Beat the Crowd, Buy Gold Now

Tuesday, 8/27/2013 

Big trends take a long time to turn round. Witness the long US bond vs. gold...

 

I'D LIKE to recap what I've long warned our subscribers is the most important trend in the world.

 

As longtime readers know, I frequently disclaim the ability to teach readers anything. To learn something, you have to be willing to think about what you're reading – especially when it challenges your preconceived notions or carefully maintained beliefs. Many people would rather die than think.

 

So before we begin, let me warn you... If you don't think carefully about these ideas, they will wipe you out financially over the next several years. If you learn nothing else from us during your subscription period, at the very least, learn this...

 

I'd like to start with a simple question. This is something anyone who knows anything about the stock market should be able to answer without even thinking about it: What was the better investment in the raging bull market of 1980-2010, stocks or bonds?

 

Most people know that the US stock market enjoyed a massive, 30-year bull market after 1980. Stocks went up nearly every year. So if I asked you, what made more money between January 1, 1980 and December 31, 2009? Stocks or bonds? You would almost surely answer "stocks."

 

Indeed, stocks did well over the 30-year period. If you simply bought the S&P 500 and reinvested your dividends, you made 11.3% per year over the period, for a total return of 2,676.8%.

 

But if you had invested in the US Treasury's long-dated, zero-coupon bonds, you would have done much, much better. According to financial writer Gary Shilling's research, buying 30-year zero-coupon US Treasury bonds each year and rolling them over annually would have made you more than 19% annually during the period, for a total return of 24,879%.

 

If you want to make a lot of easy money off your friends who consider themselves financially smart, just offer them a $100 bet on whether or not stocks or government bonds made more money for investors during the great bull market of 1980-2009. You'll likely win every time.

 

Buying long-term US government bonds (that had no risk of default) and simply reinvesting the profits annually would have earned you considerably more money than buying stocks in the 30 years following 1979.

 

And in 1979, just as the big bull market in US Treasury bonds was about to begin, what did investors think of the bond market?

 

One of the world's greatest investors, Warren Buffett, wrote in his 1979 letter to shareholders that long-term bonds were "obsolete." Buffett didn't believe the market for long-term bonds would even exist by the time the government's newly issued 30-year obligations reached maturity...

 

We have severe doubts as to whether a very long-term fixed-interest bond, denominated in dollars, remains an appropriate business contract in a world where the value of dollars seems almost certain to shrink by the day. Those dollars, as well as paper creations of other governments, simply may have too many structural weaknesses to appropriately serve as a unit of long-term commercial reference. If so, really long bonds may turn out to be obsolete instruments and insurers who have bought those maturities of 2010 or 2020 could have major and continuing problems...

 

In fairness to Buffett, Paul Volcker wasn't appointed to the Federal Reserve until August 6, 1979. His opinion on long-term bonds probably changed as Volcker's policies began to rein in growth in the money supply, causing inflation to subside and sparking the massive bull market in bonds. But the point I'm making is important: The big moves in markets – the giant, long-term "secular" changes – occur when there is a nearly universal agreement regarding a financial asset's appeal.

 

Back in 1979, long-dated US government bonds could not have been more loathed. People called them "certificates of confiscation." And no one – not even the "Oracle of Omaha" – recognized the greatest investment opportunity of our lifetimes in front of them.

 

Last year, the yield on the US Treasury benchmark bond – the 10-year note – hit a modern, all-time low of 1.55%. That is, if you believed the market's price, investors were willing to lend the government $1,000 for the next decade and only receive $15.50 per year in interest.

 

Yes, you have good reason to doubt that this is a real interest rate, because the Federal Reserve has been purchasing all of the government's newly issued debt – $85 billion worth a month. As a result, we don't know what the free market interest rate would be for our government's obligations. But it's a safe bet that "higher" is the correct answer.

 

Back in January 2009, I warned that the trend toward lower interest rates (and higher bond prices) couldn't possibly continue. I said we were sitting on the verge of a massive shift higher in interest rates. Here's what I wrote:

 

The US budget deficit for 2009 is now projected to be $1.1 trillion – more than 8% of GDP. Only during World War I and World War II did the government ever have bigger annual deficits. None of these figures include any of the new stimulus package OBAMA! has promised, which means the actual deficit next year might grow to $2 trillion – around 15% of GDP.

