In my opinion the biggest news of the day is not that S&P broke the November lows, nor is that GDP loss on Q4 (that seemed forever ago) nearly doubled from previous estimates, but rather that momentum seems to be building for a Eastern European aide package.
It is my contention that Europe is about a year behind the U.S. when it comes to the financial meltdown. They are with us step for step when it comes to the economic downturn but because of the accounting the banks are about a year behind in recognizing the rot on their balance sheets. In this cycle you can look at Eastern Europe as the subprime in the U.S. Many Western European banks lent to Eastern Europe customers who were only credit worthy as long as currencies remained stable and Eastern Europe continued growing.
I think it is likely that at some point we see a Bear Stearns moment in Europe. Where there is some major intervention, eveyone breaths a sigh of relief, a large rally ensues, and then comes a Lehman moment months later and investors realize the cancer has spread and the previous intervention was just putting a finger in a bursting dam. However, instead of banks, we are talking about countries.
http://www.bloomberg.com/apps/news?pid=20601110&sid=ar5xvGTDq3ZA
Eastern European currencies strengthened against the euro as world governments prepared aid packages to prevent an economic crisis in the region from spreading.
and
“It shows international institutions and the European Union are really contemplating what they need to do to help,” Simon Quijano-Evans, a Vienna-based economist at Credit Agricole Cheuvreux, said in an interview. “We are talking about the future of the European Union as a whole. It’s not about East and West anymore.”
and
Gyurcsany will present his plan at a March 1 EU summit in Brussels, he said in an interview in Budapest yesterday. The “European Stabilization and Integration Program” would include short-term financing for governments, coordinated restructuring for private debt, the recapitalization of banks and liquidity for companies, Gyurcsany said.
Friday, February 27, 2009
Thursday, February 26, 2009
Mervyn King Joins Ben Bernanke
Ben Bernanke is not the only Fed Chairmen testifying before government officials. Bank of England Governor, Mervyn King was busy addressing magistrates on the Treasury select committee. Interesting article with a few interesting pieces of data. I still contend that at this point, how much worse things get is tied very closely to how the story unfolds in Europe. 2008, the United States was ground zero. I believe 2009 Europe is ground zero as the continent catches up with how bad things are in the banking system.
One interesting thing from this article is the open declaration that a government program is to pump money into the system is a scheme. I don't know if that is a cultural difference in word usage or the British media is calling it for what it is.
http://www.guardian.co.uk/business/2009/feb/26/mervyn-king-banks-more-money
"How much capital banks will need in the end is impossible to tell because in large part it will reflect developments in the world and our own economy that are impossible to predict with any precision," King said. He said the banks desperately needed the money ahead of an independent assessment of their loans made around the world.
and
King told the group of MPs that the process of quantitative easing should begin in the "next few months", which will involve the Bank buying up assets in order to boost the money supply. But he sought to quash worries of "a great inflationary surge".
One interesting thing from this article is the open declaration that a government program is to pump money into the system is a scheme. I don't know if that is a cultural difference in word usage or the British media is calling it for what it is.
http://www.guardian.co.uk/business/2009/feb/26/mervyn-king-banks-more-money
"How much capital banks will need in the end is impossible to tell because in large part it will reflect developments in the world and our own economy that are impossible to predict with any precision," King said. He said the banks desperately needed the money ahead of an independent assessment of their loans made around the world.
and
King told the group of MPs that the process of quantitative easing should begin in the "next few months", which will involve the Bank buying up assets in order to boost the money supply. But he sought to quash worries of "a great inflationary surge".
Tuesday, February 24, 2009
Japan - A Land Without an Economy
There isn't much that shocks me anymore economically with what is going on but I let out an audible gasp on this one. SHEEZ. Thanks goes to Pete.
http://www.bloomberg.com/apps/news?pid=20601087&sid=aaYhUGEBEOfw&refer=home
Japan’s exports plunged by a record in January, as recessions in the U.S. and Europe smothered demand for the country’s cars and electronics.
Exports plummeted 45.7 percent from a year earlier
http://www.bloomberg.com/apps/news?pid=20601087&sid=aaYhUGEBEOfw&refer=home
Japan’s exports plunged by a record in January, as recessions in the U.S. and Europe smothered demand for the country’s cars and electronics.
Exports plummeted 45.7 percent from a year earlier
Plethora of Interesting Things
Europe is down over a 1% today. Will this finally be the day that America can ignore Europe because of its oversold nature? We will find out. Several interesting things out there today.
I have not verified this but before yesterday supposedly Petro China had a $285 billion market cap. The entire U.S. banking sector market cap was $271 billion.
MSCI World Index falls for 11th straight day. WOW!!
http://www.bloomberg.com/apps/news?pid=20601087&sid=aOqS.xs.jFyM&refer=home
The MSCI World slid 0.9 percent to 750.84 at 1:49 p.m. in London, falling for an 11th day, the longest stretch since 2005.
England on the Road to Debasement
http://business.timesonline.co.uk/tol/business/markets/article5795176.ece
A member of the Bank of England’s monetary policy committee today made the case for quantitative easing, the controversial measure to boost the economy by "printing money" to increase the money supply.
Former Fed Governor saying maybe we did something wrong??? Is this thefirst sign of an acceptance stage?
http://www.greenvilleonline.com/apps/pbcs.dll/article?AID=2009902220336
With the nation suffering from the worst economic downturn since the Great Depression, Susan Schmidt Bies is having second thoughts about some of the votes she cast as a member of the Federal Reserve Board of Governors in the years leading up to the present crisis.
Housing price skydive lower dropping 18.5% yoy in December. Biggest drop in history!!
http://www.bloomberg.com/apps/news?pid=20601087&sid=a3ArfwXFeZJM&refer=home
Home prices in 20 U.S. cities declined 18.5 percent in December from a year earlier, the fastest drop on record, as foreclosures climbed and sales sank.
