first majestic silver

The Obvious is Obviously Wrong

October 13, 2010

"A government that robs Peter to pay Paul can always count on Paul's support." -- G.B. Shaw

"All problems come from the fact that people don't understand money." -- John Adams


All we have been hearing from Obama, Bernanke and Geitner lately is the steps that they will take to prevent deflation; the Government's current favorite "Straw Man." So it was interesting to note that the Producer Price Index for July was reported to have gained more than 4% year over year; which as we all know comes from a source that always, intentionally, understates inflation. We are also aware of some serious price drops as well, but most price decreases are the result of innovation and productivity improvements such as Computers, TVs and Cell phones etc. that have been declining in price for 20 years. On the other hand, sugar, grain and most commodity prices are soaring toward records highs as world demand expands due to the increasing living standards in the booming developing nations: Which has also pushed up the cost of a broader range of products, including rice, coffee, cocoa, as well as non-edible products, such as cotton, which also have been soaring in price. Doesn't this sound a lot more like INFLATION than Deflation? Lets not forget about the Hard Commodities like Copper, etc.

On the other hand, by sifting through all the misinformation coming out of Washington, it looks like we will most likely be using the latest vernacular; a Double Dip RECESSION before the end of the third quarter. After all, the revisions are in, (after the Elections) it will probably be determined that there never was any real recovery and that all we really had was a Dead Cat Bounce.


It seems more probable that we are headed for the worst of all possible situations, a period of Stagflation, which is an entirely different world from Deflation. My most logical expectation is an ever increasing QE2 and a rapid deleveraging of both the public and the bankrupt States. Even though nobody seems to know what, in words, is actually unfolding, business and the public see it coming; why else would they be "hoarding" so much cash. Investing in Treasuries given today's yields is a fool's game unless Capital Preservation is of the prime importance. That also makes sense in light of companies such as IBM who do not need any money, yet are nevertheless borrowing $ billion's at 3% for 10 years just because they can.


I have explained the difference between the three on numerous occasions and if you can't remember please go to the archives at But the main point that I want to impress on you is that we have already entered a period of Stagflation, only this time around the Administration's methods of combating the high unemployment and slumping GDP, are mostly political and will do more to destroy the value of our currency than it will to increase employment and GDP.


Historically the only truly reliable method to determine the valuation of stocks is by using the non manipulative dividend yield. The current dividend yield on the S&P is a paltry 2 %: The historical average is 4.36%. The lowest dividend yield was 1.11%, in August of 2000. The highest dividend yield was 13.84% in June 1932. Therefore, on a dividend yield basis, the market is currently overpriced.

Gross National debt has never been at or above 90% of GDP. But there is always a first time and that is the case today. Along with the massive deleveraging that still lies ahead for both the public and private sectors, the Treasury must auction off close to $10 trillion and rising each year, to cover our ballooning deficits and rollovers. That's assuming interest rates stay a ZERO.

I cannot recall a time when printing money was presented as the economy's saving grace and brought front and center as a national policy. The odd short periods of time when it was done in the past, it was done discreetly with the hope that no one would notice.

Today's dollar is worth only 12 cents in 1971 dollars. But all PONZI Schemes must, eventually, come to an end and this one (Bonds) is no exception and is about to end shortly. Before this is over (3 to 7 years), the U.S. dollar will lose its value as money as well as its Reserve Currency Status.

The keystone of the entire global monetary system is the U.S. dollar, which means that the primary reserve holdings of virtually all the world's central banks are at risk of going up in smoke. And what is even worse is that corporations the world over are sitting on huge dollar holdings and are dependent on commercial contracts denominated in dollars. If all that is not trouble enough, all countries have followed the lead of the USA and launched fiat currency systems of their own. It's dangerous enough that the world's reserve currency is a fiction - but the situation becomes really dire when you accept as fact that rest of the world's currencies are also a fiction. At this time there is no other currency system that is big enough and strong enough to replace the Dollar as a Reserve Currency?


The relative trickle of investment funds moving into Gold today will very shortly become a torrent, completely outrunning available Gold supplies and sending prices through the roof.

