Taylor On US Market & Gold
Financial Markets
With consumer CONfidence on the rise and with a 7.3% GDP growth numbers now posted for the third quarter, were I to view the world through the nearsighted, rose-colored glasses of Kudlow and Cramer, I could easily
conclude that America has never had it so good and that the best days for
our country still lie in the future. Never mind that we have had an
unprecedented number of consecutive rate cuts and that the Federal Reserve has been printing money as if it were facing doomsday. Never mind that most of the growth of this year has come from a war-driven economy. Never mind that insiders are selling 40 times more stock than they are buying in their own companies. Never mind that Warren Buffet can't find anything attractive to buy on Wall Street and that John Templeton thinks the U.S. is facing an economic disaster. Never mind that most major companies say they can't see far enough into the future to begin hiring people, to engage in massive capital expenditure, and to predict earnings with any certainty next year. Never mind that this is the first jobless recovery 20 months into an economic recovery since World War II. Never mind that the U.S. is the world's largest debtor and essentially a bankrupt nation that has to rely on $1.5 billion of foreign capital per day, not to build its infrastructure and productive capacity but simply to keep on consuming.
None of this matters to Kudlow and Cramer and other Wall Street salesmen
whose firms get the benefit of free Wall Street infomercials from CNBC and CNN on a regular basis. Sure, now and then our friend David Tice makes it on to one of these shows, if for no other reason than to give the
appearance of balance. But anyone who constantly criticizes the mainstream
view that fiat money is good and gold is for Neanderthal Man, is not
welcome as a regular guest. We understand from a remark made by Jim Rogers in the Chicago Natural Resource & Technology conference last weekend that not even this freedom-loving, free-speaking, free-thinking icon of American investing is no longer welcome on CNBC. He is a regular guest on Fox, the "fair and balanced" network. But it must be that Jim's outspoken criticism of Wall Street and Washington is now too much for the establishment to handle.
Nor do we often see our friend Congressman Ron Paul on national television.
Dr. Paul is perhaps the only national legislator that understands that the
founders of our Constitution intended for us to stay on an honest money
standard constructed of gold and silver, rather than the counterfeit system
we currently have, which Alan Greenspan himself said was used by the
government to rob its citizens.
How the Current System Robs Common Ordinary Americans
In my remarks at the Chicago show last weekend, I talked about how our fiat
currency system will be defended to the end by our politicians and bankers
because that system allows them to reallocate wealth from average folks to
Wall Street and Washington in a most parasitic manner. After my remarks, a
delightful middle-aged lady, who has retired from the U.S. Marine Corps and
who subsequently earned an M.B.A., came up to me and commented as follows:
"When you speak of average folks losing what they have earned, I can see
clearly how that is happening. I have so many friends that are locked into
401-k programs that have no alternative investments to the stocks. No gold
stocks. No commodities. No gold or silver bullion alternatives. And the
only way these folks can take out their money from their 401-k programs is
if they quit their jobs. So people are locked into the system and when
these shares finally come tumbling down to more natural valuations or worse
yet to bear market bottoms, their lifetime savings and retirement accounts
are going to be largely gone!"
This very decent lady has it figured out. And she lamented the fact that
virtually none of her friends understood this and that virtually none of
them were preparing to protect themselves against the impending loss of
wealth to most Americans. She said she couldn't understand why so many
people just can't seem to get this rather simple issue. I told her I long
ago gave up trying to convince everyone I speak to about how America's
counterfeit monetary system is leading our country into ruin. I told her I
believe the notion that the establishment is lying to us and that everything they have worked for is or will become virtually worthless is simply too threatening for most folks to comprehend. So they simply deny it and in some cases get absolutely angry when you point out this truth. Remember a couple of weeks ago when I related how my friend Steve Gofner bought into the idea of a book titled "Buy High, Sell Higher"? Steve is one person who laughs and ignores my views and he has bought into the notion of perpetual money creation prosperity. Even some well-known economists, including most supply side proponents seem to think there is no problem printing endless amounts of money.
