The Equities Market Sell-Off and Economic Data continue to support Deepcaster’s often-expressed View that the International and the USA’s Economy is slowing with Key downstream consequences being that there will be many more Debt Defaults and Earnings Misses, with predictable Negative Consequences for Equities and other Markets and Economies.
Key Profit Opportunities and Risks will thus be magnified going forward into 2016.
China’s lousy Manufacturing Data and the USA’s lousy (recessionary) ISM Number both released earlier this year Testify to this fact. And the impending Debt Defaults will by no means be limited to the Oil Shale Frackers though they will be hit the first and hardest.
Indeed, Deepcaster’s earlier Key Forecasts for the 2015-2016 Transition Period have been or are being fulfilled with Profitable Consequences (Note 2). And the Mega-Trends (even the Negative ones) we identified recently provide Superb Profit and Wealth Protection Opportunities going Forward.
In sum, the U.S. Economy is not nearly as strong as the Mainstream Media spin would have us believe and it and China’s and the Eurozone all look to get weaker.
Worse, the $US is moving inexorably toward losing its Reserve Currency Status though its exchange rate status is still strong, for now. The USA recently expanded China’s IMF Vote by 50%. Thus, the (de facto Gold-backed) Yuan is well on its way toward displacing the $US as World Reserve Currency, not immediately, but likely in the coming months, with very Negative Consequences for the USA!
Indeed, China is the New Neo-Colonialist Power increasingly manipulating the Yuanfor leverage, a battering ram or Tool to acquire Real Resources (commodities, Farmland, etc.) in Increasing Political Power (!) around the World on the Cheap. Welcome to The Future! (Sarcasm intended!) And, remarkably, despite months of Weakening data visible to all, The Fed tightened last December into that Economic Weakness!, a Move which is and will continue to exacerbate the Economic Slowdown.
Of course, this is not as surprising as it might seem when one considers that the private-for-profit Fed’s Actions before, during and after the 2008 Crash were aimed at mainly at helping Fed-Shareholder Mega-Banks rather than the U.S. Economy or Workers.
But this may not save many banks in the long or middle run because the biggest Banks collectively have over $240 Trillion Derivatives Exposure, much of it directly or indirectly tied (via Derivatives) to Debts many of which will Default in the next couple of years.
To Profit and Protect, we must first Consider the Impending (ongoing) U.S. and Global Recession which the following Data indicate:
- The Profit Cycle is Peaking
- Consumer Confidence is topping and beginning to decline
- U. S. Jobless Claims are increasing and the Labor Force’s Participation rate continues to decline, (see Shadowstats at Note 1 for the Real Numbers) and the Eurozone employment picture is even grimmer
- Manufacturing is weakening
[And the risks are greater when one considers that the four largest U.S. Banks are approximately 40% larger than they were in 2008! As Mike Snyder points out, “The problem of ‘too big to Fail’ is now bigger than ever!” (Financial Armageddon Approaches, 12/29/15).]
The International Economy is Slowing! And the U.S. Economy too despite the Happy Talk in the Mainstream Media.
If this resulted in Price Deflation that would arguably be good for Consumers, but Price Deflation is not happening (Note 1).
But what we are seeing is not only an Economic Slowdown but a Debt Deflation due to the Trillions in Private and Sovereign Debt outstanding (greater than the 2007-2008 Peak), which makes Debt, especially $US-denominated Debt, harder to repay, because it is done with “more expensive” Currency.
Therefore, sophisticated Investors see what is coming and are pulling their money out of Junk and Corporate Bond Funds. And this is only the first beginning sign of the Great Credit Collapse coming — the Credit Collapse and Slowing Growth are two of the Great Mega-Trends of which we speak. (But Deepcaster sees these as Profit Opportunities.)
Bank of America has recently acknowledged what Deepcaster has earlier forecast, that a “Carnage in Fixed Income” is developing as a result of “the largest Outflow in Bond Funds since June, 2013” Bank of America Notes:
· Huge $5.3bn outflows from HY bond funds (largest in 12 months)
· $3.3bn outflows from IG bond funds (outflows in 4 of past 5 weeks) (2nd biggest in 2 years)
· $2.2bn outflows from EM debt funds (largest in 15 weeks) (outflows in 20 of 21 weeks)
· Huge $1.8bn outflows from bank loan funds (largest in 12 months) (outflows in 19 of past 20 weeks)
Bank of America, 12/16/2015
As we forecast recently, the High Yield Junk Bond Market has taken, and will continue to take a hit. And this is only the beginning, because when Debt Defaults begin, they tend to Multiply in a “Domino Effect.” We are beginning a months-long Debt Deflationary Economic Contagion and it will be Brutal. As former OMB Director David Stockman says of our over-financialized — courtesy of The Fed — Economy:
“There is going to be carnage in the casino, and the proof lies in the transcript of Janet Yellen’s press conference. She did not say one word about the real world; it was all about the hypothetical world embedded in the Fed’s tinker toy model of the US economy….
“This stupendously naïve old school marm still believes the received Keynesian scriptures as penned by the 1960s-era apostles James (Tobin), John (Galbraith), Paul (Samuelson) and Walter (Heller).
“But c’mon. Those ancient texts have no relevance to the debt-saturated, state-dominated, hideously over- capacitated global economy of 2015. They just convey a stupid little paint-by-the-numbers simulacrum of what a purportedly closed domestic economy looked like even back then.
“That is, before Richard Nixon had finally destroyed Bretton Woods and turned over the Fed’s printing presses to power aggrandizing PhDs; and before Mr. Deng had thrown out Mao’s little red book in favor of a central bank based credit Ponzi.
“As you listened to Yellen babble on about the purported cyclical “slack” remaining in the US economy, the current unusually low “natural rate” of federal funds, all the numerous and sundry “transient” factors affecting the outlook, and the Fed’s fetishly literal quest for 2.00% inflation (yes, these fools apparently think they can hit their inflation target to the second decimal place), only one conclusion was possible.
“To wit, sell the bonds, sell the stocks, sell the house, dread the Fed!
“In a global economy that is plunging into an epic deflationary contraction, Yellen & Co still embrace mythical and unmeasurable benchmarks for domestic full employment and other idealized performance targets….”
