Monday, August 3, 2009

Sticking to the Basics; The Mogambo Revisits the Closing of the Gold Window

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The Daily Reckoning
Monday, August 3, 2009

  • Don't gamble on stocks during a depression...
  • Investing is very simple: buy low, sell high...
  • In the early stages of a major credit contraction...
  • The Mogambo revisits the closing of the gold window...and more!

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    Sticking to the Basics
    by Bill Bonner
    Ouzilly, France

    What's new? Nothing much....

    Markets still moving up...

    Oil rose $2.50 on $69. Gold rose $18 to $953. The Dow was up 18 points. And the dollar fell to $1.42 per euro.

    And governments are still doing the wrong thing...trying to increase demand. It's not possible...for reasons we describe below...

    Well, it's August...and we're on vacation. But just because we're on vacation doesn't mean the world stops turning. It just doesn't turn quite so fast.

    "Why don't you just stop writing for a while?" our mother asked this morning. She is visiting for the summer.

    "I don't know how you write every day anyway. You must say the same thing..."

    Richard Russell has given a Dow Theory bull market signal. When you get a signal, he says, you don't argue with it; you go with it. Stock prices are going up.

    We don't doubt it. The Dow would have to clime to about 10,300 just to give us a classic 50% bounce.

    But we are in a depression. We don't gamble on stocks in a depression. It's too risky. Instead, we go with the flow. And the flow over the next 10 years or so is probably going to be down.

    By our reckoning the Dow hit its high in January of 2000. Adjusted for inflation it's been running downhill ever since. Investors have made nothing for their trouble. And if we're right, they won't make anything in the years ahead either. Instead, they'll have to wait until stocks are cheap again.

    You know, dear reader...investing is really very simple. Buy low. Sell high. that we got that figured out...let's move on...

    Sticking with the basics, what we notice is that stocks, bonds and commodities move in broad patterns that last for many years. Not to put too fine a point on it, but they go up and then they go down. Or vice versa. Just looking at the last 50 years, stocks were very expensive in 1966. Then, they dilly dallied around for a couple of years...and headed down. This bear market continued until August 1982. That was when BusinessWeek magazine declared that stocks were not merely ailing, they were dead: "The Death of Equities" was the cover story that month. Naturally, equities got up from their deathbed the very next month and entered the marathon. They ran for the next 18 years.

    Well, you know the rest of the story as well as we do. It's not complicated. The problem is that it takes patience to see understand it...and to take advantage of it. The way to make money in stocks is to buy them when they are very cheap. But you may have to wait for 15-20 years. They're not cheap towards the end of the bull cycle. Since you never know exactly when it's going to end you don't want to buy anywhere near the top. So you wait...and then stocks keep getting more and more expensive. Finally, the top arrives...and then you have to wait another decade or more until they reach bottom.

    "Well, why don't your write The Daily Reckoning once every 20 years?" mother wanted to know. "Just tell them when to buy...wait 20 years...and then tell them when to sell."

    But we're going to ignore our dear, sweet momma this morning. She just doesn't understand the complexity of the financial world!

    For the last nine years, stocks have been going down (albeit with a major countertrend to the upside). We'll probably have to wait another few years before they are cheap enough to buy. And when the end comes, stocks will be very cheap - between 5 to 8 times earnings.

    When will that day come? Probably around August 15, 2018. Don't forget to read The Daily Reckoning that day!

    [While you are waiting that out, dear reader, it would probably be best to steer clear of stocks altogether. But that doesn't mean that you'll have to wait another ten years to turn a fact, by following one simple rule, you could double your money in three months - without touching a single stock. See how here.]

    More news from The 5 Min. Forecast:

    "Hey look, a whole new crisis," writes Ian in today's issue of The 5 Min. Forecast. "By the end of the year, as many as 1.5 million jobless Americans will have exhausted their unemployment benefits.

    "The National Employment Law Project, a privately funded advocate for the unemployed, released a study over the weekend that's caused quite a stir...a perfect storm brewing for nationwide joblessness. According to their research, over 140,000 people have collected the maximum unemployment benefits the government allows. By December, there will be 1.4 million more.


    "So a swell of long-term-jobless folks suddenly stripped of government support, right as the unemployment rate blows past 10% and towards 11%? It's already over 15% in Michigan...could get a little nasty.

    "Thus, Congress is under pressure to extend benefits again. Emergency extension legislation has already bumped unemployment programs to 79 weeks in half the states, about triple the norm and the longest since its 1930 inception (the rest of the States have programs ranging from 46-72 weeks). Word on the street is that Congress will tack on another 13 weeks for states with unemployment rates over a cost of $70 billion."

