|Peter Cavelti’s essays have been printed and quoted in papers, magazines and newsletters internationally, including The Wall Street Journal, Barron’s, The Financial Times, the Financial Post, The Globe and Mail, Money, Personal Finance and World Link. Below, in chronological order, is a repository of our website commentaries published during the past 20 years. They range from travelogues and social criticism to economic commentary and financial advice. |
Quarterly letters posted during the past five years may be read in full, while the best of our older communications appear in abbreviated form. You can also access the most relevant issues of Perspectives, the weekly review we published from 1999-2006. Perspectives was designed to benefit charity—in lieu of paying us a fee, subscribers had to support Doctors Without Borders. We had many thousands of subscribers in over 40 countries.
March 2021, “An Absence of Trust”
With public trust in our institutions mostly gone, the preconditions for rebellion have not been as vibrant as they are today since the 1930s. Unlike the unrest of the 1970s or more recent manifestations like Occupy Now, today’s discontent transcends age groups and social classes. The status quo no longer serves us.
For the moment, massive monetary manipulation and unprecedented fiscal relief are masking the precariousness of our situation, but such actions will only undermine the longer term outlook. A falling standard of living and rising social pressures will make for an inescapable feedback loop.
How to prepare for such an inherently unstable environment? Our recommended portfolio balance remains simple. We continue to shun bonds, stress selectivity on the equity side, and hold significant gold and cash positions.To read on, click here
January 2021, “Gold: Ready for Round Two”
We review the yellow metal’s explosive rise and the healthy correction that followed. Looking forward, we offer seven reasons why another robust advance should soon unfold. We continue to view a portfolio inclusion of gold as imperative.To read on, click here
December 2020, “Of Fear and Fatigue”
What does a prolonged climate of fear and the resulting fatigue do to individuals, society, the financial markets, the shaping of our future and future generations? And what kind of world do we want to create? The COVID crisis has taught us invaluable lessons, the main one being that we surrendered far too much power to the “experts”—people who keep giving specific advice with a bewildering degree of certainty, even though they know much less than we thought. When the inadequacies in a broken system are exposed for all to see, we have to act. When it comes to your portfolio, taking responsibility means setting a strategy that discounts all the verbage coming at us and focuses on where we really are.To read on, click here
October 2020, “Gold and Money”
In today’s update we explore gold’s monetary role, in history and in today’s context. Peter Cavelti also responds to the two questions he is asked most frequently: “What opportunity do I lose by being cautious in financial asset markets and holding a large cash reserve?”, and, “How high will gold go?” Finally, we take a look at the health of the current uptrend, project significantly more volatility across all markets, and conclude that now is a good time to initiate gold positions or add to them.To read on, click here
September 2020, “The Next Seven Weeks”
We elaborate on the four factors that will dominate the ramp-up to the U.S. presidential election: power politics, the election aftermath, central bank posturing, and Covid-19 dynamics. We also review the merits of different asset classes and conclude on a philosophical note: dogmatic thinking will be detrimental; flexible thinking will be rewarded.To read on, click here
June 2020, “Gold: A Healthy, Sustainable Uptrend”
The COVID-19 pandemic has caused central banks and governments to throw all monetary and fiscal prudence to the dogs. Money supplies are sky-rocketing, debt is being monetized, interest rates are falling. The system brutally punishes the few who exercise financial prudence, while protecting the multitudes who overconsume today at the expense of tomorrow.
In today’s commentary, we investigate the potential for different asset classes and come to the conclusion that gold’s outlook is exceptionally compelling. The metal’s steady, but measured, action during the past few months reminds us of the late 1970s’ when, under circumstances not nearly as alarming as today’s, gold appreciated at a modest clip, then more than tripled in the space of a year. We also explain why we believe that a physical, segregated holding of gold bullion in a stable, non-interventionist jurisdiction is the most prudent gold investment alternative.To read on, click here
June 2020, “A Second Catalyst”
Since I last wrote, we’ve gone through a number of Covid-19 induced changes. The most visible fallout is on the economic front, where GDP contraction and employment loss remind of the Great Depression. The social upheaval is equally alarming: throughout the developed world, governments have experimented with measures thought to contain the pandemic, many of which disastrously contributed to economic suffering.
