It was another wild week in the markets, albeit slightly more tame than last week.  We saw beginnings of a pull back that we’ve been waiting for in precious metals and currencies.  Without further ado…

Oil

Oil was volatile again this week, but, for the most part, we saw it trading to the downside.  The ever annoying OPEC was all over the news again, and I feel obliged to point out the complete absurdity of this cartel.

First and foremost, on Monday, oil kicked over $2 a barrel.  The main results were a rally by the U.S. dollar as well as forecasts that U.S. consumer spending will fall off decreasing demand.  I would say that the forecast was spot on as we have seen earnings from several retailers come in short of expectations.  If you read this report you are very familiar with my very bearish view on consumer staples as all of the debt that Americans are sitting on is beginning to catch up with them.  More on that when we get to the section on Economy/Equities, but for now let’s get back to crude.

There was some big news regarding a huge oil discovery off the coast of Brazil

How major is this discovery?  Well, it is estimated that it will increase Brazil’s reserves by 40%.  The Tupi field, owned by Brazil’s Petroleo Brasileiro SA (Petrobas), is reported to hold 8 billion barrels of recoverable crude oil.  It is estimated that this new discovery will put Brazil in the top 10 when it comes to largest reserves by a country.

But, as the old saying goes, don’t count your chickens until they hatch.  A co-worker of mine by the name of Byron King, a Harvard grad with a major in Geology and several years experience working on oil rigs, had some interesting things to say on the topic.

He said that the Tupi field is classified as ‘ultra-deep.’  Here’s some rather astounding statistics for you.  The Tupi field lies 177 miles off of the Brazilian coast.  Once you get there, the ocean floor is 7,060 feet below the surface.  Then you have to go through approximately 10,000 feet of sand and rocks, and THEN you have to drill through another through another 6,600 feet of salt to actually get to the oil.  My back of the envelope calculations tell me that the oil sits nearly 4 ½ miles below the surface.

Being that we have reached, or are very near peak oil, these types of oil discoveries are beginning to become economical as prices pushes $100 /barrel and beyond.  I’m sure you’ve head the analogy that you pick the low hanging fruit first.  That is exactly what is going on in the oil discovery world.

If you will allow me, I would just like to sum up in brief all of the OPEC rhetoric that we saw this week.

On Monday OPEC said they wouldn’t raise output…because they can’t (the last part is my own analysis). 

On Tuesday, they said that they have no control over oil prices anymore, and because of that they would delay the expected decision on possible output increases this week.  I’m not sure if you know this or not, but OPEC produces 40% of the world’s oil.  If someone owns 40% of the market share, and they can’t affect price, it is a sign that they just can’t keep up with demand.  The above mentioned reasoning is my own.  OPEC blamed speculators…hard to believe.

Then with the grand finale, they decided to come out with a completely ridiculous statement.  On Thursday, the U.S. called for higher production from OPEC, and the cartel responded with a statement saying that instead of increasing output, they will be focusing on reducing CO2 emissions from refineries…huh?

If they didn’t discuss output at there recent summit, what did they discuss?  The press release on Thursday is exactly what they discussed.  They decided that because they can’t increase output, they needed another way to deter the flak that they have been getting.  Why not play the green energy card?  There recent summit was nothing more than a circus full of clowns riding little bikes and squeezing their big red noses.

Enough on that topic, let’s go ahead and finish up with the price action on the rest of the week.

On Tuesday, crude fell to just short of the $91 /barrel level.  Also, the IEA lowered its global demand projections for the 4Q of 2007 and all of 2008 as a result of higher oil prices.  They reduced 4Q projected demand by 500k barrels a day bringing overall demand down to 87.14 million/barrels/day.  Global demand in 2008 is expected to be 87.69 m/b/d, down from 87.99 m/b/d.

On Wednesday, crude rallied back into the $93 /barrel range, even touching $94 in the evening on projections that U.S. supplies would decline by 750k barrels.

On Thursday, the U.S. supplies number came out at a 2.8 million barrel increase instead of the expected 750k decline.  As you can imagine, crude sold off.  It touched the $91 level before pushing back into the $93 handle.

Friday was met with a report that Algeria won’t be able to meet its 2 million/barrel/day of planned production.  There output will actually be significantly lower, with actual numbers coming it at around 1.5 m/b/d.  On the news oil rallied above $95 before pulling back slightly and holding the $94 handle.