“Sell The Bonds, Sell The Stocks, Sell The House – Dread The Fed!,” David Stockman, via lemetrepolecafe.com, 12/18/2015
In sum, The Private-for-Profit Fed’s ZIRP has created Massive Bond and Equities Bubbles. For Deepcaster’s Forecasts for which Sectors likely to make Mega-Moves first and for our Consequent Buy Recommendations, see our recent Letters and Alerts.
Looking farther down the Road (months away), if The Fed is compelled (i.e., by a Market Crash, or Credit Default Domino Effect), to do another round of QE (as we expect it eventually will), then the recently strong $US will begin to Fall.
Such a Negative Catalyst is a virtual Certainty, the Only Question is the timing.
The U.S. Economy is ostensibly the strongest in the World these days. In Reality, the U.S. Labor Force Participation Rate is at a 40-year low and the recent pop in jobs numbers does not alter the Declining Trend of slow Economic Growth. (Note 2 from Shadowstats.com)
In fact, Industrial Production Growth is a mere 0.3%, US manufacturing is in a recession and, indeed, so is the rest of the economy. And this will Greatly Worsen if the U.S. Job-Killing TPP “Trade” (Mandating Open Borders!) Deal Passes.
But note that One Great Delusion (which is gradually being dispelled) is that the U.S. Economy can/is somehow stronger than all the rest and can stay stronger despite the decelerating Eurozone and China and Japan.
Even putting aside the USA’s $19 Trillion Deficit and its $200 Trillion plus downstream unfunded liabilities and a congeries of lousy Economic News, the Fact is that Prospects for the U.S. Economy are closely linked to the prospects for the rest of the World.
As earlier mentioned, There is $9 Trillion of $US denominated credit outstanding to Non-Bank Borrowers outside the USA. Consider the potential Ripple (Tsunami!) Effect when Significant Numbers of Defaults begin and, especially, when the $555 Trillion (including Derivatives) Credit Bubble begins to Burst.
We have already laid out Triggers for and Signals of an impending Crash Leg.
And the Fundamentals we have earlier laid out support our View, e.g., U.S. Consumption Growth Peaked in Q1 2015!
And consider the Worldwide Market—Euro Data (especially German Data) are in the red and decelerating. And admitting Millions of Dependent and largely unassimilable, discontented migrants will only exacerbate their problems (and the USA’s as well — over 50% of legal (1.5 million per Year) and hundreds of thousands of illegal immigrants to the USA annually are on one or more taxpayer-funded welfare programs – cis.org.). Europe is headed for a Deeper recession, and thus the ECB will likely do more QE, and the Euro will suffer more weakening, and now we add Geopolitical Risk of Wider War in the Mideast, which still supplies much of the US’s and World’s Oil.
In sum, there is a Bearish Divergence between Prices and other indicators. And the Economic Fundamentals (Global Contraction, e.g., Inventories at Levels typically preceding crashes) and Interventionals—years of Artificial Equities Market Elevation by The Fed and other Central Banks leading to Bubbles—now support/generate the Technicals signaling most Equities-in-General have begun a Major Multi-Monthdowntrend around the World.
And we reiterate that $9 Trillion in $US denominated debt Worldwide will start to implode sometime in the next few months and create a Negative Chain Reaction — a Mega-Trend to be sure.
The Mega-Trend is down.
Importantly, the likely Trigger for the next Major $US Crash will likely be the next Round of Fed QE (probably mid to late 2016) which will likely come after a Major Equities Crash Leg plays out.
After that, (i.e., late 2016 or in 2017) the U.S. Government Bond Bubble also will likely begin to burst because the $US will, by then, have begun to be substantially devalued.And The Key Signal that the Bond Bubble Burst is impending (likely months away) in 2016 will likely be a Spike Up in yields for the 10 and 30 Year U.S. Treasury Bonds. The foregoing will be Signals the Massive $555 (including Credit-Based Derivatives) Trillion Bond Bubble is Bursting.
But we reiterate that before that (next very few months) we expect U.S. Treasuries to strengthen as Ostensible Safe Havens during the Initial Equities Crash, as they have just this January.
But although Economic Deflation is occurring, Price Inflationary Pressures are building thanks to The Fed’s and other Central Banks’ Competitive Money Printing Policies (i.e., Monetary Inflation).
Indeed, when (late 2016-2017) The Fed launches another Round of QE, it will further weaken the Exchange Rate Value of the $US and likely launch serious Price Inflation. Then Gold and Silver will likely Skyrocket.
In sum, likely beginning no later than the end of 2016, we expect the $US to begin to Tank vis à vis the Precious Metals and eventually, vis à vis stronger Currencies (e.g., the CHF & Canadian & Aussie $ and the (de facto Gold-Backed) Yuan). And the $US Drop will be amplified when The Fed initiates another round of QE.
Mid- to Longer term, the Euro and Yen too will also likely weaken vis à vis the aforementioned stronger Currencies and the Precious Metals. Indeed, the weakening vis à vis the Precious Metals has begun, albeit fitfully.
Longer term, we agree with Shadowstats’ John Williams who says
“Significant upside Inflation pressures are building, as oil prices rebound, a process that should accelerate rapidly with the eventual sharp downturn in the Exchange Rate Value of the $US.”
Yes, Stagflation is coming.
Hyper Price Inflation is coming, and the way to prepare is with Gold, Silver and selected (e.g., in Agriculture) Hard Assets which are both Inflation and Deflation Resistant.
So consider the likely response of the Mega-Banks to the foregoing Financial Armageddon(and then consider Deepcaster’s Recommendations for Profit and Protection).
One likely response is “Bailins”. As Ellen Brown points out…
“…Bank bail-ins have begun in Europe, and the infrastructure is in place in the US. (! Emphasis added) Poverty also kills…
“At the end of November, an Italian pensioner hanged himself after his entire €100,000 savings were confiscated in a bank ‘rescue’ scheme. He left a suicide note blaming the bank, where he had been a customer for 50 years and had invested in bank-issued bonds. But he might better have blamed the EU and the G20’s Financial Stability Board, … (which imposed an ‘Orderly Resolution’ regime) that keeps insolvent banks afloat by confiscating the savings of investors and depositors. Some 130,000 shareholders and junior bond holders suffered losses in the ‘rescue.’…
“A Crisis Worse than ISIS?” Ellen Brown,
And all this is a Harbinger for what is coming in the U.S.