 

Given our total debt already exceeds $10 trillion, it seems improbable this level of deficit spending can continue without sparking a run on the dollar via foreign governments selling US Treasury bonds. No one believes our creditors will ever sell the dollar. But they're wrong. Our creditors will not allow us to print money forever.We are squandering and destroying the greatest advantage of our country – control over the world's reserve currency.

 

Since then, our federal government's spending habits and debt accumulation have become significantly worse. The government's total debts have increased 70% in only four years – a truly stunning and nearly unbelievable increase. And despite any major war or financial crisis, we continue to run annual deficits of around $1 trillion.

 

Last May, I saw something in the market I literally couldn't believe: Junk bonds were trading at prices that reduced their benchmark yields to less than 5%. I wrote at the time that this had to be the top in bonds because default rates alone would wipe out all the gains that were possible by buying a portfolio of junk bonds at those inflated prices.

 

And so... just as the investment community was overwhelmingly bearish on bonds in 1979, just prior to their greatest bull market in history... the market became more bullish on bonds in May than it had ever been during my lifetime – just as we hit a low point in their yields.

 

When I began warning in 2009 about the inevitable collapse of the US bond market, I couldn't have foreseen the Federal Reserve's massive intervention. The central bank has bought about $3 trillion worth of bonds over the last four years.

 

But as it began to do so, I recommended a simple way to protect yourself from this incredible folly... and also a way to judge our progress toward a financial apocalypse.

 

All you had to do was compare the price of the long-term US Treasury bonds with the price of gold. A simple way to do this was to watch the prices of the iShares Barclays 20+ Year Treasury Bond Fund (TLT) and the SPDR Gold Shares Trust (GLD).

The Ruins of Detroit

Tuesday, 8/27/2013 

Home to the future once more...

 

The 2,500 SEAT Eastown Theatre hosted The Who and The Kinks, 

 

The Cass Tech High School taught Diana Ross and John DeLorean. Michigan Central Station, almost 100 feet long, 230 feet wide, and graced with 14 grand marble pillars, once had Franklin Roosevelt, Charlie Chaplin, and Thomas Edison pass along its platforms.

 

Nowadays these buildings are just three of the 78,000 abandoned and blighted structures in Detroit. Reminders of a bygone golden age, the authorities can't afford to demolish them.

 

The decline and fall of Detroit, which recently filed for bankruptcy, is a staggering tale. In 1950 Detroit was home to 1,849,568 people, hundreds of thousands of them working in the booming motor industry. In 1955 80% of the planet's cars were made in America, 40% by Detroit-based General Motors alone. GM's German subsidiary, Opel, was only a little smaller than the largest non-American car maker, Volkswagen. And Toyota only built 23,000 cars that year compared to GM's 4 million. In the 1950s the Detroit area had the highest median income and highest rate of home ownership of any major American city.

 

But as they grew together, so they died together. Between 1955 and 2000 global car production increased by 273% but the US motor industry saw little of that action, increasing its output by just 39%. Even at home, despite a hastily erected wall of tariffs and quotas, US car companies lost market share; between 1970 and 2000 Japanese car companies' share of sales in the US rose from less than 5% to 30%. In the same period the share of US car manufacturers fell from 86% to a little over 50%.

 

The reason was productivity. In 2005 the average Toyota worker produced 16% more cars than the average GM worker and a staggering 128% more than the average worker at Daimler/Chrysler. Toyota made a profit of $12.5 billion, GM a loss of $10.9 billion.

 

In part as a result of the demise of the motor industry, less than half of Detroit's over 16s are now employed. And as the jobs disappeared so did the workforce. In 2010 the population was down to 713,777, a fall of 61% in 60 years.

 

But the city's government was left with the spending commitments and liabilities it had incurred in the not-so-bad times. One half of Detroit's $18 billion debt is made up of pension and healthcare spending commitments to city employees. The share of city revenues being spent on debt servicing, pensions, and retiree healthcare has risen from 30% in 2010 to 40% today. It is forecast to rise to 65% by 2017.

 

The city tried to fund these commitments with higher taxes. Detroit imposes a per capita tax burden on its residents 80% higher than neighbouring Dearborn even though its residents have a per capita income 33% lower. Detroit residents face the highest property tax rates of any similarly sized city in Michigan, but with 3 bed, all brick, colonial houses on the market for under $10,000 many don't bother paying. Nearly a third of property tax owed in Detroit went uncollected in 2011.

 

So Detroit slashed spending, even on 'core' functions of government. 40% of streetlights don't work and aren't being repaired. Last winter just 10 to 14 of the city's 36 ambulances were in service at any time, some with enough miles on the clock to have circled the planet 10 times. In February, Detroit fire fighters were told not to use hydraulic ladders unless there is an "immediate threat to life" because they hadn't been inspected in years.

