Saturday, December 15, 2012

The Deflation Trade Is Over

13 September & 15 December 2012

(This article was originally published on September 13, 2012.)

Ben Bernanke announced unlimited moneyprinting at 12:30 PM EDT today.

Joe Weisenthal has called it a "game changer." He is correct. Click here for the key text from the Fed statement and for Mr. Weisenthal's quick take.

What does it mean that the deflation trade is over?

There is no longer any cap on US moneyprinting. Further, the Eurozone has also committed itself to a moneyprinting-based strategy. Inflation will prevail. Long-term interest rates will rise (despite the massive demand-boost of Federal Reserve long-term securities purchases of $85 billion per month - a trillion dollars per year!).

Gold investors have rounded Cape Horn. For the past 6 years, deflation fears have created vicious headwinds for the precious metals sector, and destroyed the market value of gold and silver miners, explorers and mine developers. As of today, that has changed, for all practical purposes, permanently.

To switch analogies for a moment, this is the gold tsunami. It is now unstoppable. Gold will just rise and rise and rise as central banks and governments everywhere shred their currencies to make continued spending and debt repayment possible.

I could write pages and pages on this topic, but consider this the executive summary.

I may not have much more to say about the gold market after today. Clear sailing on smooth seas under a sunny sky with a steady tailwind isn't headline news. It is just a forecast for fair weather for years to come for gold, silver and precious metal mining investors.

We aren't there yet, but we are on a steady course, sailing under ideal conditions.

Interestingly, most investors are not positioned for the best of all possible worlds for precious metals. If you are not, you had better get there.

Gold has been the best-performing investment of the past decade. Looks like we've got another decade to go!

The chart below shows the ratio of the Canadian TSX Venture Exchange Index (CDNX) to Gold (priced in US dollars). The CDNX is dominated by precious metal explorers and early-stage mine developers. It was destroyed relative to the value of its underlying assets (gold and silver) by the deflation-scare and collapse of 2007-2009, and remains at its lowest-ever relative levels today (it fell to its all-time low of .7203 only on August 31, 2012 - that level will never be seen again). Note that if this ratio returns to its historic (pre-2007) range of 2.8-5.14, that would represent an appreciation of the market value of this index of 278% to 559%. With the deflation scare probably permanently over, that is perhaps not an unrealistic expectation. Think about it.

Enough said?

* 15 December 2012: OK. Just to wrap up the deal. Operation Twist (the sale of short-term US monetary instruments to purchase long-dated US bonds at a pace of $45 billion per month) expires at the end of 2012. Mr. Bernanke announced on December 12, 2012 that the Fed will now make outright US bond purchases without clearing its balance sheet. These are known as "unsterilized" transactions, yet another euphemism for outright moneyprinting. Again, no end date was announced. The program may be discontinued when inflation is measured above the 2.5% annual level (it is, of course, far above that level now, but if you value a $249 computer in the thousands and count ground beef as equivalent to steak, as well as discounting food and energy costs as "variable," it is possible to produce inflation numbers below 2.5%, as the Federal Reserve has done), or if unemployment falls below 6.5% (how do you want to measure that, as similar problems in calculation emerge here as well?). 

So, in brief, we are promised low (short-term) interest rates for years to come, to encourage borrowing and debt accumulation (why is this a good idea?), and the Fed has promised to print $85 billion in new US dollars monthly (even this won't cover the massive Federal deficit!), or $1.02 trillion annually. At these levels, the US dollar money supply will continue to grow at a pace roughly equivalent to the US dollar debt position. As I said in this article, there is nothing more to be said about gold investing. I published a couple of notes after September 13, 2012, but yes, I am done commenting here on the gold market. 

Gold can ONLY rise in this environment, though, since it is traded on the open market, its price will vary from day to day and month to month. But yes, the US dollar is being destroyed, the US Federal debt will never be repaid (except in grossly inflated dollars), and every major world economy is hell bent on inflation or "moneyprinting" (even those with stringent austerity programs). So yes, I am done commenting on this topic. 

Buy yourself some gold and hold on to it. It will preserve value, at minimum, and, due to being neglected for decades and also to being a minuscule market on a global scale, gold will probably outperform most other investments as demand continues to accumulate. I hope my articles have been helpful. Honestly, there is simply nothing more to say on the topic except, "Buy gold,  gold and silver miners, gold and silver royalty companies and emerging producers, hold on, and bide your time. Your patience will be amply rewarded."