Although no one I know can say when the big spike in Gold will begin in earnest, given the World's Financial Fragility, it could literally happen over night. While the focus in recent months has been on the troubles in the Euro zone, don't forget that the "straw that broke the camels back" was ultimately the crashing U.S. housing market and its mortgage backed securities.

While financial institutions and Governments around the world are at least attempting to recapitalize and are attempting to address their structural problems, US policy makers and their economists have their heads stuck in the sand and are fighting the patient's symptoms without even offering or even thinking of a possible FIX. Moreover, the U.S. is not addressing its own structural deficits, increasing the risk that America's Deficit Viruses will morph into a full Malignant Cancer, destroying all that it comes in contact with.

First and foremost, it is important to acknowledge that the GSEs, FMN and FRE were fundamentally ill conceived; so how can they possibly be saved? Without subsidies, home prices will continue to fall - But that would make homes more affordable!!! Policy makers don't seem to be interested in affordable home prices, they are only interested in the short-sighted belief that preserving the value of overpriced homes through government interference will get them re-elected. After all, the election cycle is never more than 2 years away resulting in Extend and Pretend since it seemed to have worked for the last 40 years or so. But all good things eventually come to an end.

The stock market always attempts to discount the future, which means that economic weakness is only ever a threat when it hasn't been discounted. This is why the stock market often makes a sustained up-turn, months before the economic data begins to show its true colors. However, there is an exception -Should the FED and the Government decide that the only way left to get money into the hands of the people and Main Street is to BUY SECURITIES with their out of thin air money, instead of creating assets for the FED and Reserves for the Banks, that are NOT lending, then we could be in for a hell of a suck-in rally that will create the Biggest BULL Trap in recorded history.

With the Case-Shiller house price index still 37% above its value in January 2000, just about matching the CPI rise during that same period, house prices are still at least 15% to 20% above their long-term average in terms of incomes (the recession reduced incomes has not helped). However in certain areas such as New York, Boston, and Washington DC and its suburbs along with coastal California, house prices remain far above their historical norms.

Global commodity prices are rising inexorably, driven partly by rapidly rising demand in emerging countries that consume a large proportion of hard products (rather than services), but also by persistent negative global real Interest rates. Gold prices, which are once again about to break out to all time record highs, are only a symptom of this. The World Gold Council recently reported that global demand for Gold increased by 40% in the second quarter of 2010 and is running far ahead of supply. Needless to say, the immense liquidity among central banks are increasingly finding Gold a better investment than each others' currencies, and hedge funds and corporations in general, are also feeding the rise. However, little of the global inflation has yet affected US prices (which are in any case carefully "managed" by the Bureau of Labor Statistics) but its force cannot be denied much longer; By the end of the year, US inflation figures are likely to look considerably less benign than they do today.

INFLATION occurs when there is either an economically inept government (as there is now in Venezuela, Iran and Here) or a massive deterioration in the terms of trade for the country concerned. Inflation, by eroding the value of incomes and savings, allows the adjustment to much lower living standards to occur with less disruption than if the burden was borne entirely by soaring unemployment and bankruptcies. UNFORTUNATELY We are now in the worst of all worlds.

The period of inflationary recession, STAGFLATION, will thus resemble neither the 1930s, in which those who kept their jobs found their savings and their living standards greatly improved, nor the 1970s, where lack of competition allowed powerful unions to extract rents for their members. Job holders will find themselves receiving little or nothing in pay increases because the labor market will be slack, while unions that attempt to keep up their members' living standards by going on strike will find their employers locking them out to avoid bankruptcy (their bargaining position being greatly improved by the large pool of available unemployed labor). As for the public sector, we are already seeing a massive political backlash against automatic public sector pay and pension increases, which is likely to intensify as inflation increases and government revenues decline.

Meanwhile the FED will keep interest rates far too low because of the recession, allowing inflation to soar and shrinking the real value of the US capital base, while mammoth public sector deficits crowd out private sector investment. In that case, apart from the very real possibility of a US Treasury default, the US downturn will intensify, as its capital endowment is hollowed out by inflation and public borrowing, while its competitiveness is reduced by a bloated public sector. We might then see a downturn lasting a decade or two and a reduction of 30% or even 40% in real US wages. The US will most likely, be in a period like the early 80's, a prelude to hyperinflation.

