Friday, October 26, 2012

How Will You Vote This Year?

Some good fun on Friday afternoon. This could not sum up any better how I feel about the current political environment.

Plus an interesting way to look at the current net worth (after liabilities are deducted) of average Americans which answers the question; "Are you richer than a homeless man?" Click for larger image.

A good look at pre and post industrial America.

Thursday, October 25, 2012

Hugh Hendry Speaks: The World Listens

The following is a rare open forum for one of the greatest minds in finance today to discuss his thoughts on the world and take questions from the audience. Hugh Hendry has become a hedge fund legend over the past few years as he has continued to make money during good times and bad (he remarks briefly on the 50% he made during just the month of October 2008 - the month most hedge funds lost 30% or more of their total value).

The Hendry portion of the video lasts about 22 minutes and if you fast forward to the 55 minute mark there is an interview with a second hedge fund titan: David Einhorn (another household name on this website). Einhorn famously challenged the balance sheet of a major bank back in 2008. The bank's name was Lehman Brothers. I'm sure you have heard who ended up winning the challenge as Einhorn took his short position on Lehman down to $0.0.

Watch live streaming video from theeconomist at

If you enjoy the thoughts of Mr. Hendry I'll provide two more bonus links for you. The first is a written interview he provided Barron's magazine regarding the coming trouble in Japan:

Hugh Hendry: Betting On Japan Through Deflation

The following is his most recent newsletter released in April of this year. These newsletters are now only released every few years.

Hugh Hendry: Market Outlook

Understanding The Waves Around You - Why Everything Is Moving In Cycles

Yesterday we looked at the wave structure of bonds and gold and where they can be found in their current secular bull market. For a review see Two Intersecting Bubbles: Future & Present - Gold & Bonds. The following chart summarizes this discussion in perfect visual form showing bonds entering the manic blow off stage where prices relative to value (and supply) have left the stratosphere. This is the point of maximum danger in ownership of an asset class.

The chart also shows where gold stands in its secular bull market. After a 12 year run of continuous strong returns it will soon move out of the "awareness" phase of the cycle into the "mania" stage as the public finally enters the market (as they always do during the final stage).

When an investor understands this natural flow of a secular market cycle they have the ability to visualize where all the asset classes around them are located within the cycle. An investor's mental picture of the markets should look more like the following. A continuous stream of asset classes entering a blow off stage with a new market bottoming and beginning its secular journey.

What is the benefit of understanding this process?

These secular markets last on average between 15 - 20 years. This makes investing a far easier process than most people imagine. There is no need to "day trade" or try to monitor a screen 24 hours a day to stay on top of where an asset class will be every 15 minutes.

I purchased my first ounce of gold at $560 and my first ounce of silver at $7.60. I made these purchases over 7 years ago after spending about a year studying financial market history, the boom/bust psychology involved in markets, and learning how markets repeat on a long term secular cycle.

I remember reading professionals at the time who said the secular bull market in precious metals would likely not end until sometime between 2015 and 2020 (based on the historical 15 to 20 year trend). After learning how paper money was backed by nothing, governments were bankrupt, and the economy was headed over a cliff, it seemed almost impossible for it to take that long for the world to understand what was happening and shift a portion of their assets into precious metals.

But here we are 7 years later and we are still in the process of "awareness." This boom/bust cycle is due almost exclusively to just two main factors:

1. The Federal Reserve's involvement in the financial markets creating temporary misallocation of capital that would not exist in a free market structure. As oceans of cheaply borrowed or printed currency rush from one asset class to the next it creates the boom and subsequent bust.

2. There is absolutely no financial education taught in the public education system. I left college with a four year degree and was never once taught about how to invest money, market cycles, etc. I did receive Economic textbooks trying to teach Keynesian economics. I was fortunate that I paid little attention to those poisonous books during school (due to distractions), and I was able to begin my study of finance and economics after graduating.

With this understanding in mind let's bring it full circle. We know that bonds are closing in on the peak of their mania and gold is preparing to begin its multi-year mania stage.

How about stocks?

The following graph shows the ratio of US stock prices to average earnings for the preceding 10 years. This is known as a price to earnings ratio (P/E ratio) and it is the most popular tool used to determine the under or over valuation of stock prices. In other words, what are investors willing to pay for stock earnings? If they are willing to pay more for stock earnings then P/E ratios rise; it is a clear determinant of market psychology and sentiment.

The orange line running through the center of the graph shows the historical average P/E ratio. You can see that other than a brief moment in early 2009, stocks have been "expensive" since the early 1990's. Right around 1996 is when they entered the mania stage of the most recent secular bull market which ended in March 2000. Since then stocks have been stair stepping their way lower in terms of price to earnings as investors slowly lose faith in the asset class. This is how cycles work on the way up and the way down.

Market bottoms occur with P/E ratios under 10, as seen in the late 1970's and early 1980's. We will get there again before this market reaches a bottom. It just takes time for the madness of crowds to wash itself clean of the euphoria which is still echoing from the 1990's. This moment, when investors throw in the towel and declare they will "never buy stocks again," will represent one of the greatest stock buying moments in history.

When will this occur? The current secular bear market began in March of 2000. Stocks tend to run on secular cycles every 17.6 years, setting the current bear market to end around 2017 - 2018.

How about real estate?

Real estate began a secular bull market in 1991 lasting through 2006; a 15 year run. It has been in a secular bear market now for 6 years, and it most likely has a few more years to run in order to clear inventory and have maximum pessimism enter the market (psychology of renting vs. buying which is already in full swing). Will real estate bottom before stocks? I have no idea, but they are both fully dependent on the continuation of the bond bubble (low interest rates) making it appear that they may bottom together.

For a much more in depth discussion on stock market cycles see:

Historical Guides: Stock Market Cycles & Public Ownership.

Wednesday, October 24, 2012

Two Intersecting Bubbles: Future & Present - Gold & Bonds

The following easy to understand video walks investors, using pictures and narration, through two of my personal favorite topics in finance: market psychology and history. It then takes those ideas and extrapolates them forward to our world today showing where we are in two key bubbles: bonds and gold.

The author feels that one of those asset classes is at the final stages of the mania period, meaning it is very close to the point of free fall in prices, and the other asset is very close to the beginning of its mania stage; the period during a bull market where the greatest gains are experienced in the shortest amount of time.

While I will not spoil the presentation, I'll give a hint to long time readers of this site: I agree with his analysis completely.

If you are someone that owns a significant portion of your retirement funds in bonds (perhaps through your 401k) and owns a very small, or 0%, of your retirement funds in gold - the following is a must watch.


Tuesday, October 23, 2012

Real Life Currency War Simulation

Jim Rickards opened the first chapter of his excellent book Currency Wars discussing his involvement in a financial war game simulation created by the American government.

The following example is different from the strategy he used in the government simulation, but it is much more realistic based on the current state of the geo-political and financial world we live in today.

It shows the importance of understanding that the United States strength is found not only in their highly discussed military power, but the amount of physical tonnes of gold it holds in reserves. China finds itself in the exact opposite situation and has most likely already begun, or will soon begin, scrambling to catch up with other countries around the world in total gold reserves.

Incredible walk through that shows the speed in which the currently calm currency wars taking place around the world can escalate quickly. Remember that no currency in the world has a currency backed by gold. For the first time in history, every single country is issuing (a tremendous amount) of worthless paper money backed by nothing. There will be a day when these paper bills are revalued to reflect the amount of currency that has digitally been created. It will come swiftly and suddenly and catch most by surprise.

Marc Faber: CNBC Interview