The Sobering Reality
For my money, the following article written by Jacqueline Thorpe and
published this past Tuesday in Canada's Financial Post provides a much more
realistic perspective than what CNBC and CNNFN gives us every day.
"The creaky house that cheap credit built - These numbers are scary'
"Now that we're all happily expecting lift-off for the United States after
a 6% growth surge in the third quarter, it seems the perfect time to
revisit the skeletons still lurking in the closet of the world's biggest
economy.
"In honour of Halloween then, and the most ghoulish time of the year for
stock markets, herewith is a house of horrors rundown.
"Credit card debt, mortgage debt, bulging lines of credit, state debt, a
staggering federal deficit. The main worries for those who don't quite
believe everything is coming up roses for the U.S. economy can all be
traced back to debt.
"Sure credit is cheap and the surge in house prices means all that debt is
being supported by an equally impressive rise in equity but yikes the
numbers are scary.
"Staphane Marion, assistant chief economist at National Bank in Montreal,
said the Federal Reserve has come up with a new measure of household
liabilities that adds rent, auto leases, house insurance and property taxes
to its traditional measurement of the debt-service ratio that consists
mainly of mortgage and credit card debt.
"Homeowners are now forking over 14% of their disposable income toward
servicing debt, up 16% over the past decade. The picture is darker for
renters where the Federal Obligation Ratio has jumped 32% to 30%.
"The explosion of creative new credit products has been embraced with relish.
"U.S. renters can now charge their monthly rent to their credit cards. Bank
of America offers a Visa card tied to home equity. Since some mortgage
interest is tax deductible in the U.S., the card offers allows some
homeowners to deduct their Visa card interest against their taxes.
"Myvesta, a U.S. credit counseling service, said a recent internal survey
of its clients shows average credit card and unsecured debt rose 50% to
US$77,036 in 2003 from 2002. Mortgage debt rose 25% to US$207,958.
"Individuals aren't the only ones borrowing like crazy. California is in a
US$38-billion hole, while the federal deficit shot to a record
US$374-billion in fiscal 2003.
"Many are nonplussed. The debt bubble can be easily explained away:
Borrowing is what makes the U.S. economy tick. Consumer credit has been on
an upward trajectory ever since it was invented. The rise in credit-card
debt may be due to consumers trying rack up reward points. The surge in
mortgage debt means more people are owning homes -- a good thing. The
federal budget deficit may be large, but it is still only 3.75% of GDP.
"That may all be true, but what ever-rising debt does mean is that economy
will be vulnerable to shocks -- a stock market retreat, for example. If the
orderly decline in the U.S. dollar turns into a full-blown rout, the Fed
may have to raise interest rates to lure foreigners back in. The cost of
carrying that monthly credit card debt would suddenly soars.
"That's the scaremongers' view. A more rational reading of the situation is
that any easing of borrowing -- when the tax cuts wear off, for example --
could stop the recovery short if job creation doesn't kick in time.
"Never before have U.S. households been this leveraged at the start of an
economic recovery," Mr. Marion said.
"The Fed will need to manage this cycle with extreme caution."
"Can you spell bubble? There is no housing bubble in the United States,
except in a few pockets, the current wisdom goes. Trouble is, many of those
pockets just happen to be major metropolitan centres.
"David Moore, a banker and resident of San Diego, has experienced first
hand the real estate "lunacy" in California. San Diego has the highest
median home price of an city in the country.
"In 2000 he bought a 1230 square foot condominium for US$188,000. Three
years later this April, a similar condo in his complex sold for US$242,000.
In May one sold for US$246,000, in July one went for US$295,000, and August one sold for US$305,000.
"Having watched prices rise 26% in five months, Mr. Moore couldn't take it
any more and sold his condo for US$306,000 this fall -- for a US$100,000
profit.
"He profited handsomely, but will the new owners be so lucky? He outlines
the monthly outlays for the new owners compared to his own.