Yes, indeed, we mean there is a Real Possibility your Savings and Investments will be confiscated!! And All for what? Ellen Brown explains …
“That is what is predicted for 2016: massive sacrifice of savings and jobs to prop up a ‘systemically risky’ global banking scheme….
“[It is] entirely possible in the next banking crisis that depositors in giant too-big-to-fail failing banks could have their money confiscated and turned into equity shares. . . .
“If your too-big-to-fail (TBTF) bank is failing because they can't pay off derivative bets they made, and the government refuses to bail them out, under a mandate titled ‘Adequacy of Loss-Absorbing Capacity of Global Systemically Important Banks in Resolution,’ approved on Nov. 16, 2014, by the G20's Financial Stability Board, they can take your deposited money and turn it into shares of equity capital to try and keep your TBTF bank from failing.
“Once your money is deposited in the bank, it legally becomes the property of the bank. Gilani explains:
“Your deposited cash is an unsecured debt obligation of your bank. It owes you that money back.
As well, Note that, in a crisis, your chances of recovering your money from Bailins are low to zero.
“At first glance, the “bail-in” resembles the normal capitalist process of liabilities restructuring that should occur when a bank becomes insolvent. …
“The difference with the “bail-in” is that the order of creditor seniority is changed. In the end, it amounts to the cronies (other banks and government) and non-cronies. The cronies get 100% or more; the non- cronies, including non-interest-bearing depositors who should be super-senior, get a kick in the guts instead. …
“In principle, depositors are the most senior creditors in a bank. However, that was changed in the 2005 bankruptcy law, which made derivatives liabilities most senior. …
“What about FDIC insurance? It covers deposits up to $250,000, but the FDIC fund had only $67.6 billion in it as of June 30, 2015, insuring about $6.35 trillion in deposits. …
“When super-senior depositors have huge losses of 50% or more, after a ‘bail-in’ restructuring, you know that a crime was committed.” [Emphasis added.]
Indeed! And what are possible Solutions?
“You can move your money into one of the credit unions with their own deposit insurance protection; but credit unions and their insurance plans are also under attack. …
“In short, the goal of the bail-in scheme is to place losses on private creditors. …
“Meanwhile, local legislators would do well to set up some publicly-owned banks on the model of the state-owned Bank of North Dakota – banks that do not gamble in derivatives and are safe places to store our public and private funds.”
And there are other alternatives which we lay out in our recent Letters and Alerts.
Key among them are Physical Gold and Silver and some Physical Cash.
As well, Trading the Markets on the Short Side is essential for both Profit and Protection!!
In addition, remarkably, and notwithstanding the $US move up in recent weeks (usually $US Up Moves are Gold and Silver price-Negative in $US Terms), Gold has popped back up over $1090s and Silver back up to around $14 as we write, despite ongoing Cartel (Note 3) Price Suppression Efforts.
Slowly but surely, the Equities Weakness and heightened Geopolitical Risks and Weaker Economies, will be persuading Investors that the True Safe Haven Assets are these Precious Metals. In sum, the long painful wait for Gold and Silver Partisans is soon to be over, notwithstanding Cartel Price Suppression Efforts. As Equities experience another Crash Leg and the Credit Bubble shows more signs of The Big Burst, we expect that the Precious Metals launch will accelerate.
We expect Silver to jump higher too, if not lead the Way, because it is both an industrial Metal (which gets used up!) and Store of Value. Re. Silver Note
- The Average Yield fell from 13oz per tonne in 2005 to 7.8oz per tonne in 2014
- But Production Costs are Rising notwithstanding recent lower energy costs
In sum, Today, the Market Price of both Gold and Silver is close to the cost of production and that can not continue much longer.
However, very short-term (next few days or very few weeks), given The Fed rate rise and ongoing Cartel price suppression efforts, Gold and Silver could tank (with Cartel Help, of course) back toward $1050 and $13 over the next few days or very few weeks but this is less and less likely as the days pass.
In any event, Gold and Silver will probably spike up even more, sometime in the next few weeks or very few Months, smelling that more QE and Chaos are coming soon.
Furthermore, consider that, in light of the Massacres and Wars, and given that the USA is The Ostensible Safe Haven, U.S. Treasuries and especially the $US have been strong recently, and these have delayed the Precious Metals’ launch up.
And the Precious Metals have been pushed down too, given the fact that (until recently) relatively high Equities prices provide cover for the Illusion that the U.S. Economy is recovering.
In sum, $US strength plus ongoing Cartel Precious Metals price Suppression both have had Gold and Silver Prices Chopping Sideways. But all this is changing.
Indeed, Consider that, Mid- and Long-Term, with:
1) The Threat of Wider War in the Mideast or War over the Spratleys in the South China Sea
2) The Eurozone in recession, and
3) China and the Emerging Markets in Deceleration or Outright Contraction, and
4) Japan still slowing and
5) The USA in an unacknowledged deepening Recession
6) The Threat of more Immigrant Terrorist Attacks in Europe and the U.S.
7) And Major Central Banks are competing to devalue their currencies!
8) And $9 Trillion is $US denominated Private Debt at Risk
9) The Fed’s ZIRP-created Bubbles
10) $550 Trillion in Credit Derivatives Exposure
…and all despite various Forms of Massive Intervention, there simply is, increasingly, nowhere to turn for a Safe Haven mid- and long-term, with the Potential for both Profit and Protection but Gold and Silver, and selected Agricultural and Water Assets and Enterprises.
Therefore, the Trend should soon be clearly UP again for these Precious Metals albeit slowly and very choppily at first.
January 15, 2016
Note 1: Shadowstats.com calculates Key Statistics the way they were calculated in the 1980s and 1990s before Official Data Manipulation began in earnest. Consider
Bogus Official Numbers vs. Real Numbers (per Shadowstats.com)
Annual U.S. Consumer Price Inflation reported December 15, 2015
0.50% / 8.12%
U.S. Unemployment reported January 8, 2016
5.01% / 22.9%
U.S. GDP Annual Growth/Decline reported December 22, 2015
2.15% / -1.43%
U.S. M3 reported January 8, 2016 (Month of December, Y.O.Y.)
No Official Report / (e) 4.49% (i.e., total M3 Now at $17.05 Trillion!)