Natural Gas

Natural gas had a reasonably calm week.  After rallying over 3% on Monday, back to the $8 range, it traded mostly to the downside.  The main reason for the downside pressure was a report released stating that U.S. supplies would be ample for winter heating needs.

U.S. supplies did fall 9 billion cubic feet, bringing cumulative supplies to 3.545 trillion cubic feet.  The U.S. typically uses about 2 trillion cubic feet in an average winter.  Although supplies seem ample, a colder than expected winter could make all the difference.

There was some interesting news in the public/national sectors for nat gas this week.  It is kind of a hodge podge of data but important none the less. 

Bloomberg reports that BP Plc discovered a gas deposit in the Caspian Sea that may double production from the largest natural gas development in Azerbaijan. 

Also in the news, Japan called on China to continue talks on development of gas fields in the East China Sea.  The two countries, which are the largest consumers of energy in Asia, are in dispute to who has the rights to the estimated 200 billion cubic feet of gas. 

In a press release, Pakistan reported that they are eager to import nat gas from Iran in order to supply the growing demand of China and India.  I find it interesting that Pakistan stands to profit from simply being the middle man in the deal.

Probably the most interesting occurrence in the nat gas sector this week was a press release stating that Brazil would pull out of a joint venture in a natural gas project in Venezuela.  Petrobras International Director Nestor Cervero stated that there were, ‘different ideas about the destination of gas sales.’

Readers of the JWP, this is exactly what I discussed last week in the section entitled Nationalization of Resources.  Capital will always be deployed where it will be best treated.  The last place companies will want to spend any of their money will be in Venezuela.

Finally, to add to the burden of consumers, the national average for gas prices rose again, and a significant rise it was.  The national average is now $3.05 per gallon.  That number is 37.5% higher than one year ago.  This is a very unusual seasonal price.

Anyways, natural gas finished the week pretty much flat.

Uranium

The uranium market was reasonably quiet this week.  Trade Tech reported that the spot rice was unchanged this week after 4 transactions.  Some sellers increased their asking price, while others attempted to bring in some year end revenue.  TT also reported that speculators and hedge funds are back in the market again.

Honestly, I wish every hedge fund would go bust and they would completely cease to exist as an investment vehicle.  These guys completely mess up market fundamentals, and in the process, we see a much higher level of volatility.  It just becomes that much more complicated to analyze a market.  On that news, I am still sitting on the sidelines in this market.

In other news, England reported that they will be building more nuclear power plants to meet growing demand.  The nuclear renaissance pushes onward…

Also, China reported that they believe Iran has the right to produce peaceful nuclear energy.  Now I don’t like to get into politics too much, being that it makes me sick to my stomach for the most part, but this is a subtle sign of growing tensions between the east and the west.  The battle ground, for lack of a better word, for these tensions is centered on Iran.

Two growing global powers, China and Russia, have been rather supportive of Iran as they have interests in Iranian carbon fuels, while the U.S. seems to be the push of a button away from bombs away.  I promise that this isn’t the last we have seen of this conflict going forward, and I’m not talking about the U.S. and Iran either.

Economy/Equities

Moving on, the economy and stock markets were slightly more mild mannered this week.  I wish I could say the same for the credit markets.  Let’s start out with some domestic economic statistics that were released this week.

Pending sales were released this week and actually rose .2% on a m/m basis, although they are still down grossly on a y/y basis.

The U.S. budget deficit came out in the red $56 billion, while it was expected to be -$59 billion.  Wow, a treasury budget came in at levels less than forecasted.  So foreigners only had to finance $56 this month.  I wonder how much foreigners were ACTUALLY willing to finance, and how much of the debt was monetized.

On Wednesday we saw reports that retail sales were weak as higher energy prices deterred consumers.  It is very apparent that this economy is slowing to a halt as 4Q consumer spending expectations don’t look too rosy.

There was a slew of economic data released on Thursday.  The Empire State Manufacturing index tanked down to 20 from 27.4.  The Philadelphia General Business Conditions Survey slowed from 8.2 to 6.  Also, jobless claims increased by 20k to a level of 339k.