"Mr. Moore put US$45,000 down and financed the remainder plus upgrades for a total mortgage of $151,000. With an 8%, 30-year mortgage, his monthly outlays, including condo fees and property taxes, came to US$1,474 - or US$961 when adjusted for the tax deductibility of mortgage interest in the United States.
"The new owners, meanwhile, put US$61,000 down, leaving a mortgage of
US$245,000. Even with the a lower mortgage rate of 6.5% for 30 years, their monthly outlay, including the same costs, is US$2,050, or US$1,450
tax-adjusted.
"So these ultra-low interest rates may have made home ownership affordable for many, but the rise in prices has shouldered them with an awful lot of debt.
"Mr. Moore says his experience is not unique, at least in California, a
state which for all intents and purposes should have seen its property
market cool after the tech wreck decimated jobs and earnings.
"'It is routine as eating breakfast in the morning,' Mr. Moore said. 'It's
insane. It's completely totally out of this world.'
"Fannie Mae and Freddie Mac Freddie Mac and Fannie Mae, have facilitated
this great new U.S. house boom. These giant government-sponsored
corporations buy mortgages from lenders and securitize them. They make
money on the difference between the cost of the debt they issue and the
return on the mortgages they buy.
"They now own or guarantee about 42% of the U.S. mortgage market. Many
assume these quasi-governmental organizations would be bailed out if there
was a major upset -- such as a property crash -- that threatened their
survival. So the fact that nearly 50% of the U.S. mortgage market is run by
just two companies -- whose arcane hedging strategies are a mystery to most -- doesn't seem to faze many.
"Did we say bubble? There is no stock market bubble, most analysts say,
except perhaps among a few high-tech stocks.
"Bloomberg's U.S. Internet index has gained 116% from a record low on Oct.
8, 2002. True, it was rising from a very low bottom, but there's some crazy
numbers out there in the market again.
"For example, NASD margin debt is 21% greater than it was when the Nasdaq was at its peak in March 2000, according to Grant's Interest Rate Observer.
"There's those low interest rates at work again.
"A vigorous and sustained recovery should put all the demons back in the
cupboard -- at least until the next slowdown."
A Phony Recovery
What makes the above article special compared to most of what you read in
the mainstream press these days is the emphasis on debt and how debt has
been used to superficially stimulate the economy. What we have is not a
real economy.
One of the most perceptive observers of the global economy in my view is
Marshall Auerback, who works for David Tice & Associates as well as Frank
Veneroso. I strongly recommend you read Marshall's weekly column at
www.prudentbear.com. This past week Marshall pointed out some of the
problems that loom over the U.S. recovery, which could derail the rise in
commodity prices.
In the U.S., Marshall rightly suggests rising mortgage rates could crimp
consumer demand, especially for the American consumer who is already
leveraged up to his eyeballs. Of course Greenspan's easy money policy over
the past years has pushed interest rates lower and as such has made it hard
for Americans to pass up the temptation to live for today at the expense of
tomorrow (though I'm sure most are not thinking in those terms). But at
some point, the piper must be paid, even if Greenspan continues to run the
printing presses, because as we point out constantly, the debt-servicing
costs are rising dramatically. As pointed out in the article above,
homeowners are now forking over 14% of their disposable income toward
servicing debt, up 16% over the past decade. The picture is even darker for
renters where the federal obligation ratio has jumped 32% over the past
decade to 30%.
The notion that rising interest rates could derail the U.S. economy and
hence wreak havoc on the global economy, especially if all of the $1.5
billion per day of foreign capital stops flowing into the U.S. is something
yours truly has frequently talked about. But Marshall pointed out a dynamic
that could very well set this trend in motion. Marshall points out the
distinct possibility that China's economy could cool off considerably as
officials there begin to worry about overheated conditions in certain
industries. Funny how these communists seem to understand even better than Alan Greenspan, "the god of economics," that markets can become overheated.
