Where We Stand: Gazing Into the Economic Crystal Ball by Navin Doshi (March, 2009)

The majority of people have the same retirement strategy — stay invested when the market goes up. This was good until about October of 2007 when the S & P was 1550, at its peak. But during the first week of March, the S & P made a low of 670, down about 55% from the peak, wiping out all gains made during the last 13 years. So the strategy of buy and hold is not applicable, at least during a secular bear market. We saw waves of selling from September 2008 through the first week of March 2009, while investors cashed out after seeing their depressing 401K statements. There is literally an implosion of the money supply due to the crashing valuation of almost all asset classes and the contraction of available complex derivative products. Add to that, as more baby boomers retire, they realize that they need money to survive. With ever decreasing 401K portfolio values, they have no choice but to keep selling. So we in America have a huge population of sellers of stocks and real estate.

There are always cyclical Bull markets of short duration in secular Bear markets, giving us the opportunity to sell. We should be experiencing a cyclical bull during the months of March and April due to extremely oversold conditions. However markets are likely to keep going down or stay in a trading range as more boomers get scared and sell. Former Fed Chairman, Alan Greenspan, was busy applauding what we’ve now discovered were flawed economic theories. Free enterprise economic systems, like any living organism, need to experience both expansion and contraction. Recessions are needed to remove the dead wood, implying that inefficient and unprofitable businesses need to be closed down. Greenspan, in essence, was fighting nature by letting the money supply keep growing. Wall Street applauded and loved his actions. Chief Executives of corporations were also very happy since they were able to draw huge salaries and bonuses. Only in America we have top executives, on average, making over ten times more than in England and over 100 times more than in Japan.

Greenspan failed to see the housing bubble expanding and the exponential growth of exotic derivative products causing growth of money supply beyond all proportion and far away from economic realities. Rocket scientists entering into the world of finance, were able to create exotic products; however no one knew how to monitor and control the fast expanding economy. Borrowing and leverage were the key ingredients to keep the economy expanding. When one borrows lots of money to live in false prosperity, one mixes the future with the present. Mixing of two domains in general is not desirable or profitable since it degrades or looses the desired qualities. How much will the GDP contract in response to the de-leveraging? No one in the current administration seems to know. Have we entered into a depression? The rate of contraction of economic indicators like employment & GDP indicate that we have entered into a depression-like situation. Who knows? In time we will know what the future holds.

Sooner or later governments the world over should succeed in speeding up the global economy by pumping in a large quantity of money. We don’t know when it could happen. I do believe that when that happens, precious commodities including gold and silver should do better. The purchasing power of the dollar should decline gradually if the Fed and the US Government have a reasonable control over the economy. The rate of inflation could accelerate and if that happens, then stocks of precious commodities should perform well. UBS, a global financial institution, recently published a long report concluding that gold could rise to $2500 per ounce in five years. If it happens, then the purchasing power of the dollar will go down over 50 % during the same period.

Where do we stand in this current mess? I have written articles in these pages to invest in gold as insurance against the ravages of inflation when it was trading around $400 per ounce in 2004; it is currently at about $900 per ounce. Gold is the only item we know that has the attributes of security, currency, and investment, and unlike any other investment, it is bought out of both, fear and greed. Currently we do not seem to be in a rising inflation mode. Apparently two strongest currencies of today are the dollar and gold. Dollar is a modern currency tied to a technologically superior and muscular country. Gold is an ancient currency supported by human experience of thousands of years; it has all the attributes of an ideal currency required based upon natural human needs. Investment in gold can be made in different ways. One can buy gold jewelry, numismatic gold coins, gold bullion coins, and paper gold traded in denomination of tenth of an ounce as exchange traded fund (ETF). Gold ETF is traded with a symbol GLD on New York stock exchange and is the 7th largest holder of gold; first 6 holders are USA and five European countries. The price of gold and silver has been controlled, some may say manipulated, by the bullion banks. They do it by short selling or buying the paper gold. Over 70% of the shorts are held by only two banks, one of them is JP Morgan. Some experts in this business suspect they are doing it with the blessings of Fed and the Government. They do it to keep the perception of inflation in control. They should be able to keep this control as long as the dollar remains the world reserve currency. Often America goes to war, I believe, to insure that oil is traded in dollars and the dollar in essence remains the world reserve currency. One needs to keep in mind that gold is insurance against the ravages of inflation. The price of gold falls if interest rates keep rising higher than the rate of inflation. The price of gold can easily spike down below $800 due to the short selling of the bullion banks to maintain some strength of the dollar.

The Chinese Central Bank in its annual report has predicted that in 2009 gold could climb to a new peak. Chinese leaders also have questioned the stability of the dollar. Does that mean China is in the process of switching from its symbiotic relationship with the USA? That symbiotic relationship of the past decades is that the US has been receiving billions of dollars worth of goods from China and paying for them with IOU’s in form of US treasury notes. Currently China possesses a trillion in US treasuries. God help us if China starts dumping those US treasury bonds at an accelerated pace. The advantage to China of detaching from its symbiotic relationship with the USA by switching from U.S. treasury to gold and other commodities would ultimately be to strengthen the Chinese currency and weaken the dollar.

Just in time for this report, a game changer announcement came from the Fed on March 18th. They intend to buy $300 billion worth of long term treasuries and $750 billion worth of mortgage backed securities to introduce over a trillion dollars worth of liquidity. Where would the Fed get this money from? They will print it, also known as legalized counterfeiting. The price of gold ETF had dropped to around $88 in the morning, very likely due to the short selling of the bullion banks. The price of gold ETF jumped and closed around $94 after the announcement. Traders perception has changed at least for the time being; we may have entered into a period of significant inflation.

Navin Doshi (March, 2009)
(Mr. Doshi is a financial market trader, philanthropist, and a writer.)

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