When I wrote last week that the Fed would do QE 2 and the trade of the century, granted that was over the top, was leveraged bull 20+ year ETF’s I received some flack, a lot actually. First, let’s talk about the economy and what is going on there. Second, let’s talk about the treasury, gold barbell trade that seems wild and crazy. To clarify something, no, I am not drunk as one commenter asked.
The economy, oh, how this recovery summer is not such a recovery after all. Perhaps Geithner’s op-ed in the Times should have read, “Sorry, we screwed up any chances of a recovery” instead of “Welcome to The Recovery.” Any improvement we have seen within the economy has been purely statistical or for the very wealthy, period. Yes, Saks and Macy’s are indeed having good years, but look at Walmart, not such a blockbuster year. If you strip away the stimulus spending and government transfers you have poor GDP readings, period. I cannot see how anyone would or could really dispute that, but I am sure there are some that will try.
The truest test of any economy is unemployment and I was saying, before it was popular by a certain ‘New Normal’ guy, that unemployment was a leading indicator, not a lagging indicator. Our employment situation is poor at best considering that we are having more and more people leaving the workforce because they are giving up. Imagine just giving up all hope of finding work, not that you don’t want a job, but you just can’t find one, but since you have given up our government says you do not count anymore, nice. Anyhow, if we include all those people who dropped out of the workforce we are up to 10.2-10.5% official unemployment. As far as the U-6 we are still around the 17% area, but I am willing to bet it is much, much higher and who knows, exactly, how many people simple have been unemployed so long they just don’t count anywhere anymore. Regardless, our unemployment issue is the truest test of our economic situation and has indicated for well over a year that the economy is in poor condition.
As far as the other economic data points and indicators, well, show me one that points to an actual positive improvement please. Hint, there is not one that points to a significant improvement in the economic condition in recent months. In fact it is so bad that the Fed is turning to a form of QE which they know will do nothing to boost the economy, but it will look like they are doing something. It is so bad you had Ben Bernanke testify in front of Congress and say; “I don’t know what is going to happen,” basically when he said ‘unusual uncertainty.’ You have the Fed Presidents talking about recessions, QE, Japan scenarios and a host of other issues, but don’t worry because CNBC says no double dip. You know what, they are right. There will not be a double dip because we never made it out of the first depression.
We got the Fed doing this reinvesting of interest and repayment of principal now, to the tune of about $300B or so, into treasuries. What is that going to do for the economy? Nothing. Ben is trying to force banks to lend by doing a bull flattener to the yield curve, good luck Ben. What he doesn’t realize yet is people do not want to borrow. In fact, people want to pay off their debts instead, go figure. Ben cannot boost demand and QE will not do anything at all besides make bond investors very happy. It is a dog and pony show to make everyone feel good and like the Fed has some ammo left, they don’t and the game is over for them. All more QE will do is damage the dollar at some point in the future, that is a certainty. Consumer demand will return only after the deleveraging period is done and that could take 10 more years, who knows. It will be a tough ride, that is for sure.
Now, for those who thought I was nuts for going long a leveraged 20+ treasury ETF and gold, well, you don’t have to say, my account says it for me. UBT was about $85 a share when the article came out and it closed today at about $90.50 and gold was at about $116.50 and it is at $117.73 (I am using GLD as a proxy). I do not believe the trade is done, I wouldn’t enter it here, but I am not exiting it either, especially after CSCO missed their revenue estimates tonight. This was not a crazy trade, it was the most obvious trade in the world. Easy money like this does not happen very often so I am not sure why anyone would think this was ‘high risk’ or abnormal. You can hold leveraged ETF’s, if they go in your favor, over a period of days, just not long-term.
