The Importance of Cycles in the Investment Management Process

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  • expected July same store sales data.
  • The materials sector also outperformed, with Allegheny Technologies and Newmont Mining leading the way. Allegheny Technologies rose on titanium supply worries, as a Russian company is a major world supplier of aircraft parts. Newmont Mining rallied as gold stocks generally had a strong week.
  • First Solar was the best performer in the S&P 500 Index this week, rising 9.35 percent. The company reported quarterly earnings that generally disappointed but maintained full-year guidance. The company did appear closer to spinning off a portion of the business, which was well received and is likely the primary driver of performance this week.

Weaknesses

  • The telecom services sector was the worst performer this week. Sprint walked away from a potential merger with T-Mobile, causing Sprint to fall by more than 30 percent, which weighed on the entire group.
  • The health care sector also underperformed this week. This was largely driven by company-specific earnings disappointment, such as Mylan and Actavis.
  • Walgreen Co. was the worst performer in the S&P 500 Index this week, falling by 13.94 percent. The company announced it is no longer pursuing an overseas reorganization, even though it is buying the 55 percent of Swiss retailer Alliance Boots that it doesn’t already own.

Opportunities

  • While earnings season is winding down, we still have quite a few significant reports out next week. Key companies reporting include Priceline Group, Cisco Systems and Wal-Mart.
  • The utilities sector sold off sharply over the past month or so and began to show new signs of life this week. The sector is still one of the best performers YTD.
  • The path of least resistance for the market appears higher as this “classic” bull market phase of grinding higher with low volatility remains intact for now.

Threats

  • Volatility has been remarkably low. This bull market has been an abnormally smooth ride. This calmness won’t last forever, and late summer through early fall has traditionally been more volatile.
  • Key retailers report next week, with Wal-Mart giving us a read on the U.S. consumer and details on its turnaround story.
  • Geopolitical tensions are on the rise with the downing of a civilian jetliner in Ukraine, a ground war in Gaza and more Russian sanctions. The market has been able to shrug off these events so far, but an escalation could be the catalyst for a long-awaited correction.

The Economy and Bond Market

Treasury yields shifted lower this week as European economic data was weaker than expected, increasing the odds that the European Central Bank (ECB) will introduce additional stimulus such as quantitative easing (QE). The 10-year treasury yield moved to its lowest level in more than a year as European yields continue to fall to new lows, apparently dragging U.S. treasury yields down with them. The German 2-year yield briefly dipped into negative territory this year, highlighting the deflation fears that still exist in Europe.

10-Year Treasury Yield Tumbles
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Strengths

  • Bonds rallied this week as the U.S. bond market appears relatively attractive globally. European bond yields sunk to new lows and treasuries also benefitted from a flight to quality as geopolitical turmoil continues.
  • The non-Manufacturing ISM Index hit its highest level since 2005. It appears the economy may be picking up steam.
  • July same store sales rose 4.8 percent as back-to-school shopping got off to a strong start.

Weaknesses

  • German factory orders fell 3.2 percent in June. Industrial production rose only 0.3 percent, well below expectations.
  • Italy is back in a recession after posting a small decline in second quarter GDP.
  • Junk bond funds experienced more than $7 billion in outflows last week as concerns build on valuations in the high-yield bond sector.

Opportunities

  • Geopolitical tensions remain elevated with the downing of a civilian jetliner in Ukraine, a ground war in Gaza and more Russian sanctions. Bonds could benefit from a flight to safety in this environment, which is largely what occurred over the past several weeks.
  • European data has been weaker than expected, and talk of additional ECB action is not only taking European yields lower but also dragging U.S. yields down with them.
  • With key global central banks back into easy policy mode, and inflation trending lower in many parts of the world, the path of least resistance for bond yields likely remains down.

Threats

  • The economy does have some positive momentum and appears poised to continue to build on that as we move solidly into summer. With the ECB and Bank of Japan taking the global lead in easy monetary policy, the Federal Reserve may transition to a tighter policy sooner than many expect.
  • Economic data has been relatively strong. The market could refocus on that next week, with retail sales and industrial production the two key indicators to watch, potentially pressuring bond prices.
  • Several Fed speakers in recent weeks have indicated a shift in Fed thinking toward normalizing interest rates. The threat here is that this occurs sooner than the market currently expects, which is mid-2015.

Gold Market

For the week, spot gold closed at $1,311.60, up $18.27 per ounce, or 1.41 percent. Gold stocks, as measured by the NYSE Arca Gold Miners Index, rose 2.21 percent. The U.S. Trade-Weighted Dollar Index rose 0.11 percent for the week.

