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Using Options to Trade Volatile Markets

Alex — Sat, 15 Nov 2008 23:21:49 +0000

Currently the Implied Volatility of options is high, making them expensive to buy. The challenge facing option buyers during times like this is how to overcome some of the inflated option pricing. One method to avoid paying too much for volatility and time value is to buy In-The-Money (ITM) options. The further that options are ITM, the less you pay for the volatility and time component of that option and the more you pay for the real or intrinsic value.

With oil appearing to find support around US$60 a barrel and Santos (STO), being a large producer, I’ll look at a way of going long on the company using ITM options to benefit from a rise in the price of oil. Due to the current volatile market, this will be a short term trade as I don’t want to buy a lot of time value in case the share gaps down significantly.

For example, with STO currently trading at $13.50, the $12 December 08, Call option costs $2.35, which means that it has $1.50 of real value and 85 cents of volatility and time value. Whereas the $14 December 08, Call option at $1.30, is all volatility and time value. Simply, this means that if STO is trading at $14.00 at expiration then the $12 Call option will still be worth $2 but the $14 Call option will be worthless.

Using options has two main benefits. One is that they will limit my maximum risk to $2.35 per share. Not that I intend to lose that much, but should the share gap down then the potential for maximum loss is always there. However, due to the way that options work, should the share gap down to say $10, the option will still retain some time value. The second benefit is that I don’t have to come up with the full $13.50 per share. This allows me to preserve capital or be in other trades at the same time.

click to enlarge

Whilst the STO chart does show a large drop in price for the first half of October the share has recovered strongly in the last two weeks. In ProfitSource, a short term Elliott Wave setting is showing the start of an ABC pattern. The Oscillator has also made a strong recovery. See above.

The Actual trade is to buy 1, December 08, $12 Call contract for $2350 (1000 shares x $2.35). My intention is to only keep these options until the 28/11/08 unless I’m stopped out or have made my profit target beforehand. My stop loss is if STO trades at or below $11.95 and my profit target is STO at $15.

As you can see I now have a very simple trading plan in place, with a time stop as well, this is extremely important when trading options.

click to enlarge

Figure 2 shows an OptionGear risk graph of the trade, demonstrating that even if the share drops to less than $12 in the short term, the Call option will still have value. The red curved line represents the current value of the trade as the share price rises or falls.

Remember, you always have options,

Barack Obama will be the next President of the United States of America

Alex — Thu, 06 Nov 2008 02:28:16 +0000

New President, Same Old Story
Barack Obama will be the next President of the United States of America. Thought we’d mention it just in case you had missed the news. Everyone is falling over themselves to love or be loved by him.

This morning we read from the UK that the PM and Opposition Leader were arguing over who is the prettier, and that Obama would love one more than the other. We can be certain that Rudd and Turnbull will put on a similarly embarrassing show.

Housing Goes from Bad to Worse
Back to more important things. The economy and the markets. We mentioned earlier this week that September Building Approvals numbers were scheduled for release yesterday. The data showed what can only be described as a further slump in the housing market.

The number of private sector housing approvals fell to 7,774 on a seasonally adjusted basis. That is a 16% decrease from September last year.

Not surprisingly this has resulted in the value of approved building projects falling by about 20% since the peak last year to $2.7 billion.

Interestingly, the value of ‘alterations and additions’ to residential buildings remains fairly constant. The value actually increased in September compared with August. It seems people are choosing to improve their existing homes rather than move to a new one.

However, that doesn’t really help much. As can be seen from the graph above, the small increase in values comes nowhere near the drop in value of new homes. Based on these numbers, the value of new home approvals has fallen by $800 million in twelve months. That is 50% more than the entire sum spent on alterations and additions.

It is a perfect illustration of the consumer not spending. Now replicate those figures across other industries. We have seen US auto sales collapsing this week. General Motors reported a 45% drop. Ford reported a 30% drop in sales.

Of course a house and a car are big ticket items. But it will have a trickledown effect to other significant purchases. What about televisions, fridges, lounge suites? They are all items that very rarely stop working completely. Twelve months ago people may have considered buying a new fridge to replace the one they’ve had for ten years. Now they may think, “Well, we’ve had it for ten years and it still works, why bother changing?”

From an investing point of view the key is to try and look past the immediate horror stories to find investments that can weather the storm and re-appear on the other side.

The No-Surprise Surprise

Alex — Wed, 05 Nov 2008 03:02:28 +0000

According to the papers, yesterday’s 0.75% interest rate cut by the Reserve Bank of Australia (RBA) was a surprise. Not according to the markets it wasn’t. As we pointed out on Monday, there was a 79% chance the RBA would cut the Cash Rate to 5.25%.

Now we wonder whether the market is starting to get a little too excited about future rate cuts. It has a habit of doing that sometimes.

As the table above shows, there is now an expectation the RBA will cut to just 4.5% at the December RBA meeting.

Why is the RBA cutting rates so heavily? Simple, the outlook for the Australian and global economies is not looking that good. Not in the near term anyway. The ANZ Job Advertisements survey released on Monday fell by 5.9% from the previous month. And they were 9.8% lower than 12 months ago.

It’s a clear sign that businesses are reining in expenditure. Of course it doesn’t necessarily mean that they are no longer hiring. Just that they may not be willing to shell out cash to look for new staff.

Bank to Reap Profits from Rate Cuts
There was a surprise of sorts yesterday. Although we were probably just being naive considering all the recent hoopla we thought the banks would unanimously pass on most of the rate cut.

How wrong we were.

As it stands only the Commonwealth Bank [ASX:CBA] has passed any of the rate cut on. It will drop its standard variable rate mortgage by 0.58%. That’s still 0.17% less than the RBA’s cut.

But as we say, we shouldn’t have been surprised. What is the incentive for the banks to rush through a rate cut now? There isn’t one. Thanks to the 1% cut (most banks passed on 0.8% to customers) last month mortgage rates are already down from recent peaks.

Cutting its interest rate does nothing for a bank apart from lose it money. And why would it do that when it knows many home owners won’t bother to change banks anyway? Who wants to pay to have their home valued when there is a reasonable chance the value has fallen?

For those that have close to the maximum mortgage against their home, they have very little wriggle room anyway. The banks know this. Even for those that saved a bit extra and took out a smaller mortgage, they may still find the value of the property lower. Their home equity will thus be lower too.

