In Search of a One-Armed Economist by Bill Bonner London, England
How are we doing? Our Trade of the Decade, that is?
Yesterday, gold took a big dip down - minus $15. It closed under the $1,000 level. Now we'll find out if the Chinese are supporting it at $1,000...or not.
If so, it should soon bounce back. If not...well, who knows?
But our Trade of the Decade doesn't worry about what the metal does on a day-to-day basis. Back in 1998, we just noticed that the gold/stocks relationship had reached an absurd extreme. It took 43 ounces of gold to buy the Dow stocks. We figured that ratio was bound to come down.
It has. At today's prices, you can buy the Dow for less than 10 ounces of gold.
David Rosenberg looks at 10-year returns by asset class. Here's his chart:
Buy gold on dips; sell stocks on rallies. It was good advice 10 years ago. Is it still good advice?
Of course, it depends on what happens next. If the feds succeed at inspiring growth without also causing higher levels of inflation, gold will be a bad place for your money - relative to stocks. But here at The Daily Reckoning we are cheerfully, confidently, and calmly enjoying a depression. We don't think it will stop any time soon.
What that means to us is that stocks are not likely to go up. And we don't expect inflation to increase anytime soon either. So, as to gold itself, that puts us in an ambiguous position. On the one hand, depression will probably not push up gold prices - at least, not at the beginning.. On the other hand, it won't push up stock prices either.
On the one hand, the economy is probably going to sink further. Yesterday's news brought the rally in stocks to a halt. The Dow lost 41 points after it was reported that the rate of existing house sales had fallen in August, following 4 months of gains.
But it's very hard to make a diagnosis on this patient. He's so doped up.
The Fed pumped $2 trillion worth of drugs into the economy. It won't say exactly what elixirs it used...or what veins it put them into. But all this money must have an effect. Federal employment, for example, is rising.
Here, an aside. When people get government jobs, the employment numbers increase. But is the economy better off? It depends on what the people are doing, doesn't it. If you think additional federal workers add to our prosperity or the quality of our lives....well, you probably shouldn't be reading The Daily Reckoning. In our view, the feds already had too many parasites on the payroll.
But if the feds can make the world a better place, let's hire more of them! Heck, let's all work for the federal government.
Even with rising federal employment, the economy is still sinking. One headline tells us that luxury hotels may be headed for bankruptcy; their $850 rooms are empty. Another tells us that there are people living in the drainpipes under Las Vegas. Obvious solution: give the drainpipe people jobs with the government...and put them up in the luxury rooms! Hey...they can call room service and stimulate the economy even further.
The US Post Office has a problem too. It may need a $4 billion bailout, says one news item. Another tells us that 'exhaustion' has hit a new record. 'Exhaustion' refers to people whose unemployment benefits have run out. Apparently, more than half the unemployed run out of benefits before they find a new job - more than ever before.
Which brings us to the other hand. Without a real recovery in the real economy, the feds are going to keep their hands on the pumps.. While the depression decreases the odds of inflation...the feds' reaction increases them.
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More on this, below...but first, let's turn to The 5 Min. Forecast:
"We've said it before, more than once," begins Ian Mathias in today's 5 Min. Forecast. "Jobs and housing will be the real indicators for how the depression pans out. Housing led us into this mess, it is one of the worst performing asset classes in America, it's most people's biggest investment, and bad mortgages (and their subsequent securitizations) have rendered our financial system impotent - at best. And jobs, well.... People gotta work. When they don't, all kinds of craziness ensues.
"So with that in mind, let's check in on one 'ultimate indicator' of the depression's end.
"5 Min. loyalists might remember that we first checked out this chart in late May, when Robert Gordon - one of the NBER economists responsible for calling the end of recessions - suggested that the peak in initial claims had marked the approximate end of this historic downturn. As you can see, that same thesis has worked pretty well in the past, so why not?
"Yesterday the Labor Department said 530,000 Americans filed for jobless benefits last week. That may be a slight improvement from the week before, but we note that since peaking this spring, jobless claims haven't plummeted back to a historic norm, as in recessions past. Instead, they're just hanging around, just 15% below the peak, almost 30% higher than this time last year and way above typical post- recession levels...actually higher than the peaks of yesteryear.
