The Road To Recovery...

“The path to recovery has narrowed, but the path is still open, if action is taken now.” IMF Managing Director Christine Lagarde

“They need to overwhelm the problem in order to get ahead of the markets.” Canadian Finance Minister Jim Flaherty

BNN has scoured the alphabet for stories and settled on a handful, including the IMF, ECB. EFSF, BOC, UBS, LME and XL. And we thought we’d slip in the G20 for good measure.

IMF officials, G20 finance chiefs and central bankers emerged from a weekend of tense negotiations and media availabilities in Washington DC in full agreement that something must be done. They also agreed that something must be done soon. And they all acknowledged that whatever will be done will be expensive. They could not agree, however, on just what should be done, when it will be done and how much it will cost. Nor could they agree on who would pay. Yet stock markets seem mollified by the seriousness of it all and the fact that the IMF conference of central bankers and finance ministers appear to be narrowing their focus on the various ways the euro-zone bailout mechanism, the EFSF, can be enhanced and deployed. The fund sits at 440 billion euros – though even its current level and use has yet to be ratified by a handful of national parliaments – with some estimating that it may need to swell to 3 trillion euros to get the job done. Other components of a plan that may or may not be taking shape include the recapitalization of European banks (but not the big French banks, mais non!) and a managed Greek default.

That’s Europe, but what about Canada? Over the weekend, Bank of Canada Governor Mark Carneysaid the economy, the Canadian banks and the central bank have all the tools necessary to withstand a worsening global economy. In other words, if the global economy is the Toronto Maple Leafs, then we’re Wendel Clark. But what about the near-term shocks of falling commodity prices and shrinking demand for manufactured goods from the middle of the country? Broad measures of the commodity market have slumped to 10-month lows with the price of oil dropping below $80, copper sinking to its lowest in more than a year and silver erasing its tremendous gains for the year. Gold is falling as some investors sell to cover losses in other assets. Let’s talk about earnings expectations for the materials and energy groups today and whether current share prices are justified as earnings expectations fall.

A key component of our energy coverage this week will be the debate over the Keystone XL pipeline, the proposed $7 billion TransCanada project that would carry Alberta oil sands crude to refineries on the Gulf Coast. Beginning today, the U.S. State Department will hold eight hearings across the six states the 2,700-km pipeline will cross. The opposition is fierce, but the U.S. appetite for energy is insatiable. The safety of the environment is a compelling argument as is the case for thousands of jobs across thousands of miles of U.S. territory. Brett Harris will be on the ground in the U.S. this week for the public hearings. He’ll be doing some live hits this week, and then filing a special series on the pipeline in the coming weeks. He starts in Port Arthur, Texas, today. Then he’s off to Nebraska and Oklahoma.

In Ottawa today, Greenpeace is leading a mass protest, including a sit-in against the oil sands and the pipeline. The protest is expected to be attended by top entertainers and actors such as Dave Thomas. At a protest in Washington DC a few weeks ago, actress Daryl Hannah (who most recently wowed audiences in 1987’s Roxanne) told cameras as she was being escorted away by police that the oil sands were an environmental disaster, the only one that could be seen from space. While that may be true, I would add that, thanks to Google Earth, I can also see my house from space, including a raccoon in my backyard, and it is digging up the new sod.

The London Metals Exchange is fielding takeover offers and we need to find out more. Could a foreign buyer purchase this jewel of the British financial industry? As an exchange that is owned by its 90 or so members, could the government block a takeover even if it wanted to?

In the wake of a $2.3-billion loss from unauthorized trading, UBS CEO Oswald Gruebel resigned over the weekend. His departure throws into turmoil the outlook for one of the cornerstones of the Swiss banking industry. Plenty of angles yet to pursue.

Paul Bagnell is attending a speech by Julie Dickson, Superintendent of Financial Institutions, this morning on the lasting impact of the financial crisis on the Canadian financial system.

Fed responds in a big way

The chase by Marty Cej:

The U.S. Federal Reserve was more aggressive than anticipated yesterday, selling $400 billion US in short-term Treasuries to fund purchases at the long end in a bid to drive yields lower, and indicating it will reinvest the proceeds from maturing agency debt and mortgage-backed securities into MBS. But an aggressive move by the Fed at a time of great economic worry can cut two ways: it is a signal that the Fed stands ready to stoke the economy with all the fuel it's got, and it's also a signal that the economy is in such bad shape that it needs to be stoked with all the fuel the Fed's got. The markets appear to be focusing on a single, telling sentence in the Fed's statement, that there "are significant downside risks to the economic outlook, including strains in global markets." Those strains are our focus today.

