On January 29th of this year, I wrote a comment to a crowd of writers and readers at Seeking Alpha on the semantics of the many Milton Friedman disciples which were essentially arguing that inflation wasn’t inflation unless it was accompanied by simultaneous increase in money supply. Ridiculous I said, because the author wrote what seemed like a 10 page tome which not once mentioned purchasing power. My counter-argument was that purchasing power was what really mattered as that’s what dictated consumption which at the end of the day also dictated production, profits, incomes, spending, investment and everything that makes the world go round (or not).
I went on to say:
And I'll say upfront that I agree that the inflation we all know but don't love is apt to surge in a way that can put us in a banana republic sort of conundrum; I just am not convinced it's around the corner, because I think the current economic circumstance is likely to suppress demand more and longer than most think, credit has changed dramatically, and there is likely to be a transmission problem with regard to getting that credit into enough hands that can overwhelm the enormous amount of excess capacity in product, service and labor markets that have been created almost overnight. So there's no telling how long deflation (not the asset kind, but the kind that increases purchasing power meaningfully) is apt to persist because this is anything but a free market economy anymore - ie. the Fed is likely imo to be successful in keeping rates low and the dollar from collapsing in the near term. But some day in the not too distant future inflation will get going and it will inflict pain of the non-theoretical kind - your and my pocketbook and bank accounts and by extension our quality of life. It’s just near impossible to predict when and to what extent but also how far and long deflation goes before it turns. My guess is that wont happen until the economy here and globally improves - which I doubt happen anytime soon. People looking for a 2nd half recovery are way off; we'll be lucky if happens by year end 2010 IMO.
Wednesday afternoon I saw what the Fed announced and saw the dramatic movement in treasuries and sell off in the dollar and immediately thought that I might very well have to re-think how fast that inflation shows up. My reaction was to buy a couple of small positions in gold miners and try to fade treasuries via shorting the TLT. I had been looking to get long gold shares and thought the setup was upon me but I wanted to wait one more day because several gold related charts I saw looked as if they had developed mini head and shoulder tops and I thought they would try to complete those patterns before failing (in a downside break) and that would set off a sharp move higher (accompanied by short covering by early top callers) in gold equities.
By the way, I like taking advantage of failed patterns; there are a few that I play whenever I see them, this is one of them. So I bought a little GG and AUY; and that came out of a toss up between NEM, GG and AUY. Actually thought that NEM might be the safest of the three but went with the two I thought might move most. I have long thought that the dollar must decline precipitously going forward as longer term fundamentals required that (as did the survival of our country’s manufacturing base). And when it started, I thought the Fed and Treasury would welcome the move and not look to thwart it, I just wasn’t so sure the moment was upon us in late January.
So that’s what I’m thinking now, long gold, U.S. equities should retain a bid, I’m not so sure the same is true for global equities. I am also looking to fade a couple of natural gas stocks as the commodities rally. I’ve been short a steel stock and a couple of nat gas stocks for a while now and will look to add to those positions as the move against subsides. I also put a small long on a refiner in order to hedge my negative nat gas bets in the very short run. I’m not so sure its time to go all in on the refiners yet but figured they should move on a vigorous dollar decline so I took a small shot there and it caught a nice bid. I plan on keeping that on a short leash, I’ll cut it as soon as it turns into a loser or 15% higher, whichever comes first.
Last thing I’ll say and I’ll comment more on this soon, is that Wednesday’s moves reminded me of the early 1950’s (think it was 1951) Fed – Treasury accord, so I started to think this was a re-run of that episode and I wondered what the implications were, wondered if the dollar should really collapse fast and/or inflation might surge sooner and faster than I thought, and if it was in fact a re-run of that episode, would some sort of price and wage controls be necessary and what were the implications of that. I have to think more about that and get back to you on that but it really had me scratching my head.
Disclosure: Long TLT.