Prechter saying to buy.
http://www.bloomberg.com/apps/news?pid=20601087&sid=aWCVnODJ3GPA&refer=home
Elliott Wave International Inc.’s Robert Prechter, who advised shorting U.S. stocks three months before the bear market began, said investors should now end those bets following the recent market sell off.
Prechter, chief executive of the market forecasting firm, warned in this month’s ‘Elliott Wave Theorist’ that a rebound in stocks could be “sharp and scary” for anyone who is so-called short. In a short sale, investors borrow stock and agree to sell them at a later date on hopes of capturing profit by replacing the shares after prices fall.
Because I have a couple of friend who follow Prechter, to be clear after this rally he believes there will be one more major down move. Time will tell if he is right. (Prechter is technician/psychologist who believes the world follows massive patterns over decades - I buy part of his thesis)
I have not verified this but before yesterday supposedly Petro China had a $285 billion market cap. The entire U.S. banking sector market cap was $271 billion.
MSCI World Index falls for 11th straight day. WOW!!
http://www.bloomberg.com/apps/news?pid=20601087&sid=aOqS.xs.jFyM&refer=home
The MSCI World slid 0.9 percent to 750.84 at 1:49 p.m. in London, falling for an 11th day, the longest stretch since 2005.
England on the Road to Debasement
http://business.timesonline.co.uk/tol/business/markets/article5795176.ece
A member of the Bank of England’s monetary policy committee today made the case for quantitative easing, the controversial measure to boost the economy by "printing money" to increase the money supply.
Former Fed Governor saying maybe we did something wrong??? Is this thefirst sign of an acceptance stage?
http://www.greenvilleonline.com/apps/pbcs.dll/article?AID=2009902220336
With the nation suffering from the worst economic downturn since the Great Depression, Susan Schmidt Bies is having second thoughts about some of the votes she cast as a member of the Federal Reserve Board of Governors in the years leading up to the present crisis.
Housing price skydive lower dropping 18.5% yoy in December. Biggest drop in history!!
http://www.bloomberg.com/apps/news?pid=20601087&sid=a3ArfwXFeZJM&refer=home
Home prices in 20 U.S. cities declined 18.5 percent in December from a year earlier, the fastest drop on record, as foreclosures climbed and sales sank.
Prechter saying to buy.
http://www.bloomberg.com/apps/news?pid=20601087&sid=aWCVnODJ3GPA&refer=home
Elliott Wave International Inc.’s Robert Prechter, who advised shorting U.S. stocks three months before the bear market began, said investors should now end those bets following the recent market sell off.
Prechter, chief executive of the market forecasting firm, warned in this month’s ‘Elliott Wave Theorist’ that a rebound in stocks could be “sharp and scary” for anyone who is so-called short. In a short sale, investors borrow stock and agree to sell them at a later date on hopes of capturing profit by replacing the shares after prices fall.
Because I have a couple of friend who follow Prechter, to be clear after this rally he believes there will be one more major down move. Time will tell if he is right. (Prechter is technician/psychologist who believes the world follows massive patterns over decades - I buy part of his thesis)
Monday, February 23, 2009
European Pressure Continues to Build
Europe is modestly up today after the U.S. Citigroup plan (or lack thereof) but a pretty weak rally considering how oversold they are and the beating they took last week. This may be part of the reason why.
http://www.bloomberg.com/apps/news?pid=20601087&sid=aDyKDzS6lN0Y&refer=home
The cost of protecting bonds sold by European banks and insurers surged to a record on concern that nationalized borrowers will be allowed to skip interest payments.
Sunday, February 22, 2009
The Week Ahead
The news currently is that the government is converting the preferred into common equity at Citigroup. That sent futures from down 6 to up 8 so about a 1.8% move. The stupid thing about this is that the government has $45 billion in preferred and they are converting into the common equity with a market value of like $8 billion and only getting 40% of the common. Talk about getting hosed. I don't know all the details but that is one more step to nationalization. The equity is a call option at this point so it will probably increase the value of the option sending the stock price up.
The real story is still Europe. Whether we are up tomorrow and even this week depends alot on Europe. The American press is still not covering and try to link the U.S. stock market moves to things that are happening here and while you can do that to a point I guarantee you last week the US markets would have been up if Europe would have stabilized and gone up.
Technically we are way oversold. There are times I have no idea where the market is heading and this is one of those times. We could easily bounce back up to 800 as we could go to 740 (about a 4% move in either direction). If we get the bounce expect gold to sell off. I would love to see it pullback to 940 to 960. I think that would be a decent pullback to add. Gold I also think is heavily dependent on Europe. The first paper I glance at is no longer the WSJ but the UK Times and the Financial Times. This Citi news and any other news that comes out of Washington could help the bounce but the U.S. is no longer ground zero for systemic risk and I think most industrial companies would stabalize around here except for the fact with how Europe is deteriorating.
The real story is still Europe. Whether we are up tomorrow and even this week depends alot on Europe. The American press is still not covering and try to link the U.S. stock market moves to things that are happening here and while you can do that to a point I guarantee you last week the US markets would have been up if Europe would have stabilized and gone up.
Technically we are way oversold. There are times I have no idea where the market is heading and this is one of those times. We could easily bounce back up to 800 as we could go to 740 (about a 4% move in either direction). If we get the bounce expect gold to sell off. I would love to see it pullback to 940 to 960. I think that would be a decent pullback to add. Gold I also think is heavily dependent on Europe. The first paper I glance at is no longer the WSJ but the UK Times and the Financial Times. This Citi news and any other news that comes out of Washington could help the bounce but the U.S. is no longer ground zero for systemic risk and I think most industrial companies would stabalize around here except for the fact with how Europe is deteriorating.
