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Going into the second quarter of 2012 some investors thought Europe's problems had stabilized and maybe the U.S. finally had some economic growth that was sustainable. Then we had another spike in oil prices, the last round of quantitative easing effect began to fade and financial asset prices stopped rising. The stock market then corrected and fell 10% from the April 1st highs and GDP growth worldwide slowed.

Since then the markets have recovered and went on to new highs as Europe promised to do "whatever it takes to save the Euro" and buy bonds of troubled countries like Spain. Then the consensus began to build that Ben Bernanke in the U.S. would embark on another injection of liquidity into the financial system, so asset prices rose in anticipation of that announcement. Starting back at the beginning of June stocks, high yield bonds and precious metals all began a slow steady rise that changed sentiment from very negative to excessively bullish. In the last few weeks the markets have been churning after peaking right after the US Fed announcement of QE3. Notice that the effect of these steroid injections becomes more rapid yet less effective each time, similar to someone becoming addicted to drugs.

Europe is finally beginning to monetize debt, print money and lend to their insolvent banks in a vain attempt to delay the inevitable. In another bold move they said if troubled countries would ask for assistance and cede sovereignty they would buy "unlimited" amounts of bonds to reduce their borrowing costs to prevent a widening crisis. In the US the Federal Reserve announced they will print money without limit until unemployment falls. Central Banks in England, China, Japan and Europe are all now simultaneously easing monetary policy which creates a very positive backdrop for precious metals prices long-term.

Precious Metals investors got what they wanted and an incredible rally in metals such as (GLD), (SLV), (GDX), (GDXJ) and (SIL) took place in the second quarter. That has taken away the short-term bargain that metals were at the beginning of the quarter and made them vulnerable to a pullback. In the short-term there are still potential catalysts for metals prices to possibly go higher. Over the next month Europe will be back in the spotlight because of their unaddressed issues. The US election charade and the "Fiscal Cliff" will grab headlines and finance pundits will opine. Unfortunately, most of these events are priced in and that is why we have become more cautious and taken some profits. A longer-term catalyst that is not widely feared is Japan's insane level of indebtedness will eventually worry bondholders and could send shock waves through financial markets. Eventually more investors will realize that more of Europe will approach depression like conditions similar to Spain and Greece are in currently. Also more importantly more investors will realize that greater Europe is already in recession that will worsen even for the stronger countries such as Germany and France.

Many skeptics of precious metals investing and those who subscribe to Keynesian economics say: "why hasn't inflation soared with all of this easy money? Therefore it doesn't make sense to invest in precious metals. However the traditional measures of inflation such as the CPI and PPI aren't reflecting the true level of inflation. That point is irrelevant if you just open your eyes to the trend with the US currency which is steadily losing its real purchasing power. The main reason it isn't obvious to most financial market participants watching is its relative value (currency pairs) to other major currencies in the world. However because other countries are simultaneously devaluing their currencies the trend isn't obvious and reflected in currency prices relative to one another. The point is that if your real purchasing power is declining over time, that also is depreciation of the currency no matter what the CPI says or currency pairs price performance.

This is simply an illusion created so most market participants and citizens are unaware of the erosion of their savings and wealth. I have worked in securities for twenty years and am trained conventionally like 95% of professionals in the industry. I didn't understand these concepts until just two years ago and once you do it opens your eyes to the most powerful forces affecting your real investment performance. Take the example lately about what you're hearing lately that the S&P 500 is approaching its former high in 2007. In those five years when you look at essentials such as rent, energy, food, shelter, insurance, education and health care, prices are up a minimum of 20%. So in essence the current S&P 500 price in dollars would need to be 20% higher than 2007 prices just for your investment to retain the same real purchasing power in that time period.

If the U.S. dollar had retained its purchasing power during this same time period and there was no inflation that would be true. However that is far from reality, so the rising asset prices simply make it appear that the stock market is appreciating. So in essence the Federal Reserve's artificial injections of liquidity and rising asset prices are simply an illusion long-term. To see this demonstrated in a simple to understand visual just look at the charts that show the Dow (DIA) or S&P 500 (SPY) divided by gold. You will notice that gold and silver out performed stocks and bonds in dollars. When you look at it terms of real purchasing power the gains are of a much greater magnitude than conventional measure of market indexes appear. (here)

Of course it is obvious that when gold prices are rising, the denominator is changing which is producing most of the effect on the numbers and the chart. On the other hand the U.S. dollar losing value is why in US dollars even in a flat market; your investment is actually worth less. So when these trends reverse themselves someday, so will the trend in asset prices. However if you agree that the dollar and other currencies will continue to be debased by insane fiscal and monetary policies, this trend will continue for quite a while. This phenomenon is occurring because gold prices are reflecting the actual monetary inflation and currency devaluation. Once again, even if most are unaware of inflation, it is still being reflected in asset prices. This is the fundamental long-term reason for rising gold and silver prices continue rising. Until these fiscal and monetary policies that are currently being followed are reversed, the trend of prices higher long-term will also continue.

Source: Are Rising Asset Prices An Illusion?