A quick glance around the globe shows Hong Kong's Hang Seng plunging 4.9 percent and Japan's Nikkei dropping 2.1 percent; the broad Euro Stoxx index is down 3.8 percent while benchmark indices in London, Frankfurt, Paris and Stockholm are down 3.8 percent or more.

The Canadian dollar is plunging against the U.S. dollar and is the hardest hit among the G10 currencies this morning. At last check, the loonie is down a little more than 2 cents at 97.17 cents US, its lowest since October 2010. Yesterday, we said to keep an eye on the Canadian dollar because of the particularly large short position in the U.S. dollar against the loonie -- that warning appears to have been well-founded. It is important to note, however, that all of the G10 currencies are down against the U.S. dollar as the Fed's dovish statement and evidence of cooling economies in China and Germany prompt a flight to the perceived safety of the U.S. dollar. The question is whether this is the start of a longer trend in currency markets.

In commodities, the price of oil has dropped a little more than 4 percent to $82 a barrel, gold has slumped $52 or almost 3 percent and copper, considered the most economically sensitive of commodities, has plunged 5 percent and is now technically in a bear market. We need to talk again about what the simultaneous decline in gold, base metals and oil says about the global economy and the outlook for markets.

A series of reports on the manufacturing sectors of China, Germany and other European countries compounded economic worries overnight with HSBC's China Flash PMI showing the factory sector shrank for a third straight month. Business activity in Germany, meanwhile, grew at its slowest pace in more than two years in September and new orders fells for a third month.
In Europe, the CEO of BNP Paribas, France's biggest bank, is denying reports that he is seeking a Middle Eastern investor to help prop up its capital. Baudouin Prot said a few minutes ago in a radio interview in France that he "formally denies" a Reuters report that he has been in talks with Qatar's sovereign wealth fund and that "we don't need a capital increase." BNP Paribas also said that it will be cutting jobs in its investment banking business.

Worries of a credit freeze between European banks and between European banks and their corporate customers continue to grow.
We will zero in on the threat of a global credit crisis with Europe at its nexus with Rick Waugh, President and CEO of Bank of Nova Scotia. Waugh sits down with Howard Green for a half an hour of conversation at 1:00 pm ET.

We'll talk about the challenges facing European banks and how they are likely to impact Canadian banks and Canadian financial conditions. As the most global of Canadian banks, Waugh has insight unique among his peers. This is one you'll not want to miss.
It is worth noting that Canadian bank stocks are outperforming all of their major world peers but are at a 32 percent premium to the MSCI World Bank Index. Do Canadian banks deserve that much of a premium, and will it last?

But what about companies? Some, like United Technologies, see cheap debt and falling share prices as opportunities to grow and prepare to take advantage of the next upswing in economic growth. United Technologies agreed to buy Goodrich Corp. for $16.5 billion, or $18.4 billion including debt. UTX will finance about 25 percent of the deal with equity and the rest with new debt. When it costs nothing to borrow, why not?

We're watching BCE and Rogers after the CRTC said the companies can't offer TV programs exclusively to their mobile-phone and internet subscribers. UBS analysts call the decision "widely anticipated" and "unlikely to have any significant immediate impact on the industry." We'll see whether the market agrees.

Ivan Lo Says In Equedia Weekly

Five straight days of gains and the best week we've had in over six weeks. The markets are finally showing some life. But is this all a grand illusion?

Despite the negative news engulfing the world markets, stocks are not only holding up but have seen a tremendous rally this past week.

Perception is reality and it looks as if investors are thoroughly expecting a big round of stimulus coming from Bernanke as he takes the stage at the two-day FOMC meeting on September 20-21. While this may appear to have helped our markets, it could also lead to disaster.

If investors are buying based on the sentiment that a new and significant amount of stimulus is coming, but the stimulus doesn't come, you can expect the markets to sell off.

We need news of a strong stimulus package if our markets are going to survive to see next year. I am going to reiterate the fact that we should all be watching the next week as if it were our last. Even with stimulus, we still have to look at what the other side of the world is doing.

How to guarantee a double on your money..?

The European issues have only gotten worse. The Greek bond markets have gone off the scale. Yields have risen by 150 percentage points on some bonds in the space of three months and volumes have slumped to practically nothing.

As a matter of fact, one three-year bond, which was trading at 20 per cent in June, is trading at a yield of 172 per cent, with a bid-offer spread - the difference between what a bank is offering to buy and sell the bonds at - of 47 percentage points. That's worst than most of the illiquid junior stocks on the TSX Venture. Earlier in the week, yields on one-year Greek bonds climbed to more than 130 percent.

No, I am not kidding. 130% yield on one year bonds.

If you believe Greece will survive by helping them out now, they'll give you more than double your money back. Where in the world can you find a government-backed investment like that?

