Resource World Magazine

INSIGHTS & INVESTMENTS E r ic H oe sg e n & D e nnis H oe s g e n Don't fight the trend S o far this year, the S&P 500 is up ~16% compared to a meager ~1% for the S&P/TSX. While it is well understood that the underperformance of the Canadian equity market has much to do with the index heavy concentration in resource stocks, the TSX is also much more heavily weighted towards financials (34% vs. 16% for the S&P 500). By comparison, US financials have significantly outperformed Canadian financials. On the global economic front, data reveals weakness. First quarter GDP in the euro area (-0.2% vs. -0.1% exp.) along with the German ZEW index (36.4 vs. 38.5 exp.) confirmed that the European economy remains stalled in a recession. Fortunately, some relief could be in the cards with the EUR depreciating fast in reaction to the data. In fact, the EUR could fall very rapidly to €1.20 should the €1.27 support level be broken. In Japan, some economic green shoots suggest that the hyper-reflation strategy adopted by the Bank of Japan is bearing fruit. Indeed, Q1/13 GDP at 3.5% QoQ (annualized) came in much above expectations (2.3%). Also, industrial production in March rose 0.9% compared to 0.2% in February. In Canada, data still points towards a looming slowdown. Sales in the manufacturing sector dropped 0.3% in March. Also, we learned that inflation dropped 0.4% in April. Headline inflation is up only 0.4% year over year, while core inflation is up 1.1%. Such benign price statistics should make investors speculate on a possible rate cut by the Bank of Canada later this year if economic conditions further deteriorate. Additionally, we learned that retail sales posted a strong rebound in April (+3.7% YoY) but April's industrial production (-0.5% vs. +0.1% expected) and capacity utilization (77.8 vs. 78.4 exp.) slipped and missed expectations. Housing starts plunged to 853K (vs. 985K exp.) but the 16.5% MoM decrease was driven by a large drop (39%) in multi-family units from 376,000 to 234,000. Single family starts actually decreased only 2% from 623,000 to 610,000. Having said all this, history suggests the recent market strength in the US serves as evidence of even more gains to come. We found one indicator that suggests the rally may continue a bit longer before we see a corrective period. As the S&P 500 (SPX) index has pushed to new all-time highs, the spread between the index and its 200-day moving average has also been widening. We measured the historical performance of the SPX after the index reached 12% above its 200-dma (daily moving average) and found that since 1960: With the majority of market indices and indicators recently making/approaching all-time new highs and core inflation still benign, we believe the rally will continue. 20 www.resourceworld.com The SPX has reached 12% above 200-dma 22 prior times. • The median gain after signal* was 8.2% over 54.5 days before we saw a 5% pullback. • The maximum gain was 24% after 6/19/95 and there have been nine times where the market gained over 10%. • The worst performance was after the 2/13/80 signal and the SPX declined -17%, but the pullback was brief and by the end of 1980 the SPX was up 25.8% for the year and 14.6% from signal. • In the instances with near-term gains of less than 2% (5 of 22), the market peaked within seven trading days of signal. This tells us that we should know very soon whether or not performance should be in line with median returns. With the majority of market indices and indicators recently making/approaching all-time new highs and core inflation still benign, we believe the rally will continue. Bottom line – don't fight the Fed or the tape, and with the uptrend in place, the economy in the fundamental sweet spot, and the SPX trading at roughly 14x a conservative 2013 estimate of $110, our belief is that the S&P will continue to break new highs. As for the resource sector, starting with November to present, we saw a consistent trend into the stock market and out of gold. While this is a crystal clear trend, oil rallied with stocks through December, but has since been stagnant or declining from its early 2013 peak. We think that there is tremendous value in a selective group of resources stocks but would caution that this is for patient investors. Insider buying is at multi-year highs which is encouraging, but history has also shown us that JUNE 2013

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