Gold Correction

Gold is one of the few assets in the world which is in a primary bull market, meaning that the asset is rising overall, despite periods of downward movement. We're in one such period now, which is going to act as a brake on all gold-related assets, including mining stocks like Seabridge Gold SA which I've recommended.

I still think the stock is a long term win, but I must say that it's likely it will go into correction mode (in fact, it already has fallen $6 or so from its recent peak, a 20% decline). Those with a short-term frame may think about selling, even at a loss, in order to get back at a lower price.

Since I expect the overall market to begin another period of decline, I like a stock that will move inversely to the market, like DXD. (Remember, DXD is for short-term trading only; it has mathematical characteristics that make it a poor long-term investment.)

I suppose I now have to break my 10 grand bit into two groups: long term and short term. Long term, stay with Seabridge, even though you're down right now. It'll come back. Short term, take the loss and move into DXD while you wait for SA to bottom out.

Cheap Gas

Detroit!

Stop tempting us with your cool new muscle cars, like the new Camaro, which gets 22 mpg (on a completely flat road, driving the speed limit, which I'm sure I will be with a 304 horsepower engine).

What with the fall in gas prices and all, the Camaro is destroying the Honda Insight in the sales department.

I guess the thinking behind the muscle car resurgence is, wouldn't it be nice to go back to a simpler time, when all that mattered was how many horses you had under the hood?

It just doesn't seem like the best move, to stake the fate of the American car industry on denial.

Deflation

The Bureau of Labor Statistics released the Consumer Price Index yesterday, which shows a very small monthly increase since April (0.1%), but the story that's grabbing the headlines is the 12-month drop in prices, or deflation, to the tune of negative 1.3%.

It's a bait and switch story. What number do we emphasize? The scary number, about the deflationary monster? Or perhaps the core inflation number, which excludes food and energy, and shows a 12-month increase of 1.8%? Only two categories in the CPI fell: transportation and energy. Both are tied to the fall in oil and gas prices. Every other category increased.

What does this tell us?

Expect inflation, not deflation to prevail in the coming months.

Ah, Krugman!

To sum up: A few months ago the U.S. economy was in danger of falling into depression. Aggressive monetary policy and deficit spending have, for the time being, averted that danger. And suddenly critics are demanding that we call the whole thing off, and revert to business as usual.

The above is a quote from the marvelous Paul Krugman. I love him; and yet, he's so wrong right now.

Let's be clear: aggressive monetary and fiscal policy have not averted any danger to the economy. The danger is not inflation, nor is it deflation. The danger is economic distortions. That is, massive investment in unproductive economic activity (retail, advertising, finance, etc.). This kind of economic activity does not produce anything, and hence it is the major threat to the economy.

Why are there economic distortions? Why should it be the case that the market, which often gets things right, ought to be disastrously wrong? What causes the distortions is the massive inflation of the money supply. That may lead to inflation or it may even lead to stable prices, even deflation for a time. It all depends on how the extra dollars are used. If they are saved, no inflation in consumer prices. If dollars are spent elsewhere in the world, no inflation (at least in the US). If those extra dollars are spent in the US, expect to see some inflation.

Rising or falling prices is not the danger. The danger is that there is a prolonged period of confusion: what are my assets worth? Is my business viable? Should I start this business? What is the market saying?

If the answers to these questions are unusually obscure for a long period of time, the result will be stagnation, low growth, and unemployment. This is the danger. And it's in full bloom now. More aggressive monetary and fiscal policy will worsen the situation, not make it better.

Stocks Fall

The Dow has, as of this moment, taken a big hit. It feels like the rally is over.

I expect that there may be an upward movement tomorrow, but I think the rally is basically out of steam.

Seabridge took a big hit today, falling to $25. I expect it will go up to $29, but then follow the market down. I think gold may have a big day tomorrow, as a new wave of fear washes investors out of stocks and into the safety of gold.

I'm going to try to sell SA at or around $29, and get into DXD at or around $45.

Arthur Laffer on Inflation

Arthur Laffer created the Laffer Curve, a rather dubious piece of economic theory that entered the economic canon without ever passing through the peer-review cycle.

He has a rather good piece on inflation and monetary expansion in the Opinion section of the Wall Street Journal.