OK. Let's update one factoid. The CDNX:GOLD ratio has fallen further than its prior August 31, 2012 all-time low of .7203 (cited above). It reached a new and recent low of .6864 on December 13, 2012. Is that newer, lower ratio the all-time low? Well, the small-cap sector is now under such deep pressure that the market presupposes many of these planned mining projects will never go forward. If this sentiment continues, the CDNX:GOLD ratio could drop further still. However, don't bank on it. Interest rates are still low, and banks are again swimming in liquidity. Somebody, somewhere will fund these operations at today's drastic discounts, as gold and silver prices continue to climb. The small caps are by far the cheapest way to buy gold and silver in the ground. At some point (not today and not tomorrow), these projects will be snapped up and taken out of the sights of mainstream investors. 

If you can tolerate the pain, a small to moderate percentage of your investment portfolio could continue to be maintained in promising small cap gold and silver explorers and mine developers. There are names in this sector which are likely to do well in almost any conceivable circumstances - ATAC Resources (ATC.V) being only one of many!

Monday, November 19, 2012

Arizona I-40 Navajo County Traffic Scam

Just a warning to tourists travelling on Interstate 40 in Navajo County in Arizona.

You've heard of the rattlesnakes, scorpions and cactus in Arizona. In Navajo County, the poisonous creatures wear uniforms.

My impression is that police officers in this area are running a scam operation. Driving legally will be of no benefit to you. I was pulled over on an allegation of failing to signal a lane change, though in fact I did signal the change.

The officers then seek out opportunities to place more serious and sometimes bizarrely trumped up charges against their unwitting victims. Take caution.

Here is an overview from Griffen & Stevens Law Firm PLLC (click here):

"Police officers across northern Arizona, including Flagstaff and Holbrook, are initiating traffic stops on unsuspecting drivers, usually those traveling west from California (sic), for bogus reasons like: GPS device on windshield, unsafe following distance, illegal lane usage, speeding 1 or 2 mph over the limit, and endless other pretexts for pulling someone over. Then the officers can ask a driver to get out of their vehicle, wait by the police car while the officer issues a “warning” and begins interrogating that person about drugs and other illegal activity. The officer tries to look for indicia of criminal activity and drug trafficking, and will often utilize a drug detection dog. Ultimately, the officer wants to pressure you to consent to a search of your vehicle."

Again: Legal behaviour is no defense. These licensed predators are in my opinion running a scam operation. If you drive legally in Navajo County, you could be their next victim.

My advice. Don't drive Arizona Interstate 40 in Navajo County - period. Stay away. I for one will not be back (and I'll be spending much less time - and tourist dollars - in Arizona in future).

Sunday, September 16, 2012

A Look at One Chart Should Be Enough...

16 September 2012

I know that ratio charts are confusing to many.

Let me explain. The above chart depicts the ratio of the market value of the Toronto Gold Mining Stock Index (SPTGD) to the US dollar price of gold. That is, the value of the index is divided by the price of gold, on a daily basis, to create what is known as a "ratio chart."

What this chart is telling us is that the SPTGD index used to be valued at 0.723 times the price of gold (roughly 3/4 of the gold price) at its highest point, which was over 10 years ago, in May 2002. As you can see, physical gold has been a better investment than Canadian gold mining stocks for over ten years. And, despite their recent strong recovery, no real impression has yet been made on the long-term chart (as gold is rising rapidly too).

The funny thing is, gold mining is a much more profitable business now than it was back then, though arguably the 2002 ratio showed excessive early optimism. That is, as the price of gold rises, the margins of the gold miners increase, so their profits climb at a faster pace than the rise in the price of gold (though their costs are also escalating, to a lesser degree in most cases, for exactly the same reasons that the price of gold is rising).

However, if this ratio were simply to return to its longest-term stable value, which persisted from early-2003 to mid-2007, then we would be looking at a range of .40 - .55 in the ratio. Let's call its stable value ".50."

In other words, should the SPTGD:GOLD ratio recover its median value, it would appreciate 150% from where it is now (.195 as of September 14, 2012). That would be no small potatoes.

I think it will - because the deflation trade is now "over" (see previous posts).

Mark my words.

Though the trend has fallen from its stable value level for 5 years, I think we'll be back there within only about two years. What makes me say that? Look at the uptrend from 2000 to 2002 in the above chart (not the lower one). When this ratio climbs, that is the angle it tends to follow (you can see fractal slices of this same behaviour in the above ratio chart in later 2003, and in later 2008 to early 2009). For complex reasons, charts tend to repeat such patterns (the study of these patterns is known as fractal analysis).

So yes, in 2014, I expect to see a ratio in this chart of .50. Given that I am correct (only time will tell), where might the SPTGD index then be valued? (The chart of the SPTGD index itself is immediately below.)