In any event, Marshall pointed out in his October 28th article at
www.prudentbear.com, some signs that the Chinese economy could soon begin a significant slowdown. This leads me to wonder if this might not result in a
slowing of capital flowing into the U.S., which in turn could lead to higher interest rates, which in turn could trigger the long-awaited Kondratieff winter, starting with the biggest debtor nation in the world, namely America.
Here is what Marshall said of a potential for the Chinese economy to slow
down.
"Outside of the US, China has become the big buzzword in the commodities
world, just as it was in 1993. True, the country has already become the
world's single largest consumer of copper, and a large importer of iron,
steel, building materials, and non-ferrous metals. But for all of the
China-driven euphoria, such excitement ignores important adverse monetary
developments, which threaten to short-circuit this underlying demand. As
long time China observer Simon Hunt has noted, the Central Bank has issued
instructions to all commercial banks to be very careful in opening fresh
lines of credit for the importation of alumina and iron ore. This is in
line with what Ma Kai, Minister for the State Development and Reform
Commission, stated when he identified these commodities as one of the key
sectors of the economy where signs of overheating were most apparent and,
hence, most worthy of further monetary control. Chinese monetary
authorities appear to have begun what will be a concerted effort to unwind
the excesses of a bank lending cycle that pose the very real risk of a new
wave of non-performing loans in China. As Andy Xie of Morgan Stanley has
argued, a reduction in bank lending will have the unmistakable effect of
slowing Chinese capital formation and Chinese commodity demand -- factors
that have been central in driving these hard assets higher this year.
"Investors who express scepticism about China's ability to prick its
capital expenditure bubble forget the experience of the early 1990s, during
which authorities also announced to great fanfare (and concomitant
widespread Western scepticism) that they would be tightening credit demand to avoid a future crash. Not only did China do so, but the successful post bubble transition largely enabled the country to weather the adverse
external shocks brought about by the 1997/98 Asian financial crisis. As
China is now a huge marginal commodity consumer, any such slowdown is bound to have a deleterious effect at the margin, and may very well catch
speculators on the wrong side of the trade. "Commodities strike us today, not as an alternative asset play, but simply another symptom of a massive credit bubble. The drivers of demand are not Western businesses or end users, but managed futures funds and hedge fund managers who have been thematically investing in "reflation" plays, as well as being driven by short run price momentum. If it trades well, these funds get on the bandwagon. One can see this trend vividly in the record long speculative positions now being recorded in the copper and gold market futures.
"If an adverse growth inflexion point is reached, as we suspect it might
imminently, global growth will invariably falter and speculators will exit
these long positions en masse (which is precisely what happened in 1993).
That spells considerable price vulnerability in the absence of further
physical demand. It will also undermine investment and speculative demand
for commodities. Indeed, false economic pricing engendered by speculative
purchases may actually have the ultimate effect of triggering gluts and
thereby reverse recent gains made in the commodities complex. Already BHP
has announced a significant expansion of copper production in its Escondida
property in Chile based on an anticipated increase in underlying demand
next year. Were this demand fail to materialise just as copper production
was reaching full peak, it is not too difficult to envisage what would
happen to underlying prices.
"In a sense, the price rise in commodities, reflect not so much the
emergence of robust global demand for "stuff" as it provides yet another manifestation of what the Fed's
extraordinary credit bubble has wrought. The main players in these trades
are the same kinds of players heavily involved in European bonds in
1993/94, (despite knowing nothing about the underlying liquidity of such
instruments), the yen/dollar "carry trade", and the Russian GKO market in
the late 1990s (during which foreigners at one stage held more than
three-quarters of the debt traded). We all know what happens when such
trades get uncomfortably crowded. The rush for the exits creates very
unpleasant price action and invariably does nothing more than illustrate
the dangers of rampant speculation run amok. The commodities complex has
that unfortunate feel about it today."
