In a recent interview, John Embry, Chief Investment Strategist for Sprott Asset Management, argued that the Fed has lost control over monetary policy, that rising interest rates are a question of when, not if, and that gold, silver, mining stocks and hard assets are excellent buys right now.
With the ten year Treasury note holding steady at about a 3% yield, Embry argued that "the tide has changed dramatically already, but because of the very, very arcane derivative strategies, they've been able to hold the rate steady." However, he said, given the possibility of ultimate default and inflation, bond and note investors "are not getting paid for the risk" involved over the 10 year period of the notes. He said, "As more and more foreigners realize that this is not a good investment, the Fed is going to have to have buy more and more of this paper, and…at some point the rates are just going to go north because people are going to realize that there's no real intrinsic value in them."
When rates rise, Embry believes, "higher rates are going to have an unbelievable impact on the debt." He argued that the Fed is trying to protect "derivatives and the loan books in the highly leverage banking system…If rates double (for example), the banking system would be under enormous stress."
As we have discussed before, Embry argues that "the inflation numbers that the US reports, and they aren't the only ones,…are simply wrong." If you use the original methodology for calculating interest rates, then the real interest rate is very much higher than the current figure. He also pointed out that, since nominal GDP is made up of the inflation rate and growth rate, if the inflation rate is much higher than reported, then "real growth in the US economy is far less than they say it is."
Embry sees little chance of inflation rates remaining low over the long term. He said, "If they continue to print the money, and I believe they have to, there will be an explosion of inflation rates when the velocity of money accelerates."
Even though the Fed has begun tapering off their bond buying, Embry does not believe that the economy is strong enough for the Fed to continue, let alone increase, the tapering policy. If they do, it will lead to higher interest rates. "I think the Fed has basically lost control of monetary policy and this will become more evident as the time goes on. I foresee the economy weakening in the not so distant future and the tapering strategy being abandoned just to keep things together."
Embry believes that stocks offer a mixed picture for the future. He said, "If you have to print more and more money, one place money will go is the stock market." He argued that the purchasing power of bonds and CDs "will be rapidly eroded." Stocks however, should attract new money, although many stocks are very elevated. He warned that we face "extreme risk, in that we could have a flash crash in the stock market." He said that there are certain stocks he would like to own in such an environment, "but you have to be very selective."
As we have discussed before, Embry said, "There is a complete split now between what's happening the gold (GLD) paper market and what's happening in the physical market." Massive quantities of gold are headed for China, Russia, the Far East, Turkey, and the Middle East. Canada, Britain, and Australia have sold the vast majority of their gold. However, despite this rapid growth in demand, the price has gone down because of what's going on in the paper market. Contrary to economic theory, as prices fall, gold demand has just increased. Embry predicted that Western "Central Banks are going to be cleaned out of all the gold they have, and the people who own gold (the Chinese) will mark the price back up." He also predicted that in the future the transfer of the West's gold to the East, "will be seen as a massive mistake by the Western authorities."
Embry explained that the Chinese are using "every opportunity to buy hard assets anywhere in the world. They are going as fast as they can to offload US dollars and buy real things." This tactic is part of China's long-term plan to move away from using the US dollar as the world's reserve currency.
Embry said, "I believe that before 2014 is over, this whole Ponzi scheme in the gold market will be revealed and gold will more than shine, it will move up dramatically." However, he warned, "The timing of this is imprecise." He believes that the paper market's control of the price of gold will end in 2014, leading to much higher prices. As he has mentioned before, he believes that most people will not have enough wealth to buy gold, so silver will move up far more than gold.
Silver inventories are minuscule, with 75% going into industrial uses, so, he said, "I think silver will outperform gold. I think you are going to make more money in a silver position than gold, but you got to own gold."
As I and other experts I have interviewed have argued, Embry feels "that the mining sector is a great opportunity." He predicts that some mining stocks will move up 30 or 40 fold when gold and silver prices go up. However, Embry warned, "You have to be selective." You want to own mining stocks of companies that have ore bodies and the balance sheets to survive these tough times. He also advised dollar cost averaging in, since you don't know where the bottom is, although, he said, "We are near it."
Overall, Embry sees a near future of higher interest rates and inflation, with paper assets worth far less than they are today. He advises, as the Chinese are doing, buying physical assets that cannot be easily replicated, as money can be. Gold, silver, mining stocks, and physical assets may provide impressive returns in the future, if Embry's predictions are correct.
The information in the Market Commentaries was obtained from sources believed to be reliable, but we do not guarantee its accuracy. Neither the information nor any opinion expressed therein constitutes a solicitation of the purchase or sale of any futures or options contracts