 

But even with this, spending commitments without the tax base necessary to fund them have caused Detroit to add $700 million to its debt in the last seven years and brought it to bankruptcy. This is a real American horror story.

 

Is the death of Detroit "just one of those things" as Paul Krugman wrote on Monday? Or are there lessons to be drawn for the rest of us?

 

The essential problem of Detroit, that for decades its leaders have been writing cheques their tax base can't cash, is true now to varying degrees of all western governments facing ageing populations. As I wrote elsewhere late last year

 

America's unfunded liabilities (including Medicare, Medicaid and Social Security), rose by $11 trillion last year to $222 trillion. To put that in context, the entire US economy is just $15 trillion, of which $3 trillion a year is paid in tax. If you expropriated all the wealth of the richest 400 Americans...the $1.7 trillion you would get wouldn't make a dent.

 

In Britain the Office of Budget Responsibility reported last week that with zero migration the costs of an ageing population would push government debt up to 174% of GDP by 2062. To hold it where it is Britain would need, the OBR estimates, immigration of 260,000 people a year.

 

Like the ruins described by Shelley's "traveller from an antique land" the ruins of Detroit are a warning of hubris and complacency, of the belief that it'll never happen to us. We should heed the warning.

Back to School for Gold & Stocks

Tuesday, 8/27/2013 

Ah, the heady days of autumn. Just before winter's loss of trust...

THERE ARE a few yellow leaves on the trees, writes Bill Bonner in his Daily Reckoning. The mornings are cool.

"My son started school last week," we told a neighbour yesterday.

"What? Seems awful early for public school."

"They've been moving it forward. Back in the old days the kids helped on the farm with the harvest. School didn't start around here until about the seventh or eighth of September. And we got to go back two weeks later because we lived on a farm.

"Now nobody does that anymore. I don't know what young people do. Nothing, I guess. That's why they start school earlier."

Our youngest son, Edward, headed back to college on Sunday. He goes to school in New England and takes the train – the Vermonter – from Baltimore's Union Station. It seemed early to be sending him off too.

But Earth turns. The days grow shorter and cooler. And investors begin to feel the chill wind.

So far, only metaphorically. Later, they will feel the icy winds blowing around the corner of Wall Street in New York...or over their own hills and dales. And they will wonder...

What's a share in a company really worth? What's a bond worth? Heck, what's the Dollar itself worth?

All of these questions will draw the same reply: It depends.

Among the things it depends on is the level of trust in society...in its leaders...in its capital structure...and in its future.

When the sun is shining it's easy to have trust in a society. It's when the chilly winds blow that the question marks begin to fly. You see them picked up like plastic bags by gusts of wind...floating around until they are snagged on some barren tree.

That's when it gets interesting...when the hopes and hallucinations that undergirded the boom give way.

Markets are cyclical. Sooner or later, whether we like it or not, they change. And our guess is that investors are about to go back to school and learn that three major markets – debt, equities and gold – have changed direction recently.

Gold is now headed back up. US stocks are completing a huge, rounded top. And bond prices have already begun to fall (and yields rise).

The Federal Reserve spoke like a climatologist last week. Maybe Earth will begin cooling off, it said. Then again, maybe it won't.

It said it was still considering tapering off. But it also reminded us that it would only do so if and when it felt like it was kinda a good idea...which probably wouldn't be any time soon.

US stock markets rose on Friday...barely. Gold got some exercise – up $25 an ounce to bring it within a few dollars of $1400...which it then broke through Monday as stock markets fell.

How about that gold? Just when you thought it was finished...it comes back strong. What will it do when winter comes and the warm light of trust fades away?

Gold & Silver Hedging: The Miners' Dilemma

Monday, 8/26/2013 

Hedging future production at current prices hurt gold miners badly a decade ago. It's still hurting strategy today...

 

THERE'S always a lot of talk about gold and silver miners and their hedging policies, writes Miguel Perez-Santalla at BullionVault.

 

Selling some future production at current prices raises money today. It can also help the gold or silver miner smooth out changes in the market. That should be to the benefit of the shareholders. Yet the main concern in hedging isn't how to manage this trade. It is the shareholders' view of hedging which counts.

 

Why? Starting in the late 1990s, gold miners suffered major losses when the gold price rallied. This is because they had excessively large "hedge" positions in place far out into the future. It is imperative that the act of hedging not get confused with the reality of mismanagement of hedging policies.