"We realize that just by uttering these words we're likely going to be wrong: But could it be different this time around? If the bread line is no longer at its worst - but still wrapped around the block - is it really fair for the Fed to say the recession is 'technically' over?"
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Back to Bill, with more thoughts:
Of course, gold doesn't always need inflation to rise...and stocks can do what they want.
So let's see...economy sinking...should be bad for inflation. But maybe not....
Or, economy sinks with falling prices...should be bad for gold. But maybe not...
Or, economy improves...should be good for gold. But maybe not...
On the one hand...on the other hand.... Harry Truman once remarked, "Send me a one-armed economist." We're tempted to cut off one of the hands ourselves.
But let's forget the hands. Major trends tend to run in long, long cycles. Consumer credit has been expanding since 1945. It is contracting now. That trend is not likely to end after just six quarters. Instead, it is likely to continue for a long time. And it is likely to inspire tremendous exertions to stop it on the part of the feds. As to the exact type of 'flation that will result, we can only guess that there will be more of it. As to stocks, we guess that they will decline - in real terms - as long as the credit contraction continues. And as to gold, it is sure to go up and down.
At $1,000, is gold cheap?
The first car we ever owned was a '37 Buick that we bought in the '60s for just $75. It ran well. The only problem it had was a dented trunk door. New, that car cost just $825 - or about 24 ounces of gold.
Today, 24 ounces of gold is worth about $24,000. Can you buy a new car for that? Well...yes, you can. But not a new Buick. The 2009 Buick Lucerne sells for more than $29,000. So maybe gold is a little low. But not much.
In a stable, prosperous and growing economy, $1,000 gold might be no bargain. But what about a world that is probably in a multi-year depression...that the feds are fighting with trillions of dollars' worth of new cash and credit? What about a world where the world's largest debtor is borrowing another $9 trillion over the next ten years? What about a world where the imperial power is losing its grip? What are the odds that something will go wrong? What are the chances that the feds will miscalculate? And what will happen if they do? Possibly, the depression will deepen...and $1,000 gold will seem too expensive. Possibly, the feds will add too much new money to the financial system, causing a new bubble in gold. Possibly, the Chinese will dump the dollar...causing the dollar and the US bond market to collapse.
Too many 'possiblies.' Too many things we know we don't know. And too many things we don't know we don't know too. And too many things about which we have no clue. We're tired of thinking about it..
Until the picture becomes clearer, we will stick with our trade...buy gold on dips, sell stocks on rallies.
[Keep reading for today's essay. But in the meantime, take advantage of this dip in the gold price, and stock up on the yellow metal. You can still get gold for just a penny per ounce - no joke. Get some here.]
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The Daily Reckoning PRESENTS: Jim Grant, who has always fallen into the 'doomsayer' category, is now whistling a different tune. Instead of saying 'doom is nigh', he believes that a boom is nigh. Bill Bonner explores the thinking behind this assertion, below...
The Last Bear by Bill Bonner London, England
Personal conversions sometimes mark dramatic turns in history. Saul of Taursus saw a vision so bright it left him blind. The next thing you know, he had changed his name and was pushing Christianity all over the world. According to Gibbon, the Roman Empire fell as a consequence. Then, on the advice of his mistress, Gabrielle, Henry IV became a Catholic, leading to the Edict of Nantes and its subsequent revocation.
Even in the world of finance, there are momentous conversions. As they say on Wall Street, a rally ends when the last bear gives up. An old friend had been a source of inspiration for tech bears for many years. He suddenly saw the light and gave up in 1999. Shares he had formerly scorned - often dotcoms with no revenue and no business plans - were suddenly added to his own portfolio. This also heralded a big change - the end of the tech bubble. Tech stocks collapsed. Most disappeared. Then, Stephen Roach became vaguely bullish in 2007, after a long period of doubt and misgivings.
Now it is Jim Grant who has changed his mind. A generation of investors has gotten used to Grant's 'doom is nigh' warnings. Now, he says, it's a boom that is nigh.