But guess what? Even with those yields, investors are hardly jumping at the chance to buy them. That's because at the end of the day the other European nations (especially Germany whose carrying the Euro on its back), will eventually say enough is enough. When something is too good to be true, it probably is...

Whether our markets like it or not, Greece should default...and default big.

But if they do, we will see a snowball effect all over the world. The question is can it be contained? Bernanke better have a trick up his sleeve next week for the sake of our short term markets.

Bullion for Paper

There's no doubt that the most common question I get from readers is: "Why is there such a disconnect between gold prices and the price of gold stocks?"

There's many reasons but they all boil down to one simple thing: sentiment.

First off, many sell-side analysts use outdated or extremely low gold price numbers to value gold stocks - despite the strength in the price of gold. That's because of the notion that the higher gold goes, the worst shape our financial system is in and therefore, the worst shape the economy is in. If the bearishness remains, equities will falter and analysts base their estimates on the state of the markets. They believe that if stocks fall, gold stocks will too - as they did in 2008.

But this way of thinking doesn't factor in that gold stocks have enjoyed a tremendous run in prices, climbing nearly 1000% from the lows of November 2000 through to August 2008 (based on the HUI Gold Index, a basket of unhedged gold stocks). If you go back through those years, you would see that the juniors had a phenomenal run up in prices as well.

That's not the case today.

Many of the gold producers are now trading at far less than five times two-year-out forecasted earnings based on today's prices. As a matter of fact, many of them are trading at less than three, even two, times two-year-out forecasted earnings.

As I fully expect gold to continue its climb, many of these companies will be trading at less than one time two-year-out forecasted earnings. History will tell you that anytime you have a company that's trading at those valuations, 9 times out of 10 you have a winner.

Also consider that on average, producers are paying roughly $800/oz to pull gold out of the ground. At today's price of over $1800/oz, they're capturing $1,000 per ounce in EBITDA. Try finding another sector with that kind of profit margin.

Another reason why gold stocks have lagged is because of the volatility in the price of gold - but not gold itself. I know it sounds confusing but it's actually very simple.

Most of what is determining gold's price is paper trading - which is fundamentally flawed. The amount of paper gold and silver contracts that trade on the futures and equities exchanges easily outweigh the amount of actual physical trading that takes place.
That means it's the paper markets setting the price discovery for gold. It means that sentiment, and manipulation, are the causes of gold's volatility and not the physical fundamentals of gold itself.

In a report published earlier this year (see Before it's Too Late), Eric Sprott and Andrew Morris pointed out the significant discord between paper and physical supply on the Comex relating to silver:

"...Over 800 million ounces traded each day in April on (the Comex). Further, consider that as at the end of April there were only 33 million ounces of registered inventories to back up all of that paper trading. Just imagine if a mere 5% of all of that buying actually stood for delivery; the entire inventories would be more than wiped out."

Over a year ago, I published a letter that revealed how most of the gold that is traded in the markets are not actually fully backed by the actual metal itself, as many believe (see The Silver Conspiracy):

For years, most people have assumed that the London Bullion Market Association (LBMA), the world's largest gold market, had actual gold to back up the massive "gold deposits" at the major LBMA banks. But it doesn't.

This was confirmed during the CFTC hearings when Jeffrey Christian of the CPM Group said that the LBMA banks have approximately 100 times more gold deposits than actual gold bullion. This means that for every ounce of gold traded in these markets, 99 of them appear from thin air. Has gold and silver been converted into a fiat currency in these markets?

In the LBMA market, for example, an average of 19.6 million ounces of gold was traded per day in July. The world has produced on average approximately 2,497 tonnes per year over the last several years - which is just over 80 million troy ounces.

That means the LMBA, trades nearly a year's worth of worldwide gold production in less than a week.

While gold production has been stable, it's certainly not growing much. When new mines are developed, they're mostly serving to replace current production, rather than expanding global production levels. That's because gold production experiences comparatively long lead times, with new mines taking up to 10 years to come on stream. That means mining output is relatively inelastic and unable to respond quickly to a change in price outlook - as we have seen in recent years.

Even a sustained price rally, as experienced by gold over the last seven years, doesn't translate easily into increased production.

Consider that while the LBMA is essentially trading a year's worth of production in less than a week, it doesn't factor in the amount of trades on the COMEX futures and other major gold ETFs. If you combine all of these exchanges and funds, the amount of gold traded and the actual amount of gold available is staggering.

Therefore, gold's price discovery is clearly out of synch with true fundamentals. When the price of gold is dictated by paper contracts with extremely leveraged physical backing, the price can swing very dramatically. In a market where volatility has investors running for the ropes, the end result is a sentiment that drives them away from gold equities.

But that is now slowly changing.