Date Event Survey Actual Prior
Aug 7 UK BoE Interest Rate Decision 0.5% 0.5% 0.5%
Aug 7 ECB Main Refinancing Rate 0.15% 0.15% 0.15%
Aug 7 U.S. Initial Jobless Claims 304K 289K 303K
Aug 8 China July Trade Balance 27.4B 47.3B $31.6B
Aug 12 Germany August ZEW Survey Expectations 17.0 27.1
Aug 13 China July Retail Sales 12.5% 12.4%
Aug 14 Eurozone July CPI 0.8% 0.8%
Aug 15 U.S. July PPI Final Demand 1.7% 1.9%

Strengths

  • Gold futures jumped the most in six weeks in New York as signs of escalating tension between Ukraine and Russia fueled demand for the precious metal as a safe haven. Gold traders turned the most bullish since January, according to a Bloomberg survey. The survey showed that 17 out of 26 analysts and traders who were polled believe gold will rise. The recent appetite for gold is encouraging as it coincides with a strong U.S. dollar, defying the historically-negative correlation. The U.S. dollar rose to the highest level in nine months.
  • ETF gold holdings rose 0.90 percent in July from a four-year low in June. The increase was the largest-monthly gain since late 2012, and halted a three-month decline. Gold ETF holdings are down 1.6 percent year-to-date as outflows slowed. Platinum ETF holdings closed July at a record high as demand was sustained after the South African strikes were resolved. Lastly, palladium ETF holdings rose nearly 3 percent to a new record, bringing its annual increase to 38 percent.
  • BullionVault’s Gold Investor Demand Index rebounded as gold holdings reached a new record. Investor demand has showed signs of rebounding as the index rose to 51.9 from a four-year low of 51.2 in June. BullionVault’s customer holdings of gold climbed to 33.03 tonnes, exceeding the previous peak of 32.9 tonnes in March 2013.

Weaknesses

  • Data from the U.S. Mint showed that silver coin sales fell to the lowest level in July of this year, plunging 55 percent from a year ago. American Eagle Bullion gold coin sales also declined, posting the lowest level since March, and 41-percent lower than a year ago. In addition, Hong Kong gold net exports to China fell to a seventeen-month low. Even if there is evidence that some of the volumes are now entering through Shanghai and Beijing, the magnitude of the drop still points to softening of the Chinese gold retail and investment market.

Hong Kong Net Gold Exports to China Fall to 17-Month Low
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  • Sandstorm Gold has agreed to “bail-in” Luna Gold after its lower-than-estimated cash flow resulting from an unexpected drop in production, together with cost overruns at Aurizona in Brazil. Sandstorm, which owns a 17-percent gold stream on Luna’s Aurizona property, has agreed to purchase a minimum 19.5 million shares, bringing its stake to 19.8 percent.
  • Shares of Imperial Metals plunged 41 percent after a massive tailings pond breach at Mount Polley, placing it on care and maintenance as a result. The spill sent a 45-meter wall of water and mining waste, together with 4.5 cubic meters of metals containing sand, into Polley Lake, impacting numerous neighboring communities. Imperial Metals CEO Brian Kynoch has assured that the 10 million cubic acres of contaminated water is close to drinking water quality, in an effort to address the comments raised by environmental and aboriginal groups.

Opportunities

  • Gold and gold equities remain attractive even in a rising U.S. dollar environment, according to Canaccord Genuity analysts. Normally gold and the U.S. dollar display a negative correlation, meaning gold underperforms in a strong U.S. dollar market. This may not be the case now. According to Canaccord analysts, at times of rising inflationary expectations (like 1993), the negative correlation does not hold. As matter of fact, the Citicorp Inflation Surprise Index has staged an upturn from a cyclically-low level, which according to history bodes well for higher gold prices, even in the face of a stronger U.S. dollar.

clost
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  • Gold will extend this year’s surprise rally and climb to the highest level since September on the outlook for accelerating inflation, according to USAGOLD Centennial Precious Metals. Chief Market Analyst Peter Grant believes gold will rise to $1,400 by the end of the year, and will climb even further as the Federal Reserve increases interest rates. Similarly, Credit Suisse analyst Tom Kendall has recommended investors go long gold within the metals and mining complex, as it is not vulnerable to the unwinding of speculative positions in China.
  • Klondex Mines announced it began initial drifting on a fourth-identified vein at its Fire Creek deposit in Nevada. The vein, which lies only 100 feet west of the main ramp, is not included in the 2013 resource estimate or subsequent preliminary economic assessment (PEA). Current drilling shows a known strike length of 800 feet and a vertical dip of 250 feet, remaining open both north and south along strike, and up and down dip. The weighted average grade of samples taken from the vein is 126.9 gold grams per tonne.

Threats

  • More than 15,000 petition signatures opposing a nickel project were

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