Note 2: Our attention to Key Timing Signals and Interventionals and accurate statistics has facilitated Recommendations which have performed well lately. Consider our profits taken in recent months in our Speculative and Fortress Assets Portfolios*
• Appx 75% Profit on short U.S. Equities Sector TODAY! (01/15/2016)
• 28% Profit on a Long Treasury Bond Treasury Bond Position on January 12, 2016 after just 71 days (i.e., about 140% Annualized)
• 45% Profit on Long Treasury Bond Treasury Bond Position on October 1, 2015 after just 22 days (i.e., about 775% Annualized)
• 265% Profit on Short NASDAQ Position on September 29, 2015 after just 57 days (i.e., about 1690% Annualized)
• 110% Profit on Short Russell 2000 Position on August 21, 2015 after just 3 days (i.e., about 13500% Annualized)
• 65% Profit on Short Russell 2000 Position on August 20, 2015 after just 2 days (i.e., about 12000% Annualized)
• 40% Profit on Short a Retail Sector ETF Position on August 7, 2015 after just 4 days (i.e., about 3630% Annualized)
• 80% Profit on Short a Retail Sector ETF Position on July 27, 2015 after just 6 days (i.e., about 4850% Annualized)
Note 3: We encourage those who doubt the scope and power of Overt and CovertInterventions by a Fed-led Cartel of Key Central Bankers and Favored Financial Institutions to read Deepcaster’s July, 2014 Letter entitled "Profit, Protection, Despite Cartel Intervention" in the ‘Latest Letter’ Cache at www.deepcaster.com. Also consider the substantial evidence collected by the Gold AntiTrust Action Committee at www.gata.org, including testimony before the CFTC, for information on precious metals price manipulation, and manipulation in other Markets. Virtually all of the evidence for Intervention has been gleaned from publicly available records. Deepcaster’s profitable recommendations displayed at www.deepcaster.com have been facilitated by attention to these “Interventionals.” Attention to The Interventionals facilitated Deepcaster’s recommending five short positions prior to the Fall, 2008 Market Crash all of which were subsequently liquidated profitably.
10 Predictions for 2013- HISTORY NOW
I don’t have a crystal ball, but my forecasts are based on market timers and analysts who have made good calls, including Bob Hoye, David Ben Simon. Imitating the likes of Warren Buffet and John Templeton is key to succeeding in various market conditions. While 2009 has seen a sharp snapback from the fall crash in 2008, all signs point to 2012 as being volatile with upwards direction. Here is what I see on the horizon for the upcoming year.
1) The stock market will do well in real terms in 2013, with the Dow Jones Industrial Average being range bound between 13000 and 16,000. Volatility will engulf the markets with plenty of counter-trend rallies. Stay with the trend by looking a volume indicators and drawing lines for the channel to guide decisions. Risks are increasing but this is a stock pickers market and certain sectors are leading like healthcare. Inflation when/ or if it starts will cause nominal prices to increase for most asset classes so don't be fooled into false market moves.
2) Unemployment will fall but remain high.
3) Real estate prices will continue to rise but higher mortgage costs will dampen demand. Commercial real estate will finally follow residential, as price declines accelerate due to foreclosures on shopping malls, retail outlets, office buildings, etc. Look for interest rates to increase in the later half of the year because of inflation pressures.
4) Bailouts will continue but we don't hear much of that in the media as some banks in Europe are in trouble.
5) Deflation will subdue and the first signs of inflation will appear in the back half of 2013 as the trillions in bailout dollars begin to flow into the economy. The price declines that are a result of liquidation and de-leveraging, will give way to skyrocketing prices as politicians continue trying to print and borrow our way out of bad times. This will lead to prediction #6.
6) The dollar will resume its downtrend and make new lows into 2015 but for now it should remain the best of the worst. This will start sometime at the end of 2014 with the dollar reaching into the 70’s as the world loses confidence in the U.S. currency and the U.S. government’s ability to repay its debt.
7) Oil will rise on middle east fears and find a “fair price” somewhere in the $75 - $120 range, where it will float for much of the year. This will benefit alternative energy companies, although any gains will be muted by credit contraction and the overall market decline. However, sooner or later changes will have to be made to reduce our dependance on oil. Natural gas, nuclear, wind, geothermal, solar and other sources of energy will be helpful to alleviate these concerns. Conserving fresh water will be even more important in the future.
8) Agriculture prices will be stable as supply is adequate but asian demand should keep prices higher than 2012.
9) Gold will make a new all-time (nominal) high reaching a price of $2300 or more during 2015. for now gold is not likely to take off but slowly work higher with time. A panicked flight to safety could push gold towards $4000, although the central banks will dump paper gold on the market or make other attempts at suppressing the price advance. Silver will outpace gold and make nominal new highs as companies stock up and investors trade paper for physical.
10) All of the above will lead to increased crime and civil unrest with protests in the streets, bank runs and an increased police and military presence trying to bring stability to cities.
The United States is essentially bankrupt and running on borrowed money and borrowed time. Many Americans will be facing severe financial hardship for the first time in their lives. Canada being a more resource based economy will come out of the recession much faster but that is largely determined by emerging markets but could also suffer a real estate decline in some areas where jobs are cut.
The silver lining is that these conditions are necessary to shake our apathy, demand better from our government, our community and ourselves. It is tough medicine, but is a necessary prescription that will force the change that is needed in this country and the world. We have to hit rock bottom, feel hardship, liquidate excesses and rampant corruption from the system, restructure our government, economy and entire social system. It is not going to be a pleasant undertaking but I am optimistic that we will emerge with a much better world and way of life.
In the meantime, you should be doing everything you can to stay informed, protect your assets and prepare for the transition ahead. Emerging markets have the most potential to keep growing and develop so that will help to prop up commodity prices. I don’t anticipate conditions to improve in developed countries for at least another 3-5 years as more and more baby boomers look to retire reducing the tax base and putting more pressure on the younger generations.
Remember that predictions are predictions and future government policies and actions are not known. Please due your own due diligence and consult financial advisors for additional sources of information.
Shield your portfolio from the next stage in the crisis November 2009
By Nick Barisheff
Part 1: "The Next Crisis: Spiralling Inflation" was released in October 2009. Click here to read.
"Under a paper-money system, a determined government can always
generate higher spending and hence positive inflation."