    Ian writes every day for The 5 Min Forecast, an executive series e- letter that provides a quick and dirty analysis of daily economic and financial developments - in five minutes or less. It's a free service available only to subscribers of Agora Financial's paid publications, such as the Hulbert #1 Performing Investment Letter, Outstanding Investments.

    And back to Bill, with more thoughts:

    Stock market cycles tend to coincide, more or less, with broad trends in the credit cycle. When people borrow and spend it causes business profits to grow. The businesses then expand; they hire more people; they build more capacity.

    Then, when the credit cycle turns, everything goes in the other direction. People stop borrowing and begin paying back. Sales decline. Unemployment grows. Profits fall. Credit contracts.

    We are now in the early stages of a major credit contraction. This is not a pause in a credit expansion; it is a change of direction, a credit contraction with all that goes along with it - joblessness, bankruptcies, foreclosures, and so forth.

    Bloomberg tells us that the numbers have already been revised - downward. "Worst recession since the Great Depression," says its headline.

    It is the worst recession since the Great Depression because it's not a recession at all; it's a depression. And the government is doing its level best to make it a great one.

    The key to understanding a depression - or the downswing of the credit cycle - is that demand contracts. Consumers have less to spend. For a very simple reason: they already spent it.

    Listen up, because this is important. When you borrow in order to consume, what you are really doing is consuming something today that you would have normally consumed in the future. You spend money you haven't earned yet on something you're not really ready to buy. You've heard the expression, 'time is money.' That's why borrowing money is really borrowing time. Later, you have to make it up. You have pay off the debt. When you do, you take money out of current consumption; you've already consumed it!

    This is what economists refer to as "demand destruction." It's what happens in a depression. People are replacing what they took from the future. They're can't consume because they've already spent their money in the last boom. Demand collapses.

    [To learn how to protect yourself from against this next leg down in the great recession, see here.]

    We've seen that happen in the last two years. Savings rates went from zero to 7%. Sales have declined (the latest revisions show them off more than was previously thought.) Profits are shrinking.

    This is, of course, a completely natural and necessary adjustment. You can't take things from the future without putting them back eventually. The future won't stand for it. But the feds, in their benighted confusion, fight the problem like a farmer who plows backwards to fool the crows. They think the problem is too little demand. So, they try to add demand...with tax cuts...spending programs...low rates...easy for clunkers and other fixes. What do these policies achieve? Do they really increase demand? No, they can't do that...that would require a richer population with more money to spend. What they try to do is to move demand forward.

    The problem, of course, is that too much demand has already been moved forward. But they're nevertheless trying to steal even more of it...taking away demand that would normally show up two, three, four...ten years from now. That car that you might buy next year, for example. With the 'cash for clunkers' program, you might make the purchase now instead of waiting until you actually have the money. Or, that new parking lot behind the town hall. We won't really need it for a few years, but heck, if they're giving away money now... Or how about that trip to Europe? With a big tax rebate check, you might decide to take it on your 20th wedding anniversary, rather than wait 'til your 25th.

    Real demand increases only when real wages increase. Then, people have more purchasing power. Trying to increase demand by borrowing - or stealing - from the future is a scam at best. Even if it works now, it fails later.

    Our gardener, Damien, came over yesterday...carrying a big wheel of cheese and a huge loaf of bread.

    " are back," he said.

    "Yes, it's been a long time. But it's August we're back..."

    We explained how we had followed the annual bicycle migration out of Paris on Friday night. On the last day of July, Parisians load their bicycles on racks behind their cars and head for the country. We followed the bicycles out of town. The highways were jammed...traffic was start and go for hours.

    "Look, I was just down in the Auvergne," Damien continued, "so I brought you some cheese and bread. These are specialties from the region. They're very good...

    "And now that you're back, let's celebrate...let's have a drink. How about some pineau?"

    "Sorry Damien," Elizabeth interrupted. "He'd love to, I'm sure...but he has another engagement. We're going to the Berry (about 45 minutes East...where Georges Sand lived) to attend a play. English."

    "But who's going to understand it," Damien wondered. "The French can't understand Shakespeare..."

    "Even native English speakers have a hard time following Shakespeare," we added.

    But there was not time for a drink...we were off to see As You Like It performed at a friends house by an itinerant English group...

    And so...the summer vacation begins...

