By now we all know that a swing in inventories flattered the growth in U.S. Q4 GDP. The chart below, courtesy of Goldman’s chief US economist Jan Hatzius (via Clusterstock - Chart of the Day), shows the “real” story. It illustrates that the growth in real final demand - basically GDP excluding inventory restocking - is flat and doesn’t live up to past recoveries at all.
“There will be lingering headwinds to growth from the financial meltdown, such as ongoing credit restraint and an upward drift in the personal savings rate. The U.S. economic recovery should be sustained, but it will fall far short of what would normally occur in the wake of a very deep recession,” said BCA Research.
Without stronger demand growth, a V-shaped recovery is not on the cards and the unemployment rate will not start heading south.
Critics of precious metals investing have called gold and silver a bubble, further claiming that today’s higher prices will fade as economic conditions improve. Although gold and silver prices are much more expensive than they were even a few years ago, gold and silver are hardly near bubble status.
Scarce Ownership of Precious Metals
One of the most prominent reasons that gold and silver aren’t yet a bubble is that very few casual or institutional investors own physical gold and silver. A recent poll of professional money managers indicated that fewer than 30% have ever purchased gold for their clients. Ownership of gold is even rarer in the general populace, as investors have to go out of their way to buy physical metals.
The small percentage of precious metals investors could double, triple, or even quintuple before gold becomes a mainstream investment, pushing the price up several hundred percent in the interim.
Gold Isn’t Speculative
Unlike oil, dot com stocks and even real estate, gold isn’t bought and sold to make people rich. It isn’t sold as a get-rich-quick product. In fact, gold and silver are sold as get-rich-slowly products that help investors retain their purchasing power. The main purpose to buying precious metals isn’t to grow wealth, but to protect it. Even after the fear of global financial meltdown faded in the spring of 2009, gold and silver prices continued to head higher - not out of fear, but out of a desire to preserve wealth against inflation.
Metals Prices Haven’t Truly Grown
While the money supply has expanded tremendously since the early 1990s, gold prices didn’t begin their most recent rally until 2002, mostly due to a relatively strong economy. Therefore, the gains precious metals experienced in the last several years have not been true gains. Instead, gold and silver have caught up with where they should be. In fact, even with the money supply increasing 600% since gold last topped in 1980, gold is just a few percentage points higher than in 1980.
Rarity is Always Valuable
There is less gold and silver on the earth’s crust with each passing day. As precious metals are used in manufacturing, the amount in existence decreases, which subsequently increases the value of each gold and silver coin owned by investors.
Silver’s supply decline has been steeper than gold, with much of the past decade’s mining products being used in the technology and photography industries.
Now or Never
While precious metals aren’t currently in a bubble, it’s impossible to deny that they might soon be. With so many investors realizing the only way to safeguard their assets from inflation, deflation, and economic calamity is physical metals, it is certain that the price of silver will continue to rally. From the everyday collector to the institutional investor, precious metals are now on the radar as a safe and reliable investment. Rather than wait as precious metal prices trend higher, protect your assets by purchasing gold and silver coins today.
Although many analysts fear the inflationary consequences of the massive money supply created by the U.S. Federal Reserve, deflation remains a more immediate threat. With the unemployment rate expected to exceed 10% next year, the slack in the labour market will reach levels not seen since the Great Depression and the recession of 1981-82. The severity of the recent employment loss is evidenced in the following chart illustrating the U.S. unemployment rate from 1926 through August 2009.
Job growth will likely be muted once it begins. With companies focused on productivity and bottom line performance, a replay of the so-called “jobless recoveries” that occurred after the mild recessions of the early 1990’s and 2000’s is almost certain. The unemployment rate is expected to decline very slowly. Hence, a wage increase spiral, one of the causes of inflation in the 1970’s, is not in the cards.
The other potential cause of inflation - too much money chasing too few goods – is also not a risk in the near term. In fact, the opposite is true; today there is too much production capacity facing too little demand. As shown in the following chart, the manufacturing utilization rate in the U.S. plummeted to 65% in May 2009. This is the lowest level since monthly rates began being recorded in 1948.
In fact, at present there is simply “too much” available - whether it is airlines, newspapers, automotive plants, houses, apartments, TV stations, offices, restaurants or retail outlets. Job openings and easy credit are the rarities.