I think it is conservative to suggest that gold, which is now on a "tear" due to announcements of global quantitative easing, is likely to be at the $2500 level in 2014. I believe a lower gold price than that in 2 years is unlikely, and that an even higher price is quite possible. But at $2500 gold and a 0.50 ratio in this chart. the SPTGD would be valued at more or less $1250. Where is it today? $346.60. That would represent an appreciation in the SPTGD of 261%.

Anything even close to this would also be no small potatoes.

What do bull markets do? They disappoint the impatient and amaze the persistent.

Think that's unlikely? Well, look at the SPTGD chart movement (second chart) between May 2005 and May 2006. In exactly one year, only 7 years ago, this index gained a full 122%. And earlier, between late 2000 and May 2002, the SPTGD index gained 180%, this time in 1-1/2 years. So what I'm saying is that a similar uptrend, persisting for 2 years, could very possibly lead to appreciation of more than 200%.

Again, why is this possible? Because the deflation trade is over. It changes everything for gold and gold mining investors.

Don't get shaken off by volatility, which isn't going to go away....

My advice: Persist, and prepare to be amazed.

Saturday, September 15, 2012

Economics 00000002

15 September 2012

I've been arguing lately that economics is easy. Here is the advanced level....

Just caught this nugget from Warren Buffett:

"Value investors are not concerned with getting rich tomorrow. People who want to get rich quickly, will not get rich at all. There is nothing wrong with getting rich slowly."


Economics 00000001

15 September 2012

I commented on September 13, 2012 that I didn't have much more to say about gold investing. However, people do sometimes approach me and tell me that they don't understand economics.

Actually, there is nothing easier than economics.

Here is is.

1. If you save money, you will do well.

2. If you borrow money, you will do poorly.

3. High interest rates encourage people to save money.

4. Low interest rates encourage people to borrow money.

The Federal Reserve has just "promised" that (short-term) interest rates will remain very low (near zero) until at least mid-2015. They are also printing $40 billion new dollars every month to make it easier for people to borrow money.

How do you think we will do?

Here ends the lesson.

Thursday, September 06, 2012

Mr. Draghi Is Sterilizing His Purchases, What Could Possibly Go Wrong?

6 September 2012

This post is being entered quickly, so it is for "those in the know." If You don't understand what Mr. Draghi just did (explanation here), then this post will not be much help to you.

My thoughts on Mr. Draghi's plans to buy the debt of troubled Euro nations and "sterilize" it by selling the central bank's best-quality assets follow (originally posted here):

Obviously Mr. Draghi will do unsterilized sovereign bond buying at some point. Even with supervision, the PIIGS will be badly behaved. But I don't think he can just print right away.

On the upside (for him), he doesn't have to raise German cash or sell German debt IF he prints new Euros and buys the sovereign debt of the PIIGS without obtaining "real" money from the better-off EMU members. It seems to be a process. The original rules under which the Euro was constructed are going out the window, one by one. It seems only the Germans have a long memory. However, the EMU had, until recently, been a win-win game for all the players. Greece got to pretend there is no tomorrow. Germany boosted exports. France got to play both sides.

Now, the only course of action that will keep the win-win equation going a little while longer will be unsterilized purchases of "junk" government debt. If the junk is bought with printed money, then it is nobody's (and everybody's) obligation. What could be the downside? Apart from the certainty of ultimate currency collapse, it's looking pretty cheery out there.... Currency destruction is obviously a problem for another day.

With new Euros, China benefits, etc., etc. It's all a big, globally connected, spinning wheel (until the wheel comes off the cart). But let's deal with that chapter when we get there. Certainly the precious metal market is having no trouble figuring it out. The gold buyers are voting with their feet. So why don't the Germans just buy gold? Everybody's happy, and Germany still wins.

8 September 2012: OK. More information is in. The plan is to encourage deposits at ultra-low interest rates, and thus take money out of circulation in exchange for the purchases of "junk" sovereign bonds of no more than 3 years' duration (the shorter term chosen presumably to reduce risk).

Hmmm. Exactly why would this work? The take-away is that the junk is going to get bought to keep the Euro currency wheel spinning a while longer, perhaps much longer. But, exactly how is this ever going to play out over the medium to long-term? Why would I, or any entity, wish to give the ECB my hard-earned cash on deposit, knowing that the central bank is decimating its asset base with the worthless government bonds of profligate Eurozone nations? This does not add up on so many levels!

Here is the current situation and its implications, according to the WSJ. Interestingly, business confidence is so low at this time, it's easy right now to get partners to park cash with the ECB for vanishingly low interest:

In principle, “sterilization” is a process that ensures that individual actions by the central bank don’t result in an overall increase in the money supply. Monetarist theory dictates, after all, that it is excessive monetary growth that leads to inflation, which is what the ECB is exclusively mandated to guard against.

