Global markets, after rising nearly 20% since December... have abruptly reversed. Federal Reserve Chairman Ben Bernanke's comments on June 19 led investors to fear the Fed will soon exit its $85 billion a month quantitative-easing program. It isn't going to happen.
Central Bank Monetary Expansion
Around the world central banks are rapidly increasing their balance sheets. In the U.S. the Fed's $85 billion a month monetary expansion continues unabated. In Europe, the supply of euros continues to grow (You can bet that the next euro-crisis will be solved by even more euro-creation). In Japan, the Bank of Japan pledged to double the country's money supply in April in a desperate attempt to banish deflation.
When crises arise in these heavily indebted countries, the least painful solution always is to inject money into the system. Talk of slowing or, (heaven forbid) actual selling of bonds and Mortgage Backed Securities (MBS) has been just that -- talk.
Monetary expansion is here to stay. Central Banks just don't have the backbone to tighten if it causes economic pain. Look at what's happened when just the rumor of slower of Fed bond buying began. Long term interest rates rocketed up. The 10 year treasury note, currently yielding around 2.5%, is up 80% from its record low of 1.39% last July. Can you imagine what will happen if the Fed actually starts selling bonds or MBS? Who will buy them?
It's true, continual monetary expansion risks eventually setting off inflation. But the Fed looks on this as the lesser of the two evils. And as we are now trending toward lower growth, tightening simply will not happen.
Japan's Lesson? Be Careful What You Wish For
Japan will be the poster child for monetary expansion as it doubles its money base. It will be interesting to see if they really can slay the deflation dragon. So far results are mixed. Both the yen and Japanese equities have fluctuated wildly. At this point equities are up, the yen is down... but inflation has yet to appear. So maybe it kind of works. One thing is for sure: The yen's former safe-haven reputation is in tatters.
Disinflation is a hard beast to kill. We will see how successful the Japanese are at it... and what the unintended consequences are. Hopefully, it is not a devaluation currency war.
New Trends And How To Invest
Investors see world-wide monetary debasement as sooner or later leading to inflation. It's simple math: The more money you create the more the currency is debased. Right now we may have the lull before the inflationary storm as monetary velocity is at record lows. Once that starts to change, all the newly created money will flood into the system, sparking inflation.
Investors also realize that increasingly indebted, cash-hungry governments will raise taxes (it's already starting). And, as Cyprus has shown, if things get desperate they may confiscate assets. With that in mind, people are shifting money into safe-haven assets which are liquid, hard to track, portable, and difficult to confiscate.
For wealthy individuals it may be fine art, diamonds, jewelry, coins, and equities. For large money managers it may be the U.S. dollar (the least ugly currency), equities, or perhaps real estate in low tax countries. Capital will always flow first to where it feels safe, and second, where it earns the best return.
Stay Away From: Mid to Long-term bonds of all stripes. High-quality short term bonds are safe but have no return. Mid and long-term bonds have some return but rising interest rates erode value. Cash deposited with a highly rated financial institution is good place to ride out crises but remember, cash loses value long term in an inflationary environment.
Bonds may or may not crash but downside risk far exceeds the upside risk. In my opinion the odds are stacked against you with bonds. If you believe we are truly entering a worldwide depression, then yes, you may make money with longer term bonds.
If you, like me, do not see worldwide markets on the edge of apocalypse consider Blue-Chip Equity ETFs: Large blue-chip international companies are one of the safest, most liquid asset classes available and ETFs will give you positions in a broad basket of companies - largely eliminating corporate risk.
SPDR Dow Jones Industrial Average (DIA) holds some of the world's best international companies. Don't be fooled by the Dow nomenclature. Most of the companies are international in scope, not confined to the U.S. Largest holdings for DIA are International Business Machines Corporation (NYSE:IBM), Chevron Corporation (NYSE:CVX), and 3M Company (NYSE:MMM). For more information on DIA see here.
Expert, Professional Management -- For Free: If you want the best professional management for your money consider buying Berkshire Hathaway (BRK.B) (BRK.A). The Berkshire Hathaway companies have positions in more than 80 businesses including insurance, utilities, energy, finance, manufacturing, retail, and others. Best of all: the companies are run by investing legend Warren Buffett.
Berkshire Hathaway's quarterly profit just rose 51%. Shares were at record highs before the current pullback. One negative perhaps: The Berkshire Hathaway companies pay no dividends -- returns are all reinvested. Considering the recent increased taxation of dividends this may be a plus. See here for more information on Berkshire Hathaway's holdings.
Technology: One criticism of Mr Buffett is that he is underinvested in technology (IBM is an exception.) This is understandable; Mr. Buffett is 82 years old and has stated he does not believe in investing in companies whose business model he cannot easily grasp. Since the latest technology, as evidenced by smart phones, is often only a year or two old, it's hard for most of us too.
But if you want to want to invest with relative safety in fabulous growth companies such as Apple (NASDAQ:AAPL), Microsoft (NASDAQ:MSFT) and Google (NASDAQ:GOOG) look at Technology Select Sector SPDR (XLK). This ETF invests in the largest market cap tech stocks so you are investing in the most successful companies (Apple is the largest holding of XLK, comprising 14% of asset value.) See here for more on XLK.
Precious Metals: I can't help but view the recent plunge in gold and silver prices as a buying opportunity. The precious metal markets have now undergone a severe correction and prices are likely now near bottom. Consider buying some gold or silver coins and perhaps invest in Market Vectors Gold Miners ETF (NYSEARCA:GDX) or Market Vectors Junior Gold Miners ETF (NYSEARCA:GDXJ). These ETFs are nearly 60% off their highs of just a couple years ago.
The long-term bull in the stock market is alive and well. Currently markets are correcting so now may be an excellent time to invest.
Not a good stock picker? Don't worry, with the above ETFs you need not be. DIA is an index based fund -- your investment does whatever the Dow does. BRK-B is an opportunity to invest with Warren Buffett, one of the best stock pickers around. GDX gets you into large precious metal miners, many of which up to 60% off highs of just a couple years ago.
Central banks are likely to continue their money expansionary ways -- despite talk otherwise. Since high-quality equities are one of the better non-printable assets around, they may be the best choice for most of us. I suspect most of us lack the expertise to pick diamonds or fine-art, I know I do.
No market goes straight up (or down) so view corrections, such as we are now having, as buying opportunities rather than a harbinger of a crash.
Additional disclosure: Looking at BRK.B.
Disclaimer: This article expresses the author's opinion and is informational only. It is not a recommendation to purchase any of the ETFs or equities mentioned. Investors need to consider their personal situation carefully before any investing.