If the advent of the pandemic was the catalyst that exposed decades of monetary and economic mismanagement, the brutal murder of an innocent man by a Minneapolis police officer sparked the largest wave of social unrest in recent memory. We explore the causes of America’s discontent and where it’s likely to lead. We also update on recommended portfolio holdings.To read on, click here
April 2020, “A New World”
Covid-19 has made the world into a new place. Not just “out there”, but in our homes and workplaces. From here on, we’ll be doing many things differently, maybe for a few months and maybe for decades to come. It’s important to understand how we got here. Yes, governments, central bankers, the corporate elites and investment professionals tell us that all this commotion is being caused by the virus. Yet that is only half the story. The other half is that while the coronavirus is a potent catalyst for change, it is not the cause for the numerous dislocations that are underway. So dysfunctional was the policy construct that existed prior to the virus’ arrival that any number of problems would have derailed the status quo. A total reset of existing policies was urgently required because, in very simple terms, nothing worked any longer.
Let’s explore what lies ahead. The huge fiscal stimulus that is being applied by governments everywhere may relieve immediate virus related pressures, but will not remedy the countless problems that have been allowed to build over the past many years. If we are to actually ‘fix’ things, almost everything has to be re-thought and rebuilt.
We entered this crisis prepared, with a very large cash reserve and a robust gold holding. It’s too early to reinvest in equities, and as to bonds, we’re avoiding them altogether.To read on, click here
January 2020, “Against All Expectations”
In this issue, we review a year in which markets—against all expectations—continued to advance, against an exceptionally challenging background. We also look ahead at 2020 and beyond, considering key political, economic and social issues, both at home and globally. Our in-depth commentaries on the breakdown of the West’s post-war institutions, the ascent of China and the rapidly rising pressures on the demographic front explore how each of these developments can easily derail the existing order.To read on, click here
October 2019, “Disruption Everywhere”
America’s executives and board members have sold a combined $19 billion of stock in their companies through to mid-September. If we annualize that, it puts insider sales at a two-decade high. There is good reason for such sales: on average, corporate earnings are now contracting. Elsewhere, things are worse. The global economy is slowing; some key European countries, such as Germany, the UK and Italy are probably in recession. Of course, we’ve been there before. In fact, for the United States, the current expansion is the longest on record since 1854. Yet, what’s different from other post-war economic cycles is that the Federal Reserve no longer has the tools required to counteract a serious slowdown. Ever since the slowdown of 2008, along with its counterparts in Europe, Japan and elsewhere, the U.S. central bank has recklessly pumped liquidity into the system, all along stating that the plan was to ‘normalize’ interest rates once the economy strengthened. Well, that normalization has now become impossible. In accommodating ever more unsustainable debt levels at the government, corporate and personal level, the Fed and its overseas cousins have created a situation where, to keep the economy from sinking, more and more stimulus needs to be administered. In this issue, we explore the logical progression of this trend, argue for a defensive investment strategy and outline what that means.To read on, click here
July 2019, “The United States, Again”
It’s interesting that the date of this communication should fall on America’s Independence Day, because America is once again my central topic—not by design, but by default. How else could it be? Whether we look at America’s neighbors, trading partners or military allies, frustration with an utterly unpredictable U.S. administration and legislature runs higher than ever. Only 30 years ago, as Communism collapsed, the speed of America’s descent was unimaginable. On the contrary, much of the world was looking forward to a uni-polar arrangement, in which a Pax Americana would reduce geo-political tensions and more capital could be deployed towards economic wellbeing, social security and education. Now, contrast that notion with what’s actually happened. America’s ‘defense’ budget tops $800 billion a year as the country’s forever-war seeks ever more battlefronts; the disparity of wealth is greater than in any other developed nation; and the only way economic growth can be perpetuated is by bringing government, corporate and personal debt to ever greater heights. Then there is America’s gradual retreat into isolationism, which further aggravates domestic pressures and leaves Washington’s friends, trading partners and allies in a difficult position. Right now, the lines fed by politicians and their parrots in the mainstream media keep the market mirage alive quite nicely. Flagging economic and corporate fundamentals are easily dismissed—because a huge trade deal may yet happen, because the Federal Reserve may lower interest rates, or for whatever other convenient reason. Eventually, the narrative will change and the likelihood is that it will happen much faster than expected.To read on, click here
April 2019, “Command and Control”
Once again, predictably and on time, the U.S. Federal Reserve and the European Central Banks, have shifted gears. After talking tough for most of the past year, the world’s key monetary agencies have softened their stance. The Fed suddenly sees no further need to ratchet up short-term interest rates, while the ECB has put in place measures to make life easier for the continent’s ailing banks. The reason for all this, in plain and simple language: the economy is so weak that without ongoing stimulus from the world’s central banks, a global recession is virtual certainty.