There have already been many days in the past month or so where gold has fallen, but gold stocks have climbed. There have been days when the Dow has fallen, but gold stocks rallied. There have been days when gold climbs, and gold stocks climb even higher. All of these minor events prove to me that things are changing: that gold stocks are beginning to shine, so to speak. That is why I have told many of my close colleagues, money managers, and our readers since June to start trading bullion for stocks.

Back in June, I said to go long on the gold producers (see Time to Feel the Pain and see The Biggest Buyers of Garbage). A few weeks ago (see The Russian Secret), I explained the profit potential if you invested in the major gold producers early June, as I had explained. Despite the run up in prices, gold and silver stocks - in particular the juniors - are still lagging behind.

That means there is still time to participate in the rise of gold - without having to own gold itself (although I still suggest gold and silver as a portion of everyones' portfolio).

While I am bearish on the world economy as a whole, that doesn't mean I am bearish short term - especially not in gold equities. The market can still rally and with it, we may see new highs. The market has been strong last week but with five straight days of climbs, profit taking could be on the table.

But again, we're going to have to wait and see what Big Ben has planned for us next week at the FOMC...

It's game time.



Until next week,

Ivan Lo

Marty Cej writes a "chase note

"With immediate effect, [the Swiss National Bank] will no longer tolerate a EUR/CHF exchange rate below the minimum rate of CHF 1.20. The SNB will enforce this minimum rate with the utmost determination and is prepared to buy foreign currency in unlimited quantities."

- Tough-talking Swiss National Bank telling you how it's gonna be, just in case you weren't payin' attention.

When things get tough, I mean really tough, send for the Central Bankers. Overnight, the central bank of Switzerland said no, nein, non and basta to currency traders who thought they could push the Swiss currency to new record highs. Yesterday, European Central Bank president Jean-Claude Trichet told European leaders to create a Brussels-based euro-zone finance minister to help get the region in order, or bring it to heel, depending on your point of view. On the last day of August, the central bank of Brazil cut interest rates in a surprise move intended to insulate the export-driven economy from a global slowdown.

Goldman Sachs argues today that while QE3 is almost a certainty for the Fed, it is unlikely to work and therefore the U.S. central bank should consider more drastic measures, including a promise to anchor interest rates near zero until the unemployment rate drops to 7 percent. In Ottawa, meanwhile, the Bank of Canada's Mark Carney is foiling-up the knuckles to take on global economic weakness in tomorrow's policy decision.

Our top story today is to examine the efforts by global central bankers to protect, revive or resuscitate their economies amid increasingly fragile financial and economic conditions. We'll frame their actions with the concomitant efforts of politicians to spark growth, create jobs, cut deficits and hang on to their own jobs.

Countries such as Greece and Italy seem to be losing their appetite for austerity, which wasn't exactly hearty to begin with, and the Finns are demanding some sort of collateral if they are going to put up dough to help bailout their weakest euro-siblings. World Bank President Robert Zoellick tells Bloomberg News this morning that risks to the global economy are intensifying and the euro-zone's outlook is dependent on European leaders making the right decisions, as if that hasn't always been the case.

U.S. President Obama has a big speech on jobs Thursday night, too, which may have a lot to say about the U.S. housing market. Watch the homebuilder stocks and Canadian forestry companies.
Our examination of the global economy, interest rates and markets will feature a conversation today with John Taylor, the Stanford University professor who developed the "Taylor rule" – a monetary-policy tenet that stipulates just how much a central bank should change interest rates in response to changes in inflation and other conditions. Beginning at 1:00, we'll find out what he thinks the Fed and other central banks should be doing right now and compare it with what they are doing.

Between 11 and 11:30, it's all about the Bank of Canada, Canadian interest rates and what Canadians should be doing with their money. Last week's report showing a contraction in the Canadian economy in the second quarter revealed two key persistent headwinds: the strong loonie and the weak U.S. economy. Whether rates are cut later this fall or not, neither of those headwinds is likely to disappear anytime soon.

Research In Motion was raised to 'outperform' from 'sector perform' at Scotia Capital this morning amid speculation that the rollout of seven new devices and "legal issues plaguing Android" will mean "RIM is positioned for a strong Q3 and Q4."

A few minutes after that note arrived, activist shareholders Jaguar Financial called on RIM to maximize shareholder value by pursuing "all options including a potential sale of the company or a monetization of the RIM patent portfolio by a spin-out to RIM shareholders." Business Day AM has calls into Jaguar and we are seeking comment from RIM as well.
The Carlyle Group has filed for an IPO. Let's talk about what they are bringing to the market and the timing.

Every morning Managing Editor Marty Cej writes a "chase note" to BNN's editorial staff listing the stories and events that will be in the spotlight that day. Never miss an edition of The Chase.