The week ended with a negative report U.S. industrial production.  We saw a month over month decrease of .5% compared to an expected rise of .1% and capacity utilization levels came in at 81.7% while economists were predicting 82%.

I’m sure you’ve noticed that I haven’t mentioned the CPI and PPI numbers that came out this week.  The reason is that they are completely ridiculous as gauges of inflation.  Price inflation is a lagging indicator, and the use of hedonic calculus, among other things, makes these statistics completely worthless.  The only inflationary gauge you need to pay attention to is money supply growth.  Money supply growth is a forward looking indicator that DIRECTLY equates to price inflation.

Being that in 2006, the Fed stopped recording M3, the broadest measure of money supply, because it was running amuck, we are left with the next best thing MZM.  All you need to know about inflation is that MZM is running at approximately 20% growth.

I would like to discuss the recent occurrences in the credit/debt markets before we move onto some earnings and equities.

Citi, JP Morgan, and Bank of America set up an $80 billion ‘super’ SIV fund.  The goal of this fund is to relieve some of the stress on the short term debt markets.  Let me get this strait.  These investment banks are unable to sell their short term debt obligations, so they set up a fund to buy their own garbage?

Does this sound a bit off to you?  I’m definitely not an accountant, but it seems that these banks will be able to basically transfer these worthless SIVs off their own balance sheet and onto this giant fund’s books.  But if the fund is still owned by the investment banks, aren’t the investment banks still liable for the SIVs?

Like I said, I’m no expert on the topic, and my analysis might not be spot on here, but there’s something about this picture that doesn’t add up for me.  It is in my opinion that this is just another tool that will be used to post pone the inevitable.  If I were to guess, I would bet that a year down the road, that $80 billion will be worth less than half of its initial value.

The report stating that the $80 billion fund has been agreed upon was released on Monday.  On Tuesday JP Morgan’s CEO, Jamie Dimon, made this statement: ‘SIVs don’t have a business purpose…[SIVs] will go the way of the dinosaur.’  WELL THEN WHY IN THE HECK DID YOU DECIDE TO HELP START THIS $80 BILLION FUND?  God forbid that you work on clearing your balance sheets of this garbage instead of trying to post pone the inevitable.

While were on the topic of SIV, Bloomberg reported that Fitch Ratings said that the cumulative net asset value of SIVs has already decline by 69.7%, and Moody’s reported that they will start a CDO rating service.  Shouldn’t Moody’s have started that service a long time ago…maybe when they things first started trading?

In other news, Deutsche Bank released another rosy report stating that by the end of this credit rout, losses from sub-prime assets will fall somewhere in the neighborhood of $300-400 billion.  That doesn’t include the equity lose in the actual housing market, which already exceeds $1 trillion.

So, as a result of the U.S. housing market, we will see a couple trillion dollars of liquidity ripped from the global economy.  That’s alright; the Fed can just turn up the printing presses and replace the money…right?

That’s what seems to be the cure as the Fed pumped another $47 billion into the financial markets on Thursday after Barclays reported another $2.7 billion in write downs, Bear Stearns wrote down $1.2 billion and Bank of America reported that they will have an addition $3+ billion in write downs as well.  Week to week, this is beginning to sound like a broken record.

Bloomberg reports that U.S. asset back paper had its smallest decline since August.  Their analysis of this piece of data is that the credit markets were starting to see some relief.  The name of the analyst who wrote the story is Bryan Keogh.  This man should be unemployed.  As each week passes, I become more and more pessimistic about the credit markets while this man thinks things might be turning around.  Maybe he should focus more on the fact that this was the 14^th strait week the market for asset backed securities has declined.  The cumulative decline during the past 14 weeks is 29%.   

One of the more interesting stories of the week comes from the land of Disney World and retired folks.  A Florida fund that manages approximately $50 for public services such as school district funding, reported that they hold $2.2 billion of debt that was recently cut to junk ratings.  I wonder what CFAs and other ‘highly educated’ members sitting on that board were thinking when they bought those.  Now there ignorance will affect the public education system among other things.

Last week I read a report that a telecom provider in Texas lost several million dollars because they were investing in mortgage backed securities that one of the big investment banks had sold to them.  I don’t remember the exact amount, or which bank it was, but the telecom company was suing the bank.