Central banks have, in effect, become a central planning mechanism. They command and control, and by doing so destroy the principles of ethics and prudence. So far, the regime of near-zero interest rates has disenfranchised millions of savers, while luring millions of others into catastrophic indebtedness. Meanwhile, hundreds of corporate and public pension funds are woefully underfunded, caught between ridiculously low yields and demands for higher-than-ever payouts. And, perhaps worst of all, the disparity in wealth continues to rise exponentially.To read on, click here
January 2019, “The Narrative Changes”
As I wrote three months ago, the stock market has for some time been a risky place to be. Yet, with few exceptions, financial columnists, the talking heads on television, and the major investment firms sang the same chorus—the economy, they chirped, is doing just great and a major correction is months, perhaps years, away. In confirmation bias terms: we want to believe in perpetually good markets, and if we look hard enough we can spot the positives to support our case. To be sure, in recent months favorable economic statistics did provide reassurance, but there were countless negatives you had to ignore to end up with a bullish view. Organizations like the International Monetary Fund and the Bank of International Settlements described the risks at hand in great detail, as did a number of prominent hedge fund managers and people like ourselves—but most of the financial media were deaf to messages of caution.
Now that the market is in correction mode, the tune has changed. “Why hold any stocks?” is suddenly a valid question. The reason to hold a justifiable exposure to equities is that a stake in a well-operated corporation that has manageable debt and pays an attractive and sustainable dividend is still more appealing than most investment alternatives.
To read on, click here
October 2018, “Unstable World, Robust Markets”
It’s ten years since Lehman Brothers collapsed and the financial world unravelled. We entered the crisis with cash reserves that seemed alarmist, but helped us weather the storm and be able to stock up on quality equities after their precipitous drop. Once again, we are extremely cautious, with cash positions between 40% and 50%. And once again, our posture appears exaggerated, at least when we listen to the messages produced by the presidential tweet machine and Wall Street’s hype factory. Yet, we prefer to look at substance over media spin and, when we do that, we’re deeply concerned. Let us explain.To read on, click here
July 2018, “Toward a Multipolar World”
A new world order, without America at the head of the table, is in the making. We examine why even Washington’s allies are finding it difficult to relate to the world’s lead power. We trace America’s multi-decade transformation from admired nation to a bizarrely inconsistent and unreliable one and conclude that it spanned both Republican and Democrat administrations. To be sure, President Trump has managed to considerably speed up the process, but the root problems are deeply systemic and cultural.
Before turning to markets and providing advice for the difficult times ahead, we’re exploring who America’s most likely rival will be.
To read on, click here
April 2018, “An Important Change in Narrative”
Inflection points in narrative are highly important markers. Technically, the stock market is still in a bull market and no one can know when a deeper correction will unfold. What is certain is that the reassuring storyline that’s been with us for so long is dead. That doesn’t mean the talking heads on financial TV channels and their followers will embrace the new reality immediately, but it makes a more defensive portfolio strategy imperative. With two years of considerable outperformance behind us, we explore what may lie ahead and how you can safeguard your portfolio.
To read on, click here
January 2018, “Events, Trends and Catalysts”
With two years of considerable outperformance behind us, we explore what may lie ahead. For now, the prevailing narrative persists: motivated by the belief that central banks won’t allow a meaningful correction in equities and that there are few attractive places for money outside the stock market, investors feel that broad overvaluation is justified. Yet, a challenging geopolitical landscape, looming social policy issues and economic imbalances all suggest 2018 may be turbulent. We look at potentially disrupting events and contemplate how they may derail the many unsustainable trends.