Every week since it started buying bonds under its old Securities Markets Program, the ECB has withdrawn from circulation an amount of money equivalent to what it had spent so far in buying them. For the last six months, this figure has hovered around €210 billion. The amount falls as the bonds it holds mature.

It has done this by offering one-week deposits to the banking system. Banks bid competitively for the deposits, and the rate bid has tracked the ECB’s own overnight deposit rate very closely. It has been only fractionally above zero since the ECB last cut its deposit rate in July.

Fears that it would prove difficult for the ECB to sterilize such a large amount of money regularly have so far been unfounded. On the few occasions when it has failed to auction the full amount of deposits, it has been due to exceptional, technical factors in the money market which have never lasted beyond a day or two.

This situation might change if the ECB and the euro zone succeed in restoring so much confidence to the region’s financial markets and economy that banks start again to lend to each other, and to businesses and households. Before the crisis, the private sector routinely created a multiple of the money created by the central bank.

But the link between central bank money and privately created money has changed beyond recognition since 2007. Growth in broad money aggregates has collapsed despite the ECB more than doubling the size of the monetary base, which typically consists of cash in circulation plus banks’ reserves at the central bank.

As of today, the precautionary hoarding of reserves by euro-zone banks is so great that banks are holding over €770 billion in excess reserves in accounts at the ECB, voluntarily “sterilizing” money the ECB created without forcing it to lift a finger.

The ECB is sterilizing another €209 billion by paying only 0.01% on the deposits it auctions. In the current environment, it does not seem like the ECB would struggle to withdraw from the market any amount of liquidity it wanted to. Even so, the numbers implicit in the ECB’s new bond-buying scheme are daunting. Excluding treasury bills, there are some €390 billion in Italian bonds that fall due in the next three years.

For Spain, the number is €203 billion, for Portugal and Ireland combined, another €50 billion, according to national debt agency data. In all, a total of over €640 billion. Of this, it seems likely that the ECB already holds — and sterilizes — a large part of its €209 billion SMP portfolio. There are no precise data yet on the ECB’s holdings, but only around 40 billion euros is accounted for by Greece.

Thus the amount that the ECB needs to sterilize could easily double or treble from its current level. This may incline it to sterilize more over a longer time-frame of a month or three months or even more, so as to reduce the potential for volatility in the money market. The ECB has already examined such options internally two years ago, but chose not to proceed.


Saturday, September 01, 2012

Art Cashin Correctly Identifies August 1971 As the Date of Our Downfall

1 September 2012

Art Cashin recently identified August 1971 as "the most disastrous moment in US history." I concur.

His article is here:

The Most Disastrous Moment In US Economic History Occured In August 1971

My comments to other readers (whom I thought missed the point of the discussion) are here:

Uh. I think we are forgetting the real question here. Do we want our currency to be stable in value, or to be a plaything of the central banks and politicians? I for one opt for the former. Fixing the currency to something real of course achieves that purpose more effectively than any other known strategy.

Humans are still emotional, so the gold standard doesn't "fix" problems, rather, it prevents their development, and that is what is at issue here. When the currency is unstable, the citizenry are literally forced into speculative assets as a means of preserving wealth. You don't have to agree on all points with Mises to see that easy money promotes capital misallocation, as we've had boatloads of that since at least the Vietnam war, and in spades since the advent of the Greenspan/Bernanke era.

Would preserving the gold standard have created a "perfect" financial world? Of course not. But we would have averted the worst of the excesses of the past 4 decades, and savers/investors, rather than speculators and manipulators, would have been rewarded.

The current US economy is hugely allocated to the practice of financial management (and law). Doug Casey identifies financial management alone as accounting for roughly 22% of the US economy (it should be more on the order of 1%). This is because value is being destroyed everywhere, and savers are desperate.

The world economy is imbalanced towards the holders of real assets - oil in the Middle East and Asia and cheap labour in southeast Asia. Islamic extremism has been funded by inflationary monetary policy, which has run up the price of Middle Eastern oil. The present regime is a disaster, and none of our political leaders has a plan to deal with it (apart from Mr. Paul, with whom I certainly do not agree on all points).

Was the abandonment of the gold standard the worst event of the second half of the twentieth century? Yes, certainly. Mr. Cashin is absolutely correct here.

Friday, August 03, 2012

The US Dollar Is Well on its Way to Equivalency with Monopoly Money

3 August 2012

This wonderful graphic comes from Jim Sinclair.

Take your pick.

There is now little difference remaining between the two.