 

As gold prices began rising early last decade, investors came to hate the big hedge-book built up by the gold miners during the previous bear market. And simply put, miners need investment money to fuel their business. If the shareholders are not happy with the way they operate their business, then their share price goes down. And if the share price goes down, then the gold or silver miner's capitalization also goes down, which then affects their ability to borrow from the banks.

 

So with hedging both weighing on profits and annoying shareholders a decade ago, the famous "leverage" to gold prices offered to investors by precious metals miner stocks went missing, even before the financial crisis hit.

 

Easy Money Injustice Goes Mainstream

Friday, 8/23/2013 

The injustice of easy money is starting to make headlines...

The DAILY MAIL reports that keeping interest rates at record lows is a "deliberate government ploy to pay off its debts..." writes Steven Baker MP, at the Cobden Centre...

"A stealth raid by the Bank of England has stripped savers of more than £170billion, a Money Mail investigation can reveal.

"By slashing the base rate to a record low of 0.5% and allowing the cost of living to soar for more than four years, the Bank has whittled away the value of cash sitting in High Street accounts through a 'secret tax'.

"And it is not just savers who have effectively had their money pinched. Anyone who has a fixed monthly income, such as pensioners, or has had a tiny pay rise, has also lost out."

I campaign constantly against the injustice which is being manufactured by our centrally-planned system of money and bank credit so I am glad that the arguments are going mainstream.

We are in the midst of a great battle between debtors and creditors. Deeply indebted governments are on the side of those in debt. Too many claims on real goods have been created by bank lending so now the central banks are destroying those claims by stealth.

The implications for our society will be profound. I cannot help thinking that the whole enterprise would have already come crashing down if the public could see the tens and hundreds of billions of Pounds – and Dollars and Yen… – as paper in wheelbarrows going to governments' favoured friends.

Given that the alternative is higher interest rates, sound money and a painful correction, governments and central banks think they are taking the easy way out. We'll see.

Buy Gold, Sell Oil

Friday, 8/23/2013 

The gold price has finally begun rising again in terms of the oil price...

 

AS WE EXPECTED, the "gold-to-oil" ratio is working in gold's favor right now, with the gold price rising in terms of crude, says Steve Sjuggerud's Daily Wealth email.

 

Back on July 26, we noted how the "gold-to-oil" ratio was ready to snap back. At the time, we reminded readers how this kind of "ratio trade" isn't a conventional "buy a stock and hope it goes up" trade.

 

"Ratio trades" – like measuring the price of gold in barrels of oil – involve trading one asset against another asset. For example, one of the most important ratios in this group is the "gold-to-oil" ratio.

Since they are both commodities that have intrinsic value, gold and oil can be affected by the same buying and selling pressure in the market. But their values can get out of whack.

 

When this happens, traders can step in to sell gold and buy oil... or buy gold and sell oil. The profit on these trades depends on how the two assets move against each other. We used this analysis to time – almost to the day – the epic 2008 bottom in crude oil.

 

From late 2012 through last month, the gold-to-oil ratio fell from 20 to 12. This means gold collapsed in value relative to oil, with one ounce buying only 12 barrels after buying twenty.

 

In our July note, we pointed out that this decline left gold and oil in an extreme position. Hedge funds also held extreme bearish bets on gold...and extreme bullish bets on oil...in the futures market. And as you can see from the chart above, our note was well-timed. The gold-to-oil ratio has bottomed, and just staged a short-term breakout in gold's favor.

Now, About Those US Fed Minutes

Thursday, 8/22/2013 

Panic in the bond market courtesy of pointlessly scanning the Fed minutes...

 

WHILE the mainstream media instigates reasons why we should give a damn about what people who have little control over the Treasury bond market were thinking at the Fed's last meeting, writes Gary Tanashian in his The top panel shows the 30-year US bond yield marching toward the traditional limiter, otherwise known as the 100-month exponential moving average. The pattern measures to 4.5% or so, so there could be a spike above and a hell of a lot of hysteria at some point.

 

That's the collective markets; 98% hype, hysterics and emotion and 2% rational management. Either the 30-year yield is going to do something it has not done in decades (break and hold above the EMA 100) or it is not. Simple.

 

The relationship between long term bonds (30 year) and short term bonds (2 years) in the middle panel is currently negatively diverging gold as the ratio has dropped this month. Again, we wonder is gold (bottom panel) leading the curve this month or should gold bugs take caution? I think gold is leading the curve, but it bears watching. The relationship became distorted in second half, 2012.