To read on, click here
Holiday Season: Peter’s Lifetime Voyage Through the Charitable Universe
For most of us, the practice of charitable giving is not something that follows a defined set of rules, but rather something that continuously evolves. Peter Cavelti wants to share his journey with you-how he was first taught to give, how his perceptions and attitudes changed, and why he eventually ended up with a very small number of causes to support. He explains why one of them, Doctors Without Borders, continuously inspires him.
To read on, click here
October 2017, “The Elusive Correction ”
How risky is the broad stock market? It depends how you look at it, but there is plenty to worry about. To begin with, valuations are high by any yardstick; in the U.S. for example, the S&P500 cyclically adjusted price-to-earnings ratio has only been higher once—in the late 1990s. Then there is the fact that during the past decade S&P500 corporations have spent more on dividends and share-buybacks than they’ve earned. That, in turn, has boosted corporate indebtedness to close to $9 trillion, which is a third higher than it was at its previous peak in 2008. U.S. corporate debt is now at 46% of the country’s GDP, a historical high. In short, America’s companies are more highly valued, less profitable and more indebted than they’ve been in years. Unfortunately, none of this gives us a clue as to when exactly the inevitable correction will unfold. All it provides us with is a historical marker. A number of prominent hedge fund managers have exited markets, some by liquidating their holdings and returning cash to the clients. Our approach has been different: we believe that the key central banks have no alternative but to keep interest rates at extreme lows, and that politicians fully support that stance. Of course, the continuous use of stimuli to counteract economic challenges is extremely imprudent—eventually, a much bigger crisis will force creative destruction and bring this folly to an end. But when that happens is completely unknowable.
To read on, click here
July 2017, “Deviations from the Norm”
We examine several recent events that threaten to overthrow the social, economic and political order. As a general rule, when the unknowns starts to crowd out the predictable, it’s best to be cautious. We find it absurd that, in the face of that, most investment professionals still stick to fairly dogmatic ‘themes’ and ‘styles’. As we’ve tried to explain for several calendar quarters, we believe an open-minded approach works much better. Our flexible strategy, along with paying attention to downside risk and occasional retreats into cash, has helped us to considerably outperform during the past three years.
To read on, click here
April 2017, “Age of Discontent”
The majority of people in the industrialized world feel disenfranchised. Their life appears to be in the hands of an unaccountable elite, where corporate, political and academic leaders collude. They can vote for the major parties, with the outcome that a profoundly unsatisfactory status quo is perpetuated, or they can vote for a fringe party that promises to shake things up, but typically brings with it elements of extremism and lack of experience. The U.K. Brexit vote and the election of President Trump were a warm-up for the upheaval this year and beyond.
Turning to the markets, we believe there is a huge disconnect between the world’s economic, social and political challenges on the one hand, and the pricing of financial assets on the other. Given this dilemma, we continue to believe in a diversified and pragmatically managed stock portfolio that combines growth and income objectives and targets different macro outcomes. You should also hold gold, ideally in physical, segregated form.To read on, click here
January 2017, “On America”
So far, financial markets have welcomed Donald Trump’s victory with exuberance, focusing primarily on his promise of lower taxes and less regulation. But, for several reasons, Wall Street’s party may prove premature. All the more reason to enter the new year with a dose of caution.To read on, click here
January 2017, “Three Tests for Gold”
Because the recent fall in gold prices begs for a comprehensive reassessment, we subject the yellow metal to three tests. How does gold look as a currency alternative, how does it stack up in terms of commodity fundamentals, and how does it look when viewed through the lense of technical analysis?
To read on, click here
October 2016, “The Delta Factor”
The recent suspension of all Delta Air Lines flights highlights the drastic need to overhaul our badly impaired infrastructure. The eventual cost of overhaul will be high, and other areas of governance, such as health care, education and social welfare, demand equal attention. Yet the decades of high economic growth and swelling tax revenues are behind us, while central bank efforts to reverse economic stagnation have failed.