Friday, February 20, 2009
Santelli's Tea Party
This has been covered by several blogs but it seems to be gaining momentum. It is amazing. CNBC Rick Santelli went off in the Chicago trading pits on the Obama's mortgage plan. It was amusing, he said alot of truth, and then that was it. Obama's press secretary Robert Gibbs then went directly after Rick Santelli and then apparently said he needed to come to Washington. The fact that Obama press secretary would address and challenge this is pretty amazing. Below are two videos. Worth the watch.
Santelli Rant
http://www.cnbc.com/id/29283701
Clip of press secretary and further discussion on the issue.
http://www.cnbc.com/id/15840232?video=1041856849&play=1
CNBC - Much longer clip of press secretary comments and more CNBC discussion. (only really the first 4 minutes of the video addresses the confrontation)
http://www.cnbc.com/id/15840232?video=1041887644&play=1
Santelli Rant
http://www.cnbc.com/id/29283701
Clip of press secretary and further discussion on the issue.
http://www.cnbc.com/id/15840232?video=1041856849&play=1
CNBC - Much longer clip of press secretary comments and more CNBC discussion. (only really the first 4 minutes of the video addresses the confrontation)
http://www.cnbc.com/id/15840232?video=1041887644&play=1
Thursday, February 19, 2009
Gold Part 2
Several more emails were exchanged on gold. I may be right I may be wrong. Definitely a great read if you really want to see where you come down on the argument. Warning - It is a book. (This is follow up emails in relation to the post below. Read the post below first)
Friends Response to My Email In Previous Post
A couple of thoughts/questions: Relating to the question of why gold vs. other commodities, you seem to judge other commodities based on their value in relation to production demand. I do agree that actual demand will fall off for these commodities, as well as gold. Based on the graph I sent you, gold seems to have a value of between 300 and 400 when people aren’t concerned about system shocks. I’m not positive, but I would think this range represents the intrinsic value of gold that allows gold producers to earn a fair return on capital. So, if I’m understanding you correctly, the difference in 300-400 and 2000 is due to its status as a currency.
But doesn’t its status as a currency only improve if there is actual price inflation? If the government keeps printing dollars, but prices keep going down, I would prefer to have paper currencies vs. real assets because my paper currency will buy much more stuff than it used to. The distrust you refer to stems from the fact that people believe their paper currencies might not be worth as much as they used to be if all governments keep printing money like crazy. The only way that a currency is not worth as much as it used to is if it buys less stuff. The only way it buys less stuff is if prices rise. In the long run prices typically rise if the supply of money expands at a more rapid pace than the economy’s ability to produce.
I do think that the money supply is expanding greater than the ability to produce which will cause inflation…in the long run. However, in the short run the velocity of money is slowing dramatically which is muting (or maybe more than offsetting) the impact of printing money…but never mind that, we’ll focus on the long run. So I pose my question again, what level of inflation do we need to justify 2,000 gold? I can already hear you saying that it is impossible to quantify. I would agree that if gold was trading below its long-run value as a production input of 300-400 then by all means buy up some gold. But it is already trading several multiples of that level.
I think my points can be summed up in the fact that despite my deep distrust of all governments for printing tons of money, if prices keep declining, I want paper currency vs. gold. Assuming that I think inflation will go bonkers, I want to buy real assets. The amount in which I pay for that real asset depends on how much I think my paper currency will be inflated. If you think that inflation will be greater than 11.5%, you can justify paying more than 1,200 for gold based on the price of gold in 1979. (And we’ll ignore the fact that gold was down more than 60% by early 1981.)
The other thing that I have trouble getting my arms around is that gold is now a consensus trade. Kind of like oil at $200 was a sure thing. Disaster now. All these guys who are saying buy gold are the same ones that have been saying buy commodities for the last two years and have proceeded to drive off the cliff.
My Response
I am judging other commodities in relation to the supply demand of industrial use as it interacts with the supply and demand of the US dollar. If demand drops equal to the supply increase of dollars than the commodity stays the same price. If the demand drops and the supply of dollars increases but the increase is smaller than the demand drop than in dollar terms the commodity falls in dollar terms......When your referring to intrinsic value your really referring to where MC and MR intersect citing the economic theory that commodity producers shouldn't make economic profits and that in the long term MC should equal MR. First I would say MC has gone up. Just as oil producers are now losing money at 35 a barrell oil where as 8 years ago 35 barrell oil was a gold mine (no pun intended) I would say the MC of gold has probably moved up to around $500 an ounce (I have no data backing that up but I would bet alot it has moved up since 2000 looking at all other metals). So what I am saying is the difference between the 2000 and say 500 is that gold is moving out of being considered just a plain commodity into having another use which is was for thousands of years, as a currency. Most of history gold mining produced millions in economic profits above the cost of capital because gold was not just a commodity as oil or wheat is. It has only been the last 50 to 75 years where this wasn't the case.
Sure its status will improve the higher the price inflation goes but you don't have to have price inflation for it to go up alot. But if the supply of dollars increase and the demand for any good goes up the price will go up. You have this dynamic for gold but not for anything else currently. In fact the supply of dollars are going up even as the demand for gold goes up as Asians and Europeans are wanting another currency option other than the U.S. dollar. Gold.....You right. You would rather keep paper currencies. You made the argument why I don't want to own nickel. But gold is gaining against both because demand is the same or increasing while the supply of dollars is also increasing. On a relative scale it is the most attractive option. How do I communicate this. Think of it this way. Where would oil be if the supply of dollars would have stayed the same from a year ago? 30, 28. 26? So oil may have gained in dollar terms, it has just lost more in economic terms. As gold is wanted for currency purposes it has gained in economic terms and in currency terms.
You said the only way that currencies are not worth as much if it buys less stuff but the only way it buys less stuff is the price rises. Invert that. Think of currency as the price. The price of currency can fall but the demand for a F150 can fall more. In Iceland the price of the currency collapsed as no one trusted the Krona. The demand for the F150 also collapsed but here the price of the currency collapsed more causing the price of the F150 in currency terms to go up.
