It’s the Fed, Stupid

July 20, 2013

The Federal Reserve’s proposed timetable for tapering its $85 billion-a-month bond-buying program is not set in stone, Chairman Ben Bernanke said on Wednesday in fairly dovish prepared remarks to a Congressional panel. “I emphasize that, because our asset purchases depend on economic and financial developments, they are by no means on a preset course,” Bernanke said in remarks prepared for delivery to House Financial Services Committee.”

And up went the stock and bond markets again, just when they looked like they were about to roll over for a short siesta (no rest for the wicked).

According to big Ben, the market should worry about “issues such as the status of the debt ceiling” and the effects of tighter controls on government spending, he added in his testimony.

The reaffirmation of his easy money policy should have been old news for our readers.  Not only did I remind you not to worry too much about an imminent onset of a “tapering” just last week, but also, I told you why we aren’t too worried about gold prices even and especially if it did happen.

We also wrote at the outset of 2013 that we expected the Bernanke Fed (not just Bernanke) to talk out of both sides of its mouth as it tries to feel its way around in the dark.  This form of reflexive consensus building & simultaneous expectations molding – where planners use the media to put out ideas and then wait for the feedback – is a crude way for them to calculate the solution to a problem that wouldn’t exist in their absence.

The problem is inherent in central planning, as Ludwig von Mises revealed in his magnificent treatise on the problem of economic calculation:, or for a summary:  Some analysts think that this type of communication is confusing, others think it is open and honest.  Yet it can hardly ever be as open and honest as a market driven monetary system.

Indeed, if Bernanke were a great communicator why does he need to repeat the message?

It’s regrettable that the Fed gets the lion’s share of influence in molding investor outlooks.

We’d like to say there are other fundamentals to talk about: jobs, the economy, corporate profits, technological breakthroughs, rising personal incomes, Tesla, Obama-care…but in truth these things are all overshadowed by the influence of the government supported fractional reserve banks, if they are not almost directly underwritten by them.

The employment market already seems largely structurally dependent on the boom-bust economy that fractional reserve banking generates.  Capital and wealth is misallocated if not destroyed.  There is enormous growth in government and the public debt.  Still, the boom created by fractional reserve banking can still inflate GDP, profits, stocks, employment (temporarily), consumption, and practically all economic activity.  It may all be unsustainable and unproductive activity, but it still convinces people that a boom equates to growth.

So there we are stuck evaluating every step the Fed might make, hanging on every word it says.

In real estate, the secret of success is: location, location, location.  In exploration, it is: structure, structure, structure.  But most generally, in most financial markets, it is inevitably: Fed, Fed, Fed.

Unfortunately, the Fed is most relevant to trends in financial markets, and we are forced to watch the show.  Most of what anyone considers to be “the fundamentals” can be and are influenced by Fed policy – too much indeed!  That’s just another reason to end the Fed.  Too many things are Fed driven.  There are too many bankers and brokers who could be producing more suits, parking cars, driving taxis, delivering pizzas, or flipping burgers.

Imagine how much prices would fall then!

I have seen with my own eyes how this policy subsidizes the dumbest and biggest risk takers and punishes the most prudent risk managers.

In a gravely tragic sense, our current monetary system is hostile to the foundations of civilization.

Society is built on savings.

But central bankers supplant those real savings with what Hayek called forced savings, which relieves us of having to sacrifice consumption, but simply results in overconsumption, malinvestment, and the boom-bust cycle.  Over time these forces tend to discourage saving and social cooperation, as De Soto notes they tend toward decivilization.

The tragedy is how so many people confuse such a centrally controlled financial system with a free market one.  The dominance of Fed policy in market forecasts (including mine) and in media reporting on financial markets today is sufficient empirical evidence of that unholy truth.


Calling All Value Investors!

Regardless of our objections, the markets were heartened by Bernanke’s reaffirmation of the same old message, and traders quickly bid up Treasuries and dollars, put a floor under stock prices, and dusted gold.  And, why not?

Gold has been such a lousy performer of late.

Not nearly as strong a performer as the US dollar, which is up a whopping 15% against a basket of currencies from its 2008 low, and down just 30% over the past decade.  And you know by now how well stock prices have performed in that period.

Why would anyone have confidence in something that has more or less outperformed everything for most of the past decade, or longer in some cases.