Everyone knew the Fed was going to do something, anything, because the Fed is staunchly independent and not influenced by politics, yeah right. Come on, the Fed knew it had to do something to show it was helping the economy, but not too much because we have an election coming up. What could be safer than maintaining the balance sheet, but reinvesting loose change into treasuries to bring down long-term treasury rates? It does not raise any eyebrows, everyone knew they would do this and it does help borrowers, but it doesn’t help the real economy. Regardless, this was telegraphed and sets up the Fed for real money printing and QE after November.
In the meantime, I plan on locking in profits on my UBT soon and rolling into TLT on weakness. I fully expect that we see the 30 treasury move towards the 3% area, maybe 2.5% as Ben wrote about in the past. That makes longer duration treasuries very attractive still and inflation is not an issue now. However, inflation will be at some time in the future and QE will damage the dollar, hence the gold hedge. I think gold goes back to its high and make a run towards $1,300 an ounce, maybe higher is full blown QE kicks in this fall. Equities are not attractive, in my view, unless they pay an outsized dividend and have a strong balance sheet. Stocks like AAPL, no thanks, they do not work in this environment unless they pull a new killer product out of their back pocket every other month. Good luck.
Watch out Gold was down $56 today! Of course there was talk of bubbles bursting, the trade is crowded, etc., which is all true, kind of. Gold definitely got ahead of itself, I do not deny that in the least, but it is not a bubble. I have been saying it will correct for some time now and have been wrong. Frankly, I hope it goes lower, a lot lower.
Why, would I want one of my larger holdings to go lower? Simple, I hate the negative talk on CNBC all the time and the constant pump and dump they do. Every time it breaks out I have to hear about how it is a bubble or it is a nominal high, not an inflation adjusted high, and that gold bugs are “creepy.” It is rather annoying because to me gold is at an all-time high since I did not buy it in 1980 and I own it a heck of a lot lower than where it trades now. Whether or not I am creepy is a question I will not answer since I am biased on the answer, but my wife says I am not.
Gold is not a bubble, in my opinion, based on supply and demand, but even more importantly if we look at the monetary base it looks way undervalued. However, it got way ahead of itself over the past couple of weeks, there is no question about that given its parabolic rise. Like all assets that go straight up it must consolidate or correct to shake out the speculators. Given the leverage it takes to play with the yellow metal in the futures market I am hoping a few days of heavy losses will kill many of the speculators, but only time will tell.
When the speculators are gone there will only be the serious buyers left, which is good news. Since the serious buyers right now are China, Russia, India, Iraq, other central banks and, I guess, me there are only long-term holders in the market moving forward. Given that Helicopter Ben will only increase the monetary base and the US will have some $4-5T in debt to issue next year I do not see the Fed’s balance sheet shrinking anytime soon. I also do not see the Fed raising interest rates as debt service currently consumes 3% of GDP right now and a 1% increase would be, well, not good. Within 10 years if interest rates get back to normal than our debt service costs will be so large that it will consumer our entire national budget.
Therefore, the Fed has one choice, other than, stop laughing now, forcing Congress to cut spending, fire government workers and balance the budget, devalue the currency. That is very bullish for gold and the primary reason I am buying the metal. Other precious metals will also do very well for the above stated reasons, but they also have other supply, demand and scarcity reasons for owning them. That is why I am diversified between all metals, not just gold, as each metal has a specific role depending on what the economy is doing or how the geopolitical arena plays out.
In the meantime, this bug is rooting for gold to come down so he does not have to hear about it on CNBC. Hopefully, without all the YV attention, interest in the yellow metal will fade and the real investors can regain control. Unfortunately, that will probably not happen. As we saw with oil, once speculators run with a commodity it is tough to get them out until it totally crashes and burns which is what I do not want to see happen.
That was the question posed to one Dennis Gartman this morning on CNBC, as we already know CNBC hates gold and anyone who invests in gold, Mr. Gartman said gold was indeed a bubble. One has to keep grounded when Mr. Gartman speaks about gold since he has been dead wrong about it at almost every turn. In fact, sometime this summer when gold was trading at $900-920 an ounce Mr. Gartman actually went short gold and stated he would cover his short at $840 or somewhere in that area. Gold went to $1,000 surely burning his short position.