You looking at gold as an Econ 101 commodity where MC = MR. I would argue for 5000 years it wasn't an econ 101 commodity and for 50 to 70 years it was. We are leaving that blip of history and it is no longer an Econ 101 commodity. There is a problem with that argument and I'll see if you pull it out but the basic point is that if gold truly becomes a currency again you could huge economic profits for the manufacturers for decades.
And I would say for all hard assets the demand is falling faster the supply for money is increasing currently. That doesn't hold true for gold and so you will actually get richer and gain on the increasing money supply. By holding paper money right now you will gain on almost everything even as you are losing (like I said if the money supply would have been held constant what would the price of oil be?). In gold you are gaining on everything while not losing. In fact gold priced in oil shows just how much oil has really fallen even as oil still bubbles around 35 a barrell.
Maybe your right. I disagree. I watch CNBC and no one has a clue in the understanding of why gold is going up. Fast money has gotten long it as a trade and I do think we have a pullback coming to shake some of that fast money out but a bubble is when an economic truth is chased by dumb money. The dumb money still has no clue why gold is going up. Smart money like Einhorn is pounding the table on it. At some point the dumb money will catch on and by then that is when you want to be selling.
His Response
I completely understand that the price of oil could be much lower if the supply of dollars wasn’t increasing. However, as you point out, the price is well below marginal cost, a relationship that will not hold in the long run and indicates that maybe oil is undervalued in the long run.
The only reason demand for gold isn’t plummeting is because people want to own it for reasons other than its productive use. If it wasn’t for this currency perception, gold too would be plummeting. To me that is the definition of a bubble. You literally have to believe that people will stop using currency and we will be bartering using gold. Then you have to be sure to get out before people realize that no one barters in gold and the price of gold is way higher than marginal cost.
In Iceland the price of the krona collapsed against gold and other currencies. However real assets located in Ireland were not impaired by this. To make my point I will use an extreme example. Imagine I owned all of the real estate in Ireland and last year that was worth 1 trillion krona. After the collapse, if the krona price of that land didn’t skyrocket, then someone in America who is holding dollars will be able to by all of the land in Iceland for, say, $1 million dollars. Or maybe someone with gold could by all of Iceland in exchange for one ounce of gold. We know that’s silly…therefore the price of land in krona should be going through the roof.
It stands to reason that if this happens to every currency, the price of all real assets will increase in every currency. Again this is back to my example that you might be able to by all of the land in America for a couple ounces of gold.
I would agree with you that if you believe we are going back to the gold standard, then gold will increase much more than other commodities. However, I think there is better margin of safety in other real assets that can be bought for less than marginal cost or that leaves producers with an inadequate return, just in case we aren’t going back to the gold standard.
My Response
It can last a long time. Look at uranium. It was below MC for over a decade. Close to two decades.
No you don't have to literally believe that people will use gold to barter. You have to believe that the trust in currency will go down, supply of paper currency will go up, or that gold will in some form or fashion back currency in some form or fashion in the future. Also what happens if the Euro or the Pound collapses. I would put that at a coin flip. The perception of gold as a currency will increase. Gold was never bartered with for the fifty years prior to 1960. It was just moved around between countries in large blocks as currency transactions took place. There doesn't need to be any bartering in gold.
Wrong!! Real assets were impaired alot in relation to other stores of value. Take your example in real estate. I agree Iceland real estate gained tons of value in Krona terms but it lost tons of value in US Dollar or Gold terms. That is a net loss in true value. The reason is because of a huge supply glut and even bigger demand fall off for real estate, commercial buildings, homes etc in Iceland. So the true value isn't worth as much unless you compare it to Krona which is even worth less and lost more value. Land lost value, it just lost less value compared to Krona. It stored value compared to Krona but not to other stores of value like the U.S. dollar or gold.
Agree. Once again take your extreme example. It happens to all currencies. Take a current 250k house in Dallas. Now it would take 250 ounces of gold to buy. All the currencies lose trust. Now it takes a quadrillion dollars to buy that same house in Dallas. So the house stored value but because dropping demand in houses as economic turmoil takes place it only takes 100 ounces of gold to buy that same house. So the house stored value in comparison to dollar terms but lost it in comparison to gold terms. Gold kept the same level of value.
In your last paragraph I agree in principal, just not the timing. At some point land will be a great investment to store value. I just think gold currently is going to gain in value in relation to land as currencies continue to implode so the true value of land will go down even if we level out in dollar terms.
His Response
Meaningless paper backed by gold is essentially bartering with gold.
And yes I get it that demand is falling across the board for ALL commodities (including gold for all other purposes than as the anointed store of value). I will repeat that I understand what you are saying…another way of putting it is assuming that the money supply in Iceland was stable, the price of land would be falling relative to gold because there is less demand for Icelandic real estate than gold.
My point is that the only reason demand for gold hasn’t plunged like real estate, oil, copper, etc is that there is added demand for it when people get scared. The price reflects the fact that people are scared right now. The added demand that is driving up gold is not sustainable because when people get happy, people are going to sell their gold investments. Looking for unsustainable revenue growth, margins, prices is how I find shorts.
What degree of scared, I don’t know..that’s why I’m asking what sort of inflation is being priced in to Gold vs. other real assets. Everyone knows that demand for all commodities is falling, so investors will factor that into their prices they will pay for commodity futures. They will also price in some degree of inflation. So I would think the real question is what commodity has the least amount of inflation priced in given your demand forecast??
And yes I realize that if we go back to bartering with gold that the added demand for gold is sustainable and justifies a permanently higher price.
My Response
Okay - saying people are getting scared is just the inverse of saying they are losing trust. So you could say my bet is that people are getting to get alot more scared or lose alot more trust.