Unfortunately, a full recovery from a credit bubble collapse takes years not months. In a typical business cycle, monetary easing eventually triggers a powerful recovery that is first powered by inventory rebuilding. Quickly-rising employment and income then drives consumption-led growth. In the aftermath of a financial meltdown, too much debt, weak job creation and limited business investment undercut demand growth in the face of excessive supply. The rate of price increases is therefore more likely to fall than rise. We could even face outright price declines as occurred in Japan over the past two decades and worldwide in the 1930’s.
Recoveries from a credit bubble collapse are fragile and easily derailed. For example, Japan’s recovery from the bust of the early 1990’s was choked off in part by the Asian crises of 1997-98. Also, central bankers and governments must adroitly remove their monetary and fiscal stimuli at some point so as to avoid an eventual inflationary surge and repair government balance sheets. In 1937, concerned about renewed inflation and swelling government deficits, the Federal Reserve and the Roosevelt administration increased bank reserve requirements and moved to cut spending. These actions inadvertently caused a deep recession in 1937-1938.
Bond yields can therefore be pushed lower for a longer period than is ever foreseen at the outset of a bubble collapse. Either prolonged weak economic conditions or a miscalculation by central bankers or governments could be the trigger. In the 1930’s, for example, yields on government and corporate bonds drifted gradually lower after the initial economic recovery in 1933 as consumer prices dipped in the mid-1930’s and dropped sharply in 1938. As illustrated in the following chart, by the end of the decade, yields on intermediate-term and long-term Treasuries (in red and green) were 1.0% and 2.3% respectively while Baa corporate bonds (in blue) yielded 4.9%.
Investors who are sourly appraising today’s low interest rates, particularly on government bonds, need to be aware that there is a scenario where they may go even lower as we work through the overhang from the credit bubble collapse. While we will likely see inflationary increases and higher interest rates at some point, these may be several years in the offing.
Mohamed El-Erian, PIMCO co-Chief, has published an essay defining a new catch-all phrase to describe the context that markets and economy are operating under, post the credit and financial meltdown of the last year, and what the future holds based on their findings.
Here are some excerpts from The New Normal, published by El-Erian in his May 2009 Secular Outlook:
After all, recent months have been dominated by unprecedented volatility in factors that have conventionally anchored market relationships. Indeed, some of you have already heard us argue that the world is traveling on a bumpy road to a new destination – or what PIMCO has labeled the “new normal.” And, reminiscent of what happened a few years ago with Bill Gross’s concept of a “stable disequilibrium” and Paul McCulley’s “shadow banking system,” the notion of a new normal is increasingly resonating in policy circles and among market practitioners.
This reflects a growing realization that some of the recent abrupt changes to markets, households, institutions, and government policies are unlikely to be reversed in the next few years. Global growth will be subdued for a while and unemployment high; a heavy hand of government will be evident in several sectors; the core of the global system will be less cohesive and, with the magnet of the Anglo-Saxon model in retreat, finance will no longer be accorded a preeminent role in post-industrial economies. Moreover, the balance of risk will tilt over time toward higher sovereign risk, growing inflationary expectations and stagflation.
The context:
First, delineating where markets are coming from – or, to use the PIMCO phraseology, the “initial conditions.” We found ourselves drawn back to the 2008 Secular Forum’s characterization of the global system having reached a “dead end:” unable to continue on its recent path due to debt exhaustion and poorly capitalized activities, yet also incapable of embarking smoothly on a different path as the ravages of de-leveraging result in disruptive overshoots and considerable collateral damage.
Second, recognizing that since the last Secular Forum, the global economy and markets suffered what economists call a “sudden stop” after the disorderly failure of Lehman Brothers in mid-September: every section of the rich data book for the Forum highlighted the severity of this cardiac arrest, raising legitimate questions regarding the depth and duration of the underlying breakage.
Third, arguing that recent events extended the de-leveraging dynamics into a broader phenomenon with longer-term consequences: the DDR, to use the terminology of one of Bill’s recent Investment Outlooks. This potent cocktail – a self-reinforcing mix of De-leveraging, De-globalization, and Re-regulation – inevitably entails economic and political forces that disrupt the normal functioning of markets and the global economy.
Together, these factors constituted a strong unanticipated blow to the gut of virtually every economy. (See Charts 1 and 2 for an illustration). Most are still on the floor trying to regain their breath. Indeed, as one of our external speakers put it, if you were the global economy, you would not wish to start a journey from here; yet, you also cannot go back to where you were.