And... think before you act!

Monday, July 09, 2012

Roubini Predicts a "Global Perfect Storm" for 2013

9 July 2012

As you know, in the world of investments, very little can happen for lengthy periods, and then profound changes can impact the markets in periods of only days and weeks. Think 2008, for example.

Nouriel Roubini is suggesting that 2013 could make the year 2008 pale by contrast.

On July 7, 2012, he made the following points:

· "By 2013, the ability of policy makers to kick the can down the road is going to run out of steam.
· "In the Euro-zone the slow-motion train-wreck could become a faster-motion train wreck.
· "The U.S. looks close to stall-speed and a recession, given the latest economic data. The landing of China is becoming harder rather than softer.
· "The other emerging markets are all sharply slowing down in terms of growth--the BRICs, China, Russia, India, Brazil, and also Mexico, Turkey. Partly it's because there's a recession in the Eurozone and U.K., partly it's because they're not doing their reforms.
· "And finally there is the time bomb of a potential war between Israel and the U.S. and Iran. Negotiations have failed. The sanctions will fail. Obama doesn't want a war before the election, but after the election, regardless of whether it is Obama elected or Romney, chances are the U.S. is going to decide to go and attack Iran and then you'll have a doubling in global oil prices overnight.
· "So, it's the perfect storm! You could have a collapse of the Eurozone, a U.S. double-dip, hard-landing of China, hard-landing of emerging markets, and a war in the Middle East. Next year could be a global perfect storm."Well, it's much worse, because like 2008 you have an economic and financial crisis, but unlike 2008, you're running out of policy bullets. In 2008, you could cut rates from 5%-6% down to zero, do QE1, QE2, QE3, you could do fiscal stimulus up to 10% of GDP, you could backstop a guarantee bailout of banks and everybody else. Today, more QEs are becoming less and less effective because the problems are of insolvency not illiquidity. Fiscal deficits are already so large that everybody has to cut them, not increase them. And you cannot bail out the banks because (1) there is political opposition to it, and (2) governments are near insolvent and they cannot bail out themselves, let alone bail out the banking system.
· "So the problem is that we are running out of policy bullets. We're running out of policy rabbits to pull out of the policy hats compared to 2008. So if a freefall of markets and economy does occur, you don't have any more of a safety net of enough policy bullets to try to absorb the shocks, because we've been spending the last 4 years using 95% of those bullets. So we are running out of bullets."

Thanks to Business Insider for this forewarning!

I am taking him seriously on this one.

Be alert!

Sunday, June 10, 2012

Differential Rates of Currency Decay Explain Europe's Unsolvable Dilemma

10 June 2012

Quick comment.

Since the nations of the world, led by the example of the United States, aboandoned the gold standard, all of them have allowed their currencies to decay at a steady clip. We call it "inflation," perhaps a euphemism. My suggestion, we should call currency destruction what is is, "currency decay."

If you understand this concept, you will understand the present problem with Europe.

In brief, the Deutsch Mark, if it stil existed, would rise relative to other currencies, as German monetary policy is less inflationary than that of most other major nations. Note - it is still inflationary, just less so relative to the policies of its peers.

In brief, this is why the European Monetary Union is failing. Greece has always permitted a rapidly decaying currency, as Greek citizens have a habit of taking long holidays, retiring at 60, not paying income and property taxes, and not even paying for government-provided services, including electricity. Similarly, Spain, Portugal and even Italy are "relaxed" when compared to the more industrious French and German economies.

So what we are seeing now is currency decay to the point of outright "rot" in Greece, and quickening currency decline in Spain (with Portugal, Italy, Ireland and certainly others "following along").

How does one maintain monetary union in such a case?

In brief, it can't be done.

The nations with slowly decaying currencies must continuously bail out those that tolerate more rapid decay and outright decomposition, with Greece being the current poster child.

It's not fixable.

(Thanks to Hookedblog for today's images.)

Thursday, June 07, 2012

What Is Wrong.... A One-Paragraph Summary

7 June 2012

This is a paragraph that I wrote to a liberal friend today (slightly expanded from the original):