If you want to say your dad and my dad and our grandfathers bartered with gold I can buy that. I was just thinking of bartering as something where I exchange my gold for your cow versus exchanging a currency backed by gold for a cow.
So while the industrial demand for gold is falling a whole new use or demand for gold is being created as people are getting scared. My thesis is this tidal wave is just getting started. Sure it is added demand but my guess is sovereign nations in Asia and the middle east are going to get on board of this "new" demand.
I understand your 2nd to last paragraph. It is the standard investment way of looking at it. I just think the paradigm shift (if I am right) makes it mute or at the least unanswerable because it is not going to be your typical supply demand inflation stoked world. It is a world where t in my inflation equation in my letter is going down. It is an inflation not seen in the United States since 1865 in the confederacy. I just don't know to what degree. I hope small.
Final Response
Ok nice conversation, I think I understand where you are coming from. Talking about this sort of stuff is good (for me at least)…forces me to think about what I believe.
Friends Response to My Email In Previous Post
A couple of thoughts/questions: Relating to the question of why gold vs. other commodities, you seem to judge other commodities based on their value in relation to production demand. I do agree that actual demand will fall off for these commodities, as well as gold. Based on the graph I sent you, gold seems to have a value of between 300 and 400 when people aren’t concerned about system shocks. I’m not positive, but I would think this range represents the intrinsic value of gold that allows gold producers to earn a fair return on capital. So, if I’m understanding you correctly, the difference in 300-400 and 2000 is due to its status as a currency.
But doesn’t its status as a currency only improve if there is actual price inflation? If the government keeps printing dollars, but prices keep going down, I would prefer to have paper currencies vs. real assets because my paper currency will buy much more stuff than it used to. The distrust you refer to stems from the fact that people believe their paper currencies might not be worth as much as they used to be if all governments keep printing money like crazy. The only way that a currency is not worth as much as it used to is if it buys less stuff. The only way it buys less stuff is if prices rise. In the long run prices typically rise if the supply of money expands at a more rapid pace than the economy’s ability to produce.
I do think that the money supply is expanding greater than the ability to produce which will cause inflation…in the long run. However, in the short run the velocity of money is slowing dramatically which is muting (or maybe more than offsetting) the impact of printing money…but never mind that, we’ll focus on the long run. So I pose my question again, what level of inflation do we need to justify 2,000 gold? I can already hear you saying that it is impossible to quantify. I would agree that if gold was trading below its long-run value as a production input of 300-400 then by all means buy up some gold. But it is already trading several multiples of that level.
I think my points can be summed up in the fact that despite my deep distrust of all governments for printing tons of money, if prices keep declining, I want paper currency vs. gold. Assuming that I think inflation will go bonkers, I want to buy real assets. The amount in which I pay for that real asset depends on how much I think my paper currency will be inflated. If you think that inflation will be greater than 11.5%, you can justify paying more than 1,200 for gold based on the price of gold in 1979. (And we’ll ignore the fact that gold was down more than 60% by early 1981.)
The other thing that I have trouble getting my arms around is that gold is now a consensus trade. Kind of like oil at $200 was a sure thing. Disaster now. All these guys who are saying buy gold are the same ones that have been saying buy commodities for the last two years and have proceeded to drive off the cliff.
My Response
I am judging other commodities in relation to the supply demand of industrial use as it interacts with the supply and demand of the US dollar. If demand drops equal to the supply increase of dollars than the commodity stays the same price. If the demand drops and the supply of dollars increases but the increase is smaller than the demand drop than in dollar terms the commodity falls in dollar terms......When your referring to intrinsic value your really referring to where MC and MR intersect citing the economic theory that commodity producers shouldn't make economic profits and that in the long term MC should equal MR. First I would say MC has gone up. Just as oil producers are now losing money at 35 a barrell oil where as 8 years ago 35 barrell oil was a gold mine (no pun intended) I would say the MC of gold has probably moved up to around $500 an ounce (I have no data backing that up but I would bet alot it has moved up since 2000 looking at all other metals). So what I am saying is the difference between the 2000 and say 500 is that gold is moving out of being considered just a plain commodity into having another use which is was for thousands of years, as a currency. Most of history gold mining produced millions in economic profits above the cost of capital because gold was not just a commodity as oil or wheat is. It has only been the last 50 to 75 years where this wasn't the case.
Sure its status will improve the higher the price inflation goes but you don't have to have price inflation for it to go up alot. But if the supply of dollars increase and the demand for any good goes up the price will go up. You have this dynamic for gold but not for anything else currently. In fact the supply of dollars are going up even as the demand for gold goes up as Asians and Europeans are wanting another currency option other than the U.S. dollar. Gold.....You right. You would rather keep paper currencies. You made the argument why I don't want to own nickel. But gold is gaining against both because demand is the same or increasing while the supply of dollars is also increasing. On a relative scale it is the most attractive option. How do I communicate this. Think of it this way. Where would oil be if the supply of dollars would have stayed the same from a year ago? 30, 28. 26? So oil may have gained in dollar terms, it has just lost more in economic terms. As gold is wanted for currency purposes it has gained in economic terms and in currency terms.
You said the only way that currencies are not worth as much if it buys less stuff but the only way it buys less stuff is the price rises. Invert that. Think of currency as the price. The price of currency can fall but the demand for a F150 can fall more. In Iceland the price of the currency collapsed as no one trusted the Krona. The demand for the F150 also collapsed but here the price of the currency collapsed more causing the price of the F150 in currency terms to go up.
You looking at gold as an Econ 101 commodity where MC = MR. I would argue for 5000 years it wasn't an econ 101 commodity and for 50 to 70 years it was. We are leaving that blip of history and it is no longer an Econ 101 commodity. There is a problem with that argument and I'll see if you pull it out but the basic point is that if gold truly becomes a currency again you could huge economic profits for the manufacturers for decades.
