Here’s the news of the week – and how we see it here at McAlvany Wealth Management:

Dollar Bucks All

To start the week, Fed-heads Evans, Lockhart, and Pianalto took another opportunity to champion the virtues of Fed “tapering.” There wasn’t much to glean from their remarks that we haven’t already heard ad nauseam: the economy is perfect, inflation is perfect, employment gains are perfect; ergo, we should cool the printing presses and forsake an overheating stock market – despite Bernanke’s repeated cogitations to the contrary. But it would be foolish to think the Fed’s duplicity implies indecision. Printing, despite its increasing ineffectiveness, is a necessity for time being.

For some time now, the Fed has been trying to keep one foot on the dock of a strong dollar (which the “tapering” jargon supports) and one foot on the boat of a strong economy/market (which QE supports). For five or six months now, the Fed has been doing an increasingly impressive case of the splits, but the gap is starting to get a bit wide for even the Fed to straddle.

Here we have a chart of the US dollar index, which broke below its 200-day moving average rather decisively this week. The action ignored (for once) the aforementioned Fed-heads and the general economic euphoria still emanating from prior months’ data. The next milestone for the index would be to test the 80.5 level before proceeding in any given direction.

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With central banks (in the developed world) essentially on hold with respect to additional easing measures, the dollar may tip down following a brief consolidation. The Bank of Japan decided its policy was just right for now, with the stated intention of revisiting its monetary policy (currently to create $1.4 trillion over two years) by next June. The Bank of England also reaffirmed its current policy, while drawing on the Fed playbook to establish a cap on further easing until the U.K. unemployment rate is below 7%. Australia cut rates by 0.25% to 2.5%, but this was viewed as innocuous. In confirmation, its stock market retreated a bit this week.

Also contributing to the dollar’s rout – Europe’s economic data didn’t look so bad this week, helping the euro. There were upticks in eurozone retail sales (0.5% month-over-month in June), German factory orders (3.8% MoM/June), and industrial output (2.4% MoM/June). But to say that these improvements in Europe are part of a developing secular trend would be stretching it a bit.

Away from the dollar, US stocks held to modest losses, Treasuries were flat, and the precious metals recaptured the flag north of 1,300 on gold. Gold mining companies saw a fair bit of short covering, which raised investor spirits in that group by an average of 3.4% for the week. Better news in July regarding China’s industrial output (9.7% year-over-year), exports (5.1% YoY) and retail sales (13.2%) were perhaps enough to enhance the dead-cat bounce long underway in Asian markets. However, it was not enough to boost overvalued (highest valuations in three years) or overbought US stocks to new highs – suggesting stocks here may be in for some further profit-taking in coming weeks. The jury is still out on whether the selling pressure we’ve seen so far is the start of something more ominous. If it is, Treasuries may benefit, adding to the technical retracement of recent losses currently in progress.

Next week will be light on economic and earnings data – with the exception of retail sales data coming due. This may permit recent trends to continue. That said, we could see stocks test the 50-day moving average, bringing the S&P closer to 1652 (from 1691 presently). Gold, functioning as an antithesis to glad tidings in stocks lately, may enjoy further upside. If it does, it will join the ranks of platinum, palladium and silver, all of which enjoyed upside breakouts over the last handful of trading days. 1370 gold still beckons, despite some untimely interruptions. A consistent reading below 80.0 on the dollar index would, in our view, help attain that goal. It may also be worth mentioning that, if the dollar breaks below 80.5, the next stops are at 74.0, 72.0, then finally support in and around 67.0.

Best regards,

David Burgess
VP Investment Management