GOLD
As for gold, I think the only thing you need to understand is that we are
in a secular bull market and that the price is getting away from the
establishment. There is no reason in the world to think this is not true because if the establishment were still in control, you would never have seen gold rise above its $255 low, never mind bust through the 18-year bear
market downtrend.
During the heydays of the Clinton Strong Dollar Policy, Bob Rubin and
Lawrence Summers were able to trash the gold price via the ESF by
leasing/swapping the yellow metal to their crony capitalist friends at
Goldman Sachs, J.P. Morgan, Chase, Deutsche Bank, and Citicorp. Through the ESF, which is not accountable to anyone except the President-not the
Congress, not the courts, and not the American people-they simply made gold
available via sweetheart gold loans to these bullion banks. The bullion
banks couldn't have cared less that their use of gold as a low cost of
funding had bigger geo-political implications or that they were being used
to make the dollar look stronger than it really was. All they knew was that
they could profit handsomely from this close and cozy relationship with the
executive branch of our government and the Federal Reserve by borrowing
gold at a 1% interest rate, selling it, and then using the proceeds to invest in U.S. Treasuries at 6% or 7%. And no need to worry about a rising gold price when it's time to pay the loan back because Alan Greenspan assured them that "central banks stood ready to lease gold in increasing quantities should the price begin to rise."
During the Clinton days, the kind of bounce back in the price of gold that
occurred on Wednesday, October 29, 2003, never happened. Now it happens
consistently because gold is in the accumulation phase of a major bull
market. Why is that? Because there are powerful global forces that are in
fact overwhelming the desire on the part of our legal counterfeiters to
deceive the world into thinking the value of the dollar is stronger than it
is by trashing gold via dishoarding.
Instead, what we are seeing is evidence of a major gold bull market as
reflected in the monthly average gold prices pictured in the chart above.
I am confident in saying that prognostications of gold having pretty much
reached its peak and that you should go right back to buying equities with
both hands is little more than a projection of wishful thinking from the
likes of Kudlow and Cramer. This past week CNNfn had Christine Benz of
Morningstar on to talk down the notion that gold funds are a good place to
be. She picked out the name of one gold fund manager whose fund is more
diverse than most gold funds. She noted how this fund manager was cautious
on gold at the moment. So why not follow the thinking of this one fund
manager? Besides, Christine noted that she was a "reversion-to-the-means
type of person." In other words, pick a period of time for gold prices that
suits your bullish case and draw a line through the middle of the gold
price range at that time. If the price of gold happened to be above that
line, "sell." If it was below, then "buy."
The anti-gold bias from Christine Benz is clear to me. But then why should
I expect anything else? The total amount of money under management for the 45 gold mutual funds tracked in "Barron's" is a mere $5.5 billion, which is a mere two-tenths of one percent of all the mutual funds listed in
Barron's. That will change in time as the big dollar lie becomes a reality
to most people. For now, we are happy that people like Christine Benz talks
down gold because it tells us that we are still in the very, very early days of a gold bull market, and that the price of gold is still very, very inexpensive because the vast majority of investors have not got a clue that gold is in a bull market nor why its dollar price is likely to rise dramatically from here over the next 5 to 10 years. That is not to say we won't see some gut -wrenching declines in gold that will shake all but the heartiest gold bugs out.
As Richard Russell points out, it is during the earliest days of a bull market when it is the most difficult to stay long. Investors will constantly recall the long bear market and numerous false starts for gold over the past 18+ years. And they will constantly remember the glory days for stocks.
Which is why we need to keep our eyes on the long-term dynamics as pictured in the hugely bullish chart shown above. As of this writing, the monthly average gold price is $377.51. The 20-month moving average is $335.99, and the 40-month moving average is $304.52. In my view, as long as the spot price holds above the 40-month moving average, I remain bullish on gold. If this level were violated and the underlying fundamentals showed all the serious global economic imbalances were brought back to equilibrium, only then would I begin to worry about my long position in gold.
November 1, 2003
Jay Taylor, Editor of J Taylor's Gold & Technology Stocks
www.miningstocks.com
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