However, when Mr. Gartman said he liked gold at $1,000 I contemplated selling my position only to buy it back lower, but I figured he would be out well before my time horizon so I held my position. What I find interesting is the fact that CNBC, Mr. Gartman and so many others are so quick to point out that gold is a bubble, but stocks are fairly valued. The only reason stocks are up, as Meredith Whitney pointed out today, is because of a “wall of liquidity” which is the exact same reason gold is up to begin with. Gold is the investment one buys when the dollar depreciates or one fears inflation, technically they are both the same thing, and given the dollars slide is it really a surprise that gold is going through the roof?
Even though I find the bubble argument to be ridiculous over the long-term I am willing to concede this, it has definitely gotten ahead of itself and I do expect a pullback. I believe the floor is somewhere around $1,040/oz which is where India bought its 200 metric tons of the yellow metal. I will be more than happy to buy more at lower levels, but I am not going to chase gold at these levels even though I believe it is a good long-term investment. Depending who you listen to gold either has a target of $1,200 up to $5,000 an ounce, but I have no opinion on a final value except I believe it goes higher. Clearly the market believes it will go higher as well, or does it?
As most of you know there are 2 markets for gold the paper market, GLD, and the physical market, COMEX for physical delivery or coins. Both of these markets have extremely high demand right now because of the debasement of the US dollar, which is undeniable. The question that I have is pretty simple, is the GLD powering gold higher? This wraps into the Vampire Squids game of high frequency trading.
Computers and algorithms simple track buy and sell signals from technical analysis or short-term trends. When the GLD broke above $100 it was a technical breakout so did these HFT machines then begin to get more active in this security? I do not have a for sure answer for that, but I am willing to speculate that it did. Since the GLD has to buy gold based on the shares bought, regardless if it is a person or a machine, when it broke out did these machines keep buying and drive up the price. Again, I would have to say that is not out of the realm of possibility and may explain how the price of gold continues to climb.
If this is indeed the case then there is a bad ending to this tale because as soon as the machines are done with the GLD they will dump it or short it. This could cause the price to swing back below where it should be, wherever that might be. Obviously we will not know if this will happen or not until it is over with, but the one thing I am certain of is that as long as the government and the Fed continues down its destructive monetary path gold will continue to make new highs. However, if I am right about the HFT machines being involved then those highs may take longer to materialize, but they come.
The other thing I am sure about is that at the end of the day gold is not in a true bubble like most seem to think. It is a vote against fiat currencies and the monetary policy of the central banks. Let us not also forget that production of gold, and all the easy to mine gold for that matter, has already been mined and many central banks are buyers of the yellow metal. There is also the individual “gold bug,” like me, who buys the stuff which essentially means that demand will be much higher than supply for some time. According to my economics professor, when supply is below demand the price increases, not that many of the talking heads on the TV will ever realize that point, but it is a reality. The only long-term bubble in the gold market is from the ignorance of those who do not wish to understand the basics of supply, demand and their impact on the price of gold.
Everyone is talking about gold over the past 24 hours mostly because it went parabolic today. Those who follow me know that I am a big gold fan, but we are seeing many others jumping onto the bandwagon about the yellow metal. The big question is why is it having these giant leaps and will it continue.
I believe you are seeing gold increase because of economic uncertainty and the fact that it has strong fundamentals right now. I am not sure if it will break above the $1,000 mark and hold, it has always sold off when it reaches this area. However, based on the action we are seeing I do believe now is the time it will break and hold that threshold. I believe that China is the driving factor behind the sharp increase lately as they diversify their holdings and are hedging their dollar assets.
Another rumor, strictly a rumor from where I stand, is that the Chinese will revalue their currency and perhaps peg it to the Euro as the EU is now China’s largest trade partner. People cite the movement in the CNY for the latest rumor, but I do not know if that is really going to happen. I do think it could happen, but who really knows, rumors are just rumors. If this did happen then gold would go parabolic overnight and the dollar would take a bath, but I do not foresee this happening. Regardless, what we do know is that if you owned gold for some time you have done very well.