An inflection point appears close, but timing it is impossible. Given these circumstances, we continue along our course of retaining market exposure, but with an eye on vastly different possible outcomes.To read on, click here
July 2016, “On Arrogance”We comment on the arrogance of the political class, the misguided and desperate actions of central bankers attempting to fix a broken system, Brexit and the future of Europe, and our conviction that investors have no choice but to resort to an approach of extreme pragmatism and flexibility.To read on, click here
April 2016, “The Central Banks, Again”The positive effect of central bank shenanigans is that equity values, for now, are being propped up, which boosts the wealth effect and in turn makes consumers a bit more confident. The negative is that our monetary authorities have managed to distort every conceivable link between the pricing of financial assets and their underlying fundamentals. In doing so they have also undermined the ethics complex that governed the successful operation of society during the past many centuries. Working hard and saving for a rainy day no longer seems like a smart idea; consumption in excess of production is what is being systemically promoted instead.Given the many uncertainties ahead, it seems to us that a strategy recognizing various outcomes, and diversifying accordingly, may make the most sense.To read on, click here
January 2016, “Annus Horribilis”Considering the weighty issues overhanging the global economy and social order, it seems a fair bet that financial assets markets will be marked by growing volatility. Our view is that what lies ahead is unknowable and, because of that, the only strategy that makes sense is to keep an eye firmly on downside protection. For Melissa and me that means we maintain exposures to assets that will flourish under various possible scenarios, while also maintaining a robust liquidity reserve. This has been our core belief for the past two years and will continue to guide us into the future.To read on, click here
December 2015, “Gold Offers Solid Value”As I’ve noted before, gold’s commodity fundamentals are strong, with supplies being challenged both as a result of low prices and sharply fewer gold discoveries, and demand likely to remain brisk, as geopolitical uncertainties abound, investors almost everywhere in the world look for hedges against depreciating paper currencies, and central banks continue to shore up their gold holdings. The mechanics of financial markets frequently defy logic, which means that we cannot forecast the timing or extent of gold’s next movements. What we can do is attempt to seek the best relative value among a large array of offerings. And in line with that approach, we feel it is very advisable to continue holding a meaningful percentage of overall assets in physical, segregated gold. To read on, click here
October 2015, “On Chaos”As investors are coming to understand, chaos is frequently present in the economy, whose functioning and success is dictated by two forces: the mindset of its participants and the policy actions initiated by politicians and monetary authorities. To say the least, that makes for an extremely complex construct. In recent years, central banks have made available to the economy trillions of dollars, while politicians have continuously reassured us that all is under control, and economists and the financial industry have echoed this optimistic sentiment. But people aren’t buying it. Consumers are extremely cautious and businesses are hesitant to make productive investments. It’s difficult to determine exactly when public sentiment changed. Maybe the 2008 financial crisis provided a catalyst, or maybe the policy responses to that crisis (such as the mega bailout of patently reckless banks and incompetent enterprises) were responsible. Or perhaps negativity built in small increments, over time. Few people have the knowledge or analytical tools to investigate economic and social developments, but everyone is touched on some level as they unfold. What is not grasped through intellectual reasoning is still deeply understood at an intuitive level.To read on, click here
July 2015, “Countdown to Lift-Off”Central banks try to be “precise” in timing a rate increase, but fail to understand the overall context—politically, economically and culturally. What’s needed is a return to a world where productivity and thrift is rewarded.Absent that, the question on everyone’s mind is when a “riot point” will arrive and what form it will take. Will it come in the form of social unrest, a policy error by a key central bank or government, a foreign military adventure gone wrong, a banking crisis, or will the catalyst be something entirely unforeseeable? No one can know, but it seems clear that the default force of the American-run world, organized money, is no longer serving us well. Unfortunately, the transition to a different system will most likely be messy and inconvenient.To read on, click here
April 2015, “On A Wing And A Prayer”
Richer valuations, a super strong dollar and policy paralysis make financial markets vulnerable. Add to that a monetary regime that is out of control and a deteriorating geopolitical climate.We expect volatility to increase throughout this year.To read on, click here
January 2015, “More Unintended Consequences”The dramatic decline in the price of oil will have serious unintended consequences. Expect the Middle East to be further destabilized and oil producers everywhere to be plunged into budget deficits. The U.S. will not be spared—the shale miracle will turn into shale bust, banks will be pressured, and unemployment will start to rise again.