Now a public fund in Florida stands to lose billions on this paper that is nothing more than garbage.  It seems that as every week passes we get a just a glimpse of how deep this credit crunch truly goes.  I promise you that it goes a whole lot deeper than we have seen.

You probably could tell that I wrote the above portion on the credit markets with a whole lot of spite and contempt.  It just truly amazes me as to the extent of the greed that these investment banks and other financial institutions have shown us.  And the worst part is that the leaders of these organizations not only receive no punishment, but instead they are actually awarded with millions of dollars in pay days, while the investors who believed them are screwed out of billions and billions of dollars.

I would like to make one final note on the credit market.  Last week, I mentioned that there were some new accounting practices that were going to be implemented this Thursday.  The goal of these new accounting laws is to clear up the gray area between level 2 assets and level 3 assets (SIV, MBS, etc…).

Now I feel that this is REALLY important, so I went on a mission to figure out exactly what these new accounting practices would entail, and how they will affect the balance sheets of the big investment banks.

Well the name of the recently passed rule is called Federal Accounting Standard 159.  I’m sorry to say, but that’s about as far as I got.  I read the tax code.  I don’t know if you have ever read tax code, but not only is it mind numbingly boring, and it seems to be written in another language.  I really couldn’t make much of any sense of it.

As I mentioned earlier, I’m not an accountant by any means, but like I said, I think these new accounting standards are of utter importance.  That’s why I decided to keep at my search, but I realized that I was going to need some help.  Now, in this weeks issue, I don’t have anything for you regarding FAS 159, but I did manage to set up a possible meeting with a well accredited accounting professor at the University of Minnesota.  I will hopefully be meeting with her next week, pending out schedules are able to fit together.  I’m not guaranteeing anything, but the search will continue…

Let’s go ahead and get off if this topic and get to the earnings reports as well as the market actions in equities.

As I mentioned at the beginning of this weeks JWP, retail earnings were pretty ugly.  William Sonoma was added to the basket of retailers with disappointing earnings this week as they reported that profits fell 7%.  That is pretty consistent with JC Penny’s 9% decline in profits.  Macy’s reported that stores open at least a year had declines in profit, but overall they faired better than the other retailers.

Retail Metrics LLC reports that 7 out of the 10 major retailers reported sales that were less than forecasted.  The National Retail Federation reported that they anticipate the smallest increase in holiday sales in 5 years.

Like I said, you can steer clear of non-essential consumer staples companies.  You might even ponder a short position here.

It angers me just writing this, but Goldman Sachs reported strong 3Q earnings…Wall Street cheered.  The obviously didn’t read in between the lines of the report.  GS made money by shorting the same securities that they were selling to their investors.  I wonder if there is any moral obligation left in the world of finance.  I doubt it…

Let’s check out the price action this week for the DOW.  On Friday, the DOW did hold below its 200 day MA as it tanked over 320 points.  On Monday it was beginning to look like the break down would hold as we lost another 55 points on Monday.

On Tuesday, it was a different story.  The DOW rallied and took back 320 points that it had lost; once again closing above its 200 day MA.  Well the relief was short lived as we kicked 30 and 120 points on Wednesday and Thursday respectively.  It looks as if we are one nasty week away from pulling, and holding below the 200 day MA.  Once that occurs that 200 day MA will change from a major support to a major level of resistance.  Keep your eye out.

Moving on…

Currencies/Precious Metals

This week was a week dominated by the carry traders.  Essentially we saw the currencies get whacked except for the Yen, Swiss Franc, and the USD.  As equities continued their volatile run, the carry traders unwound some of their positions.  The rally for the dollar was nothing but a loser rally, but I have been calling for this for a couple of weeks now.  Onward and upward…

Like all of the high yielders, the A$ got smashed this week.  On Monday, the Reserve Bank of Australian reported that they expected inflation to hold at 3.25% up until June 2008.  This is just another sign that there are more rate hikes to come from the land down under.

Well, the A$ traded all the way down to .88 on Monday before rallying back into, and holding the .90 handle on Tuesday and Wednesday. 