Add that to the current situation: the major banks are in a cash grab for deposits. Most banks are offering ‘honeymoon’ rates on savings accounts designed to attract investors from non government guaranteed cash-like investments. The banks will be keen to maintain these higher rates for a while longer.

The fact is we have no idea what the banks will do with interest rates. The other major banks may pass some or the entire rate cut on today. Or they may not.

Is The ‘Wages Bubble’ Next?

Alex — Tue, 04 Nov 2008 02:02:27 +0000

Well, according to the market’s reaction to the TD Securities inflation forecast everything is looking rosy. The survey of 1,000 products by TD Securities and the Melbourne Institute showed that inflation increased by 3.9% for the twelve months to September.

This was a drop from the previous month from 4.6%. That spells good news and makes it even more likely that the Reserve Bank of Australia (RBA) will drop interest rates at its meeting today.

Unfortunately we won’t know the official figure until the ABS releases those statistics at the end of January next year. The RBA has convinced itself that it knows how to handle inflation and so it is therefore unlikely to hold off.

Amongst all the euphoria about this wonderful inflation figure let us not forget that it is still 3.9%. That means that during the past year you would have needed at least a 3.9% return on your money just to break even. It means that what cost you $10 or $20 or $100 last year will now cost you $10.39, $20.78 and 103.90 today.

So far wages have kept up the pace. The last statistics from the ABS indicated that wages had risen by 7.3% from June 2007 to June 2008. Therefore our only note of caution here is that after just been through the credit bubble will the next bubble to pop be the Wages Bubble? If the economy truly is destined to slow down it is inevitable that some businesses will find paying higher wages unsustainable.

singapore stock maket news

Alex — Sat, 01 Nov 2008 10:51:16 +0000

The Market is Off to the Races

Later this morning we are off to the races. It is the first time we have been to Derby Day. Looking at the market this week we are almost convinced that before long the Australian market will be off to the races too.

We won’t bore you with another Warren Buffett quote about being greedy or fearful or robins missing spring or anything. The fact is, you don’t need to be a multi billionaire in this market to judge when markets are at a good value.

For rapid capital growth we like the look of the small cap sector. For those that are looking for income, well, providing those companies can maintain the dividend payouts there are some pretty good yields on offer. But neither approach is entirely risk free. As we have shown with the Money Morning Uncertainty Index there have been wild movements on the markets that can turn a cheap stock even cheaper overnight.

Yet things could be about to change. This could be a cheap stock less cheap overnight. We don’t write this with blind optimism. And we don’t say after having said it every month for the last year, just hoping that this was the bottom of the market. You will not be surprised to know that some analysts have been calling the market bottom since November last year!

The financial press has had a field day during the last couple of months as one nightmare led to another. Even the mainstream tabloids and non-financial media have expressed an opinion on the ‘credit crunch.’ Everyone is getting involved and have made for the exits.

It’s at times like this when we join the queue waiting to get back in.

The reason we like the look of the market now is down to something we read about… yes Warren Buffett several years ago. He said that when he buys shares in a company he does as though he was buying the whole company. Of course, now Buffett can afford to do that.

It makes a lot of sense. Sometimes you can get bogged down with annual reports, ratios, press releases, industry news and 101 other things. The most important thing to consider is, ‘if I had the money to buy the entire company would I do so?’ Once you put it in that context it can give you a much better understanding of whether buying the company is a good investment or not.

October 28 Up-Crash Joins 1930s Bear Market Action in the Record Books

Alex — Thu, 30 Oct 2008 03:05:29 +0000

Yesterday’s spectacular 889 point rally for the Dow ranked as the sixth largest daily percentage gain in history for the world’s most widely followed benchmark. The Dow surged 10.9% on Tuesday and other international markets also followed suit with huge double-digit gains.

But again, don’t get too cocky thinking we’re at the cusp of a new bull market. It won’t happen. The economic backdrop does not portend profit recovery any time soon. Domestic consumption is still declining in the United States as Americans start saving again. A higher savings rate is bearish for earnings.

A big stock market recovery like Tuesday’s probably has many investors itching to get back into the market to recover losses - but that’s a major mistake if you’re unhedged.

Joining Ranks with the Great Depression

Yesterday’s price action joins the dubious list of other extraordinary Dow rallies in history. According to The Wall Street Journal, the Dow’s 889 point rise on Tuesday and its 936 point gain on October 13 are dwarfed by Great Depression rallies of similar magnitude.

Of the top 10 stock market rallies in history, seven occurred during the 1930s, one in October 1987 and two this month. Unfortunately for investors, Tuesday’s 889 point rally was preceded by a 15.3% gain in March 1933, a 14.9% surge in October 1931 and a 12.3% gain in October 1929. That’s not exactly in good company when it comes to impressive rallies.

Global stock markets; however, remain oversold and are likely to extend their first bear market rally since the Fed’s bailout of Bear Stearns in mid-March. All sentiment indicators I follow are extremely bearish, suggesting we’re going to see more gains, however short-lived. The VIX Index - which plunged 16% on Tuesday - is still heavily elevated at 67.

Don’t Jump the Gun

In my view there’s no point chasing this short-term bounce.

The Presidential elections next Tuesday might also provide a jolt to stocks as renewed investor confidence is celebrated once McCain is sent packing his bags. Yet any celebration is unlikely to last beyond several weeks because corporate earnings are still rapidly deteriorating and consensus estimates are too optimistic, meaning more downgrades are coming.

There’s also the big risk surrounding unsettled CDO and credit swaps. There’s about US$60 trillion worth of these things floating around the world. And you can bet that most counter-parties probably can’t honor more defaults should they occur. Credit derivatives need a clearing house and hopefully, they’ll get just that in 2009.

Meanwhile, the credit markets are slowly improving. LIBOR rates are coming off their highs and commercial paper is flowing again, courtesy of the Fed.

I think it’s a good time to nibble - not bite - at your favorite blue-chip stocks and non-Treasury bonds, including investment-grade corporate bonds, intermediate tax-free municipals and TIPs, or Treasury Inflation Protected Securities.

I’d also bet against Treasury’s because long-term yields look awfully low this morning at 4.2% compared to the monster level of Treasury issuance coming our way over the next 12-18 months.