For now, the bearish forces are still in control of the gold price trends.  But the market bounced firmly off its $1180 low.  Will there be another test?

I do not know.  I can only tell you that the $1170-1250 area matches the full extent of the objectives implied by previous chart formations, and that the sentiment is way too bearish to sustain this level.

We continue to hear of shortages at these prices.

Just today we saw news of a run on JP Morgan’s vault gold.  Combined with the fact that short term gold forward rates (over Libor) have been negative for 10 days, as you can see at the link below,

It seems that some type of bottom is likely, based on my experience trading and advising on gold.

From a valuation perspective I percieve this low as an overshoot – just as the run up to $1925 was an overshoot in 2011.  Our shadow gold price suggests a reasonable bull market value of $1554 and a bear market value of roughly $800.

If the bull market is over we could see $800.

A decline similar to what happened in the mid seventies would take gold down to around $1000.

But I’ve told you why I’m not that bearish,

>> I see this is a correction to a primary bull market, not a new primary bear

>> The mid seventies correction took place after a more volatile upswing

>> I do not buy the economic recovery story

You could see a retest of $1180 in my outlook.

Of course, the odds are against bottom pickers!

But there is great value here, in our opinion, and we continue to stand by our bull market forecasts for the ultimate value of gold (>$3k) by 2017.

Today, value investors would rather chase the more recent past.  A true value investor would be buying the gold miners today.  Their earnings and dividend prospects are at least as good as any other sector, but most importantly if you are a value investor, they trade at less than half of the broad market multiple.  Truth is that most value investors are simple historians with a short term memory, which makes them momentum traders at best.  They will return to the gold miners when prompted by a catalyst, like ameoba reacting to stimuli.  One catalyst could be a correction in the stock market, which is probably due…but maybe early by a few months. Ideally, we will get a sell signal in our sentiment indicators and monetary metric (Frank Shostak’s metric is already giving off a sell signal: “We suggest that a visible decline in the growth momentum of AMS is expected to bust various bubble activities, which sprang up on the back of the previous increase in the growth momentum of money supply.” See below link,

In my analysis, the boom could last a little bit longer, but we are not far behind.  Meanwhile, I am more bearish on the Treasury market and on the USd index than on stock prices.  And frankly, I’m no fan of the catalyst trade.  I prefer buying or selling value and sentiment.  I think catalysts are rarely predictable, and rarely explain market change as much as their proponents think.

What was the catalyst when gold topped at $1925 that brought the reversal?  What was the catalyst   when it bottomed at $685-ish in 2008 that caused it to bottom?  Fundamentals work just fine, thanks.

The factors that have supported the USD (‘risk off’ and relative asset outperformance) have been weakening.  The trend in the DJIA/DJW ratio and non US equity charts suggest we may be right that the US may be ripe for a period of capital outflows as speculators chase better returns overseas.

As the safehaven bid continues to evaporate and the Fed talks about tapering, and with the approach of the debt ceiling conflict again, I see nothing but downside in the Treasury market, and in the USD – if you are looking for a catalyst.

But what if I am right and we have seen our sentiment extremes in gold, and this is just a correction (rather than a new bear market).

In this case, while there may still be room for some nearby volatility, the market should ratchet back to our fair market valuation of around $1500.

Beyond that, I see it keeping pace with the general boom until its next parabolic move, which might not start until it gets past $2000.  And, I can see that happening by the end of next year.  It only took one year to recover from the 2008 drubbing!

If I’m right about the bull market I may not be that far off in that outlook.  Hence, unlike above $1650, I am more than comfortable adding to gold bullion and related positions down here, as well as gold stock positions, and even if they go lower.

Unless my outlook on equities and the USD is off, I would argue that gold has likely bottomed…or that the worst of it is over.  There’s always the chance I could be wrong but that’s how I see it.


Since 2009, Mr. Bugos has been the CEO of his own independent research company (Precious Metals Equity Research), which sells research to small and medium sized broker-dealers, and other providers of financial content.  Mr. Bugos is also the senior analyst and partner at The Dollar Vigilante, a newsletter aimed at helping investors survive the eventual collapse of the dollar system, and of American freedom.


Ed Bugos is a mining analyst, investment banking professional, and senior analyst at The Dollar Vigilante (an online guide to surviving the dollar crash), with more than 20 years experience in the investment business advising clients on portfolio and trading strategies.

10 karat gold is 41.7% pure gold.