Credit Crunch success requires lower Dollar

How worried should we be? Gold stocks and the stock market continue bleeding. Not a day goes by without fresh cash being injected by some central bank somewhere. Where can we invest a) safely and b) to profit from the volatility?

Let’s see?

• We’ve had Treasury Secretary Henry Paulson’s plan to freeze interest rates on a limited number of "teaser" subprime loans for 5 years.

• We’ve had the Fed, ECB, Canada and Swiss Central Banks making money available via forex swap lines.

• Rate cuts in the US, Canada and England to stimulate borrowing.

• We’ve had a $40 billion Fed ‘auction’ to lend banks money.

• And this week we had the ECB make an unprecedented E350 Billion available to help 390 private sector banks with year-end rollovers.

Money is raining from the sky and it’s no drizzle, it’s a veritable flood. Yet the credit problems persist. What’s going wrong?

The reason: Bankers are still too scared to lend amongst themselves. Not knowing what the other guy holds and whether they will ever get their money back, it’s the old fashioned game of musical chairs and nobody wants to be left holding the bag.

But wait, that’s not all, now we’re seeing troubling signs of inflation showing up (which is no surprise given the amount of monetary stimulus). Food prices are surging and Platinum has hit new highs (although Gold is nowhere in sight). New money seems to be flowing in the wrong direction. Far from stimulating economic growth, new money is causing price inflation in the things we need to survive. These are classic signs of Stagflation -- slow growth and rising inflation.

Ok! Hold the phone.

Let’s revisit investing 101.

Firstly: Don’t panic! When it look like the World is about to end things somehow miraculously take a turn for the better. The contrarian way!

Secondly: There are some bright areas within the economy namely Technology. The big companies are undertaking a new round of tech spending and gearing up for the next round of growth. Microsoft (below) has recently broken above a 7-year consolidation and Oracle is reporting bumper profits.

Chart 1 - Microsoft moving above a 7-year consolidation

It’s hard to imagine a deep recession when major Tech counters are making 7 year highs!

Thirdly: Housing Stocks have stopped making new lows. Granted this could change by the time you’re reading this, but for now the lows hold. Considering that all this mess has been caused by a housing bust, this is no small feat.

So when will the pain end??

The Gold Stocks and Stock Markets will recover when the Dollar stops rallying. And when will that be?

Chart 2 - Stronger Dollar (top) = lower $HUI (blue) and S&P (red)

It is clear from the above chart that a stronger Dollar (top) is causing Gold Stocks (blue) and the S&P (red) to fall. We consider the current rally in the Dollar to be a short term affair because our long-term target of 65 was never met (refer to article - Credit Crunch & Current Gold Prices). Thus the current Dollar rally should end around 79 – 80.

Gold Stocks and the S&P should perk up in early January as the US Dollar nears its short-term top, offering investors a great opportunity to pick up deeply oversold and undervalued juniors!

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