- Ben Bernanke
The investment world is a risky and confusing place right now. Part 1 of this article (The Next Crisis: Spiralling Inflation) detailed the reasons why the next stage in the financial crisis will almost certainly be spiralling inflation. This article (Part 2) provides a solution for investors who are looking for a way to shield their hard-earned wealth from the destruction of high and uncontrollable inflation.
The best inflation hedge in the world: precious metals The best way to preserve and protect wealth in this troubling environment is to diversify into an asset class that has provided tangible, non-depreciable wealth for thousands of years: precious metals. Precious metals are a new option on the radar screens of many financial planners and advisors, most of who have never witnessed a bear market, and whose main focus is on stocks and bonds. Conventional belief says these asset classes provide more than enough diversification for most portfolios. But conventional belief is dangerously wrong because stocks and bonds have moved in unison for decades. As a result, they have proven to be a poor crisis hedge and a poor recession hedge. But what’s most dangerous about stocks and bonds right now is that they are a terrible hedge against inflation. And while it appears to be low on the list of investors’ concerns, inflation is coming.
Gold and precious metals cannot be devalued A shrinking dollar, decreasing purchasing power and the destruction of real wealth are the major consequences of inflation. Fortunately, gold and precious metals preserve their purchasing power, no matter how high inflation gets. Because precious metals are priced and traded in depreciating US dollars, they will surge in value as the dollar shrinks. For the past several decades, inflation has been ravaging our purchasing power, but few have noticed. As Figure 1 shows, the US and Canadian dollars have lost over 80 percent of their value since 1971. Not coincidentally, this was the year the link to the gold standard was cut. Yet while the world’s currencies have declined precipitously, the price of gold, silver and platinum have surged.
Some common myths about gold Before we examine investing in precious metals, it is important to dispel some common myths that surround gold, silver and platinum in general and gold in particular. No other asset class is burdened by so much disinformation as is gold. Investors who do not take the time to examine why they should allocate part of their portfolio to precious metals are missing out on the opportunity to add a unique asset class that diversifies, protects against inflation and, in secular bear markets, provides better returns than traditional financial assets such as stocks and bonds.
Myth 1 - Gold is a bad investment Critics frequently remark that since gold peaked at $850 per ounce in January 1980, gold’s return has been poor compared to the major stock indices. However, that peak price was a short-lived, single-day aberration. Investors who avoided the mania phase by purchasing gold one year earlier in 1979, were buying at an average price of $306 per ounce. Thus, they would have avoided any significant losses during the subsequent bear market. Bear markets last a long time no matter what asset class is involved. The previous bear market cycle in stocks lasted from 1968 to 1980, and saw the Dow remain flat for 17 years. Gold, meanwhile, surged by 2,300 percent.
Most money managers today are not old enough to have experienced the last bull market in gold or the 1964–1982 bear market in equities. Their entire investment experience has been confined to one cycle - the biggest and longest-running equity bull market in history. In the current cycle, which began in 2002, gold has increased by over 300 percent, while the Dow has been flat to negative. Yet while gold has risen to $1,000 per ounce, its price still has a long way to run.
Myth 2 - Gold is not a good inflation hedge The arguments against gold as an inflation hedge are usually based on calculations arising from its intra-day price spike in 1980. While gold did not keep up to inflation from the 1980 peak price to 2002, the annual average gold price has kept up extremely well since 1971, when the price was no longer fixed. During the same timeframe, both the Canadian and the US dollar lost about 80 percent of their purchasing power. In fact, all the world’s major currencies have depreciated by significant amounts due to continuous excessive increases in the money supply. The impact of this devaluation on real returns is significant. Conversely, gold has not only maintained its purchasing power but increased it against all major currencies. It will continue to do so as long as the world’s central banks keep increasing the money supply by a greater percentage than their country’s GDP growth.
Myth 3 – Gold is too risky Risk means different things to different investors. A pension fund may perceive risk as a failure to meet its liabilities, whereas an asset manager may view risk as a failure to meet its benchmark. Most investors, however, associate risk with a loss of their capital or underperformance of their investments in comparison to their expectations. “Risk comes from not knowing what you are doing,” according to Warren Buffett. There are many kinds of risk: currency risk, default risk, market risk, inflation risk, systemic risk, political risk, interest rate risk and liquidity risk. While all of these apply to financial assets, most of these risks do not apply to gold bullion. Physical bullion is not subject to default risk, liquidity risk, political risk, inflation risk or interest rate risk. Unlike financial assets, gold bullion cannot decline to zero, and gold is the only asset that can protect wealth from non-diversifiable systemic risk.
Myth 4 – Gold does not pay dividends or interest The Bank of England used this argument to justify selling half the country’s gold holdings at the bottom of the gold market in 1998. It wanted a “safe” investment, one that would generate interest, and it chose US Treasury bills. Its gold was sold for under $300 per ounce. In the months following that sale, the price of gold tripled, and the value of the US dollar lost 30 percent against the British pound. The currency exchange losses plus the opportunity cost resulted in billions of pounds in losses, significantly offsetting any interest income the Bank might have received. The same is true for bond investors. In an inflationary environment, the “real” or inflation-adjusted interest rate they receive is often negative. Gold’s capital appreciation potential is many times greater than the prevailing interest yields, while not being subject to any of the risks that interest-bearing investments are subject to.
Investors who take the time to carefully evaluate the benefits of bullion will realize that these and other commonly held myths simply do not hold up to scrutiny.
An investment in peace of mind An investment in gold and precious metals bullion is not speculation; it is a means of preserving wealth, especially in times like these. Wealth is never an easy thing to protect, but it is most difficult when inflation is unleashed. Just take a look at the 1970s to see how devastating double-digit inflation was to personal wealth. Stocks sank and didn’t start to recover for 17 years. Unlike stocks and bonds, precious metals provide the protection portfolios so desperately need because they move in the opposite direction to stocks and bonds. This is not a trade secret or some investor’s cockamamie theory. It has been proven with research.
Why are the diversification benefits of precious metals bullion not better known in the investment community? Because the research is not widely promoted by stock and bond managers (for obvious reasons). In a landmark 2005 study, Ibbotson Associates, one of the world’s leading asset allocation research firms, determined that precious metals are a superior diversifier, as Figure 2 shows. A growing number of financial experts are recognizing precious metals’ diversification power and the need for a change in the current thinking about asset allocation. MIT finance professor Andrew Lo says, “The basic principles of asset allocation need to be revised,” while Canadian financial planner Jim Otar warns that many baby boomers are going to be in retirement trouble “because of the prevailing faulty financial models.”