Banks OK, But Pressures There

Alex — Fri, 26 Sep 2008 03:04:18 +0000

Australian banks have been stress tested both by regulators (AirDaily yesterday’s report) and by the stockmarket since the credit crunch started.

And they have passed the real tests, but been marked down by the nervous market which has been more focused on overseas sentiment (and helped by short sellers).

We will need our healthy banks if the $US700 billion should fail to pass the US Congress in the next few days and markets shudder. But is heading for approval, according to the latest reports.

There’s a great deal of fear and loathing abroad, especially since the collapse of Lehman Brothers (which is looking more and more like a major catalyst).

The Reserve Bank has constantly pointed out that the Australian banking system is sound, with little if any of the impact here that we have been seeing in countries like the US or UK.

But as the bank said, we are not immune there has been more upward pressure on interest rates as cash has gotten tighter.

Our banks are well capitalised, have low levels of bad debts and impaired assets while individuals and businesses have voted with their wallets by dumping billions of dollars of cash into the banks in short and longer term deposits.

But investors have taken a more jaundiced view.

The RBA points out that the banking sector on the ASX has fallen to be around 32% below its peak in November last year (when the ASX peaked).

There has also been a very pronounced increase in the volatility of bank share prices since mid 2007 with the daily absolute movement in the banking index averaging 2.3% over this period, compared with an average of 1% over the previous 10 years.

The largest movements occurred in July (of this year) , when the banking index fell by around 15% over three days, after the market was surprised by a couple of banks announcing higher provisioning charges.

The RBA points out that the fall in the Australian banking index since its peak has, however, been slightly less than the falls in the European and US banking indexes since their respective peaks, with these markets having declined by about 40%.

“Over a longer horizon, Australian banks have significantly outperformed many of the international peers.”

The bank pointed out that the share prices of the companies included in the ASX ‘diversified financials’ index have been more volatile than for Australian commercial banks, with the relevant index declining by around 60% since its peak mid last year.

“The movements in banks’ share prices have resulted in significant changes in market-based valuation measures, with the banks’ price/earnings ratio falling to its lowest level since the mid 1990s and dividend yields rising equivalently.

“Each of the four largest Australian banks is rated AA by Standard & Poor’s, with these ratings having recently been affirmed. Of the world’s largest 100 banks, only a handful have higher ratings.

“Moreover, unlike some of the large financial institutions abroad, no Australian-owned bank has had its rating downgraded since the onset of the credit turmoil.

“A couple of foreign-owned banks operating in Australia have had their ratings downgraded,” the RBA pointed out.

“In this difficult environment, Australia has benefited from having strong and profitable financial institutions with few problem assets on their balance sheets, and a sound regulatory regime.

“While the Australian financial system has not been completely insulated from developments abroad, it is weathering the current difficulties much better than many other financial systems,” The central bank said yesterday in its bi-annual Financial Stability review, released yesterday.

And, yet there’s a cash drought as the banks are nervous, prefer to keep billions of dollars in accounts at the Reserve Bank and are reluctant to lend to anyone.

Short term money market rates are spiking and if the RBA doesn’t cut rates next month, we could be facing rate increases from banks nervous about their funding levels.

Several banks have already revealed high bad debt provisions, such as the ANZ and the National, which has provided over a $1.1 billion for possible losses on CDOs.

The Reserve Bank said that these higher charges are likely to see the banking system’s aggregate post-tax profits fall in the near term, “with analysts generally anticipating that the aggregate profits of the five largest banks will be around 10 per cent lower in the second half of 2008 than in the same period a year ago.

“If this were to occur, the annualised post-tax return on equity over this period would be around 16 per cent which, while lower than the average return over the past decade, would be much higher than that being earned in many other banking systems around the world and many other industries in Australia.”

“While provisioning charges have increased, the Australian banking system continues to experience a low level of problem loans. As at June 2008, non-performing assets accounted for around 0.7 per cent of banks’ on-balance sheets assets, which is below the average since the mid 1990s.

“Only around half of the non-performing assets are classified as ‘impaired’, in that payments are in arrears by more than 90 days (or are otherwise doubtful) and the outstanding amount is not well covered by the value of collateral. (See the two graphs at the start of this story).

“Although the non-performing assets ratio is low, it has nonetheless increased over the past six months, with the rise evident across all the main segments of the domestic loan portfolio.

“The most notable increase has been in the non-performing business loan ratio, with this increase largely accounted for by a small number of exposures to highly geared companies with complicated financial structures and/or exposures to the commercial property sector. In banks’ commercial property loan portfolios, the impaired assets ratio stood at 0.9 per cent as at March 2008 (the latest available data), up from the unusually low levels of recent years.

(That’s a reference to the likes of Centro Properties, MFS, Allco and a group of smaller property financing companies).

“Much of the recent rise has been accounted for by loans for residential development and, particularly, retail property, with no apparent rise in the arrears rate on loans for office property.

“In the mortgage and personal portfolios, non-performing loan ratios have also risen, but remain around, or only slightly above, their levels of a year ago.

“As at June 2008, non-performing housing loans accounted for 0.4 per cent of Australian banks’ outstanding onbalance sheet housing loans.

“For credit unions and building societies, non-performing housing loan ratios are slightly above their levels in June 2007 but, in aggregate, are below the level in the banking sector.

“The modest increase in housing loan arrears rates over recent years was not unexpected given the increase in financing costs for borrowers, and the easing of credit standards that took place over the past decade.

“Importantly though, this easing of standards was not nearly as marked as that in some other countries, most notably the United States. Reflecting this, the non-conforming housing loan market in Australia (the closest equivalent to the sub-prime market in the United States) has remained very small, with ADIs having virtually no presence in this market.

“Non-conforming loans account for less than one per cent of outstanding mortgages in Australia – compared with about 12 per cent in the United States – with the vast majority of these loans having been provided by a small number of specialist, non-ADI, lenders.

“More broadly, even on prime housing loans, arrears rates have historically been considerably lower in Australia than in the United States and the United Kingdom.

“As in their Australian operations, there has recently been a modest increase in measures of problem loans in Australian banks’ foreign operations, although again from a low base.