And I would say for all hard assets the demand is falling faster the supply for money is increasing currently. That doesn't hold true for gold and so you will actually get richer and gain on the increasing money supply. By holding paper money right now you will gain on almost everything even as you are losing (like I said if the money supply would have been held constant what would the price of oil be?). In gold you are gaining on everything while not losing. In fact gold priced in oil shows just how much oil has really fallen even as oil still bubbles around 35 a barrell.
Maybe your right. I disagree. I watch CNBC and no one has a clue in the understanding of why gold is going up. Fast money has gotten long it as a trade and I do think we have a pullback coming to shake some of that fast money out but a bubble is when an economic truth is chased by dumb money. The dumb money still has no clue why gold is going up. Smart money like Einhorn is pounding the table on it. At some point the dumb money will catch on and by then that is when you want to be selling.
His Response
I completely understand that the price of oil could be much lower if the supply of dollars wasn’t increasing. However, as you point out, the price is well below marginal cost, a relationship that will not hold in the long run and indicates that maybe oil is undervalued in the long run.
The only reason demand for gold isn’t plummeting is because people want to own it for reasons other than its productive use. If it wasn’t for this currency perception, gold too would be plummeting. To me that is the definition of a bubble. You literally have to believe that people will stop using currency and we will be bartering using gold. Then you have to be sure to get out before people realize that no one barters in gold and the price of gold is way higher than marginal cost.
In Iceland the price of the krona collapsed against gold and other currencies. However real assets located in Ireland were not impaired by this. To make my point I will use an extreme example. Imagine I owned all of the real estate in Ireland and last year that was worth 1 trillion krona. After the collapse, if the krona price of that land didn’t skyrocket, then someone in America who is holding dollars will be able to by all of the land in Iceland for, say, $1 million dollars. Or maybe someone with gold could by all of Iceland in exchange for one ounce of gold. We know that’s silly…therefore the price of land in krona should be going through the roof.
It stands to reason that if this happens to every currency, the price of all real assets will increase in every currency. Again this is back to my example that you might be able to by all of the land in America for a couple ounces of gold.
I would agree with you that if you believe we are going back to the gold standard, then gold will increase much more than other commodities. However, I think there is better margin of safety in other real assets that can be bought for less than marginal cost or that leaves producers with an inadequate return, just in case we aren’t going back to the gold standard.
My Response
It can last a long time. Look at uranium. It was below MC for over a decade. Close to two decades.
No you don't have to literally believe that people will use gold to barter. You have to believe that the trust in currency will go down, supply of paper currency will go up, or that gold will in some form or fashion back currency in some form or fashion in the future. Also what happens if the Euro or the Pound collapses. I would put that at a coin flip. The perception of gold as a currency will increase. Gold was never bartered with for the fifty years prior to 1960. It was just moved around between countries in large blocks as currency transactions took place. There doesn't need to be any bartering in gold.
Wrong!! Real assets were impaired alot in relation to other stores of value. Take your example in real estate. I agree Iceland real estate gained tons of value in Krona terms but it lost tons of value in US Dollar or Gold terms. That is a net loss in true value. The reason is because of a huge supply glut and even bigger demand fall off for real estate, commercial buildings, homes etc in Iceland. So the true value isn't worth as much unless you compare it to Krona which is even worth less and lost more value. Land lost value, it just lost less value compared to Krona. It stored value compared to Krona but not to other stores of value like the U.S. dollar or gold.
Agree. Once again take your extreme example. It happens to all currencies. Take a current 250k house in Dallas. Now it would take 250 ounces of gold to buy. All the currencies lose trust. Now it takes a quadrillion dollars to buy that same house in Dallas. So the house stored value but because dropping demand in houses as economic turmoil takes place it only takes 100 ounces of gold to buy that same house. So the house stored value in comparison to dollar terms but lost it in comparison to gold terms. Gold kept the same level of value.
In your last paragraph I agree in principal, just not the timing. At some point land will be a great investment to store value. I just think gold currently is going to gain in value in relation to land as currencies continue to implode so the true value of land will go down even if we level out in dollar terms.
His Response
Meaningless paper backed by gold is essentially bartering with gold.
And yes I get it that demand is falling across the board for ALL commodities (including gold for all other purposes than as the anointed store of value). I will repeat that I understand what you are saying…another way of putting it is assuming that the money supply in Iceland was stable, the price of land would be falling relative to gold because there is less demand for Icelandic real estate than gold.
My point is that the only reason demand for gold hasn’t plunged like real estate, oil, copper, etc is that there is added demand for it when people get scared. The price reflects the fact that people are scared right now. The added demand that is driving up gold is not sustainable because when people get happy, people are going to sell their gold investments. Looking for unsustainable revenue growth, margins, prices is how I find shorts.
What degree of scared, I don’t know..that’s why I’m asking what sort of inflation is being priced in to Gold vs. other real assets. Everyone knows that demand for all commodities is falling, so investors will factor that into their prices they will pay for commodity futures. They will also price in some degree of inflation. So I would think the real question is what commodity has the least amount of inflation priced in given your demand forecast??
And yes I realize that if we go back to bartering with gold that the added demand for gold is sustainable and justifies a permanently higher price.
My Response
Okay - saying people are getting scared is just the inverse of saying they are losing trust. So you could say my bet is that people are getting to get alot more scared or lose alot more trust.
If you want to say your dad and my dad and our grandfathers bartered with gold I can buy that. I was just thinking of bartering as something where I exchange my gold for your cow versus exchanging a currency backed by gold for a cow.
So while the industrial demand for gold is falling a whole new use or demand for gold is being created as people are getting scared. My thesis is this tidal wave is just getting started. Sure it is added demand but my guess is sovereign nations in Asia and the middle east are going to get on board of this "new" demand.
