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!