“Entities in New Zealand account for the largest share of Australian-owned banks’ foreign exposures, at around 40 per cent, with these exposures largely arising through the four largest banks’ New Zealand-based operations.

“These operations continued to account for around 10–20 per cent of the four largest banks’ group-wide profits in the latest half year. US exposures account for less than 10 per cent of Australian-owned banks’ total foreign claims, and typically do not arise through lending to the US household sector.

“While some banks have reported that they have exposures to the US sub-prime market through holdings of financial instruments, these remain small when compared to the size of these banks’ balance sheets.

“Another factor that has stood the Australian banks in good stead throughout the recent turmoil is that they have traditionally not relied heavily on income from trading activities for profitability.

“For the five largest banks, trading income accounted for only around 6 per cent of their total income in the latest half year, which is well below the equivalent share for some of the large globally active banks.

“Consistent with this, Australian banks have traditionally had only small unhedged positions in financial markets, with the value-at-risk – which measures the potential loss, at a given confidence level, over a specified time horizon – for the five largest banks equivalent to 0.03 per cent of shareholders’ funds in the latest financial year.

“Reflecting the strong profitability of recent years, the Australian banking system remains soundly capitalised, with the aggregate total capital ratio standing at 10.6 per cent as at June 2008, and the Tier 1 ratio at 7.3 per cent.

“Similarly, the credit union and building society sectors remain well capitalised, with aggregate capital ratios of 16½ and 14½ per cent, respectively.

“Strong profitability has meant that retained earnings remain an important source of banks’ Tier 1 capital, with issues of preference shares and the dividend reinvestment plans of the five largest banks adding to Tier 1 capital over the past year.”

That’s a clean bill of health, but the pressures from the US are immense and this weekend looms as crucial.

MORNING MARKET REPORT

Alex — Thu, 25 Sep 2008 01:38:19 +0000

NEW YORK - US stocks closed only slightly changed in a tense but mostly quiet session as the US government’s rescue plan for the financial sector was debated by congress.
The Dow Jones Industrial Average closed down 29 points, or 0.27 per cent, to 10,825.17.
The tech-heavy Nasdaq composite gained 2.35 points, or 0.11 per cent, to 2,155.68 and the broad-market Standard & Poor’s 500 index lost 2.35 points, or 0.2 per cent, to a close of 1,185.87.

LONDON - The London FTSE 100 index shed 40.5 points, or 0.79 per cent, to close at 5,095.57 points, as the US government bailout for the financial sector met with resistance from congress.

FRANKFURT - The DAX lost 15.66 points, or 0.26 per cent, to close at 6,052.87 points.

PARIS - The CAC 40 fell 25.28 points, or 0.61 per cent, to 4,114.54 points.

TOKYO - The Nikkei added 24.44 points, or 0.2 per cent, to close at 12,115.03 points.

HONG KONG - The benchmark Hang Seng Index closed up 89.14 points, or 0.47 per cent, at 18,961.99.

WELLINGTON - The benchmark NZX-50 index rose 31.49 points, or 0.975 per cent, to 3259.679 points.

SYDNEY - The Australian stock market has received an uncertain lead from the US, where stocks fell slightly in tense trading due to concerns that dealmaking in the US congress will change the shape of the government’s financial sector bailout.
At 0740 AEST, the Sydney Futures Exchange’s December Share Price Index contract was down 34 points at 5,017.
In news today, the Reserve Bank of Australia releases its Financial Stability Review.
The Housing Industry Association of Australia releases its new home sales data for August, while the Merrill Lynch and Capgemini Asia Pacific Wealth Report will be released.
ANZ chief executive Mike Smith will speak at an Australia Israel Chamber of Commerce (AICC) lunch in Sydney.
Washington H Soul Pattinson & Co Ltd will deliver its full year results, as will Brickworks and crop protection group Nufarm Ltd.
Mirrabooka Investments Ltd holds its annual general meeting.
Satellite communications company NewSat Ltd and Nexus Energy Ltd hold general meetings, while MDS Financial Group Ltd holds an extraordinary general meeting.
A Western Australia Mining Club lunch will be briefed by Mutiny Gold managing director John Greeve.
The Emissions Measurement and Information Systems conference begins in Sydney.
Yesterday, the benchmark S&P/ASX200 index rose 58.4 points, or 1.19 per cent, to 4,981.9, while the broader All Ordinaries lifted 50.5 points, or 1.02 per cent, to 5,008.2.

NYMEX
Crude oil prices dipped after the US government reported a sharp drop in consumption, stoking worries about demand in the world’s largest energy consumer.
New York’s main contract, light sweet crude for November delivery, fell 88 US cents a barrel to close at $US105.73.
In London, Brent North Sea crude for November slipped 63 US cents to settle at $US102.45.

COMEX
Gold continued to rise as investors sought safe-haven assets amid concerns over the effectiveness of the US government’s financial sector bailout.
Gold for December delivery rose $US3.80 to settle at $US895 an ounce on the New York Mercantile Exchange, after earlier rising as high as $US907.80.
Other metals traded mixed. December silver rose 27 US cents to settle at $US13.44 an ounce on the Nymex, while December copper fell 4.55 US cents to settle at $US3.1065 an ounce.

TECHNICAL ANALYSIS OF GOLD

Alex — Thu, 25 Sep 2008 01:34:36 +0000

Chart Courtesy of Stockcharts.com

TREND ANALYSIS - The powerful break above the $850 previous high is a clear trigger that signals a significant rally that initially targets the next high of $989. However despite the increase in volatility, gold’s most recent action has seen gold retrace to back below $900 in recent hours with last price at $880, which suggests a correction against the powerful rally is underway targeting a retracement to $850 breakout point.

The next resistance level above $989 is the $1033 March high, which given the vicinity to $989 would probably break soon after a break of $989. However Gold resistance at $989, would target a retracement to support at the recent high of $926, with strong support in the range of $926 to $900.

Failure to break $989 - Would see gold continue to develop a sideways pattern in the range of $989 to $800.

Price Targets - The 2006 downtrend witnessed a decline of some 185 points, the subsequent rally to 1033 was up 490 points, or 264%. Gold also made an intermediate high at $850, up 308 from the low or 165% of the 2006 decline. The downtrend from 1033 to 740 represents a decline of 293 points. Therefore the two trend targets above the 1033 high are 1220 and 1516.