I understand your 2nd to last paragraph. It is the standard investment way of looking at it. I just think the paradigm shift (if I am right) makes it mute or at the least unanswerable because it is not going to be your typical supply demand inflation stoked world. It is a world where t in my inflation equation in my letter is going down. It is an inflation not seen in the United States since 1865 in the confederacy. I just don't know to what degree. I hope small.
Final Response
Ok nice conversation, I think I understand where you are coming from. Talking about this sort of stuff is good (for me at least)…forces me to think about what I believe.
GOLD..GOLD..GOLD
Below is an email exchange on gold between a friend. Thought some of you may find it interesting reading. Gold is due for a pullback but I still like the long term risk reward scenario.
Original Email
Jason, gold question for you from the metals novice…I'm sure you will have much to say, but I'll allow you to summarize.
See attached gold graph. Taking 1979 price of 800 and growing 2% per year for inflation equals about 1,200. So peak inflation to peak inflation. The next two attachments show core PCE and actual PCE price indexes hitting 10% and 11.5%, respectively in the 1970s. Does that imply we need inflation to go higher than 10% to move gold above 1200? And why not buy some of the beaten up commodities that are not nearly 300% higher from 2002?
I think I've got a few guesses, but I'll allow you to reply first.
My Response
Lol - your right. I do have alot to say. I could probably type an hour but will try to summarize my general thoughts. I get so frustrated watching people on tv who don't understand what is going on with gold at all. In October and November they kept commenting that the day of the gold bugs had come and the fact that gold didn't move showed that gold was no longer a legitimate asset class for safety. WRONG. It is a legitimate asset class for safety for certain scenarios. Even the gold bugs don't get this. Banks blowing up and going into depression isn't one of them until it starts impacting currencies. During the Great Depression gold did not perform well because it was a deflationary event and governments were worried about the sovereignty of their currencies. Money supply went down. Gold doesn't protect you from this and if this is what was happening I would be shorting it. What is happening now is far far different.
So if your buying gold you have to mentally grasp on to the fact that there is a paradigm shift back to gold as a currency or at least as a store of value. This is at its very beginning stages but as currencies around the world collapse gold will become a second reserve currency. In a worst case scenario it will become the first reserve currency.
So the only reason you ever want to buy gold is because of inflation. Well you look around everything is pointing to deflation. Why is gold going up? This is what the commentators on tv including many money managers don't get. It is a type of inflation that is different than anything we have experienced in the United States going back to at least the 1800s and on a world scale at least several hundred years. It is what I poured my efforts into in trying to explain in my letter. It is an inflation based off the deterioration of trust. It is an inflation that can occur even as economic activity continues to tank. As trust deteriorates in the Euro as the currency is teetering on collapse where do Europeans go to store value? To at least buy insurance? Japanese Yen, US Dollar, Gold. What happens when the Japanese economy collapses as is happening and a heavily indebted government starts teetering, you go to gold and the U.S. dollar. On up the chain if the US government just keeps printing and printing.
Okay so if you buy this paradigm shift those inflation graphs you gave become meaningless. How so? Because you could have CPI flat or negative over the next year but have true currency inflation where gold goes up 100%. Think about that for a second because it shouldn't make sense right away. It was what I spent months tossing around in my brain. So you say why not buy copper or oil or nickel which are much beaten down. Won't they also perform well. Answer is maybe but I wouldn't bet on it. It definitely won't perform on par with gold (at least I don't think it will). The reason is because the inflation that will occur will be a currency inflation where people try to find what will store value. Nickel doesn't do this despite it is a hard asset unless you have a steady demand. What happens if world industrial production goes down 25% in 2009, possible. So you have this metal nickel that the demand continues to fall off making it less valuable even as currencies decline in value in relation to things that store value. Nickel may go up in dollar terms or it may not depending how the supply demand graph of nickel interacts with the supply demand graph of the dollar. Nickel is going up in Euro terms, in Pounds, in Pesos but not in US. dollars. Gold is going up even as the US dollar is going up because the market realizes what is happening (at least my opinion). Actually the US dollar is going down. If you say all currencies are relative and then make gold a currency (which it is hasn't been an official currency in 50 years) than the dollar is going down as the market has once again made gold a defacto currency. I really think that sentence sums up what so many people are not getting and to them the gold move doesn't make any sense. It is why money managers who see inflation but don't really see the type of inflation coming are wrong messing with oil. Oil keeps going down and they are pulling there hair out as gold goes up. But once again a huge tank of oil in economic terms is worth much less if world industrial production were to fall 5%, 10% 25% in currency terms it may be worth more. Which wins? But if currencies are a relative thing than a bar of gold that has now become a currency is worth much more despite what happens to industrial production.
So I think gold is going to 2,000 an ounce in the next 18 months but I don't really know. Someone asked me how I was coming up with a price target and I don't have an answer. You can't value it which drives most value guys nuts as it should. My answer was tell me how much trust gets taken out of the system, quantify that, and I will tell you how high gold goes. Obviously that can't be done. So I don't know where gold will end up but as a handicapper I think my margin of safety is huge that it is much higher from here though we are due for a pullback.
One more anecdote on why I am long gold and not looking at other commodities. If your playing poker and you have four cards out waiting for the last card. You want as many outs as possible for that last card to be a winner. The more outs the bigger you should bet. Nickel in my mind has very few outs. Gold has numerous outs. You can give me all kinds of scenarios and I can explain how gold could be a big winner. There is really only one scenario where it is a big loser and that is money supply stabilizes, the risk to the sovereignty of nations stabilizes, and we go through a deep recession or 1930 depression. I don't see that happening.
Original Email
Jason, gold question for you from the metals novice…I'm sure you will have much to say, but I'll allow you to summarize.
See attached gold graph. Taking 1979 price of 800 and growing 2% per year for inflation equals about 1,200. So peak inflation to peak inflation. The next two attachments show core PCE and actual PCE price indexes hitting 10% and 11.5%, respectively in the 1970s. Does that imply we need inflation to go higher than 10% to move gold above 1200? And why not buy some of the beaten up commodities that are not nearly 300% higher from 2002?