The prospect ahead is thus uniquely gloomy. Part of the gloom is caused by a natural and unavoidable change in the terms of trade, making a reduction in US living standards inevitable. However, most of it can be ascribed to wrong-headed policies pursued by the four horsemen of the Financial Apocalypse, Obama, Greenspan, Geitner and Bernanke. Meanwhile, the next recession and bear market are already baked into the cake. And we should expect a test of the March 2009 lows in the not too distant future.


Stock market history holds another insight for us. The market moves in long-term cycles from undervaluation to overvaluation and back again. After the bubble burst in 2000, the market never reached levels historically associated with undervaluation. Not at the depths in 2002 - not in March 2009; therefore, I fully expect the secular bear market that began with the bursting of the stock market bubble in 2000 to push valuations down to historically undervalued levels. That is single-digit P/E ratios and dividend yields around 6% or more as was the case in 1974. And all this could happen within the next 12 to 24 months, driving the indexes significantly below their March 2009 lows.


Stocks have been rallying since Helicopter Ben told Congress that the U.S. economy was in trouble. However, the rally has taken place on low and continuous ly declining volume which is a sure sign of weakness. There are market expectations that the FED will engage in another round of Quantitative Easing (QE2) to stimulate the economy or so it is stated. But in reality; administration will be using the 2/3eds of the Stimulus Package that has not yet been spent to prop up the stock markets in an attempt to maintain the ILLUSION that the economy is recovering. After all November 2ed is not very far away and a recovering economy is about the only thing that the Democrats have to run on. far away Whether or not stocks can continue their rally as this takes place remains to be seen, "WHEN IN DOUBT STAY OUT".

The major criticism of QE 1 has been that all of the money went to the banks and none of it has trickled down to Main Street as the banks fully cognizant of their weakened balance sheets have refused to lend to Main Street or to each other. That's the prevailing belief. The truth is more likely that people and business are deleveraging and refusing to borrow.


My speculation is that this time around a good portion of any new QE will ibe used to purchases securities in order to get money into the hands of the Private Sector and more importantly, to drive up the stock markets just in time for the November elections.

Even though the Fed has lowered interest rates to nothing and has effectively provided the big banks with free money, this has not been passed on to the consumer. Interest rates on credit cards were 14.55% in 2005 and in May 2010 they were 14.48%. Banks have not lowered their interest rates in response to the Fed's Zero Interest lending, but have pocketed the difference: Which has been the major reason that they have been reporting such huge profits. It is naive to think that they are going to change their behavior. The fact that the Big Banks have all those Non Performing Loans and Foreclosures being kept off their books explains why the Banks have been declining in price forming a bear market all their own..

Disconnects between markets and the underlying economy have happened many times, however they don't last forever. The two eventually have to meet. Either the economy improves to justify market pricing or market prices decline to meet the economy. The tech bubble at the end of the 1990s and the more recent real estate bubble were good examples of this. Pricing that is too high will come back down to earth and the correction can last for many many years. Government attempts to try to hold up the market, as they are now doing, can't prevent the inevitable - they may slow it down a little but that only ends up making the situation a lot worse. The current disconnect with stock prices and the economy will also self-correct and may do so suddenly. The only question is when?

"We're not going into a double dip. We're going into a depression. I'm convinced of that." The biggest market crash in our history is coming sooner than anybody expects. I've been able to go back and map this all the way from 1790 to the present to show that these Waves are quite repetitive. When you can see that repetition, we know that following the big market rally peak we're going to go into the depression stage of theCycle. I have made that anticipation and have been invested in Gold since 2001 (check my archives), which has obviously been the right decision.