MACD - The MACD indicator is heavily oversold after registering a sustained bear trend of 6 months which is similar to the length of the downtrend experienced during 2007.

SEASONAL TREND - The recognized seasonal pattern for gold is for a rally from late July / early August into February. Clearly up until last weeks action Gold has been ignoring the seasonal pattern. However the recent catchup move implies that Gold is now targeting a trend inline with the seasonal pattern staring a month late, therefore this suggests a + / - one month up trend target for a gold of between late Jan to Late March 2009..

ELLIOTT WAVE THEORY - The decline from the March 2008 high clearly indicates a simple ABC wave pattern , each of which were themselves comprised of abc waves. This strongly suggests that the decline was corrective, and therefore implies a 5 wave advance to above the 1033 March high.

Gold Forecast Conclusion - The immediate action suggests an ongoing correction towards $850. Gold has experienced a major significant breakout to the upside which is targeting a volatile up trend to $989, on break of which Gold will target a new all time high of above $1200 by Feb. to March 2009.

A FAILURE to break above $989 and follow the forecast trend would imply a sideways trend in the range of $989 and $800 for probably the next 11 months i.e. until the next bullish seasonal time period approaches.

Buffett To The Rescue

Alex — Thu, 25 Sep 2008 01:32:53 +0000

Australian financial stocks took heart from the move by US investment legend, Warren Buffet to $US5 billion ($A6 billion) in newly created commercial bank, Goldman Sachs Group and to take options to put in a further $US5 billion over the next year.

Other Asian markets were firmer, Europe was unchanged in early trading and then fell by the close with losses reported in most of the 18 markets across the continent. Higher oil prices, the US bailout impasse and higher interest rates hit sentiment.

US futures showed a 1% gain for the Dow and S%P 500 in pre-market trading but that gain faded.

The US markets eased in late dealings as the debate in Washington continued over the $US700 billion bailout plan. Oil and gold were also weaker: the US dollar was steady and the Australian dollar traded around 83.30 US cents.

Much of the optimism generated by Buffett’s move was used up as it became clear from the debate that there was still opposition from Congress, and that the US economy was already feeling the pain and would get worse.

Buffett’s move, announced after US trading had closed Tuesday, buoyed investors here and across the region, and saw US market futures firm after a nasty fall during regular trading.

But the markets were again closely watching the testimony, debate and argument in Washington on the $US700 billion bailout plan.

In some respects it was a repeat of the events of Tuesday, except for the Buffett move.

In Asia late yesterday there were reports that the Sumitomo Mitsui bank of Japan was looking at taking an interest in Goldman Sachs, the third such move by a Japanese financial group to invest in troubled US banks.

Mitsubishi bank has snapped up 20% of the newly created commercial bank (and like Goldman a former investment bank) for $US8.4 billion and the Nomura broking and investment bank is busily recreating part of the failed Lehman Brothers investment bank in Europe, Asia Pacific, and including Australia.

Sumitomo had been considering taking up some of the $US2.5 billion share issue announced by Goldman but the news of the Buffett shareholding seems to have snuffed that idea. Goldman Sachs later raised a further $US2.5 billion to take its funding to a total of $US10 billion.

Here in Australia, the move was greeted like excitedly by some investors as a signal that the canniest investor in the US had made a move that showed he wasn’t that afraid of the credit crunch or the problems confronting US finance.

He of course has been involved in the investment banking industry before (that’s essentially what Goldman Sachs still is; it only became a commercial bank on Sunday when it was approved by the Fed).

At the close, the ASX200 index had risen 58.4 points, or 1.2%, to 4981.9, while the All Ordinaries was up 50.5 points, or 1%, to 5008.2.

The news of the Buffett move helped the major banks with the National Australia Bank up $1.74, or 7.3%, to $25.60, and ANZ 60 cents to $18.64.

But the Commonwealth eased two cents to $44.20 and Westpac was also off two cents at $24.48.

Two stocks subjected to attention from the now banned shorts last week had a better day yesterday. Macquarie Group jumped $3.90, or 10.8%, to $40.00, and financial services conglomerate Suncorp-Metway put on 50 cents to $10.01.

The conversion of Goldman Sachs and Morgan Stanley to regulated commercial banks was the key to the moves by Buffett and Mitsubishi, plus several major changes to regulations about non banks owning shares in US banks.

They can hold up to 33% but exercise control over no more than 15%.

Two days after the Fed rushed through approval of Goldman Sachs and Morgan Stanley becoming full regulated banks (and easing restrictions on ownership of said banks by private equity and other investors), Morgan Stanley sells 20% of itself to Mitsubishi of Japan for $US8.4 billion and Goldman Sachs gets $US5 billion and the promise of more from the biggest name in US finance.

Amazing coincidence? Hardly. A cleverly orchestrated bailout of both banks by the Fed.

Goldman Sachs is now the US’s fourth largest commercial bank holding company and Warren Buffett is it biggest single shareholder. He is also the biggest shareholder in American Express and in Well Fargo, the big Californian mortgage lender and bank.

Buffett is also known as the Sage of Omaha and he’s probably the most respected man in American finance and one of the most admired in the country at the moment.

It was the most dramatic move by Buffett so far: last week one of his companies bailed out a struggling energy company called Constellation at one third the cost back in July, and pumped in an immediate $US1 billion to stabilise that group.

But that had been Buffett’s only deal of related to the credit crunch: he had helped financed two major deals by Mars Inc and Dow, but had passed on all the dogs and sods so far from Bear Stearns, to AIG (Significant because if its one thing Buffett really understands, its insurance) and Lehman Brothers.

He bought 60% of an industrial company last October and earlier in the year bought $US6.l5 billion in auction rate securities when their prices worsened on funding woes: he will make a lot of money from those securities.

Mitsubishi’s move into Morgan Stanley hardly galvanised the US markets, which fell Monday when it was confirmed. Buffett’s move into Goldman came after the close of trading.

Goldman’s shares rose 3.5% in regular trading and another 7% in after hours dealings. The price for the extra option for Buffett is $US115 per Goldman’s share, it’s already in the money with the shares closing the day at $US133.80.

He gets 10% on his $US5 billion and if Gooldman Sachs doesn’t like him and wants to buy him out, he gets 10% more than he paid as a reward.