    Until tomorrow,

    Bill Bonner
    The Daily Reckoning

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    The Daily Reckoning PRESENTS: 38 years ago this month, an historic thing happened; an event that would change the way people looked at our favorite precious metal: Nixon closed the gold window. Today, the Mighty Mogambo looks back with disdain at that decision and realizes, almost four decades later, he's still not above childish name-calling. Read on...

    Urgent Update: The Gold Window is Still Closed
    by The Mogambo Guru
    Tampa Bay, Florida

    The month of August 1971 is significant in that this is the month when Richard Nixon told the world, "Kiss my Fat American But (FAB), world, because although we Americans promised to maintain the purchasing power of the dollar against which all other currencies can maintain their value, too, we lied when we said that we would exchange gold for dollars to insure that we did what we said we would! Hahaha!

    "So, from now on, no exchanging dollars for gold for you either! Hahaha! You believed us when we guaranteed our promise about the value of the dollar in terms of gold, and then let us keep the gold at our house? Hahaha! Morons! So just come and try to get it, chumps!"

    The problem was that the government was being bankrupted by maintaining the foolish Leftist stupidities of Johnson's "Great Society" and the sheer stupidity of the Vietnam war (among other governmental stupidities), and lots of dollars were being created by the Federal Reserve and multiplied by technology increasing the velocity of money through the banking system, resulting in a lot of inflation and a lot of dollars piling up overseas.
    "...pretty soon there was a torrent of gold leaving the country, causing Nixon to reveal just what kind of country does this kind of lowlife deal breaking."

    Fortunately, it was France making all the noise, and real Americans - who hate the French for their snotty attitudes - were smart enough to be alarmed, since the French knew that the buying power of the dollars that they held - and would be getting in the future - would all be losing valuable purchasing power. Naturally, they wanted to exercise their option to exchange the dollars for gold!

    This was okay for a while, but pretty soon there was a torrent of gold leaving the country, causing Nixon to reveal just what kind of country does this kind of lowlife deal breaking.

    Then Nixon said, "No more exchanging stupid paper dollars for real gold!" The reason Nixon was forced to act like a lying, thieving little creep is partly because he WAS a lying, thieving little creep, but mostly because he mirrored America perfectly since Congress allowed it, nobody at the Federal Reserve was hung, imprisoned or even received a stern lecture, and there were no street riots at the sheer shame of it all.

    This is not about how I am glad that Roy Rogers and Hopalong Cassidy are dead so that they would not see the kind of embarrassing, black- hat, bad-boy bunch of dad-burn, sidewinding, backstabbing, ornery, polecat bushwhackers we have become, but to show you how good the French were in predicting the fall in the value of the dollar.

    And for that we only have to look at the essay titled "The Day the Dollar Died - and the Day Gold was Reborn" by Bill Downey of, who has researched a handy comparison between then and now.

    He compares "How Much things cost on Aug 15th, 1971" to what they cost today.

    Dow Jones Industrial Average 890 or 25 oz. gold in 1971, versus 9,000 or 10 oz. gold today.

    Average Cost of new house $25,250 or 721 oz. gold in 1971, versus 250,000 or 277 oz. gold today.

    Average Income per year $10,600 or 302 oz. gold in 1971, versus $70,000 or 77 oz. gold today.

    Average Monthly Rent $150 or 4.3 oz. of gold in 1971, versus $824 or 1 oz. of gold today.

    Datsun 1200 Sports Coupe $1,866 or 53 oz. gold in 1971, versus $28,400 or 31 oz. gold today.

    Naturally, I am looking over this little chart with some puzzlement, and I am thinking to myself,f "It seems that there should be a message in there somewhere, but what?"

    Fortunately, before I could think about it some more, and wonder some more about what the "message" was, and then get a headache from all the thinking and the frustrations of failure, and then decide to go out for a drink to clear my head, or maybe take an afternoon off to play a round of golf, both of which get me in trouble with my boss, Mr. Downey reveals it as, "Conclusion: If your money is dollars, you live in an inflationary world. If your money is denominated in gold, you live in a deflationary world."

    Until next time,

    The Mogambo Guru
    for The Daily Reckoning

    P.S. The prospect of always paying lower and lower prices is One More Reason (OMR) why I seemingly ceaselessly recommend gold, silver and oil, and why I so gleefully say "Whee! This investing stuff is easy!"

    Editor's Note: Richard Daughty is general partner and COO for Smith Consultant Group, serving the financial and medical communities, and the editor of The Mogambo Guru economic newsletter - an avocational exercise to heap disrespect on those who desperately deserve it.

    The Mogambo Guru is quoted frequently in Barron's, The Daily Reckoning and other fine publications. Click here to visit the Mogambo archive page.

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