Six key reasons to invest in precious metals Despite the recent rebound in the markets, the financial system is in tatters, US government debt is enormous and increasing, fiscal discipline is years away and inflation is the only politically acceptable way out. With so much uncertainty and so many economic problems, there are more reasons than ever to invest in precious metals. Here are six:
- Protect against inflation and a shrinking dollar
- Protect against hyperinflation
- Protect against deflation
- Provide true portfolio diversification
- Offer a powerful secular growth opportunity
- Protect against a financial crisis
1. Bullion protects against inflation and a shrinking dollar On an inflation-adjusted basis, US stock markets have lost close to 40 percent of their value during the past nine years. But that was before trillions of dollars began being created out of thin air. The more dollars that are created, the less each one is worth. A shrinking dollar means rising inflation and falling wealth. Because precious metals are the world’s only non-depreciating currency, they protect investors against the continually shrinking US and Canadian dollars. It is crucial to understand that since most portfolios are measured in depreciating dollars, the real value of portfolios is declining every year as decades of inflation steadily erode the value of accumulated wealth. But when inflation spirals, the erosion becomes a tsunami. Did you know that a modest 3 percent inflation rate will cut a portfolio in half in just 24 years? Or that a 6 percent inflation rate will cut a portfolio in half in just twelve years? These are disturbing numbers.
The US government and the US Federal Reserve have so far pledged an astonishing $12.8 trillion in bailouts and stimulus programs. That is nearly the total amount of US GDP, or Gross Domestic Product. And this number does not even include America’s $100 trillion liability: its unfunded public health and pension obligations. When the bulk of US government spending gets underway, and the banks begin lending again, inflation will be unleashed in full force, and portfolios will suffer if they do not have a substantial allocation to precious metals.
There is much confusion about the definition of inflation. Some believe inflation is rising prices. The accurate definition of inflation is an excessive increase in the money supply that leads to rising prices. Increasing money supply is the cause; increasing prices are the effect. In recent years, studies show that most industrialized countries have been increasing M3 by more than double the reported increases in the Consumer Price Index (CPI). And now, in an effort to contain the crisis, the US Fed’s balance sheet has exploded, as can be seen in Figure 3.
Precious metals offer investors unparalleled inflation protection over time. In 1971, you could buy a car for 66 ounces of gold, buy a house for 703 ounces and “buy” the Dow for 25 ounces. Today, the same amount of gold will purchase several cars and several houses, while you can buy the Dow with less than half as much gold. This trend is not only expected to continue but to dramatically accelerate because, as Merrill Lynch economist David Rosenberg points out, “the new growth engine for the economy is government spending.”
“In the absence of the gold standard, there is no way to protect savings from confiscation through inflation.”
- Alan Greenspan
Many believe that precious metals are just commodities that will depreciate in value during an economic downturn. If that is true, why do the major banks and brokerages trade gold, silver and platinum bullion at their currency desks, not their commodity desks? The world’s monetary authorities – the central banks – own an enormous 29,000 tonnes of gold bullion, which is 18 percent of the world’s aboveground reserves. That total is only slightly less than their holdings in 1980. Why have they not sold their bullion after all these years? Because they know that bullion is money and can be used for trade if their currency becomes worthless. Although central bankers are fierce supporters of paper-based currencies, investors should look to their actions and not their words to see what they really think about precious metals. This year, central banks became net buyers of gold for the first time in 22 years.
2. Bullion protects against hyperinflation If the money supply is increased too quickly, the compounding effects of interest payments can ultimately lead to hyperinflation, which is generally defined as greater than a 4-digit annual percentage rise in prices. Hyperinflation creates a vicious circle in which the widespread desire to spend rapidly depreciating money results in skyrocketing prices that soon make the currency virtually worthless. In a hyperinflationary environment, goods and services become so costly that no one can afford them, a country's currency becomes worthless, international trade ceases and economic chaos ensues. A classic example of this occurred during the reign of the German Weimar Republic from 1919-1923. In 1919, one ounce of gold was 75 marks. By 1923, it was 23 trillion marks. But Germany is just one of numerous cases of hyperinflation since the beginning of the 20th century.
“It makes no difference to a widow with her savings in a 5 percent passbook account whether she pays 100 percent income tax on her interest income during a period of zero inflation or pays no income tax during years of 5 percent inflation. Either way, she is ‘taxed’ in a manner that leaves her no real income whatsoever. Any money she spends comes right out of capital. She would find outrageous a 100 percent income tax but doesn't seem to notice that 5 percent inflation is the economic equivalent.”
- Warren Buffett
“How Inflation Swindles the Investor,” Fortune, May, 1977
In 2009, we have entered the early stages of a global government spending spree of unprecedented proportions that, coupled with zero percent interest and extraordinary money supply growth, will inevitably be hugely inflationary once the credit markets return to normal. Financial assets will continue to lose purchasing power in this kind of environment, but gold and precious metals will hold theirs because they are a proven hedge against inflation and against an investor’s worst enemy, hyperinflation.
While previous hyperinflations were contained within a single country, this time it is likely to be global in nature because of the reserve status of the US dollar. The US money supply has been growing at an alarming rate for years, and in 2008, despite a slowdown in lending and credit, money supply still grew dramatically with M3 (the broadest measure of money supply) increasing at about 11 percent, as Figure 4 shows. Over the long term, M3 increases have been the best leading indicators of future increases in the price of goods and services.
Precious metals are the only currency to own when central bank printing presses are debasing global currencies at a historic rate. And because they are a proven store of value, precious metals may be the only asset class that will preserve your portfolio’s purchasing power as we enter a prolonged period of inflation or stagflation.
Since precious metals are the only asset class with a positive correlation coefficient with inflation, if inflation heats up, so too will the price of precious metals. Studies by Wainwright Economics show that gold is also an excellent predictor of inflation when compared with other measures such as the CPI and oil. In fact, many of the world’s leading financial authorities rely on gold prices as a predictor of future inflation, including former US Fed Chairman Alan Greenspan.
In addition, precious metals’ upward climb will also be spurred by the imbalance between aboveground bullion and the money supply (the money being printed and released into circulation by the world’s central banks). This year, total global supply of investable aboveground bullion will reach $1 trillion, while US money supply alone will amount to ($14 trillion). This enormous disparity cannot continue without a significant upward price adjustment in gold.