The decision to seek new capital is a reversal for Goldman, which less than a year ago was posting record profits and paying record bonuses: CEO, Lloyd Blankfein (Who succeeded Hank Paulson, the present US Treasury Secretary, who is driving the bailout plan) and his two top deputies reaped payouts totaling more than $US67 million apiece in 2007.

I wonder if that largesse will be allowed to continue now that Goldman has a new best friend and is a more sedate commercial bank.

Buffett has previously criticised the salaries and compensation of people in investment banks.

Goldman so far has booked $US4.9 billion of losses on devalued assets, a fraction of the write-downs taken by rivals such as Citigroup, UBS, Merrill Lynch and Morgan Stanley. That totals in excess of $US130 billion.

Buffet’s move came after a noisy day also in Washington as the $US700 billion bailout fund idea was battered around the US Senate’s banking and Finance Committee.

The debate sent US stocks lower by over 1.5%, for what turned out to be the worst two day fall since 2002, even steeper than last week’s roughing up which featured a more rollercoaster surge and plunge and then surge.

Perhaps Buffett will save western finance as we know it, but I wouldn’t bank on it, the opposing forces are too strong for even the Sage to stand again. It needs a big, positive lead from Washington in an election year, a big ask!

Traders Swarm to Oil

Alex — Wed, 24 Sep 2008 01:45:53 +0000

The current weeks are oil markets a “traders market”. It means that it is the playground of short-term moves, high volatility, nervous players, and strong reversals. This is where smart traders can make a lot of money but where long-term investors are a bit lost. After a long period of clear trends, it is likely to be now a new phase of consolidation and rangy market.

As we mentioned in our last update (September 11), the main target for the 2-months decline on oil prices has been the 61.8% Fibonacci ratio of the 18-months bullish trend occurred between January 2007 and July 2008 (between points A and B on the chart).

Click to Enlarge

Oil prices have therefore declined by 38.9% between the historical high posted on July 11 and the recent low posted on the Fibonacci level at $90.4 on September 16 (point C). There are two contrarian forces that should struggle to determine the future price action. On one hand, the action plan decided by the US authorities to fight the financial crisis is likely to create new US Dollars. This will damage the Greenback’s current value and should symmetrically increase commodities prices (as the US Dollar has been negatively correlated with energy prices). On the other hand, the recession and slowing growth around the world contributes to decrease the demand on energy. A weak US currency and a lower oil demand are consequently being the key fundamental factors that the market will highlight.

In the mean time, the technical indications will remain the market’s best friends. The rebound started last week from the Fibonacci support has already brought the prices until $110 a barrel (a bounce back of 22% in only a few trading sessions).

The momentum and oscillator tools turned bullish. The RSI triggered a positive signal on September 17 when it crossed above its signal line, showing that the oversold configuration was over and that the buyers were now surpassing sellers. The MACD confirmed this 2 days later (last Friday) when it turned upward and crossed above it signal line. The Commodity Channel Index is also now well oriented. Those elements argue for a further rebound.

The next objectives are respectively $112, $119 and $126. Those levels correspond to the previous Fibonacci levels (38.2% at $112 and 23.6% at $126), while $119 is half the way of the recent bearish trend (between points B and C).

On the downside, the $90 area is still valid and is the main support of the current pattern. There is another support horizontal line around $85.

Credit Crisis Is Western problem- Not Asia’s

Alex — Wed, 24 Sep 2008 01:40:36 +0000

As the United States, Europe, Japan and China all work to reflate the global financial system, the price of commodities will recover. The global economy will not suffer a hard economic recession. In fact, the emerging markets might escape one altogether.

Meanwhile, interest rates are still in negative territory if you adjust for inflation, and the Fed isn’t likely to raise rates anytime soon. That’s not about to change until both the housing and credit markets heal.

Inflation is not dead and commodities remain in a secular bull market as China and other rapidly growing economies continue to boost domestic consumption and increase trade.

The credit crisis is a Western problem, not an Asian one. Balance sheets across Asia are not restricted by sub-prime losses or other mortgage-related write-downs. So the sooner the U.S. finally tackles the credit crisis, the sooner Asian growth will reaccelerate. That’s when I expect commodities to bottom.

The long-term picture remains bullish for these markets and commodities. Over the next 12 months, I see the greatest reflation trade of the century hitting the markets, courtesy of the United States government and the European Union.

The Commodity Bull Is Still Running in the China Shop

Alex — Wed, 24 Sep 2008 01:38:51 +0000

Since July, commodity bulls have been trampled during the worst credit crisis in history. The entire complex has gone from being extremely overbought in June to heavily oversold in late September.

In just 30 days, the markets have violently transitioned from concerns about inflation to a sudden panic over deflation. The credit crunch has stopped inter-bank lending and corporate borrowing, leading us to the worst panic in American capitalism since the 1930s.

It’s also resulted in the most indiscriminate commodity sell-off since the bull market began in late 2001. And 2008 might be the first year since 2001 that commodity benchmarks finish in negative territory.

And until the deflation (i.e. the environment of rapidly declining prices) ceases, commodities will remain vulnerable. Never in the history of capitalism have commodity prices rallied during a severe contraction in bank credit.

MORNING MARKET REPORT

Alex — Wed, 24 Sep 2008 01:17:40 +0000

NEW YORK - Wall Street lost ground in a late-day selloff as traders feared the US government’s banking sector bailout faces delays at it passes through congress.
The Dow Jones Industrial Average closed down 161.52 points, or 1.47 per cent, to 10,854.17.
The tech-heavy Nasdaq composite slumped 25.64 points, or 1.18 per cent, to 2,153.34 and the broad-market Standard & Poor’s 500 index lost 18.87 points, or 1.56 per cent, to a close of 1,188.22.

LONDON - The FTSE 100 share index closed down 100.2 points, or 1.91 per cent, at 5,136.1, as investors waited for US congress to pass the bailout measures.

FRANKFURT - the DAX shed 39.22 points, or 0.64 per cent, to close at 6,068.53 points.

PARIS - The CAC 40 fell 83.69 points, or 1.98 per cent, to 4,139.82 points.

TOKYO - Japan’s markets were closed for a public holiday.