What is remarkable about the Grant conversion is that his vision gives off so little heat and light. His WSJ article shillyshallies around; rehearses the history of previous recessions and comes to rest in front of a flickering match: "The deeper the slump, the zippier the recovery."
Many were the sheep in Grant's flock. They feel betrayed, as if their shepherd had gone over to the wolves. Here at The Daily Reckoning, we take no personal offense.. In the following few words we merely stoke up the fire.
We will not argue with Newton's Third Law. For every action, there is a reaction. Every boom has a bust. And every busted bubble has a bounce. Even the Titanic's stern rose, before she slipped below the waves.
First, we consult the facts. But facts are survivors. They will tell whatever tale their interrogators want to hear. As for opinions, after six months of a stock market rally, the once half empty glass has become half full. We predicted it ourselves. But we'll let Robert Prechter say, 'I told you so.' Even before the rally began, Prechter foretold its story:
"Regardless of extent, it should generate feelings of optimism. At its peak, the President's popularity will be higher, the government will be taking credit for successfully bailing out the economy, the fed will appear to have saved the banking system and investors will be convinced that the bear market is behind us." As to Mr. Obama's popularity, Prechter was wrong. But 4 out of 5 ain't bad.
"What will happen next, we don't know. But if we turn bullish on this economy and urge you to buy stocks, it will surely be time to sell them."
Grant's brief tour of recession history seems to confirm his Newtonian position: the further an economy falls, the further up it rises to get back to normal. This downturn has clipped nearly 4% off America's GDP, substantially more than any previous downturn since WWII. Therefore, it will come back strong.
Today's slump in the United States hardly compares to the one of '29- '33, which took 27% off the GDP. Then, in the ranks of the unemployed, stood one out of every four able-bodied workers, as opposed to just one out of every 10, according to today's statistical legerdemain. Still, the depth of the drop did not prevent a vigorous bounce; on the contrary, it seemed to demand it. After '33, the US economy grew by nearly 10% in each of the next four years.
In the slump of '82, GDP sank at a 6.4% rate. Again, the reaction was nearly equal and opposite to the action. "Not until the third quarter of 1984," says Grant, "did real quarterly GDP growth drop below 5%."
Of course, even a US Congressman will bounce, if you push him down the Capitol steps. But not every one will get up again. In the '33 example, the US economy, still youthful and vigorous, got up nicely. But then it fell again. By the end of the decade he was still on his back, with 15% unemployment and 2% deflation. Only later, after four years of world war, did the economy begin a sustained recovery.
Now it is 2009. The poor fellow is down again. The feds rushed to help him to his feet. They gave him a combined fiscal and monetary shot-in- the-arm seven times stronger - in terms of GDP - than the average postwar countercyclical stimulus. The juice opened his eyes. But he still staggers. He has put on some weight over the years; he now carries three times the debt/GDP as he had in '82. His stocks are three times as expensive, in P/E terms, too.. His bones are more brittle and his mind a little slower. What's more, in '82, he had been on a deleveraging diet for more than a decade. In '09, he has just begun.
What will happen next, we don't know. But if we turn bullish on this economy and urge you to buy stocks, it will surely be time to sell them.
Enjoy your weekend,
Bill Bonner The Daily Reckoning
Editor's Note: Bill Bonner is the founder and editor of The Daily Reckoning. He is also the author, with Addison Wiggin, of the national best sellers Financial Reckoning Day: Surviving the Soft Depression of the 21st Century and Empire of Debt: The Rise of an Epic Financial Crisis. He is also the author of, along with Lila Rajiva, Mobs, Messiahs and Markets: Surviving the Public Spectacle in Finance and Politics.
Bill's latest book, an update of Financial Reckoning Day, co-authored with Addison Wiggin, is now available for purchase by clicking here:
About The Daily Reckoning: Now in its 10th anniversary year, The Daily Reckoning is the flagship e-letter of Baltimore-based financial research firm and publishing group Agora Financial, a subsidiary of Agora Inc. The Daily Reckoning provides over half a million subscribers with literary economic perspective, global market analysis, and contrarian investment ideas. Published daily in six countries and three languages, each issue delivers a feature-length article by a senior member of our team and a guest essay from one of many leading thinkers and nationally acclaimed columnists.