His argument is that the monetary base has increased dramatically, and that this should result in inflation. Since I've been saying the same for some time, I like the argument.

As Gold Continues to Slide, Treasuries Crater, World Openly Debates the Fate of the Dollar

{I wrote this on 6/8, but didn't get around to publishing it until 6/11, which was after the WSJ wrote a cover story on the rising 10-year Treasury!]

The yield on the 10-year US Treasury note is up to 3.88%, [now it's gone up to 3.93%, then slid back to 3.86% today] as prices for the note continue to crater. (Recall that as bond prices fall, yields rise) The battle continues. Since this yield is tied to so many other interest rates, the hazard is that the rising yield will soon become higher interest rates for mortgages, car loans, credit cards, etc. The bigger problem perhaps is, are there borrowers?

It's an economic distortion that interest rates should fall when the economy moves into recession and credit tightens after being loose for so long. What's being revealed is that the risk of default is much, much higher than was previously thought. Naturally, interest rates should rise to compensate for the increased risk. But instead, the Fed tries to go against the market and lower interest rates.

The Keynesian logic is straightforward: because credit is tending to tighten, money destruction ensues through the action of the fractional reserve banking system. However, that destruction of money results in far less aggregate demand. The solution: create money through the central bank (the Fed) equal or greater to the money destruction, lowering interest rates, encouraging firms and consumers to borrow, and stimulating the economy when it most needs it.

Unfortunately, what this Keynesian story overlooks is that the economy has a hangover. The best cure isn't a couple of (trillion) shots of booze, it's a reorganization, a re-thinking of priorities and activities.

The economy has binged on unproductive economic activity: a frenzy of finance, retail, advertising, lawyering and lawmaking. Corporations have turned their attention away from productive investment (the kind that is designed to produce better things) and toward unproductive investment, designed to capture an ever-larger piece of the economic surplus. But since efforts to capture a bigger piece of pie don't actually grow the pie, only so much of US capitalism can be engaged in such endeavors.

Meanwhile, the International Monetary Fund, seeking to retain some kind of relevance, jumps in to say that the world could potentially use a different reserve currency than the US dollar. Of course, their solution is the bogus Standard Drawing Right, administered by an impartial, international central banking organization. I wonder who that would be. Of course, they call for "liquidity", a silly central banking code word which means "fake money". It's obvious that the IMF does not have in mind the creation of a currency backed by an item of real tangible value, such as gold. After all, Keynes called gold a "barbarous relic".

Of course the IMF thinks we're years away from such a "revolutionary" move. Only slowly can we change the global monetary order.

Right.

The world has a way of changing faster than you think. The dollar is already dead. Each country in the world is simply trying to figure out how to edge away from the dollar's corpse before every other country in the world does so. Gold has tripled in price since the year 2000. The technology of producing gold hasn't changed much.

The world faces a choice: either we descend into a morass of distrust, reversing the tide of globalization, retreating behind border walls and tariffs, or we create a new global monetary order that no country, no individual, no corporation can game. That order simply must be based on an item of real value, that no government can manipulate, that holds its value over time, that cannot be destroyed through the printing press. We need the gold standard of money. What could that be?

I'll Be Off For the Rest of the Week

Treasuries are up today, pushing the yield back down to 3.55%. Still too high. With the ten year US Treasury note at that yield, a lot of other interest rates are going to be higher. Still a lot of volatility in this market; today's swing was 2.55%. A lot of movement for any market in one day.

How can the Fed possibly re-inflate this impossibly flaccid credit bubble with high rates?

Commodities took a pause; gold is back under $970, oil retrenched to $66, copper's down to $2.22. A bit of backfilling is in order. I wonder when the next big move up will happen. Next week?

Meanwhile, banks are doing their best to resist honesty and transparency. Here's a piece about their off-balance sheet assets. Isn't it a bit absurd that a corporation would have off-balance sheet assets? What possible rationale could there be for keeping an asset off the books besides lying about its true value?

I'll be traveling for the rest of the week. Have a great weekend!

Ferguson vs Krugman

Historian Niall Ferguson takes Paul Krugman to task in a recent Financial Times piece.

Ferguson is right of course, that the debt load of the US is onerous and that our creditors are starting to wonder if we'll ever pay it back.

