This article was originally published September 25, 2011: http://equedia.com/blog/view.php/Preventing-the-Collapse
There's an old adage that "haste makes waste."
In a world dictated by politicians and bankers looking for a quick solution to solve decades of greed, we are now left with nothing more than a world full of debt - a growing debt that will remain beyond the lives of our children's children.
It is a zero sums game. Only the other end of the profit side will always remain with the bankers and those who can print a limitless supply of money. That is the trap that we have fallen into and it is a trap where we will remain. And they'll keep doing it because we'll keep taking their money.
As much as we can blame the bankers and politicians, we have to blame ourselves.
There is a reason why my grandparents have no debt and why my mom still tells me to save my money. There is a reason why she cooks at home and I eat out practically every meal. That is the world that they once lived in: a world where you make before you spend.
If you wanted that new baseball bat, you had to work and save up for it. It may have taken a year to save, but when you finally had enough money to buy that bat, you appreciated it. You wiped it down every time you finished using it. You put it away in a safe spot when you weren't. And every hit you made with that bat felt like a homerun.
But times have obviously changed. You want a bat? No problem. Fill out this piece of paper, sign your name on the dotted line, mail in an application, and within a few weeks you'll have your money to buy your bat - and then some. If you broke your bat, don't worry - you can always fill in another piece of paper.
When the time comes and the pieces of paper are running out, you can just throw some borrowed money into the stock market and make it all back. Heck, everyone else is buying stocks in hopes of paying their debt. The more stocks they buy, the higher the stock prices will go.
Now we're gambling with borrowed money in a system that favours the house, or should I say, the bankers. Now we're signing pieces of paper for borrowed money, then using those pieces of paper to buy more pieces of paper on the stock market. At the end of the day, the profits will go back to the bankers and our world is left sitting on a mound of debt that will be recycled, but not erased.
For years we have been living on the premise that we could do whatever we wanted. If we couldn't pay the tab ourselves, others would be willing to lend us the balance.
It's not just here in N. America. The crisis in Greece and the financial difficulties in other European nations are proving the world is greedy. Even China, whose mentality is to save first and buy later, are beginning to use credit to buy TV's and Microwaves (see Actions Speak Louder Than Words.) There is no easy fix. The damage from past decades will not be undone in a few years.
So where am I going with this?
With the uncertainties of our current fiscal mess, there is only one thing I can be sure of: The preservation of wealth through hard assets such as gold.
I know gold has little uses (see Smaller Than You Think). But for over 5000 years, gold has been a sign of wealth. That won't change - regardless of what Ben Bernanke tells you.
In a past video, Bernanke was asked by Ron Paul if gold was money:
Ron Paul: The price of gold today is $1580, whereas the dollar during the last three years was almost devalued nearly 50%. When you wake up in the morning, do you care about the price of gold?
Bernanke: Well, I pay attention to the price of gold, but I think it reflects a lot of things: It reflects global uncertainties. I think people are, the reason people hold gold is a protection against what we call tail risk, really bad outcomes. And to the extent that the last few years have made people more worried about the potential of a major crisis, then they have gold as a protection.
Ron Paul: Do you think gold is money?
Bernanke: (pauses)...No, it's a precious metal...
Ron Paul: Even if it's been money for 6000 years and somebody reversed that and eliminated that economic law?
Bernanke: Well, it's a..it's an asset. I mean, would you say treasury bills are money? I don't think they're money either, but they're a financial asset.
Ron Paul: Why do central banks hold it (gold)?
Bernanke: Well, it's a form of reserves.
Ron Paul: Why don't they hold diamonds?
Bernanke: Well, its tradition. Long term tradition
Ron Paul: (Chuckles) Some people still think its money.
|click to play|
It's funny how a man that scored near-perfect on his SAT, and a man that is in charge of running the world's reserve currency, doesn't know the definition of money.
Here are some dictionary definitions of the word money. You be the judge:
1. any circulating medium of exchange, including coins, paper money, and demand deposits. 2. paper money. 3. gold, silver, or other metal in pieces of convenient form stamped by public authority and issued as a medium of exchange and measure of value. 4. any article or substance used as a medium of exchange, measure of wealth, or means of payment, as checks on demand deposit 5. a particular form or denomination of currency.