I am not a conservative, but I also differ with many liberals, so I'm not sure what category I fall in. I believe in free markets, but our present market is manipulated. Our corporate "titans" seem to manage businesses for themselves, not for their shareholders. General Electric Corporation, as an example, has shed 58% of its value since the year 2000, and the broad markets have punished shareholders for 12 years. The ultra-rich are taking everything private, and closing out public participation in ownership of assets. Governments are adding gatekeepers and regulators, and shedding service providers, builders and maintenance workers. The income tax code is a Byzantine labyrinth that favours the rich and punishes the middle class. We are conducting costly wars on drugs, privacy and terror. Paul Krugman is calling for more debt, which cannot possibly work long-term (look at Japan for a trip down that road). Unions are losing the battle to protect their members, but winning the battle to prevent young people from entering the workplace. I hope you grasp my dilemma. It seems that everyone on both the left and the right is doing exactly the wrong thing. My personal investment strategy (precious metals) is predicated on the assumption that decision-makers everywhere, given a choice, will take action without consideration of long-term consequences. Our governments are accumulating debts that the young cannot pay, and the prospect is that we shall all be taxed at ever greater levels in order to fund the ballooning cost of a world that none of us wants. There are of course bright spots out there, but the broad trend is as negative as I have ever seen.

Thursday, May 31, 2012

The Market is an Instinctual Beast

31 May 2012

I've been thinking about the behaviour of markets lately. While there is a theory of "rational markets," I don't think it can be defended.

Better Mr. Keynes' trenchant observation, "Markets can remain irrational a lot longer than you and I can remain solvent!"


Rather, I argue that markets are instinctual beasts.

Having had years of experience horseback riding in the Canadian Rockies, I can attest that the horse is a very instinctual animal. It is also unstoppable when under the immediate influence of instincts such as "fight or flight," "startle," or "running with the herd." As the average horse weighs a half ton, basically, you don't stand in the way of an instinctual beast that is many times your own weight.

So too, we should not stand in the way of the market when its instincts are triggered. You have to "go with" the market, though obviously we can "steer" by choosing where we place our investments!

Another image of the market as an instinctual animal references the seasonal instincts of the birds. Right now, the robins are building their nests. As I have about 300 trees surrounding my home, I'm seeing lots of robin activity, right now. A naive investor might therefore conclude that the best place to invest is in nest-building materials.

However, as the seasons change, the instinctual behaviour of the robins will alter as well. Based on my own experience, after nest-building comes the territorial defense of the anticipated, and then the newly-hatched young.

And of course, the seasons change again, as they do in their cycles, and soon enough, all of the seasonal brids will leave, flying south. Those invested in nest-building materials will experience a "bear market."

Then it shall be widely assumed by the market that, as robins no longer live here, robins simply aren't a good investment. Until, of course, they return the following spring. The instinctual beast does not think that far ahead!

And so it goes with the markets.

Bill Fleckenstein observed this week, "the market is playing checkers, not chess." It thinks ahead, but only in somewhat obvious ways.

My present take is that the markets have been in a so-called "risk off" mode since 1999-2000, which involves moving out of equities and into government and other bond instruments. (In fact, the original move to bonds occurred with the ascent of Paul Volcker at the Federal Reserve, as, due to his influence, the prime rate peaked at 21.5% in December 1980, though that is another story.)

Now it is no secret that inflationary monetary policy relies on low interest rates to enable the jugglers to keep all their bowling pins in the air.

Of course, when inflation is in vogue, debts accumulate, and ultimately, this undermines the foundation of the bond market, as investors grow concerned about inflation eating away at their investment (as governments rely on monetary inflation to make debt repayment "affordable").

Bond buyers then demand higher interest rates as a "risk premium." This is what's happening in Greece, Spain and Italy right now. But countries with printing presses are accorded continuing low rates, as we are all willing to pretend - for a season - that inflation is not real.

Now it is my prediction that the seasons of the market will change yet again - it would hardly be surprising to anyone with a historical view. I suggest further that with the next seasonal transition, the markets' instunctual responses will also shift - and dramatically so!

When the robins have flown south, bonds will be viewed as vulnerable to devaluation by inflation (it's already happening, as I've written many times, but we simply pretend it's not).

The "risk off" instinct towards bonds has prevailed for 12 years, with a seemingly solid 20-year foundation unde
lying the recent era of the dominance of bonds. But this season, too, shall change, as all seasons do.

Now, when the instintual behaviour of the market next shifts, what should we expect?. In my view, bonds will become the next "risky" asset, and investors will begin to flee them in droves, with bonds emerging as "the next bear market." Today's ultra-low, even record-low bond interest rates will prove unsustainable, just as did investing in the nest-building business.

So if "risk off" is the current instinct of the market, driven by the buying of the bonds of governments that print their own money, what then shall be the next instinctive market trend?

Well, bonds will remain in a bear market, probably for a very lenghty period. The stock market, already dead in the water for 12 years, is not set to recover any time soon.

My prediction is that the next season will be that of the treasure hunter - dominated by those seeking "security" through a search for value. The new treasure seekers will dig much more deeply than today's "risk off" traders, who have little more than herd instinct to guide them.