LONG TERM WAVES (Kondratieff)

The stock market bottomed in 1932 and the start of the present Kondratieff spring) cycle began in 1949. Contrary to popular belief, it was not until after the Second World War and the tremendous drop ($88B to $38B) in government spending in conjunction with the dismantling of some major portions of the NEW DEAL, that private Investment INCREASED in 1947, for the first time since 1930 and rocketed the United States out of the Depression. Even the big WW II manufacturing buildup did not reverse or even halt the Depression: Even though so many people were employed in the war effort, all those people were forced to save due to the lack of consumer goods. Servicemen also put part of their paycheck into War Bonds. It was all that tremendous buildup of savings (savings is GOOD) that laid the foundation for the new consumer economy that ended the Depression. A new era of growth cannot be built on debt. The catalyst that got the Chinese and Japanese economies moving was the huge savings that those people have. In both Japan and China they save 40% of what they earn.


There are really three things that make sense in this kind of environment: One is to be long Gold and Silver; the second is to be short the market by buying inverse ETFs. The Third is to buy High Yielding International stocks such as UNILEVER and PHILLIP MORRIS International that pay 6% + dividends. In terms of my portfolio, a small portion is in cash, maybe 5%; about 20% is in CEF; 25% is being held in cash looking for the right time to go short by buying inverse ETFs; 25% is in Gold and Silver, mostly junior and mid tier equities; and the rest, 25%, is in Gold and Silver coins.


The market is at another important crossroads; turn right and we resume the Bear Market that began either in 2000 or Oct.2007 or turn left and we continue the low volume, rally engineered by the Government's Plunge Protection Team using the surplus TARP funds that have been held in check for exactly this kind of political situation and the new round of QE 2 funds. However, regardless of what transpires, I believe we are still in a once in a 120 years Bear market that will probably not be over until 2012 to 2017.

I am the first to admit my mistakes. Without making any excuses, even though I caught The Oct. 2007 high and the March 2009 bottom to the day, I turned bearish again in July August 2009 and left quite a bit of money on the table. Lucky for us, I caught every intermediate term peak and by using our simple strategy of always using a10% trailing stops, we averaged 5 -10% profits on our shorts, instead of getting killed. So between our shorts and our long positions in Gold and Silver Bullion and their respective Junior and Mid-tier stocks, my portfolio (and hopefully yours) has shown a total return during that period (17 months) of 37.2 %.


Since I am convinced that we are still in a long term Secular Bear Market, I Simply cannot bring myself to go long the market even though I thing that the Plunge Protection Team will be able to push the market higher into new high ground (past the April Highs). You can play this last Rally if you want to but since this coming rally will be setting up the Biggest Bull Trap in market History I personally will stick to my precious Metals. However should you decide to play Remember to use trailing 10% stops NO EXCEPTIONS. Do not use more than 10% of your Shorting Pool of Money, until the direction of the market is confirmed. Instead of using ETF'S, you can instead use only 5% of your pool to buy puts (Nov. or Dec.) on the Indexes instead and not use stops. However, if any one of your positions is not in profit after 7 trading days - GET OUT.

I can give you 15 different indicators that are screaming GO short, but then there is the old adage "Don't fight the FED," remembering that the market can stay irrational a lot longer than we can stay solvent. Besides, I know of no economists who have ever made a living trading the stock market. I, on the other hand, have been a trader and money manager first and foremost and an Economist second. It took many years and millions in losses before I finally was able to control my emotions and admitted that the technical's always RULE. At times I was Right; Dead Right; timing is every thing.


I really don't have much more to say about Gold and Silver that I have not already said over and over again. We are coming into the most favorable seasonal time to buy precious Metals. The charts are all screaming Buy. I have recently sent you my buy list. (Subscribers, who have not received it, please contact me). The Precious Metals markets are about to take off regardless of what the general and world markets are doing. I have told you time and time again GOLD AND SILVER are not related to any other markets, but are market unto themselves: Especially GOLD which is now also trading as money.





The Market action that I foresaw from March 2007 to today highlights quite succinctly why projecting the consequences of Government actions into the future is so important for your overall investment success. During the last five years, I have demonstrated how to incorporate contrarianism into your investing by pinpointing the best investments that can both protect you and make you money during times of adversity. If you're serious about investing, you don't want to miss out on the information revealed by UNCOMMON COMMON SENSE.

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The Incas thought gold represented the glory of their sun god and referred to the precious metal as “Tears of the Sun.”
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