Gold may not be money in Bernanke's eyes, but to the rest of the world...it's better.
The Rising Tide
While the price of gold is rising, its merely rising against the dollar. Don't forget that the price of gold is still denominated in - you guessed it - the world's reserve currency, the dollar.
While the dollar may look to strengthen amongst other world currencies such as the Euro, it is highly unlikely that the trend will continue. A strong dollar is great for standard of living, but a weak dollar is better for aggregate demand and digging yourself out of a deep hole. For the US, that hole leads to the centre of the earth.
I am not saying that the US dollar is doomed, as many would have you believe - at least not in the short term. It remains the world's reserve currency. In addition to that, the alternatives don't look very promising: the euro has obvious problems of its own, the renminbi is not convertible (yet), the Swiss franc is backed by too small an economy, the Indian and Brazilian currencies might in the future qualify for limited diversification but are no match to the dollar, and so on. International trade is still largely invoiced in dollars and this is a powerful incentive for central banks to hold dollar reserves...for now.
All of these conditions may, and probably will, change. China has already been making moves to trade with surrounding nations in their own currencies, skipping the US dollar. (see The Biggest Buyers of Garbage)
While the citizens of America have enjoyed a high standard of living based on the power of their currency, that has now changed.
In order for the US to become the super nation it once was, it will need to rebuild its economy from the ground up through job creation. The only way new jobs will be created is with stronger aggregate demand, which I just mentioned will require a weaker dollar.
The dollar, which was once the economic strength of the US, remained that way because of the belief that the US economy was strong and had enough wealth to control its spending. Given the recent events, nothing could be further from the truth now. GDP to debt is now 100%. The nation's debt is now $14.7 trillion, or $131,596 per citizen and growing.
As such, many nations are moving away from the pieces of paper that we call Federal Reserve Notes (dollars) and turning to gold as the preserver of their sovereign wealth. Practically every one of top and rising nations have been buying and hoarding gold: China, India, Russia...(see The Russian Secret)
What to Do
I am confident gold will go higher. That means that with the big drop last week in precious metal prices, I am looking to buy on weakness.
I am also confident that gold stocks, including the more speculative plays, will eventually go much higher.
I know history does not always repeat itself, but human nature forces ourselves to learn from it. So while what happens today may not exactly happen as it did in the past, there are strong similarities.
Back when gold began its major climb, gold stocks also lagged behind...by nearly two full years. In the last Equedia Letter, I talked about why gold stocks lagged gold prices and why the imbalance will eventually lead gold stocks to outperform gold itself - as it did between the 70's and 80's. This week, our friends over at Casey Research published an article regarding the lag in prices titled, "How Long Might It Take to Get Rich from Gold Stocks?". I think it's well worth the quick read and its included in this letter below.
As I mentioned last week, we would see a major selloff if Bernanke did not make a mention or hint of QE3. As predicted, the markets took the biggest two day fall this past week since 2008 after the Fed meeting.
Volatility did not calm down in Q3. I had told readers to look at the VIX last quarter (see Beware the April Fool). If you had dived into the VIX, you would be up over 130% - with 30% gains in the last week alone. Despite being right, these are the types of calls I hardly like to make. Volatility implies uncertainty. Uncertainty generally leads to a bearish market - especially after 2008.
Despite the setback, I think the world will work together to prevent the next major financial world crisis. Whether their solution works for the long term or not, I really only care about the short right now. The economy will take a long time to experience any true growth - growth not infused by debt.
Investors are now looking for value and stability. In these market conditions, these attributes can be found in very few companies. Historically, stocks within an outperforming sector generally move higher than stocks that are climbing in an underperforming sector. If you're looking for value, there's no other overall sector that beats gold.
When the major gold producers come out with their earnings and forecasts over the next year, investors will realise that these are the companies that are stable and growing. These are the companies that will be making money regardless of consumer demand.
Gold stocks took a beating last week. I think this is temporary. I took some profits early in the week, but I will be using these profits to buy on dips. The harder they get hit, the more I will be looking to buy.
While we are now in bear market territory, there are still profits to be made. Don't let the recent drop in gold and silver prices fool you.
Disclosure: I am long GDXJ.
Additional disclosure: I am also long Gold and Silver, plus other large and small cap gold stocks not mentioned in this article