mike Hartman
July 25, 2003
AI