I think what we are seeing is a lot of short covering and the Chinese middle class stepping up to the plate and buying gold. All throughout history China and India have been huge fans of gold and many believe it brings luck, but more importantly they see it as money. Whether it brings luck or not, who knows, but what we do know is that the population of both China and India could easily suck up existing supplies if they are indeed buying the metal.
Surprisingly we saw gold and silver hold up very well in the face of a strengthening dollar, which is unusual, a few days ago. Usually when the dollar increases all precious metals take a nice nose dive, but not lately, although the strength in the dollar is not very impressive to say the least. I think that people are moving towards gold as a safe haven as they realize that gold has maintained its value this year and that the crisis is still not over yet. Having gold during uncertain economic times has always been a good bet and that, in my opinion, is what we are seeing.
In the recent past I said I liked gold and recommended picking it up under $960 an ounce. It did go below that mark so I hope people did buy it, but I am not so wild about buying it after such a sharp move upwards today. I think we will see a selloff tomorrow for those taking profits and after the selloff I would then consider buying it, no specific price target, but I would dollar cost average in. While I am bullish on gold, I am more bullish about silver.
Traditionally the gold to silver ration, GSR, has been tighter than it is right now. From 1792-2002 the GSR has a mean of 31, 31 ounces of silver to 1 ounce of gold, but currently we have a GSR of 63. That means that silver just about half the price it should be according to the traditional GSR. If the GSR returns to its traditional average silver should be trading at about $31.40 an ounce, double its closing price. To me that looks very bullish especially because the fundamentals are there. All the easy silver has been mined and we do not recycle it while every piece of electronics you have contain silver in order to make them work.
My point is, yes buy gold in a cautious manner, but also buy silver as you will get more bang for your buck. Essentially, silver can double in price when gold may only go up a few percentage points. It is also about diversification and if you buy precious metals then you need to diversify between them. I am currently a buyer of all precious metals in this order; palladium, silver, gold and platinum. While gold usually gets the spot light, silver and palladium usually get ignored which makes them a good buy as their prices will follow the majors, gold and platinum.
The only way this market can continue its parabolic climb is if the dollar gets taken down. This morning as I watched equity futures at 6 AM I thought it was odd that the dollar had strength while futures were up. Then it happened.
Right around 7:30 the dollar began to drop as futures keep their gains, this has been typical during this new bull market. While this might make people feel better about the economy, keep in mind that the markets had decoupled themselves from equities, many may be shocked to learn that the market’s gains were at their expense. If the dollar looses value and equities go up, which is typical, then your net buying power has actually decreased which nullifies your gains.
I am sure not many people are paying attention to this fundamental fact, but nonetheless it is there and a reality. Even the likes of Cramer are not connecting the dots as he cited higher oil prices for the market’s rally last week while it had little to do with oil at all. It had to do with the decline in the dollar’s value which drove oil higher, along with significant draw downs in inventory.
I am not sure if the media is intentionally ignoring this fact or not, but it is there which also explains higher commodity prices as well. At this rate the Dow could hit 14,000 again, but your buying power will be diminished. A weak dollar is good for your multinational companies and commodities, but nothing else. I do not know about you, but I am not a fan of our currency being devalued in order to prop up a failing bank system which is exactly what is happening.
To maintain your buying power you should consider having commodities in your portfolio. I favor gold, silver, platinum and palladium, but you may favor something else like oil. It does matter what commodity you choose as you want a liquid investment with strong fundamentals. For that reason is why I heavily favor precious metals, but your risk is if a black swan emerges. If we have another 2008 event money will pour into the dollar driving commodities lower. This is why you need to be diversified between asset classes, however if you do not own any commodities, what are you waiting for?
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