HONG KONG - The benchmark Hang Seng Index closed down 759.35 points, or 3.87 per cent, at 18,872.85.

WELLINGTON - In a quiet day’s trade, the benchmark NZX-50 finished down 27.526 points, or 0.845 per cent, at 3228.189.

SYDNEY - The Australian stock market is expected to open lower today after US stocks fell again as investors worried that the US congress was beginning to doubt the need for a government bailout of financial institutions as a way to revive credit markets.
At 0802 AEST, the Sydney Futures Exchange’s December Share Price Index contract was down 71 points at 4,939.
In news today, retailer David Jones delivers its full year results.
Air New Zealand and the Australian Securities Exchange (ASX) hold annual general meetings.
Empire Oil & Gas NL holds a general meeting.
Mercer will host a briefing on sovereign wealth funds by Future Fund chairman David Murray.
The Department of Education, Employment and Workplace Relations releases its skilled vacancies survey for September.
Australian Bureau of Agricultural and Resource Economics executive director Phillip Glyde will speak at an Australian Business Economists briefing on the outlook for soft commodities.
The Industrial Foundation for Accident Prevention’s (IFAP) Safety 08 conference continues in Perth.
The Mining & Energy NSW exhibition concludes.
Yesterday, the benchmark S&P/ASX200 index closed 97 points lower, or 1.93 per cent, at 4923.5 yesterday, while the broader All Ordinaries lost 92.4 points, or 1.83 per cent, to 4957.7.

NYMEX
Oil prices pulled back after a record rally on Monday, dropping for the first time in five days of trade as uncertainty over the US financial bailout plan and a stronger dollar led investors to shed commodities.
Light, sweet crude for November delivery fell $US2.76 to settle at $US106.61 on the New York Mercantile Exchange, after earlier dipping as low as $US104.05.
In London, Brent North Sea crude for November shed $US2.96 to settle at $US103.08 a barrel.

COMEX
Gold for December delivery fell $US17.80 to settle at $US891.20 an ounce on the New York Mercantile Exchange.
December silver fell 28 cents to settle at $US13.17 an ounce on the Nymex, while December copper lost 10.3 cents to settle at $US3.152 a pound.

Wall Street Says Goodbye to Investment Banking

Alex — Wed, 24 Sep 2008 01:04:26 +0000

Earlier today some others criticized the Paulson bail-out plan for assuming that the investment banking model on Wall Street could survive the current crisis, provided it was cleansed of its bad assets. It turns out the model didn’t even make it to Monday’s New York Open.

In a move that marks the end (for now) of the high-leverage, no oversight, risk-taking investment bank model, the Federal Reserve announced that its board had approved, “Pending a statutory five-day antitrust waiting period, the applications of Goldman Sachs and Morgan Stanley to become bank holding companies.”

It’s too early to reach conclusions, but here are some initial observations on why the move was made and what it means going forward:

The ban on short selling hits leveraged players the hardest. You don’t get more leveraged than Goldman and Morgan Stanley. The banks have to de-lever in an orderly fashion without being driven into the arms of a commercial bank partner with deposits. Goldman and Morgan have accepted the oversight that comes with commercial banking in exchange for maintaining their existence.
Goldman and Morgan move from being prey to predators. As bank holding companies, they can now take deposits. But it’s much more likely they’ll simply acquire deposits. They can acquire the deposits of firms like Washington Mutual or Wachovia. Or, even better from their perspective, the deposits of regional banks hit hard by the collapse in Fannie and Freddie bonds.
Goldman and Morgan gain enhanced access to Fed lending facilities now that they are bank holding companies. Even though the Fed had already set up a Primary Dealer Credit Facility, as deposit-taking institutions the new Goldman and Morgan have even greater access to more Fed loans (should they need them. What’s more, the new versions of the old investment banks would presumably be covered by the FDIC as deposit taking institutions.

The Fed must hope this moves Morgan and Goldman out of the “problem” category and into the “solution” category. Given a big enough line of credit by the Fed, these new bank holding companies can become new non-government homes of “good assets” while the Fed and Treasury deal with the bad assets. It also keeps the unthinkable from happening: Wall Street losing all its investment banks and two big counter-parties in the derivatives market.

***Treasury includes all asset-backed securities in new plan

Even though it is just a few days old, the scale of the proposed US$700 billion bailout of troubled mortgage-related assets has already gotten bigger. Bloomberg reports today that the Treasury Department has suggested the new program include a much wider variety of asset-backed securities than previously suggested.

“The change suggests the inclusion of instruments such as car and student loans, credit-card debt and any other troubled asset. That may force an eventual increase in the size of the package as Democrats and Republicans in Congress negotiate the final legislation with the Bush administration, analysts said.

“How much are we talking about here? At least another US$500 billion. According to a September third article by Bloomberg’s Sarah Holland, “More than $358 billion of credit card asset-backed securities were outstanding as of March 31, according to the Securities Industry and Financial Markets Association. Another $196.6 billion in securities were backed by auto loans.”

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However the SIFMA’s latest data from 2007 (above) shows that once you include home equity lines of credit (HELOC) and student loans, the number quickly jumps to over US$2 trillion. It is almost certain that student loans would be eligible for purchase under the Treasury plan. But HELOCS?

If Paulson and company are doing a true “Control-Alt-Delete” systemic re-boot of the financial sector, then all securitised assets that will be affected by consumer non-payment (nor or in the future) must be transferred from private balance sheets to the public.

That means that though he’s only asked for $700 billion up-front to deal with the bad assets, the Paulson plan could eventually require as much as $2 to $3 trillion in new Treasury money to buy asset-backed securities. Of course Wall Street will only want to get rid of the worst paper and keep the best for itself.

But you are still looking at a number that’s likely to be much bigger than what Congress has been told. That number is even more bearish for the dollar than the current one, which is already bad enough.

***Forget the short-covering rally, a Futures Freeze?

One point we failed to make clear earlier today is that by eliminating shorting from the market today, regulators make it harder for the market to find a bottom, even though they are trying to help the market find a floor. Why?

Shorts help begin a new bull market by covering their positions. They do this, naturally, by being the first buyers of shares. To cover your short you buy back the shares you previously lent. Without the shorts in the market, who’s going to step in and buy at the lows?