To read on, click here
The loop in which we’re caught is by now brutally transparent: central banks, led by the U.S. Federal Reserve, are forced to keep interest rates at virtually zero or numerous mainstream economies face ruin. We don’t need to economically define what that means: given the precarious state of the Eurozone, or Japan, or the bubble characteristics of U.S. stocks or Chinese or Canadian real estate, even a hiccup in interest rates could lead to economic pneumonia. It won’t take much to send the global economy into deep recession, massively swell the ranks of the unemployed, and thus even further aggravate the problem of wealth disparity.Is there any asset class that offers value? The massive debasement of the world’s key currencies suggests that a gold holding, ideally in physical and segregated form, makes more sense than ever—especially at these prices.
The showdown over Ukraine threatens an already frail economic and political balance. By immediately embracing a Kiev regime whose legitimacy is suspect, the European Union (aggressively pushed by Washington) is engaging in an adventure that will prove extremely costly, both in terms of money and credibility. After all, Russia is the union’s fourth-largest export market and EU banks have huge exposures to both Russia and the Ukraine. Where is the Ukrainian crisis headed? It seems to us that there are two possible outcomes. One is a tense but relatively peaceful move toward a de facto split of the country, mostly along ethnic lines. The other is a drawn-out showdown in which Russia will restrain itself, but inflict harsh financial punishment on “Western” Ukraine and its European and American friends, until it gets control of territories that are strategically important and have significant Russian ethnicity. There are those who predict an all-out military confrontation, but we believe Russia is not interested in risking a war over a Western Ukraine that has historically been hostile and would prove very difficult to govern. We also believe that U.S. attention will soon be diverted by other crises.
With stock prices at new highs, how worried should investors be? Our views vary considerably from the sentiment of most investors. We are less concerned with a dramatic change in central bank policy, but see anemic economic growth and overly stretched stock valuations as a key challenge. The reason we aren’t overly worried about the Fed is because even with two months of slightly more reassuring economic data under its belt, the central bank decided to cut back only by $10 billion (out of $85 billion) a month. More importantly, the Fed’s bond program is only a very small part of its overall support operations. Finally, the Fed and other central banks continue to signal that they are committed to keep short-term interest rates near zero for considerable time. The bottom line: fears of a change in Fed policy will sporadically ignite and ease off through 2014, as the central bank continuously adjusts its rhetoric. We believe a defensive multi-asset strategy, bolstered by a high degree of liquidity, will continue to generate decent returns.
In the U.S., the rapidly building currency crisis in the emerging markets is hardly noticed. Countries like Brazil, India and numerous others experienced huge capital inflows and attendant currency appreciation, as the U.S. Federal Reserve administered its multi-year massive stimulus programs. Now, as the Fed is talking about withdrawing some of its monetary support, the opposite is happening. The Real, Rupee and other emerging markets currencies are falling so precipitously that central banks are forced to sharply raise interest rates at a time of economic weakness. This has led to sharp complaints against Washington, but American policy makers refuse to engage. That position will backfire—before long, badly deteriorating economies in the emerging countries will seriously undermine earnings at America’s increasingly globalized companies, at which time far-away problems will turn into a major U.S. problem.
Our recent comments have mostly dealt with central bank policies and how they continue to distort markets. We also repeatedly pointed to the folly of ‘paradoxical thinking’ that had taken hold: bad economic news emboldened market participants, because they felt reassured that central banks would be forced to continue supporting markets. By mid-year, increasingly many investors believed that bad news equaled strong stock and bond markets. The past few weeks have blown a few holes into such thinking. Bond yields have risen sharply, major stock indices have been under growing pressure and gold has rallied against all currencies. There are numerous theories of why this happened and why it happened at this time—we view it simply as the beginning of an inevitable return to a state of normalcy. Manipulation can have a large impact on assets values, but no matter how massive the manipulation is, eventually a return to the natural order of things must occur. And what is the natural order by which financial markets function? It’s simple: interest rates must be allowed to serve as a pricing mechanism for risk, yields must reward productivity, equity values should reflect current and prospective corporate success, and the value of currencies should mirror the economic and monetary integrity of their issuers. The path toward such a state of normalcy will be extremely difficult and disruptive, and may take place over many years.