Where have treasure hunters always looked? You know and I know that the object of the treasure hunter is gold, and this is where the instinctive behaviour of the market will turn next.

So, my advice is to find your treasure now, by holding your savings in precious metals and in the stocks of companies that mine or derive royalties from precious metal production.

I wish successful treaure hunting to you all!

Tuesday, May 15, 2012

Our Safety Net: HUI:GOLD .204; HUI 275-300; Gold $1360 or so...

15 May 2012

I posted this letter to my friends today, and it's intended for readers with some technical knowledge of the gold and gold mining markets:

The HUI is not going to retest its 2008 lows, but the HUI:GOLD ratio is. Looks like we're gaming for a double (or triple, if you prefer) bottom on this chart, meaning the HUI:GOLD ratio probably falls to the 2000/2008 lows (.204). We're now at .243, so that's actually only four decimal points to go. No big deal (ha!).

Assuming gold swoons to $1400 or so, or stays higher, that means the low for the HUI would be 275-300, vs its low of 150 in 2008.

With the HUI at 375 today, gold at $1545, etc., I'd say the numbers stated above are the visible bottom. That is much lower than I expected, but the HUI and gold would both double their 2008 lows, which sounds a bit fractal to me.

My call: HUI:GOLD .204; HUI 275-300, Gold $1400 or so ($1360 is double the 2008 low). I'm not happy about this, but it's twice the Oct 2008 level.

On a positive note, so long as we're thinking it's a fractal double (remember, the sellers will be extinct), then the upside target for the HUI is an optimistic 1275, so who's complaining? As they say on the street, we're closer to the bottom than the top, and we're certainly finding the bottom in a hurry! I'd be a buyer at HUI 300, and there's probably no rush to take action before then!

I also expect gold to lead on the way back up while the broad market continues to fall, as we're getting some kind of revisit of 2008 for some reason....(More thoughts later, maybe???)

Here is the HUI:GOLD chart:

Hold on everybody. It will be steep and hard, but relatively brief at this juncture!

NOTE: Dan Norcini has thoughts similar to my own. Click here for Dan's thoughts on the current rout (a consequence of the parabolic September 2011 blowoff in the gold price, by the way).

17 May 2012: Possibly the levels I have identified here are our safety net. That is, if we don't fall off the tightrope, we may not have to fall this far! At this point, I'm not sure. The good news is that there IS a safety net in place, making us secure for the time being!

24 May 2012: Hmmm. More bottoming signs are in. If we're basing and starting a new uptrend, take my word for it, we shall soon be seeing the mother of all bull runs in the gold and silver markets!

Monday, May 14, 2012

Krugman Creates a Stir about Greek Euro Exit

14 May 2012

This is interesting. As readers of my blog will be aware, I have many differences with Paul Krugman as to economic theory and practice. In particular, I am in opposition to his view that rescuing the badly behaved is wise economic policy.

However, Mr. Krugman's recent comments on the imminent necessity of Greece's leaving the Euro as a shared common currency are of importance.

I'll focus on these two points in Mr. Krugman's brief post:

1. Greek euro exit, very possibly next month.

2. Huge withdrawals from Spanish and Italian banks, as depositors try to move their money to Germany.

Many economists are concerned about the possible implications of a Greek withdrawal from the Euro, now considered probable, based on the dramatic "anti-austerity" results of the recent Greek election.

I for one am paying attention to Mr. Krugman this time.

Watch Spain and Italy... now!

Saturday, April 14, 2012

My Simple Prescription for US Bureaucratic Bloat - in One Paragraph!

14 April 2012

As I'm busy these days, I've been posting links to great articles, and adding my comments.

Paul Kasriel has just published a very simple economic graph:

The US federal deficit remains high because tax receipts are down and expenditures are static (that is, little growth, but little corresponding structural reform).

My proposed fix is this simple:

(1) Trim the bureaucracies that determine who pays and who receives federal funds (they are massive and grow like Topsy).

(2) Simplify receipts with a flat tax (goodbye IRS, you can let 90% or more of the staff and all of the exemptions go).

(3) Simplify expenditures with simple universal social/health programs and with good quality infrastructure initiatives with almost no bureaucrats - healthcare for all, support for the participation (and employment) of citizens with disabilities, good highways & bridges, marketable multiple sources of energy (from conventional to biodiesel to space-based solar to acoustic fusion), accessible high quality education and (yes) expanded fundamental scientific research, including molecular biology, robotics and space exploration (a big "boo" to Mitt Romney on that one)....

(4) Retrain the bureaucrats with productive skills, starting with growing gardens and flipping veggie burgers!

That's it. All better.

