Tuesday, May 24, 2016

Silver Buying Opportunity Based On The Gold/Silver Ratio

The following chart provides a visual of the gold/silver ratio going back hundreds of years to 1720. The gold/silver ratio is the price of gold divided by the price of silver, and it helps determine when one of the two is expensive or inexpensive relative to the other.

You can see that for about 160 years the ratio hovered at about 15 to 1. There is 15 times more silver available to mine in the earth's crust and since there were no central bankers to print paper dollars and gold and silver were real money, the ratio tended to hover around the natural supply. Last year 27,579 tonnes of silver was produced in comparison to 3,000 tonnes of gold (9 to 1 ratio).

I believe over time gold and silver will move back toward the historical ratio of 15 to 1. I don't believe this will occur due to a sharp decline in the price of gold, but rather a violent rise upward in the price of silver. As I write this morning gold is priced at $1,240 and silver is $16.35 (a 76 to 1 ratio). A 15 to 1 ratio would put silver at $83 if gold stays fixed at its current price. I believe over time, gold will be moving higher, creating even more opportunity for silver if the ratio converges.

Buyers will want to know the exact day silver will bottom and begin to make its move higher, and the day they should sell. Of course; I have no idea. I continue to accumulate physical at these prices, and because I have no plans to retire any time soon my hope is the paper dollar value will stay this low for a long time to come.

Jim Grant - The Forgetten Depression Of 1921: The Crash That Cured Itself

Sunday, May 22, 2016

What Happens In An Internet Minute?

And a new ride sharing app that may finally figure out a way to cut down on morning traffic....

Tuesday, May 17, 2016

A View From The Peak: U.S. Stocks At The Crest Of The Tidal Wave

There are four main components to creating a healthy environment for positive future stock market returns:

1. Strength Of Economy
2. Earnings/Profits
3. Price Investors Are Willing To Pay For Earnings/Profits
4. Company Reinvestment

Since 2009 all four of these factors have been working in unison to create an environment where stocks in the United States rose from 666 on the S&P 500 to 2066 this morning. As we will discuss below, it is likely the four components above will turn negative, in unison, and become a headwind for U.S. stock prices moving forward. 

1. Strength Of Economy

We are currently in the second longest bull market for U.S. stocks in history. Earlier this month we tied and have now passed the run from 1949 to 1956. The only longer run was the 1990's bull market mania. A bull market is considered over when stocks fall 20% from their peak. 

Recessions are officially announced by the NBER months after they have already begun because they need time to formulate the data set to show a recession has arrived. The last recession began in December of 2007, but it was not formally announced by the NBER until December of 2008; a full year after it began. The chart below shows the monthly lag from the actual start of a recession from when it was announced along with the S&P 500 (blue line). As you can see, if you waited for the formal announcement (yellow triangles) during the last two recessions the stock market had already priced in the economic weakness and was close to bottoming.

For this reason, investors must study and follow leading economic data to try and determine when the economy is rolling over in real time if they hope to use the information to help balance their portfolio allocation to stocks. Reviewing every single economic data point is beyond the scope of this discussion, but for an excellent visual walk-through I would highly recommend the following article; Economy In Pictures: Weakness Continues. The data is showing the leading economic indicators have already entered into a period of across the board weakness.

2. Earnings/Profits

The legendary hedge fund manager Stanley Druckenmiller gave a presentation this month at the 2016 Sohn Conference which caught the attention of many market observers. The following chart from The Endgame presentation shows we have been in a harmonious environment of rising stock prices and falling bond yields since 1981. 

Falling interest rates contribute to rising stock prices by allowing corporations, consumers, and the government to borrow cheaper money. Druckenmiller believes we are approaching, or have already reached the point, where the best may be behind us in terms of stock and bond returns.

Earnings tend to peak close to the top in stock market cycles and prices tend to follow and/or lead earnings downward. The dotted lines below show where earnings peaked in 2000, 2007 and most recently in 2014. Markets traded in a tight range for a full 18 months before finally giving up and collapsing downward in 2000 and 2007. We are now 16 months into the trading range following the current peak in earnings

Here is a second visual showing earnings (orange) and the S&P 500 (blue):

3. Price Investors Are Willing To Pay For Earnings/Profits

Stock prices have the ability to continue to rise in price even after earnings and profits reach their peak (as they have since 2014; see chart above). What this requires is investors willing to pay a higher and higher price for earnings, which can be measured with the price to earnings ratio. Historically, the higher prices go without the support of underlying fundamentals (earnings), the more dangerous stocks become and the more likely they are to fall (and/or crash) back to reality. 

Price to earnings ratios essentially reflect the level of buyers optimism or sentiment toward stocks. If stocks are loved investors will pay more for earnings. If they are hated then they will pay less. The following charts show how much investors have been willing to pay for earnings since 2011 in both the United States and the Eurozone. Stock market returns have been driven by euphoria, not earnings. 