While Ferguson is correct that we have not entered a repeat of the Great Depression yet, I think he lays a bit too much emphasis on that fact. Yes, we're not there. Yet. The big difference, of course, is the status of the dollar as the world's reserve currency. That will change, and as it does, a series of painful adjustments will take place in the US.

GM Bankruptcy...

(The picture is of Alfred P. Sloan, the man who created GM as a consolidation of several smaller automakers)

I feel I have to say something about the GM bankruptcy, simply because the story is dominating the news: WSJ, NY Times, USA Today.

Frankly, the story bores me. It's full of wailing and gnashing of teeth, sound and fury, signifying nothing.

Why should I care that GM is going bankrupt? Is it simply because it's a venerable corporation? That doesn't do it for me. A corporation (or any institution) doesn't deserve to continue just because its been around for a while.

In an earlier era, the economist Joseph Schumpeter called capitalism "creative destruction". Like living organisms, corporations are born, they flourish, they fail, they die. When they fail or die, the corporate body (redundant, I know, because both words mean the same thing) becomes food for other economic agents: other corporations, individuals, institutions.

It is only our tendency to cling to the past that makes us think it is somehow wrong that a big corporation should go bankrupt. It's not wrong, merely part of the artificial garden of capitalism. People say, what about the workers? What about the jobs that will be lost?

It's better to clear out an institution that is not functioning, so that new jobs can be created. Americans will still buy cars. So other producers will buy GM's plants and equipment, hiring some of the workers, while others will find new jobs doing other things.

Change is hard. Some people may have to leave the communities they know to find work elsewhere, or they may need to start new businesses, or accumulate new skills. But this change is the cornerstone of the economy. To resist it, to go against it, to prop up these companies and others like GM that made disastrous errors during the boom years, is wasteful, inefficient, and rewards incompetence instead of productivity.

Treasuries Crumple... Again!

Crash... recover... crash.

The price of the bellwether 10-year US Treasury note cratered Thursday, recovered Friday, and now has crumpled again, sending the yield skyrocketing to close at 3.715%.

This is exciting stuff. It's like a pitched battle is being waged over Treasury notes. The yield is like the front line. Meanwhile, the kings of the commodities (oil, copper, gold, silver) are all up sharply. Oil is above $68, gold is above $975, silver is above $15.60 and copper has shot up to $2.30. (Check out NYMEX for a good source on all these commodity prices.)

Remember, this may be a harbinger of higher interest rates, signaling a loss of confidence in the dollar, which would mean the Fed would have a very hard time using monetary policy to stimulate the economy.

What will happen is that interest rates will rise as investors edge away from the dollar and US treasury debt. That will deepen the recession. (Why do I say recession instead of depression? Habit, I guess. There is no technical distinction in economics. There is a joke (sort of): a recession is when your neighbor loses his job. A depression is when you lose yours.) The best strategy for dollar depreciation is investing in hard assets with no debt or leverage whatsoever.

Geneen Roth Interview

Geneen Roth, author of When Food Is Love (and many other books), and a friend of the family, has a podcast of interview she gave after losing nearly everything to the Bernie Madoff fraud. She also has a nice piece in the Huffington Post on the same topic.

It's very touching to me how mature, responsible, yet real are her reactions to losing so much money. The same goes for my mom and my stepdad, my stepmom, and so many of the people I know who lost all or nearly all.

A Funny Madoff Video

This video is by a family friend, Matt Weinstein, who, together with his wife Geneen Roth, is part of the circle of family friends that includes my family that invested with Madoff and lost everything. (I wrote about it in an earlier post)

Now Treasuries Recover!

This is getting exciting.

After a massive sell-off that sent the yield on the bellwether 10-year Treasury note skyrocketing to an intraday high of 3.75%, investors snapped up the debt Friday, sending the yield back down to close at 3.465%. That is one wild ride.

Remember that the Fed would like to see the yield below 3%. A rapid increase in the yield is the market's way of rejecting the Fed's monetary stimulus.

It's interesting that the market had such a rapid snap-back. No doubt some investors were seeking bargains. Was one of those investors the Fed?

The dollar is coming apart. Was this a warning shot or the beginning of the final conflict?

Stay tuned...