The recent dramatic surge in stock prices has convinced many that the worst of this recession is over. Talks of "green shoots" have flooded the airwaves, while improving yet still horrific economic data are celebrated as a sign that the economy has bottomed.
Unfortunately, all talks of recovery are premature and the reality of the situation is much bleaker. Significant economic shockwaves are likely as the public comes to realize we are in fact, in a depression.
Recent moves in gold, oil, bonds and commodities as a whole are clearly warning of future inflationary pressures and economic dislocations. In an already weak economy, rising inflation will quickly dampen any hopes of recovery. Remember: rising commodity prices in 2008 precipitated the historic collapse in stocks and asset classes as a whole. There is a fine line between rising commodity prices evidencing recovery, and rising commodity prices laying the groundwork for the next round of economic collapse.
In terms of interest rates, economic orthodoxy suggests the Fed will raise interest rates to counteract inflation. However, the Fed continued to lower interest rates in 2008 in the face of rising inflation because of the countervailing threat of debt liquidation and the need for liquidity. Raising interest rates would utterly collapse an economy increasingly characterized by an overleveraged consumer.
Hence, I believe all talk of the Fed raising interest rates anytime soon are premature.
In a hazardous investment environment where assets are experiencing huge and rare moves, preservation of capital is paramount. Moving forward, gold appears best suited to serve the dual role of crisis and inflation hedge. Currently, gold appears to be basing for a powerful move to new highs as inflation rears its ugly head as the result of unprecedented quantitative easing, and negative real interest rates. There has been a stealth accumulation of gold from central banks such as China and hedge fund extraordinaires like John Paulson. The Dow to gold ratio currently sits at about 9. In previous asset class repricings, the Dow/Gold ratio has fallen to 1, which suggests this bull market in gold has a ways to go.
Recently, there have been talks of potential hyperinflation in the U.S. due to profligate spending, record budget deficits, and quantitative easing. While hyperinflation is far from a sure thing, it should be noted that hyperinflation of the Weimar kind is preceded by heaving selling in the foreign exchange market, which we have yet to see in earnest.
Regardless of business conditions, hyperinflation is a risk as confidence in the government and currency collapses. The dollar is currently under tremendous pressure, and coupled with talks of a new reserve currency, this may portend a currency crisis of sorts in the near future.
In an environment where confidence is quickly collapsing, gold should be bought on dips. What detractors of gold fail to realize is that gold has still not captured the attention of the mainstream retail investor. Once this happens, I believe gold will double in price rather quickly much like it did in the last bull market of the 70's.
While the short-term may bring almost anything, the long-term trend in interest rates, the dollar, and gold is clear. Ride the bull market while gold is still an unpopular mainstream trade.
Disclosure: Long GDX