3. Bullion protects against deflation What investors experienced in 2008 was not price deflation. It was depreciation in asset values. Stock and real estate values fell, but the cost of living did not. Deflation is a highly unlikely scenario because the central banks are publicly committed to printing as much money as needed to prevent it. But if deflation were to occur, precious metals investors need not worry. Since cash is king during deflation (the further prices fall, the greater cash’s purchasing power), and since precious metals is money, its purchasing power will grow during a deflationary period. A major study by Roy Jastram, “The Golden Constant”, concluded that gold preserved purchasing power during periods of inflation as well as deflation. During a deflation, gold’s purchasing power increases because every ounce of the metal buys more goods or services the more prices drop. During the deflationary deleveraging of 2008, for example, the value of virtually every investment tumbled, but gold bucked the trend, rising 5 percent.
4. Bullion provides true portfolio diversification Most investors know their portfolios should be fully diversified, yet they continue to be invested in only stocks, bonds and cash. But it is hazardous to your wealth to invest in so few asset classes. While cash may seem to be a safe haven, it won’t protect against rising inflation because (as we have seen recently with money market funds) it can lose value in both nominal and real terms. Low or negative correlations between asset classes are the basis for diversification, but few investors realize that because today’s sophisticated financial markets are globally integrated, they all tend to move together.
Only precious metals provide the necessary negative correlation to stocks, bonds, real estate and Treasury bills, so they historically rise in value when stocks, bonds, real estate and Treasury bills fall. That’s why no other investment reacts to market downturns as well as precious metals bullion. As Figure 2 shows, precious metals are the only asset class that is negatively correlated to large cap stocks. Without them, your portfolio has no diversification at all. It may seem that a mix of growth stocks, value stocks, emerging and developed market stocks, large cap, mid cap and small cap stocks would provide adequate diversification protection, but because they are all the same asset class – equities – they tend to move together.
5. Bullion offers a powerful secular growth opportunity The secular bull market in precious metals began in 2002, and entered its second phase in the summer of 2005. Secular investment cycles are normal, and stocks are highly sensitive to these cycles, as confirmed by recent data. Since the 21st century began, the S&P 500 has gone absolutely nowhere. Meanwhile, gold and silver have soared nearly 300 percent, while platinum has gained 185 percent (Figure 5).
In 2008, McKinsey & Company reported that the value of the world's equities declined by $28 trillion, or almost half their value. Though the markets have rebounded lately, only some $4.6 trillion in value had been gained between December 2008 and the end of July 2009. In total, declines in equity and real estate wiped out $28.8 trillion of total global wealth in 2008 and the first half of 2009. Many stockholders are coming to grips with the ugly truth: supposedly diversified funds just end up tracking a declining market, while 75 percent of all actively managed funds underperform the market. This last fact is just common sense. After all, it is impossible for the majority of fund managers to outperform the market because they are the market.
History shows us that the market trends into and out of secular (long-term) bull and bear markets over 15- to 25-year cycles.
The Dow:Gold Ratio confirms precious metals’ secular growth trend Has bullion had its run? Not if you pay attention to producers such as Barrick Gold Corporation and AngloGold Ashanti. They are de-hedging in the face of rising prices and buying back their hedge books at a stiff premium to avoid further losses. Clearly, they believe gold prices will continue to rise. According to Scotiabank, gold is projected to reach at least $1,400 per ounce in 2010. The continued rise in price is supported by the Dow:Gold Ratio, which measures trend changes in the price of gold versus a basket of stocks as represented by the Dow.
The Dow:Gold Ratio divides the Dow by the US-dollar gold price. As Figure 6 shows, when the purple line is rising, as it did in the 1920s, the 1960s and the 1990s, it tells us that the Ratio is rising and we are in a bull market for stocks. When the Ratio is falling, as it did in the 1970s and is doing today, it tells us that we are in a bull market for gold. Currently the ratio is less than 10:1 and equally important, is falling, meaning there is still plenty of time for investors to rebalance into gold and precious metals. It is vital to rebalance your portfolio when a major trend change occurs, not only to reduce risk but also to maximize your portfolio return.
6. Bullion protects against financial crises Precious metals bullion can successfully protect portfolios from a variety of shocks including systemic risk, currency crises, stagflation and inflationary depression. After exhaustive research, British economist Stephen Harmston reported in a paper entitled “Gold as a Store of Value, Research Study No. 22” that gold has held its purchasing power every time financial assets have declined in value. This once again proved to be the case in 2008 as gold appreciated in value while the markets and the economy melted down before our eyes.
Precious metals offer the ultimate protection against what economists call “fat tail” events – sudden, unexpected financial crises. Examples of fat tail events are war, terrorism, natural disasters, health pandemics and systemic financial risks such as a derivatives accident, bankruptcy of a major bank or a major corporation, defaults on bonds, derivatives contracts, insurance contracts and disruption of oil supply. When any of these occur, traditional financial assets suffer while the price of precious metals tends to rise dramatically.
Ibbotson Associates confirmed this by reporting that “during periods of stress [precious metals bullion] provided returns when they were needed most.” The US Fed continues to print trillions of dollars in an effort to reflate the economy, which means money supply growth will be explosive. If history is any guide, this will lead to a US dollar currency crisis. If US dollar holders like China become tired of US monetary policy and decide to stop buying US Treasuries, it is possible that America could become the new Argentina and default on its debt.
The destructive power of uncontrolled money expansion has already been experienced in Mexico, Brazil, Argentina, South-East Asia, Japan and Russia. Each experienced a major currency crisis accompanied by plunging stock markets and collapsing real estate markets, while many bonds and other debt instruments became worthless. In all of history there has not been a paper currency that has not become completely worthless... not one. Precious metals prices increased dramatically during these currency crises, acting in their traditional safe-haven role.
How to invest in bullion Only precious metals provide an assured store of value under any type of market. But not all precious metals investment vehicles are created equal. Take mining stocks, for example. They tend to be significantly more volatile and risky than physical bullion, and during sharp market declines they tend to follow the broad equity markets downwards – even if the price of the metal is rising. During the stock market crash of 1987, for example, mining stocks declined by a greater amount than equities in general, while the price of gold increased. Mining companies are exposed to many operational risks and can decline to zero; bullion cannot.