Following the recent rally in global stock markets, the prevailing mood is one of dangerous complacency. Markets are so enamored by the prospect of continued and escalating stimulus that they forget the desperate economic circumstances that make bailouts, stability funds and other support operations necessary. There are two things we find particularly troublesome with this perception. First, the mantra that “conditions are so poor that policy makers will have to continue to stimulate, and therefore poor conditions are good for my portfolio” is deeply flawed. If it continues to enthrall investors, capital will be misallocated in ever greater amounts—instead of flowing to productive purposes, it will create price bubbles in various asset classes. This could initially be good for quality stocks, but their explosive appreciation would likely be followed by a spectacular crash. The second thing that worries us is that a return to more prudent policies, in which deep structural reforms might replace mega-stimulus, would cause a serious market correction. Right now, armies of professional and amateur investors perversely hope that growth will somehow stay weak enough to spur more government action. If policy makers decided to abandon the bailout approach, despite low economic growth, panic could easily ensue. These reasons, and a host of political uncertainties which could alter the fiscal and monetary background further, mandate a significant liquidity position.
Ten years ago, we stated that Europe’s experiment with a common currency was doomed to failure. Last year, as the EU’s political elite dithered over rescue packages of thirty and forty billion Euros, we wrote that a mere stabilization of the Euro–crisis would require at least 2.5 to 3.5 trillion. Today’s situation is significantly worse than what we anticipated, mainly because an escalating fiscal crisis is now accompanied by severe banking problems. We fear for Europe and cannot sum up our feelings better than we did last fall, when we said “Sadly, if $3.5 trillion were pumped into the system to “stabilize” the crisis, things wouldn’t look much better. This is because the money would be used to prop up cascading bond prices and bail out banks, while the real part of the economy would be subjected to severe austerity. All this will do is turn a financial calamity into political turmoil, which will before long threaten the tradition of democracyitself.”
Our current assessment of the world’s key economic areas are as follows. In the U.S., massive stimulus has fed through to employment creation, allowing the economy to gradually recover. But major challenges remain and the nation’s fiscal position is precarious. During the past year, 61% of newly issued Treasury debt has been bought by the Federal Reserve. In Europe, meanwhile, all bets are off. Although the European Central Bank has thrown $1.1 trillion at the continent’s dysfunctional banking system and thereby removed the risk of a systemic collapse, the EU’s prescription for tough austerity will throw much of the continent into recession, which will further aggravate deficits and only add to mounting debts. Also of concern is the deepening slowdown in China, which could create nasty feedback loops. For example, lower growth in China may hit exports of machinery and automobiles from Europe and Japan hard; in turn, the resulting damage to the European and Japanese economies may cut into imports of finished goods from China. The bottom line: to prop up the global economy will require increasingly larger sums from central banks. That, in turn, will cause a sizeable rebound in inflation and leave the world’s currencies utterly debased. With that in mind, adding to physical gold positions may be a smart idea.
The EU’s latest decision to back a far larger stability fund and to leverage it adds to the global debasement of money. Since 2008, numerous stimulus packages and QE1 and QE2 have seriously undermined the integrity of the dollar. In the past few weeks, both the Swiss National Bank and the Bank of England have introduced their own versions of quantitative easing, and now the EU is going down much the same path. In our view, if a EU bailout if actually possible, it will take between $2.5 and $3.5 trillion. If such an effort is not made, the European Monetary Union will implode. Sadly, if $3.5 trillion were pumped into the system to “stabilize” the crisis, things wouldn’t look much better. This is because the money would be used to prop up cascading bond prices and bail out banks, while the real part of the economy would be subjected to severe austerity. All this will do is turn a financial calamity into political turmoil, which will before long threaten the tradition of democracy itself.
