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Saturday, April 18, 2009
"What marks our Great Recession for greatness is neither the loss of jobs nor the shrinkage in GDP, but the immensity of the federal response to those afflictions. The scale of the government's intervention is much more than unprecedented. Before 2008, it was unimaginable."
- Grant's Interest Rate Observer, April 3, 2009
Earlier this month, I was at Grant's Spring Investment Conference in Manhattan.
This is one of the elite investment conferences in the world. It draws a who's who of brilliant investors... people like investment master Jeremy Grantham... real estate legend Sam Zell... and short selling guru Jim Chanos. I try to attend this conference each year. The amount of intellectual "firepower" is just incredible.
I met several of my advisory readers there. At our lunch table, the big topic of discussion was the inflation-deflation debate.
Inflation, for our purposes, means prices and interest rates are rising, and the purchasing power of money is falling. Deflation is the opposite: Prices for most things fall, interest rates fall, and the purchasing power of money rises.
Over the last year, deflationary forces prevailed. The price of homes, commodities, shipping rates, gasoline – even wages – generally fell. Interest rates keep going lower. I just redid my mortgage for 4.25%, no points, over 15 years. The dollar – perversely, given how our government treats it – has gained strength.
This will be a huge decision for investors over the coming years. If inflation prevails, then commodities, for instance, will do very well. Bonds will do horribly. If we have deflation, commodities will likely suffer, and bonds will do well. Making the right decision will mean the difference between a large and growing retirement portfolio and a tiny, inflation-ravaged portfolio.
"I think there has to be inflation," said the lady to my left. "With all the spending and what the Fed is doing... there is no way around it."
I agreed that inflation will be the ultimate result. But the question is how long between now and then? If we have deflation for the next two years, for example, that will be very painful for many investment ideas.
"Yes," the guy on my right said. "If you knew we were going to have another year of deflation, then you would do some things differently."
I can't resolve this debate here. But I can tell you I've given it a great deal of thought. As a result, I fall in the inflation camp. Much of the reasoning behind that has to do with the government's response to this crisis. It has been more than unprecedented, as Jim Grant recently noted in his newsletter.
Grant goes on to note that the combination of fiscal and monetary stimulus comes to about one-quarter of the size of the U.S. economy (as measured by GDP). And that does not take into account all of the guarantees – of bank deposits, money market accounts, bank bonds, and other liabilities.
Currencies don't react well to being treated like this. Right now, the dollar is holding up because people are fearful... and debts need repaying. Cash is dear. But that will not persist for long – especially with stimulus as great as it has been. Never in the history of paper currencies has a single currency consistently appreciated in value over time. Never.
That's why I recommend you fall on the side of owning "real assets" through the stock market in order to protect yourself from inflation. I like owning energy fields, gold mines, water rights, and the producers of agricultural fertilizer. After suffering a big correction in 2008, these assets are cheap right now. They'll hold their value much better than your bank CDs during inflationary times.
Don't worry about not having physical possession of these assets. As Jean-Marie Eveillard, the great money manager at First Eagle, reminded conference attendees: "Stocks are claims on real assets; they are not just paper."
The kinds of stocks I just listed – which deal in tangible goods that cannot be easily reproduced – will do very well in the coming years. If you come down on the side of inflation, start your "wealth protection" strategy here.
Editor's note: Chris Mayer is the editor of Capital & Crisis, a monthly advisory we consider required reading at DailyWealth. With Chris' research, you can always count on contrarian investment ideas you won't read about anywhere else. To learn more about Capital & Crisis and Chris' new "personal bailout plan" click here.
STOCKS "BREAK OUT" VERSUS GOLD
This week, a little-followed – but important – ratio broke out to a three-month high...
The stocks vs. gold ratio measures how well stocks are doing in terms of gold. It goes through huge, multiyear swings. Stocks did extraordinarily well versus gold in the '90s. It took over five ounces of gold to buy one unit of the S&P 500. Stocks have crashed in gold terms since then. It took less than one ounce of gold to buy one unit of the S&P in the panic days of March.
As you can see from this week's chart, however, this ratio just broke its recent downtrend to reach a three-month high. Stocks are rising versus gold because a world in turmoil is becoming a world in "less turmoil."
We still like gold as a "wealth insurance" asset. But the stock vs. gold ratio is badly depressed. Many people are scared of stocks. Many people are bullish on gold... So we believe you'll make money betting on stocks rising versus gold in the next few years. This breakout is going to go higher.
– Brian Hunt
In The Daily Crux