Bloomberg reported that consumer confidence dropped to an 11 month low on slow wage growth.  If you recall last week’s JWP, I reported that there is a shortage of labor in Australia, mainly from their mining sector, and that this is an inflationary sign.  Bloomberg stated that the lower consumer confidence might prevent the RBA from raising interest rates next month.  I assume that the RBA sees the slow wage growth as a gift.  This will help hold down inflationary pressures, but it won’t last long.  I’m still calling for an interest rate increase next month.  We will see who is right…me or Bloomberg.

Thursday, the Yen and Franc rallied again, and as a result, the A$ sold off.  It pulled back to the .88 level again.  As I write, it is currently trading positive for the day at .8921.

Being that we saw a general massacre in the currencies this week, the euro actually fared reasonably well.  It took the smallest hit on Monday as all the non-carry trade currencies sold off.  It held the 1.45 level nicely.

We did see some more strength for the euro on Tuesday as it rallied back to the 1.465 range.  The culprit was a repot showing that Euro-zone growth came in at .7%, which was stronger than expected.

It seems that even with the strong, often complained about, Euro, food inflation is taking its hold in the region.  On Thursday a report was released telling us that food inflation rose 3.8% last month, which was the highest monthly gain in 5 years.

On that note, the euro pulled back to 1.46 on Thursday, before commencing a Friday rally back above 1.466 as I write.

The Japanese Yen really had a spectacular week.  It traded on Monday at a 1 ½ year high of 109.13.  It traded to the slight downside for the rest of the week, but there was a bunch of economic data that came from the land of the rising sun.

As I write this, something extremely frustrating has occurred.  My internet has gone to crap on me.  The problem is that it is currently 1:00 PM and I have a prior commitment at 3:00 PM.  I do take notes during throughout the week for this report, and I will have to strictly work from them.  So please bare with me.

Back to Japan, we saw wholesale inflation come in at 2.4% as a result of higher oil prices.  This is pretty much a gift from the gods for the BoJ.  They would do anything for a little bit of inflation to flight the current bout with deflation.

But the news wasn’t all hunky dory.  Consumer demand fell to a three year low as the job market continues to weaken.  We also saw a significant slowdown in the service sector.

On Tuesday and Wednesday, the Yen lost ground and traded back into the 111 handle, before rallying back to 110.29 on Thursday.  It is currently trading at 110.76 and well on its way to a weekly gain. 

The Loonie really took it on the chin this week.  It sold off more than any of the other currencies this week.

On Monday, the C$ had its biggest weekly decline since 1971 as it traded all the way down to 1.03…serious ouch.  There were probably a couple catalysts that fueled the selloff.  The first, simply being a technical correction due to the Loonie being overbought.  The second, being that the Royal Bank of Canada wrote down $167 million, and the Bank of Montreal wrote down $1 billion in sub-prime losses.  It seems that our neighbors from to the north have gotten caught up in the same mess that the U.S. spread to Europe and Eastern Asia. 

On Tuesday, the C$ snapped a 4-day losing route and rallied back to levels above 1.04.  Wednesday had the Loonie trading slightly to the downside again and holding just below 1.04.

Then came Thursday, and the Loonie was smashed like a watermelon smashed by Jack Gallagher.  It fell all the way to 1.01.  It has pulled back a little bit as I write and is currently trading in the 1.02 range.

On the week, the C$ lost 3% on the week and is down over 7% since its all time highs.  Buying opportunity anyone…

Now let’s move onto the pound.  I mentioned last week that I would inform you on why my outlook on the pound was beginning to turn bearish, and that’s exactly what I will do.  I should still be able to make my point even with my internet not behaving properly. 

I am going to take several statistics from Bullion Vault’s Adrian Ash.  He wrote an essay entitled ‘Poor Cousin,’ referring to the strong similarities regarding the economic situations between the U.S. and England.

I’m just going to hit you with a bunch of statistics that should pretty much make my argument for me.  Britton’s owe more than $450 billion on credit cards and unsecured loans.

Last month, consumer debt rose by $2.78 billion while cumulative debt increased by $2.84 trillion.

In euros, the company is slipping 15 million every hour and 373 million every day further into the red.  This is household debt, not government debt, which is currently running at 1.18 trillion.

Household debt is now 160% of income, and there is now more household debt than there is in one year’s GDP.  You also have government debt which is another 42.6% of GDP.

It has been 10 years since their Britain’s trade balance has been positive.