I think I've got a few guesses, but I'll allow you to reply first.
My Response
Lol - your right. I do have alot to say. I could probably type an hour but will try to summarize my general thoughts. I get so frustrated watching people on tv who don't understand what is going on with gold at all. In October and November they kept commenting that the day of the gold bugs had come and the fact that gold didn't move showed that gold was no longer a legitimate asset class for safety. WRONG. It is a legitimate asset class for safety for certain scenarios. Even the gold bugs don't get this. Banks blowing up and going into depression isn't one of them until it starts impacting currencies. During the Great Depression gold did not perform well because it was a deflationary event and governments were worried about the sovereignty of their currencies. Money supply went down. Gold doesn't protect you from this and if this is what was happening I would be shorting it. What is happening now is far far different.
So if your buying gold you have to mentally grasp on to the fact that there is a paradigm shift back to gold as a currency or at least as a store of value. This is at its very beginning stages but as currencies around the world collapse gold will become a second reserve currency. In a worst case scenario it will become the first reserve currency.
So the only reason you ever want to buy gold is because of inflation. Well you look around everything is pointing to deflation. Why is gold going up? This is what the commentators on tv including many money managers don't get. It is a type of inflation that is different than anything we have experienced in the United States going back to at least the 1800s and on a world scale at least several hundred years. It is what I poured my efforts into in trying to explain in my letter. It is an inflation based off the deterioration of trust. It is an inflation that can occur even as economic activity continues to tank. As trust deteriorates in the Euro as the currency is teetering on collapse where do Europeans go to store value? To at least buy insurance? Japanese Yen, US Dollar, Gold. What happens when the Japanese economy collapses as is happening and a heavily indebted government starts teetering, you go to gold and the U.S. dollar. On up the chain if the US government just keeps printing and printing.
Okay so if you buy this paradigm shift those inflation graphs you gave become meaningless. How so? Because you could have CPI flat or negative over the next year but have true currency inflation where gold goes up 100%. Think about that for a second because it shouldn't make sense right away. It was what I spent months tossing around in my brain. So you say why not buy copper or oil or nickel which are much beaten down. Won't they also perform well. Answer is maybe but I wouldn't bet on it. It definitely won't perform on par with gold (at least I don't think it will). The reason is because the inflation that will occur will be a currency inflation where people try to find what will store value. Nickel doesn't do this despite it is a hard asset unless you have a steady demand. What happens if world industrial production goes down 25% in 2009, possible. So you have this metal nickel that the demand continues to fall off making it less valuable even as currencies decline in value in relation to things that store value. Nickel may go up in dollar terms or it may not depending how the supply demand graph of nickel interacts with the supply demand graph of the dollar. Nickel is going up in Euro terms, in Pounds, in Pesos but not in US. dollars. Gold is going up even as the US dollar is going up because the market realizes what is happening (at least my opinion). Actually the US dollar is going down. If you say all currencies are relative and then make gold a currency (which it is hasn't been an official currency in 50 years) than the dollar is going down as the market has once again made gold a defacto currency. I really think that sentence sums up what so many people are not getting and to them the gold move doesn't make any sense. It is why money managers who see inflation but don't really see the type of inflation coming are wrong messing with oil. Oil keeps going down and they are pulling there hair out as gold goes up. But once again a huge tank of oil in economic terms is worth much less if world industrial production were to fall 5%, 10% 25% in currency terms it may be worth more. Which wins? But if currencies are a relative thing than a bar of gold that has now become a currency is worth much more despite what happens to industrial production.
So I think gold is going to 2,000 an ounce in the next 18 months but I don't really know. Someone asked me how I was coming up with a price target and I don't have an answer. You can't value it which drives most value guys nuts as it should. My answer was tell me how much trust gets taken out of the system, quantify that, and I will tell you how high gold goes. Obviously that can't be done. So I don't know where gold will end up but as a handicapper I think my margin of safety is huge that it is much higher from here though we are due for a pullback.
One more anecdote on why I am long gold and not looking at other commodities. If your playing poker and you have four cards out waiting for the last card. You want as many outs as possible for that last card to be a winner. The more outs the bigger you should bet. Nickel in my mind has very few outs. Gold has numerous outs. You can give me all kinds of scenarios and I can explain how gold could be a big winner. There is really only one scenario where it is a big loser and that is money supply stabilizes, the risk to the sovereignty of nations stabilizes, and we go through a deep recession or 1930 depression. I don't see that happening.
Wednesday, February 18, 2009
Deep Bear Growl
If your short the market you had to like the market action today. After a wash out on Tuesday (in which we broke that 808 mark), for the market to finish flat as it just grinded up and down in a narrow range I take as very bearish. If you look at the internals, they were much worse than the overall market with many more stocks down than up. It wouldn't be surprising at this point to see a run at 800 to 805 but I would guess based how the market reacted today that in the next three trading days we will have another meaningful move lower. Equities as usual are the whipping boy. Things are being driven overseas, in the currency markets, and now the debt markets again are acting up. Equities are just responding.
Only thing I would like to see is the NASDAQ breaking down. That so far isn't happening with the NASDAQ still higher than the January lows. There are alot of tech stocks with alot of cash and the one area of the market where you have war veterans of depressionary economics when the tech companies went through their own depression several years ago after the tech bust. Still I think it is only a matter of time before it heads at least somewhat lower.
Only thing I would like to see is the NASDAQ breaking down. That so far isn't happening with the NASDAQ still higher than the January lows. There are alot of tech stocks with alot of cash and the one area of the market where you have war veterans of depressionary economics when the tech companies went through their own depression several years ago after the tech bust. Still I think it is only a matter of time before it heads at least somewhat lower.
Subscribe to:
Posts (Atom)