The following chart (Figure 7) shows the different investment vehicles based on inherent risk. Each of these methods carries a different risk/reward profile. During periods of economic uncertainty, wealth preservation is critical, and unnecessary risk should be avoided. That is why gold certificates and gold ETFs are not appropriate substitutes for direct allocated bullion ownership. These derivative vehicles create many unanswered questions and have come under growing scrutiny from the precious metals community in recent months.
The best investment strategy for long-term investors seeking low risk with secular growth potential is unencumbered physical bullion. As you can see, bullion forms the foundation of the Precious Metals Risk Pyramid as it offers the lowest risk.
There are many ways to invest in bullion, but there is only one way to invest if your goal is absolutely secure wealth protection. For full details, read our Special Report, “How to Invest in Precious Metals”.
Why invest now? The world has become a riskier place, volatility has become the norm, and systemic risk is a constant threat. This is a major reason why China and India are buying tens of billions of dollars worth of gold. In this uncertain environment, investors looking for peace of mind should look to a proven store of value. Stocks and bonds cannot provide that assurance because many of them can, and have, collapsed and gone to zero. Cash and fixed income may seem guaranteed, but in an inflationary environment their value will be quickly eroded, producing a guaranteed loss.
Don’t confuse a bubble with a secular growth story that has many years to run. When we compare the current market to the bull market of the 1970s, it becomes apparent that we are still in the early stages of what could be a 20-year cycle. Determining whether the trend will continue is as simple as looking at the key drivers for precious metals price increases: increasing concern about the weakening US dollar, exploding US debt and rising oil prices. Since precious metals are a store of value and are priced in US dollars, a shrinking US dollar should automatically push metals prices higher. Now is the time to move into precious metals during its secular growth trend because tomorrow may be too late.
The optimal portfolio allocation In a secular bear market for stocks, no amount of diversification within three traditional asset classes (stocks, bonds and cash) will prevent portfolio decline. A portfolio allocation of at least 10 percent (but preferably much more) to physical bullion will reduce overall volatility, improve returns and provide excellent portfolio insurance. How much you should have in your portfolio depends on your time horizon and investing needs, but Ibbotson Associates recommends between 7 percent and 16 percent, while Wainwright Economics recommends between 18 percent and 47 percent during an inflationary environment. But to make money in these troubled times, you will need an even higher allocation in precious metals than those recommended by Ibbotson and Wainwright. Maintaining a portfolio without any allocation to bullion is not only highly risky but irresponsible.
Precious metals bullion represents just a fraction of one per-cent of the value of global financial assets. Yet even after eight years of gains from $250 to $1,100 for gold, from $4 to $17 for silver and from $400 to $1,300 for platinum, most individual investors have no allocation to precious metals whatsoever. As a result, their portfolios are defenceless against systemic risk, the ravages of inflation and further market declines.
Now is the time to diversify Gold is both a currency and a commodity, but because supply is limited and production costs are high, it is a very rare commodity. Global financial assets such as stocks and bonds may not be commodities, but they are as plentiful as apples on trees, as Figure 8 demonstrates. Total global financial assets are valued at an enormous $145 trillion, which is more than twice global GDP – and this is after the financial meltdown. Compare that number to a mere $1 trillion, which is the total value of all the available, investable, aboveground precious metals. Those who say bullion is in a bubble should rethink their assumptions, because bullion is currently priced at a mere one percent of financial assets.
Gold has always been money, and now it is reassuming its traditional role as the ultimate currency. Will it replace the US dollar as the currency of choice? We will soon find out. But one thing is clear. Even a modest 10 percent portfolio allocation to gold by central banks and individual investors would send $15 trillion in new money into a $1 trillion market, sending prices soaring.
There is no need to time the market as the bull has many years to run, and if you are a long-term investor, consider an equal mix of precious metals mining stocks and physical bullion to reduce volatility. If bullion was in a bubble, mainstream magazines would be screaming “buy gold”, and the public would be buying en masse. But the public is not buying – at least not yet, and that’s why now is the perfect time to start dollar-cost averaging into physical bullion.
What about ETFs or other precious metal proxies? Precious metals investment vehicles such as ETFs, futures contracts, options, certificates, pooled accounts and even mining stocks are better suited for speculation because they bring risk into the equation. In contrast, bullion that is owned outright and stored on a fully insured, allocated basis with an accredited custodian is low risk, and should form the long-term foundation of any truly diversified portfolio.
Today, buying and storing allocated bullion has never been simpler. Investors can own units in a physical bullion fund, or they can privately and securely purchase bars of gold, silver and platinum in large bar sizes and have them insured and securely stored at a registered LBMA vault. Visit BMGBullionFund and BMGBullionBars to learn more, or read our Special Report, “How to Invest in Precious Metals”.
How to survive and thrive in inflationary times Bullion is a permanent store of value. It is not someone else’s promise of performance or someone else’s liability, like stocks and bonds. Promises can be broken and liabilities defaulted on, as stock and bond holders in Bear Sterns, Lehman Brothers, Enron, General Motors, AIG and Nortel Networks can attest. Gold, silver and platinum bullion cannot be created at will by central bankers or governments. They will retain their value when many of today’s stocks are nothing more than a distant memory.
The US Fed and central banks have been implementing loose monetary policy for decades. But now, for the first time in history, the Fed has an unlimited ability to create as much money as they need to “reflate” the economy. Richard Fisher, president of the Dallas Federal Reserve, says America has dug themselves a very deep hole through unfunded retirement and health-care liabilities that “we at the Dallas Fed believe total over $99 trillion”. In an environment in which trillions of dollars are being created out of thin air, government debt is at record levels, the CPI is deliberately understated and commodity prices are on the rise, there is only one currency that will survive intact: precious metals.
For reasons we noted in Part 1, and because the Fed can’t simply shut off the money spigot at will, inflation is on its way. When it arrives it will accelerate rapidly and be very difficult to contain. An investment in gold and precious metals is the best way to inflation-proof your portfolio, shield it from eventual sky-high interest rates, and take advantage of a secular growth opportunity that has many years to run. In this troubling economic environment, it is time to strip away old thinking and plan a different kind of investment strategy, because the next 20 years will not be like the last 20. Now is the time to make an investment in the future, and the future is precious metals bullion.