Stocks become the most dangerous to own when you enter an economic recession while the price to earnings ratio is high. During an economic contraction earnings, profits and sentiment tend to fall simultaneously. The following graph shows the historical U.S. stock market valuation using the average of four major value indicators. If we entered a recession today we would do so at 76% above the average valuation mean. This would be the second highest valuation point in history entering a recession. 

What happened to stock prices during previous periods where stock valuations were high and the economy entered recession? The next graph provides the answers. The market price declines during these periods have not been pleasant. 

4. Company Reinvestment

During the current cyclical bull market cycle in U.S. stocks one of the largest buyers has been companies themselves. They have used profits and/or borrowed money to repurchase their own shares and turbocharge prices higher. This buying has shown signs of topping and even begun to fall. This process is normal; companies tend to buy the most at stock price peaks and purchase less and less as stocks become cheaper. Does that sound strange? Companies are run by people who make irrational investing decisions (just like individuals) based on human psychology and behavior. From an article yesterday titled Add Stock Buyback Bubble to the List of Those Popping:

"It’s time to add stock buybacks to the long list of bubbles beginning to pop.
U.S. corporations announced just $244 billion in planned buybacks during the first four months of 2016. That was a hefty 38% plunge from a year earlier, the biggest drop since 2009, according to Bloomberg.
Why does that matter for the broad market? Because companies have been the biggest equity buyers over the past several years, snapping up more than $2 trillion of their own shares since 2009. Without that buying power to prop them up, stocks look vulnerable."


U.S. stocks are resting at a dangerously high price to earnings valuation level at a time when the economic data is rolling over and profits have been in decline for 16 months.  While this time could be different, history has shown investors should be cautious toward over weighting U.S. stock ownership during this type of environment.

For more see:

The Coming Global Bond Market Massacre: Japan Prepares For The Opening Act 

Thursday, May 12, 2016

Milton Berg: Prepare Yourself For A 30 Year Bear Market In Stocks & Bonds

"Well, it is not unheard of in history. As you know there was a bear market in bonds lasting maybe forty years that began in the mid-40's and ended in 1980. We've had a twenty, twenty five year bear market in Japan going back to 1989. We're the most overvalued market in history, there's more leverage throughout the world than there's ever been in history, central banks have lost all their ammunition, basically because there is so much credit outstanding throughout the world. It's not unheard of to have a long-term bear market. There will be a lot of money to be made both on the downside and the upside within the bear market."

"World-wide, looking at all the equity markets we're definitely at the most over-valued. P/E ratios on the New York Stock Exchange are just above the P/E ratio at the trough of 2009, the median P/E ratio. Markets are way over valued. If you look at where yields were thirty, forty years ago when you got five, six, seven percent and now you're getting one percent, one and a half percent yield, way over valued."

Tuesday, May 10, 2016

Donald Trump's Shocking Honesty Regarding America's Coming Debt Restructuring

Trump had a moment this week when he acknowledged the U.S. cannot ever pay off the debt, and the country would move quickly toward insolvency if interest rates rose just a few percentage points. This has been a consistent topic on this site over the past few years, but it is unprecedented for a Presidential candidate to be so honest about the United States' pending bankruptcy and/or debt renegotiation.

Trump has quickly backtracked off the comments and later said America will "print the money" needed should interest rates rise. This calmed everyone back down, which is insane because the latter solution is far worse for the country over the long term. Please note Hillary's plan is also to borrow and print money, so this is not a targeted attack on Trump.

More from Peter Schiff on this topic. Part one:

Part two:

For more see: The Fed's Sleight Of Hand Through Stealth QE

Sunday, May 1, 2016

The Coming Global Bond Market Massacre: Japan Prepares For The Opening Act

I am trying to enjoy every moment of the central bank driven global asset mania before it implodes because years from now people will look back and be both astonished and fascinated by everything that was occurring before the implosion. We could walk through the stock market, residential real estate, commercial real estate or even something like fine art, but nothing comes close to the insanity taking place in the bond market.

I expect many equity and real estate markets to be sledgehammered lower in the years ahead, but the greatest losses will eventually come in the one area where investors believe they are the most safe; bonds. People counting on pension funds, 401k's, life insurance policies, and general government debt spending support will be rocked when the artificial world we live in today evaporates.

The chart below shows that the average yield on global bonds has fallen to a record low. Bond values rise when yields fall. This means investors have, in general, made large paper gains on bonds since late 2008.

Things have become so insane there are now $8 trillion in government bonds that have negative yields. Investors now give the government their hard earned money, and they have to write the government a check every month for the "privilege" of letting them hold their money.

You can see in the chart above the largest portion of negative yielding government debt comes from Japan, so we'll focus our attention today on the madness taking place within their borders.