So what does all this mean?
This is an in-depth, longer than the usual piece which deserves to be read in its entirety.
In case you missed it, you can view last week’s PBS FRONTLINE, Ten Trillion and Counting, here:
Summary courtesy of PBS.org:
All of the federal government’s efforts to stem the tide of the financial meltdown have added hundreds of billions of dollars to an already staggering national debt, a sum that is expected to double over the next 10 years to more than $23 trillion. In Ten Trillion and Counting, FRONTLINE traces the politics behind this mounting debt and investigates what some say is a looming crisis that makes the current financial situation pale in comparison.
The journey begins as FRONTLINE correspondent Forrest Sawyer takes viewers to a secret location: the Treasury’s debt auction room, where the U.S. government sells securities backed by the “full faith and credit of the United States.” On this day, the government is auctioning $67 billion of Treasury securities. The money borrowed will be used to fund services and programs that the government cannot pay for through tax revenues alone.
Observers warn that the United States’ reliance on borrowing to fund essential programs is a dangerous gamble. For the first time, investors are beginning to question the ability of federal government to meet its growing financial obligations, and fading confidence can have dire consequences. “You might have a situation where there is one day when the government says we need to sell several billion dollars of bonds, and nobody shows,” Economist reporter Greg Ip tells FRONTLINE. “No money to pay the Social Security checks, no money to give to the states for their Medicaid programs. Cut, cut, cut, cut, cut.”
Yet more borrowing is exactly what the Obama administration plans to do: hundreds of billions to bail out the banks and other financial institutions; tens of billions more for the auto industry; $275 billion for homeowners and mortgage lenders; and a giant $787 billion stimulus package to jump-start an economy spiraling downward. Just like the Bush administration before it, Obama and his team are going to borrow big. “That’s the paradox of the situation that we’re in now,” observes Matt Miller, author of The Tyranny of Dead Ideas. “Government has got to run big deficits to stimulate the economy, deficits that would have been unthinkable … because government’s the only entity with the wherewithal to prop up a demand in the economy when businesses and consumers are all pulling back.”
David Swensen, of Yale University Endowment investment management fame discusses the current state of the market and derivatives trading. Swensen is credited with the invention of derivatives now commonly referred to as “swaps.”
The Wall Street trader who invented the swap says he’s dismayed by how other traders have so abused his invention and the “complete and utter failure” of regulators to prevent the abuse that led to the current financial meltdown.
David Swensen, now the legendary manager of Yale University’s endowment funds, says swaps and other financial derivatives ought to be traded on an exchange and hedge funds that get big enough to pose risks to the financial system should be regulated.
“I don’t think it is the tool that is the problem,” he says of swaps. “I think it is the fact that our regulatory authorities aren’t doing their jobs” that allowed derivative trading to balloon dangerously. The bursting of that balloon is one of the main reasons for the Wall Street credit crunch.
In the late 1970s, David Swensen took his new Yale doctorate in economics to Wall Street. While working for Salomon Bros. in the early 1980s, he figured out a way for IBM and the World Bank to trade, or swap, payments in different currencies. It was a key development in a larger Wall Street trend to create and trade new financial “derivatives”–or instruments whose value is derived from an underlying asset or income stream. As a part of this trend, musician David Bowie found investors willing to pay him upfront cash in return for the right to collect future earnings on his hit songs, for example. And an entire industry arose to create and trade derivatives based on the mortgage payments of homeowners.
Stay on top of the latest headlines from the Wall Street Journal Online.
WSJ What's News Midday Edition, March 16, 2010by The Wall Street Journal 16 Mar 2010 at 1:04pm
Housing starts were down by 5.9% in February, amid severe winter weather in parts of the country. Tiger Woods said he will return to professional golf at the Masters Tournament.
Jeffrey Saut Daily Audio Comment Raymond James
Listen to the recording with one of the media players below:
Jeff Saut’s Daily Audio Comment is recorded every weekday, except Wednesday, at 9 a.m. ET. It is made available to the public on this Web page at approximately 1 p.m. ET.
Mohamed El-Erian, PIMCO co-Chief, has published an essay defining a new catch-all phrase to describe the context that markets and economy are operating under, post the credit and financial meltdown of the last year, and what the future holds based on their findings.
