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Monday, August 3, 2009

Dazed and Confused

Last week, I blogged about caution about gold and gold miners. I would like to explain my recent bi-polar episode on natural resources. First, lets talk about the US Economy, and actions being taken to "improve" the economy.

The US Economy entered into a tailspin after 5 years of easy credit and massive debt spending from US citizen, to financial corporations, to the US government itself. The US Economy is based on 70% consumption. Once the inflation pyramid scheme built on housing valuations came apart, the US financial system was injured in fall of 2008.

What needs to be done to get the US back on track to become a strong economic leader is simple. Enforce existing laws, enact stricter laws (specifically around accounting tricks), bankrupt appropriate companies, and start to rebuild confidence the USA runs a tight ship. This of course would cause a market collapse during the transition, but in the end, the US system would be trustworthy and allow investing to return.

Instead what we have is politicians and Keynsian economists trying to throw FREE (taxpayer) money at Financial companies (TARP, lending programs, government backing debt), individuals (in form of housing refinancing, extended unemployment, etc), and putting all of this onto the bottom line of the US government's own solvency through debt notes. (US Treasury notes).

OK, great, now what does this mean to buying stocks, shorting stocks, or investing in natural resources?

Well, since the fundamentals of the US economy are NOT being addressed, the US government can't indefinately spend into a recovery. When the US spends TRILLIONS into debt, money must come from over-sea's to cover the debt notes US citizens don't buy. And here lies the problem.

What the government doesn't seem to realize is there is a FINITE amount of ways to move trillions of dollars around to influence financial markets. There is real estate (land), equities (stocks), debt (bonds), future contracts (commodities), and currency (Forex). There are many derivatives based upon these fundamental instruments, such as Credit Derivatives, options, etc, but basically money flows through the above investment vehicles.

So we have a basic problem that trillions of losses are still in the pipeline as overinflated real estate is deflated. Instead of the government taking these losses, there is a massive manipulation game to hide/avoid losses. This has the effect of DISPLACING the pressure off of equities onto other areas.

Right now we are seeing the USD fall, and if it breaks down, the best thing to own would be natural resources such as gold or gold miners. Also international companies should do well as the USD falls. However, if the USD gains strength, the markets should retreat and natural resources retreat. Click here for FOREX charts for USD.

Also, we have interest rates for borrowing. If the rates go too high, we could increase housing and business failures. Interest rates can't (contrary to Ben Bernanke) held indefinitely low. As the US borrows trillions of debt, the rates will climb higher as our creditors want more for their co-operation. Historically, as interest rates rise, so does the value of natural resources. However if there is sufficient demand for US debt, due to other markets having fear or the US market having fear, then rates will remain low, and gold shouldn't appreciate as the "alternate" investment hedge.

It is highly doubtful land will significantly appreciate by US driven demand for real estate. At job losses topping 500K per month, and a substantial backlog of available real estate, land I doubt will make an appreciable comeback to help markets. If fear subsides as real state rises, gold should fall in value, and vice-versa.

As the US deficit spends, the number of paper debt notes it takes to buy physical gold should increase. However, in a massive recession/depression, ALL COMMODITIES should fell downward price pressure as demand for new production (and thereby need resources) drops. As economics destabilizes, powers that have commodities may see prices rise as protectionism rises, or as people move to commodities as a safe haven for wealth.

As you can see, all (except land) has possible scenarios to go in either direction. Each one makes a valid argument for resources or not. I for one have a hard time believing that the country will see new stock market highs. But who knows! At the flip of a switch, gold may be the best investment as panic returns to ther marketplace.

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