Ride the Right Bull

The Daily Reckoning PRESENTS: In the U.S. economy, stocks are rising, commodities have begun the next advance in their bull-market and even the bond-market is strong! It seems that investors in every asset-class are convinced about the soundness of their judgment, but as Puru Saxena points out, history reminds us that someone will be very wrong…


Are the bond investors being fooled into believing that inflation isn’t a problem? Or are the equity punters wrong about the coming interest-rate cuts and a soft landing in the United States? Perhaps, the commodities camp is stupid and we are in fact witnessing a gigantic bubble in natural resources.

Amidst all these diverse views, my own money lies in the inflationary camp (commodities and emerging-market equities) and I suspect that the bond-investors will be the ones who get badly hurt. After all, central banks around the world continue to churn out a ridiculous amount of paper, otherwise known as money. Inflation (money-supply and credit growth) is spiraling out of control and all this excess liquidity is causing prices to rise all around us, thereby diminishing the purchasing power of our savings. So far, central banks (through their propaganda and skewed inflation figures) have managed to keep the public’s inflationary fears under check. However, once the masses wake up to the inflation menace, there will be a stampede out of “paper” causing interest-rates to soar and the bond-market will sink like a rock. The same drama unfolded during the 1970’s, and I suspect history will repeat itself over the coming years.

Those who believe in a deflationary collapse don’t understand our monetary system. Today, central banks have the freedom, the ability and the motive to print an endless amount of money, which will avoid any deflationary bust-ups at least in the immediate future. A more likely outcome is that thanks to the money-printing prowess of Mr. Bernanke and his counterparts elsewhere in the world, the purchasing power of all the “paper” currencies will continue to fall against tangible assets and eventually the entire monetary-system may come into question.

You must understand that banks are in the business of lending money and inflation benefits them immensely. The higher the rate of inflation (money-supply and credit growth), the bigger their profits from collecting interest on the issued loans. Moreover, inflation also keeps a segment of the public happy (at least those who have the ability to invest) as their assets continue to rise, thereby giving the illusion of prosperity. So, the hidden agenda of the central banks and politicians is to create and encourage inflation, whilst telling the public that they are in fact fighting inflation! I may add that during highly inflationary times, it is always the majority of the public that suffers badly, as their savings, incomes and pensions continue to erode in value. So, in order to protect your wealth, you must avoid the “safe haven” of cash and invest in assets that are likely to benefit from the ongoing monetary insanity.

These days, the consensus view is that the interest-rate in the United States will fall over the coming months as the Federal Reserve steps in to support the U.S. economy. In my view, the Fed Funds rate may actually rise around April-May next year.

Firstly, despite the hikes since 2004, the Fed Funds rate is still close to the bottom of its 30-year range. So, the notion that the interest-rate is “too high” is totally absurd. In fact, I would argue that given the degree of inflation we have seen in the United States since 2001, the Fed Funds rate is shockingly low!

More importantly, if my assessment about the markets is correct, commodities (especially gold and silver) will advance over the coming months and test their highs recorded earlier this year in May and the U.S. dollar will decline to its low recorded in December 2004. Such an outcome will cause inflationary fears to return with a vengeance and the Federal Reserve will raise its interest-rate.

The prime objective of any central bank is to protect its merchandise (the currency it issues) and the Federal Reserve will do everything in its power to prevent a total collapse of the U.S. dollar. In theory, a higher yield is supposed to make a currency more attractive, so the Federal Reserve is likely to increase the interest-rate at the cost of the U.S. economy. Such an unexpected move will probably send the financial and property markets into yet another painful correction phase during the next summer.

On a brighter note, we still have a good stretch ahead of us and I expect the markets to remain strong until towards the end of the first quarter next year. At this stage, our managed accounts are fully invested in the commodities complex and emerging-markets. However, depending on the market conditions prevalent early next year, we will start to lock-in our gains by going into money-market funds and bonds for a few months.

Monetary conditions play a crucial role when it comes to investing so let’s examine the international reserves. Despite the highly advertised monetary tightening, our world is awash in liquidity. Non-gold international reserves held by foreign central banks have soared to a new record high of $4.75 trillion, representing a rise of 14.5% over the past year. Emerging nations hold a record $3.37 trillion (21% growth over the past year) of those reserves. On the other hand, the developed central banks hold a near-record $1.38 trillion, a miniscule 1.5% growth-rate over the past year. It is clear to me that the developing nations are now financing the industrialized nations and all this liquidity will provide a cushion and reduce the impact of any major financial crisis. Moreover, the money supply is growing at a furious pace in most nations and this should also prevent a prolonged weakness in asset-prices at least in the immediate future.


Puru Saxena
for The Daily Reckoning
December 27, 2006

Editor’s Note: Puru Saxena is the editor and publisher of Money Matters, an economic and financial publication available at www.purusaxena.com

An investment adviser based in Hong Kong, he is a regular guest on CNN, BBC World, CNBC, Bloomberg TV & Radio, NDTV, RTHK Radio 3 and writes for several newspapers and financial journals.

The above is an excerpt from Money Matters, a monthly economic publication, which highlights extraordinary investment opportunities in all major markets. In addition to the monthly reports, subscribers also benefit from timely and concise “Email Updates”, which are sent out when an important development in the capital markets warrants immediate attention. Subscribe Today!


The year is winding down. Only a few precious days are left.

Here in France, it is very cold…and very, very gray. We can barely see more than 50 yards in any direction; the fog is so thick.