 

As for gold, it probably bottomed at the end of June. That is because the sold out condition of the sector (read: Paulson puking GLD, hedge fund net short positions, India's antagonism toward its would-be gold buyer citizens, etc. etc. etc.) was simply historic.

 

Really, just dialing down all the noise of the last 2 years it was a grand and climactic panic IN to gold in 2011 by the global public in the face of the Euro's supposed Armageddon. Everyone had bought and then it was time for the bleeding out of this emotional money.

 

The bleeding went on longer than I originally thought it would, but that is why we do ongoing work to interpret things every step of the way. Hey, no harm no foul. A little patience and ongoing perspective and now we have what appears to be a purified asset class, free of unhealthy sponsorship.

 

Back to the chart's top panel. China is a net seller of US Treasury bonds. Japan is a net seller of US Treasury bonds.

Gold Remains Firm Near 9-Week Highs

Gold continues to pressure the upside, undeterred by a firmer dollar. The yellow metal retest the nine-week high from Monday at 1384.50, although this level has contained the upside thus far.

Today's gains come on the heels of yesterday's much anticipated release of the minutes from the July FOMC meeting. While members of the committee expressed that they were "broadly comfortable" with the taper scenario laid out by Chairman Bernanke back in June, there was no further clarification as to a likely timeline.

While the stock market and Treasuries were 'broadly uncomfortable' with the comfort level of the FOMC, dropping sharply intraday, gold recovered quickly from a modest drop to set new highs for the day in late trading. Today's follow-on gains, largely on strong physical interest, offer further encouragement to bulls.

The debate over the scaling back of Fed QE will seemingly continue until the next FOMC meeting on September 17-18, which will include economic projections and a Bernanke presser. Just maybe the clarity that wasn't provided yesterday will be revealed at that time.

Over on the other side of the pond, even BoE MPC member Martin Weale says he could “certainly envisage circumstances in which it would be sensible to undertake further asset purchases.” In other words, if the "economy needs further support,” even a hawk like Weale would be on-board for further asset purchases.

In making a generally favorable case for QE, Weale also commented on the unevenness of the recovery. "[A]nyone who thinks the future will unfold smoothly is not taking account of everything that has happened in the past five years,” he said.

That my friends is the tacit case for gold as well. Nobody truly knows what the future holds, so having a portion of your portfolio dedicated to the truest of safe-haven assets is just plain sound investment strategy. With gold still in the lower half of the 1920.84/1179.83 range, now is good time to start building — or adding to — your strategic hedges.

Silver and Gold – a New Divergence?

Silver demand continues to grow as gold seems to have lost its luster. Read about market machinations and learn the facts.

Silver has been resilient, though the price of the metal has not. What do I mean by that?

Since the collapse of precious metals prices started in May of this year we’ve seen valuations fall tremendously. Even greater has been the drop of demand for certain metals. Probably the most brutal attack on a metal that we can visualize is that of the gold ETF known as GLD.

The GLD has lost a staggering 31% of its holdings since the peak seen back in December 2012.  By July, 29 2013 it had lost 13,638,000 of its 43,453,000 ounces, leaving 29,815,000 ounces of gold held in trust. During the same time period we saw the silver ETF, SLV, lose only about 3% of its holdings from the high of April 2011 when it was holding nearly 11,243 tons of silver in its vaults.

Gold's Fear Trade Finished: Really?

Wednesday, 8/21/2013 

The GOLD PRICE destruction culminating in late June brought out the usual suspects to school us ever since about why gold is all done as a worthy investment in an era of economic revival, writes Gary Tanashian in his Notes from the Rabbit Hole.

 

That comes compliments of heroic policy making by Ben Bernanke and Associates. Perceptions are now fully cemented toward policy maker control and a new global growth cycle.

 

These gold-negative voices included a pair of academics, the widely followed media star Nouriel Roubini and a lesser known writer named Robert Wagner, who has been riding the gold bear wave with a series of articles at SeekingAlpha, talking about how the main pillar supporting gold – the fear trade – is dead.

 

So we have a perma-bear and new-era bull coming at the barbarous, non-dividend paying relic from both sides. Excellent! Just as a tidal wave of knee jerking financial refugees piled into the 'fear' trade – as Wagner calls it – in 2011, the tide has spent two years slowly going out. But now the tide is starting coming in again on gold even as happy stock market and economic perceptions are being cemented; just as gold is doing this...