In any event, there are still a few tricks up the regulatory sleeve if the prohibition on short-covering fails. First, there is the futures market, where one can still go short an index or security. Activity in the futures market could be shut down if the regulators think it would help. We’re not saying it would help. But now that we’ve gone through the looking glass, anything is possible.

Commodities: US Government Help For Easing Trading Strains

Alex — Mon, 22 Sep 2008 03:47:20 +0000

Very quietly compared to all the noise about the big bailout proposal from the US Government and the other move for the Fed to offer a lifeline to struggling mutual cash management funds, new steps to relieve distressed commodities markets were launched Friday by US regulators after Lehman and AIG woes triggered a wave of selling and emergency actions by exchanges earlier in the week.

The Commodity Futures Trading Commission, the main regulator of US commodity markets, said it was ”prepared to provide temporary and conditioned hedge exemption relief for firms taking on swap positions from distressed companies”.

The move would allow Wall Street’s investment banks and trading companies to take over some large commodities’ positions held by Lehman Brothers and AIG, known as swaps, without surpassing limits set by the regulator and the exchanges on speculative limits.

”This will allow for continued risk management and orderly functioning of the markets,” the CFTC said in the statement.

That means in particular the huge oil market will be stable.

AIG acts as a counterparty to a substantial portion of the $US30 billion invested in the DJ-AIG commodity index, the second most popular benchmark in the asset class. Lehman Brothers was also a significant player in commodities markets.

The CFTC added that it was coordinating with commodity futures exchanges to facilitate rare block trading, which allow the transfer of large positions. That would allow the people liquidating Lehman and winding up AIG’s speculative positions to handle large groups of deals with the same counterparties.

“CFTC staff is engaged in heightened monitoring and surveillance of financial company single-stock futures traded on futures exchanges – in coordination with the SEC’s emergency action on short selling and in our collective effort to prevent manipulation of financial stocks,” the Commission said.

That will be significant as already there are traders developing ways of circumventing the ban on short selling: one is sell the S&P500, then hedge the stocks you don’t want; in effect you short sell the stocks remaining in the position unheeded.

The move links to the one on Friday where cash funds were guaranteed. Many mutual funds have commodity based offerings and investors use the associated money market fund when moving their money from fund to fund..

The US Treasury on Friday rushed to the aid of ailing money market funds, saying it would guarantee the holdings of funds as it attempted to prevent the spillover of the financial crisis to the $US3.4 trillion business.

In establishing the temporary guarantee program for the US money market mutual fund industry, the Treasury tapped the Exchange Stabilisation Fund, which was established by the Gold Reserve Act of 1934 in response to the Great Depression. The support will be done via the Fed.

The move to shore up the fund is designed to allow the Treasury to insure the holdings of any publicly offered eligible money market mutual fund – both retail and institutional – that pays a fee to participate in the program.

It came after the Reserve Fund was forced to reveal it was ‘breaking the buck’ in paying investors 97c in the dollar and not the usual $1 in redemptions after being exposed to $800 million worth of Lehman Brothers debt that is facing big losses.

Crude oil rose Friday in New York, capping the biggest three-day rally in almost a decade, on speculation government measures to resolve the bank crisis will spur the economy and bolster petroleum demand.

That’s the theory, the reality is that there will be no impact on the US economy and oil prices will start sliding very quickly.

Oil rose 6.8% on Friday as output disruptions from hurricanes in the US and attacks in Nigeria’s main oil producing region continued to have as much impact on price and sentiment as what was happening in the sharemarkets and credit system.

October crude futures jumped $US6.67 to settle at $US104.55 a barrel in New York after rising 7.4% to touch a day’s high of $US105.25 a barrel.

Oil prices rose 15% last week, the biggest three-day rally since December 1998 as shorts scrambled to cover short positions.

That lifted the week’s performance to a 3.3% gain, the first weekly rise since mid August. It’s still down 29% from the high of $US147.27 reached on July 11.

The October contract expires tonight, our time, so when the Fed and the US Government moved on the mega bailout, traders decided to cover their positions.

Inventory positions in the US in the wake of twin Hurricanes Gustav and Ike will be key figures for the market this week.

Energy companies have resumed about 12% of oil production and a quarter of natural-gas output in the Gulf of Mexico after shutting almost all of it before the hurricanes.

The Gulf accounts for about 26% of American oil output and around 14% of gas production.

In Nigeria, Shell warned that the recent escalation in militant attacks would hurt earnings. The country has lost about 280,000 barrels a day from the violence on top of production already shut-in, according to government officials.

November Brent crude rose $US4.42, or 4.6%, to $US99.61 a barrel in London.

Gold futures dropped sharply on Friday to end a very volatile week.

But it still had its biggest weekly gain in almost nine years on the turmoil in the financial markets.

Comex December gold futures fell $US32.30, or 3.6%, to $US864.70 an ounce in New York, but the metal jumped 13% over the week, up $US100.20, the best since October 1999.

Comex December silver futures dropped 22.5 USc, or 1.8%, to $US12.475 an ounce on Friday. That left it up 16%, the best since early 1987.

Gold is now up 3.2% so far this year, while silver has dropped 16%.

Comex Gold for immediate delivery rose $US18.26, or 2.2%, to $US869.23 on Friday.

Copper had its best day in a month after the US bailout was revealed.

Comex December copper futures rose 11.05 USc, or 3.6%, to $US3.1765 a pound in New York. But that still left the metal down half a per cent over the week.

On the London Metal Exchange, three month copper rose $US311, or 4.6%, to $US7,060 a tonne, or $US3.20 a pound. The price is up 5.8% this year.

Nickel however had its biggest weekly drop in almost four years as stocks of the metal rose to a nine-year high, signalling weak demand from consumers, led by stainless steel producers.

London Metals Exchange stock rose 0.9% to 52,326 tonnes, the highest since July 1999.

That was after a 0.6% dip in second quarter stainless steel output this year, compared to the same quarter of 2007.

Three month nickel ended at $US16, 843 a tonne. The fall was more than 12% for the week, the biggest since October 2004.

The International Nickel Study Group said the world’s nickel surplus rose for a third month in July as consumption of the metal dropped to a nine month low.

The INSG said nickel production of the metal exceeded demand by 9,900 tonnes tons in July, compared with a surplus of 7,700 tonnes in June.