“I woke up this morning and I looked out my window…and it was just gray. I couldn’t see a thing,” said our son, Jules.

So, we sit in our little office…wondering. How does it all work? What is going on? What’s it all about?

No man with teenaged children can help but be a bit of a philosopher – it comes with the job. He can’t help but wonder why people act the way they do.

We have four of our six children with us this Christmas. Our two oldest children are otherwise engaged – one as a ski instructor, the other in Florida, preparing to move house. But four is enough – combined with the season – to put us in a reflective mood.

But, reflection on personal matters we shall leave to late at night, dear reader….

During business hours, we reflect on your behalf.

We begin today’s reflection with sad news.

James Brown didn’t ‘feel good’ last week. He was hot in the ’60s…but now, he’s as cold as yesterday’s hits. And poor Gerald Ford too. The man seemed like a decent president. We don’t know of anyone arrested on the Ford Act. We don’t remember any pre-emptive wars that Gerald Ford got us into. Nor do we recall any major domestic initiatives – no wars on poverty or drugs started by the man. As near as we can remember, Gerald Ford left the nation no worse off than he found it…something that few presidents could say.

Meanwhile, in the financial world, we continue to wonder how and when the present ‘good times’ will pass away. A boom must die too, like everything. Every period of tranquility and prosperity is followed by a period of doom and gloom…especially when the prosperity is based on a lie or on stealing from the future.

Today’s frothy financial world bubbles on top of both lies and theft. The big lie is that you can create ‘money’ by printing up dollars and other paper currencies. The theft comes from spending the money now and pushing the bill into future years…onto future generations.

We don’t mind using words like “theft” or “lies”, but most economists would regard our way of looking at things as “moralistic.” They imagine that they can just add up columns of numbers…and tinker with the economy as though it were a motor. After all, when a motor begins to malfunction, you don’t wonder what it did wrong or why. You get out a screwdriver and a wrench and go to work on it.

The modern economist is Mr. Goodwrench. If the economy has a problem, he fixes it. Just tighten up on interest rates. Or, unscrew the reserve requirements. Turn that knob. Lift that lever.

If only the machine would do what it’s supposed to do!

But, of course, the economy is not a machine. It is not made up of hard metal parts…but of soft human beings. And human beings do not react like copper and steel. They react like people, which is to say they don’t always do what you want them to do. Instead, they react to their own expectations, their own hopes, their own illusions and prejudices.

For the moment, investors are fat and happy. They have enjoyed the great boom of the last quarter century. Now, they can imagine nothing else. But somehow, sometime…the summer has to give way to the winter. The day has to yield to the night. The good times have to be replaced by bad ones. And people who ‘feel good’ in the ’60s…have to drop dead in the new century.

When? How? We don’t know. But our job is to guess. That’s what you don’t pay us for, dear reader. So, coming up soon…our guesses for the year ahead….

More news:

And more thoughts:

*** Gold was our investment choice for 2006. Fortunately, it has gone up 20% during the year – substantially more than the S&P (up 13%). The only stocks that have done as well as gold are (surprise, surprise) defense companies. Weapons and finance are about the only industries in America that are still profitable and growing. The people in those industries are doing very well. Goldman Sachs, for example, is scheduled to give out $16.5 billion in bonuses this year.

We know how weapons companies make their money. And the weapons industry ought to be one that can resist foreign competition, since the United States is the world’s only super-power. It buys far more weapons than any other nation. And it favors domestic manufacturers; for the obvious reason that it wishes not only to have the best weapons in the world, but to deny them to its competitors. Making weapons of mass destruction should be a good business to be in…and should remain a good business for many years.

But how does Goldman make money? Mergers, acquisitions, finance, lending…this too has been a good business. When the credit cycle expands phase, lending money is a growth industry. But when the credit cycle turns downward, lenders take losses. Not only are there fewer borrowers, many of yesterday’s borrowers turn out to be worse credit risks than the lenders imagined.

*** And back to our farm…

“I remember when I was your age…well, maybe a little younger,” continued M. Tourraine, our game keeper, who had been reminiscing.

“Those were the happiest years of my life. Whenever I had a free moment, I’d get on my bicycle, or drive my old car down here. Because here is where Michel lived. You know. You bought the property from his widow.

“Michel and I were close friends. And then, when his brother Edward came back from the Navy…the three of us were almost inseparable. We would go hunting all the time. Or we’d play cards. Or go fishing. What a life it was. Those were good years in France, after the war. The economy was strong. And it was before all the regulations and taxes made it so difficult to live….

“You could pretty much do what you wanted. So, we would work hard, but we managed to have a lot of fun too….

“And this is almost unbelievable – all of us got married to three sisters! I married Anne-Marie, Michel married Clothilde, and Edward married Catherine. We three couples all got along so well…what fun it was…

“But then, I was in Switzerland on vacation when I got a call. Michel had died of a heart attack at the age of 42. Only two years later, if I remember right, Edward, his brother, also died of exactly the same heart attack. The two sisters – Clothilde and Catherine – were only in their late 20s or early 30s, each of them with four or five children. All of a sudden, life wasn’t so carefree for any of us. Everything had changed. Naturally, I tried to do what I could for them. Catherine was all right; she went on with life. But Clothilde withdrew from the world. She felt like everyone was taking advantage of her…and she didn’t want to see anyone. Even at Christmas and Easter holidays, she kept her children and herself away from everyone. For the next 12 years, I never set foot in this place.

“It was sad…but that’s what happens. When someone dies, it can change everything.”