Back in my Bernstein days, I never really took a large amount of presentation materials to most of my meetings. However, there was one chart that I always printed out and brought with me and I called it “The Most Important Chart in the World.” It still is. The chart I am referring to is the ratio of the Dow Jones Industrial Average: The Gold Price. In a nutshell, charting this ratio demonstrates the “real” return on stocks adjusted for inflation or currency debasement. As we all know, the Zimbabwe stock market essentially went up to infinity during their hyperinflation but did anyone get rich from that? Of course not, the shares were denominated in a currency that was on its way to worthlessness. At the moment, with many U.S. stock indices hitting new post-2008 highs there seems to be a general view that stocks as an asset class will do well in an inflationary environment. As a result, whenever there is actually QE or even the mention of the potential resumption of Fed balance sheet expansion there is a rally in equity prices. In fact, I think the entire investor class in the U.S. has been lulled into a sense of sleep and complacency at the moment. There are two things I want to point out to people when they are considering whether to increase exposure to equities broadly or not.
A Lightning War for Liberty
The first panacea for a mismanaged nation is inflation of the currency; the second is war. Both bring a temporary prosperity; both bring a permanent ruin. But both are the refuge of political and economic opportunists. – Ernest Hemingway
http://libertyblitzkrieg.com/2012/08/23/the-most-important-chart-in-the-world/spx70s/
1. Allocation of Portfolios from the BRICS and Europe: When you look at how well U.S. Treasuries and German Bunds have done this year, it becomes pretty clear that investors have shifted massive amounts of bond capital away from the formerly high growing areas of the world (that are now in serious collapse) into those nations perceived as “safe havens.” While Germany doesn’t have its own currency, the U.S. obviously does and given concerns surrounding a Euro breakup and the extreme difficulties in the Chinese and Indian economies, many investors have decided the dollar is the best house in a bad neighborhood, at least temporarily. This has led to a flight to U.S. equities generally, but also specifically into large cap U.S. centric names with dividends. This is THE crowded trade of 2012 and three prime examples are Wal-Mart (WMT, +22% YTD), Target (TGT, +26% YTD), and Home Depot (HD, +36% YTD). If you ask me, this trade is extremely long in the tooth.
2. Strong Performance Concentrated in a Few Stocks: I have hit on this theme many times before, but the key point is that if you weren’t in the right names this year there is a good chance you have underperformed the market significantly. While you can say that this is normally the case, this year has been far more extreme as is evidenced by reports of horrible hedge fund performance this year relative to the benchmarks. Apple (AAPL), of course, is the prime example. This giant now sports a market cap of $623 billion and is up 65% YTD.
"While Germany doesn’t have its own currency, the U.S. obviously does and given concerns surrounding a Euro breakup and the extreme difficulties in the Chinese and Indian economies, many investors have decided the dollar is the best house in a bad neighborhood, at least temporarily."
ReplyDeleteSomething else the US has is a gigantic military and a (mostly) established history of acting rationally and not openly defrauding investors. Charting the dow to gold is interesting, but it doesn't tell us much that we don't already know. For quite a long time, there was a lid kept on gold that was near conspiracy level in complicity. Eventually, that lid finally blew off and here we are.
These articles and a lot of comments from all of us are bickering about hypotheticals. IE, if we follow some hypothetical system of pure this or pure that, we will have a self perpetuating economy that delivers golden eggs to everyone. Contractions in the economy are painful, which is why the Fed does what it does to try and ease them. However, contractions are also necessary and Paul Volker astutely figured out. If we did nothing, the markets would figure it out and predictably, we would see massive boom/bust cycles wherein we chase "tulip bulbs" of some sort over and over while never sustaining any solid growth.
At best, I think we chase nickels. While we literally go to war with each other over tax rates and spending, we have basically sold just about every piece of intrinsic value this country has. We still have laws, we still have a military and we still have a large population. What we don't have is trust amongst ourselves, our institutions and the government. For the moment, the rest of the world still has some trust that when it matters, we will not pull some truly batshit crazy stuff and that is also why money will come here despite our spending and truly stupid political fights. We've taken everything else for granted but I hope we stop short of trashing this last bit of value this country has.
What would necessarily cause contractions in a healthy economy? It seems that our contractions are caused by banking and banking policy mistakes.
DeleteI agree with your thoughts on trust in our institutions being the main creator of value in our economy. Our currency is only backed by the full faith and credit of the government. It is surprising that economies with debt to GDP ratios of most of the western world and Japan haven't seen a collapse of their currencies yet. Maybe there is trust in their institutions as well.
Nothing stays healthy forever and nothing lasts forever. A healthy economy will eventually overproduce or over allocate investment into one idea or product. In recent times, we have both technology and housing as prime examples. In theory, it would be great if everybody from worker to business owner carried a mentality wherein they looked ahead and predicted what they economy needed and reinvented themselves accordingly. Real life doesn't work that neatly.
DeleteTo me, what makes the most sense to a seeing a sustained economy is seeing a system where money keeps circulating and wealth for everyone grows. If there is no trust, there is less incentive to spend or invest. Business doesn't want to take risk and people who are barely getting by and losing ground year after year certainly aren't in a position to leave the job they have to try something new unless they are forced to like I was when my job was automated out. So now it's a push and we are just spiraling downward. Business claims they can't do anything because of uncertainty in taxes, in political climate, in regulatory climate and on and on. Workers can't leave one crappy job because there are no new jobs elsewhere. As time goes by, more and more money is just being stockpiled at the very top where it is just sitting idle.
How do you reverse that?
"How do you reverse that?"
DeleteWith an honest, representative government that cares more about the wellbeing of the country and its people than the elite that line their pockets.... how do you reverse that? We seem to be stuck in a left/right kind of ground hog day where we either have clouds and and early spring or sun and a longer period of bad weather....
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Deletegold ripping upwards again
ReplyDeleteOil has been on a pretty good run too.
DeleteWhere's nohelp when you need him to make something even more complex and hard to understand but impressive to read?
ReplyDelete