Investor sentiment continues to be tormented by acute uncertainty. It is important to understand that those directing monetary and fiscal policy in the U.S. and the European Union are no longer in control—they are forced to react to market forces which are, in turn, overwhelmed by a steadily mounting economic challenges. In Europe, there recently were comprehensive attempts at stabilization, but the huge structural uncertainties that have beset the EU for some time were left unaddressed. In Washington, meanwhile, debt negotiations continue, but even if there is an accord severe longer-term problems remain. In this climate, we believe it is prudent to minimize bond exposure and concentrate on equity investments in three areas: globally active companies with good sales exposure to the emerging markets, solid balance sheets and good dividend support; select emerging markets stocks; and high-quality commodity producers. In addition, we continue to like physical gold.
Gold continues to be in a sweet spot. The global economy is once again slowing, which is not a climate in which interest rates will be raised. And as to central banks, we believe they are far more likely to add to gold reserves than dispose of them. China, Russia, Brazil and a host of other countries who are accumulating foreign exchange reserves, have not only stated that they will add more gold, but have actually done so during the past months. Finally, investors the world over are losing confidence in the U.S. dollar, the Euro and the Yen—and these three currencies comprise a huge part of the global currency float. We project continued strength for the yellow metal, as we look ahead at an economically and politically difficult period.
The fortune of the United States during the postwar period has been that whatever chaos ill-guided policies in Washington created, Europe and Japan could be counted on to do even worse. And so it is again this time. The European banking system is in worse shape than America’s and the EU’s fiscal challenges are every bit as bad. Japan’s government, meanwhile, is even more deeply indebted than America’s or even Greece’s.
Governments have created money on such a scale that the currencies of most major economies are inherently untrustworthy. Moreover, governments from the U.S. to Europe to Japan have vowed to fight further threats to their economies with quantitative easing, i.e the creation of more money. No wonder then, that gold, an asset who is not backed by someone’s promise but is tangible, universally recognized, mobile and liquid, is highly sought after by a concerned public. There are other reasons for gold to hold its value or move even higher. Central banks (particularly those with high foreign exchange reserves, like China or Brazil) are net buyers of gold, the mining supply of gold is shrinking, and there are hundreds of millions of emerging markets consumers who are joining the ranks of potential buyers.
We are becoming even more bullish on gold. The main reason is that the global economic situation continues to deteriorate—most industrialized nations are now all in a horrendous fiscal mess, which is likely to get worse at a fast clip. The countermeasures instituted by various governments and central banks, meanwhile, border on the fraudulent. The U.S., Europe and Japan have lost their ability to raise interest rates without plunging their economies into even deeper chaos. These are fundamentally superb preconditions for a continued rally in gold.
The meltdown in financial markets does not come as a surprise to our clients. But it is nonetheless tragic. The reckless practices by U.S. and European banks will now lead to the wholesale destruction of those who behaved most ethically—millions of workers who practiced what capitalism’s founding fathers preached: production and thrift. Worse, when the world economy recovers from chaos, it will find itself amidst a huge demographic challenge. Japan and Europe are in the worst position.July 2008
Banks are far too leveraged, mostly so in the United States and Britain. Also at tremendous risk are the large Swiss banks, whose balance sheets surpass the GDP of the country. The safest banking system is Canada’s.
A major financial dislocation appears imminent. I have extensively written about the three catalysts that could unleash calamity:
-the reckless granting of low quality real estate loans;
-the intransparency of trillions of dollars in outstanding derivatives;
-and the lack of regulations of hedge funds.
I have no idea on which of these fronts the crisis will be unleashed, but the odds of a crisis are mounting.
Avoid debt wherever you can. The “debt is your friend” mantra that characterized much of the past fifty years is about to end. The new reality will be “debt destroys!” And, while I’m at it, avoid real estate. I am not talking about your ownership of your house, but the mentality that real estate is a good place for speculation. The coming debt crunch will devastate that notion and wipe out hundreds of thousands of excessively leveraged second and third homeowners, along with the banks that hold the mortgages.
The most frequent question I receive from clients is this: “Why hold a cash position?” Unfortunately, today’s investor is so used to large and trouble-free returns that the idea of capital preservation is scoffed at. The question I would ask back is, “Why, with so many uncertainties on the horizon, would you not want to hold a meaningful cash reserve?” Remember, cash is an asset class. And when things turn bad, it is the most important asset class.
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