The paradigm of the world we live in shifted from the global central bank put to pre-emptive central banking policy in March of 2009 (for much more on this important topic see: The Grand Finale For Worldwide Asset Bubbles: Pre-Emptive Central Bank Action). No central bank has led this charge with more force than the Bank of Japan. The following chart shows the size of their central bank's balance sheet in relation to the size of their economy (GDP). As they print money to purchase assets the size of their balance sheet grows. It currently stands at 80% of Japan's GDP and that number is growing rapidly by the month.

The graph below shows the expansion of their monthly QE program in the second quarter of 2013. You can see the amount of government bonds they are purchasing every quarter (red bars) is now much larger than the growth in the overall size of the government bond market (green bars). This means they are rapidly gaining a larger and larger ownership stake of the entire market. 

Japan's government debt to GDP is currently hovering close to 250%, the largest in the world by far (Greece imploded when it hit 130% and the United States is currently close to 100%). They are running a deficit every year equivalent to about 8% of their total GDP. As you can see above, the Bank of Japan is monetizing their entire annual deficit and then purchasing even more of the existing bond supply. They have essentially become the bond market, and very few bonds are traded outside of the Bank of Japan's purchases.

This may already sound insane, but I assure you it gets much worse. In addition to government debt, the Bank of Japan is purchasing corporate bonds and stocks. They have been steadily buying such a large quantity of ETFs they are now a top 10 shareholder in about 90% of the companies within the Nikkei 225 index. For those that live in America, this would like the Federal Reserve becoming a top 10 ten shareholder in most of the companies within the S&P 500.

The Bank of Japan now owns about 55% of Japan's entire ETF market! The orange bars below represent their holdings.

Japan's central bank has moved so far beyond the realm of reality that it is impossible to fathom how catastrophic the ending to this story will be. Here's just one question (of about a thousand we could ask); what happens if and when they would like to "exit" this program? They are going to be dumping shares of stocks on the market and rapidly driving down the price of these shares. The same question can be asked about the corporate bonds they are purchasing. Companies will see their cost to borrow surge if the central bank should decide to exit their positions.

Hold that thought and let's move back to the government bond side of the story because that's where the worst of the bloodshed will occur. The cost to service the public debt (pay the interest) in Japan is now their largest annual expense:

The yield on Japan's government bonds are negative out to 10 years and the 40 year bond fell to 0.29% this week (from about 1.40% to start the year). This means investors are paying the government to hold their money for ten years, and it you want them to hold it for 40 years you receive 0.29% annually. As I mentioned in the opening paragraph, please take the time to drink this all in because this insanity will not last forever.

It should be obvious that no one is holding these bonds because of their annual income. They are buying and holding these bonds because they think yields will fall further from here and they will make profits on the underlying principal value of the bond as yields fall. It is a pure speculation play. I should mention that so far this speculation has been paying off huge. Investors holding 40 year bonds (in the chart above) have made significant gains on paper this year.

The problem with this speculative form of investing is it has now become nothing more than a ponzi scheme. Investors were purchasing U.S. real estate back in 2006 with negative yielding cash flow because they were confident that a greater fool would simply come in behind them and purchase the real estate at an even higher price. This process works extremely well until the greater fool is not there waiting behind you as investors in Las Vegas real estate found out in 2006;

At some point we know yields will bottom and begin rising. The massive paper gains will then start to become paper losses. We know investors tend to not "calmly" walk to the exits when they see others running to the doors around them. Pension funds, banks, and even individual investors will realize they are holding an IOU from a bankrupt government that they have to pay to hold every month because they bought it at a negative interest rate. Then the bond market will receive gravity lessons.

When interest rates begin to rise the cost to service the government debt (the annual interest payments) will quickly consume all annual tax receipts. The Bank of Japan will quickly begin printing money just to pay interest on the debt. The value of the yen will likely begin to drop violently while the Bank of Japan tries desperately to defend rates by purchasing even more bonds.

While the world watches Japan melting down, many investors will likely begin to connect the dots and realize The European Central Bank (ECB) and the Federal Reserve are essentially playing the same confidence game. What happens from there is, of course, unknown. My guess is the IMF will need to step in and help with the Japanese crisis. This will create a blueprint for how developed markets are bailed out moving forward. How quickly the United States and parts of Europe follow Japan into chaos will depend on how quickly the public realizes their governments are also bankrupt and the power of their central banks is nothing more than an illusion based on false confidence.

For more see:

The Grand Finale For Worldwide Asset Bubbles; Pre-Emptive Central Bank Action

Wednesday, April 27, 2016

Jim Rickards On Gold

I just read Jim's new book titled "The New Case For Gold." Some of it is repetitive for those that have previously studied the gold market, but some of the chapters are fascinating; specifically the discussion on the Fed's insolvency and complexity theory. It is a quick and easy read.