But the main reason I have decided to revoke my bullish stance on the pound is because gold has recently hit a record when valued in pounds.  That hasn’t even occurred in USDs yet.  What does that mean?  Well, gold is the only true way to value ANYTHING, especially a currency.  That means it is weaker than it has ever been, which really says something about the dollar.

Now I’m not saying that the exchange rate between the U.S. dollar and the British Pound won’t continue to favor the pound.  I just think that other currencies will outperform the pound going forward from here.  One thing that I will be keeping my eye on, and possibly consider covering in the report is emerging Asian currencies.  Chuck Butler, a currency analyst whom I greatly respect, has been making some recent discussions regarding the emerging Asian currencies.  I will keep my eye out.

Well, let’s get onto the pounds news for the week, because they essentially make my above mentioned argument for me.  Next to the Loonie, the pound had the worst week.

On Monday the pound traded all the way down to 2.05 as reports came out that inflation rose to a 4 month high.  On Tuesday the pound had its largest single day rally against the dollar in 11 months.  It closed the day at 2.0758.

Then Mervyn King came out on Wed. and said that the BoE had room to cut interest rates by year’s end.  As expected, the pound fell back to the 2.05 range.  Remember all of that debt that I just told you about?  Can you imagine what would happen if the BoE started raising interest rates?  Bankruptcies would run out of control, just like they would if the same thing happened here in the U.S.  I’m not saying that I think a rate cut is the responsible monetary action to take, I’m just calling it how I see it.  Just like in the U.S., I am in favor of rate HIKES, albeit painful, it needs to be done.

I discussed in last week’s JWP that I expected the BoE to raise rates before, now there is no question to what they will do.  On that note, the pound is headed for its biggest weekly decline against the euro in 2 years.

Anyways, the pound hit a 3-week low of 2.0439 on Thursday, and is currently trading at 2.0511.

In other currency news, discussions about dollar pegs were all over the place.  The U.A.E made several reports on the week regarding.  The stated that they may drop the dollar peg for a basket of goods instead.  Then they came out and said that it would be a combination of a dollar and basket of goods, and then they said that they would seek the approval of the Gulf Cooperation Council.

Whatever the rhetoric was this week, the 30 year old dollar peg in the U.A.E is coming to an end eventually as inflation takes its grip.

Then there was an interesting report released stating that Hong Kong would exchange their dollar peg for a Yuan peg.  I don’t know if this report has any credence to it, but it seemed interesting enough none the less.

I think the best word to describe the gold market this week would have to be violent.  It seemed to go 4% up one day, 3% down the next, and so on so forth.  Anyways, It is trading reasonably down for the week and is currently trading in the mid $785 /oz range.  I have been waiting for this pull back for a couple of weeks now, although I don’t think it is quite done yet.  I would be very happy to see it shed another $30-35.  At that point its time to go discount gold stock shopping.

I just wanted to finish this section by throwing some recent Chinese economic indicators that were released this week.

We saw the Chinese trade surplus come in at a record of $27.05 billion.  Inflation hit a 10 year high.  Retail sales increased 18.1%.  Industrial output grew near 18%, while factory spending soared 26.9%.  That is complete economic craziness.

Big Finish

This week was marked with technical corrections in the currencies, energy, and precious metals.  In my opinion this was all over due.  Do not get deterred by any of these corrections.  Remember that nothing goes up in a straight line.  These pull backs are a gift to grab some positions on the cheap, or to pick up that trade that you just missed last go ‘round. 

The credit markets continue to deteriorate, with no signs of relief in the near future.  It will be interesting to see the fallout of FAS 159, hopefully I will be able to give you an idea of what it will look like it, as it may present an investment opportunity. 

Well we are just about through with this week’s edition of the JWP.  Next week will be a short week and I will release the report on Wednesday.  I also hope to cover the bullish fundamentals regarding gold next week as well.  It looks like I will have trouble keeping this report under the 5,000 word level as we have once again surpassed it.  That’s alright with me, because I enjoy this style of writing as long as you enjoy reading it.

To ensure that what I just mentioned happens, please feel free to email me at njfinancial@gmail.com with any questions, comments, or recommendations for the JWP. Now I must run to a library to publish this report.  Due to the unexpected internet issues, there might be some grammatical errors, so please bear with me. Until next time…

Happy investing,

Nick Jones