Tuesday, March 20, 2012

Mr. Bernanke Scores Zero on His Term Paper, As Marked by Me

20 March 2012

To my knowledge, Mr. Bernanke has never done this before. He has laid out his delusional belief system for all to see. (Ben Bernanke, a former Princeton University professor, is the Chairman of the US Federal Reserve, a private corporation which manages money supply and interest rates in the US.)

Indeed, the emperor has no clothes.

Joe Weisenthal, an intrepid reporter with Business Insider who has a notable nose for news, summarized Mr. Bernanke's first lecture on the history of the Federal Reserve as follows. Note that Mr. Bernanke began by attacking the gold standard. That was mistake number one. Mr. Bernanke's multitudinous errors proceed from there....

In my family archives, I still have an essay written by my father on the gold standard from his college days in the late 1930s. Let me tell you, my father got it right over 70 years ago, and Mr. Bernanke has gotten it 100% wrong today. Would that my father had chaired the Federal Reserve instead of Mr. Bernanke (and before him, Mr. Greenspan).

Mr. Wiesenthal, who is indefatigable, summarized Mr. Bernanke's speech as follows:
  1. To have a gold standard, you have to go dig up gold in South Africa and put it in a basement in New York. It's nonsensical.
  2. The gold standard ends up linking everyone's currencies, causing policy in one country to transmit to another country (sort of how U.S. policy now transmits to China, because they've fixed the yuan price to the dollar). So for example, if the U.K. fixes the number of pounds to an ounce of gold, and the U.S. fixes the number of dollars to an ounce of gold, then the pound and the U.S. dollar inadvertently become linked.
  3. It creates deflation, as William Jennings Bryan noted. The meaning of the "cross of gold" speech: Because farmers had debts fixed in gold, loss of pricing power in commodities killed them.
  4. The gold standard tends to cause interest rates to rise during downturns and interest rates to fall during good times, the exact opposite of what monetary policy should be doing.
  5. The economy was far more volatile under the gold standard (all the depressions and recessions back in the pre-Fed days).
  6. The only way the gold standard works is if people are convinced that the central bank ONLY cares about maintaining the gold standard. The moment there's a hint of another priority (like falling unemployment) it all falls apart.
  7. Gold standards leave central banks open to speculative runs, since they usually don't hold all the gold.
Sadly but truly, the above summary is more or less what Mr. Bernanke had to say in his first of four lectures. From here, we can't expect much success in the subsequent lectures. How do you make a building stand when the foundation is unstable - perhaps not even there?

I replied to Mr. Weisenthal's summary as follows:

"Just to summarize, Bernanke is wrong on every point. However, this is the clearest exposition yet of his twisted logic. Others will refute this completely, so permit me to highlight a couple of the more subtle points:

1. We lock gold away because it is a real and rare substance that has real value (humans want it for many reasons, creating demand).

2. The interlinking prevents one trading partner from cheating another with bad money (as the US has done to China).

3. Deflation is the desired outcome of increasing productivity.

4. Savings are rewarded during downturns, creating income stability for the prudent, as well as future capital for business investment (also by the prudent).

5. The point about volatility is true. However, that kind of volatility (A) teaches everyone to be cautious vs reckless, and (B) prevents black swans, which emerge when volatility is suppressed by central banks while the underlying system rots.

6. It is not the job of any central bank or government to target employment. Free markets do that all my themselves.

7. Let's look at the run on the US gold hoard in the early 70s. Oh yeah, the US was running a guns and butter policy and undermining its currency. The French figured that out and took their gold. So governments that manage their budgets foolishly get punished by the free market. Hmmm. That is bad? Why was that again?

"To be clear, von Mises dealt with all of Bernanke's points half a century ago. However, knowing that Mr. Bernanke thinks this way helps me sleep more soundly at night as a gold investor. It's amazing how the smartest people can rationalize the most egregious behaviours.

"Mr. Bernanke, that will be a big round 'zero' on your term paper. Please go back to kindergarten and start over"

Read more at the Business Insider (and weep for the lost financial guardians of the US financial system).

As Mr. Bernanke pointed out, prices were unstable in the short-term under the gold standard (but stable over the long-term). How exactly has the Federal Reserve fixed that problem? See the chart below.

Since the creation of the Federal Reserve in 1913, prices are now unstable over both the short-term AND the long-term. Gee, thanks for fixing that problem, Mr. Bernanke!

Also check out this more recent article on Business Insider.

More from von Mises on the gold standard here.

30 March 2012: This is true. Paul Samuelson, the author of the world's best-selling economics textbook, "flunked" Mr. Bernanke shortly before his death in 2009. Click here.