Wednesday, November 20, 2013

Jeremy Grantham: Fair Value Of S&P 500 At 1100 But Market Could Melt Higher

Jeremy Grantham is the co-founder and chief investment strategist of GMO. His letters are widely followed due to his decades of experience and ability to take a rational look at what is taking place in the financial markets.

I have provided his most recent letter below, but for those looking for the brief summary on where he feels the market is headed; he believes that the fair value of the S&P 500 is currently around 1100 based on the economic fundamentals that surround it. With the S&P 500 touching 1800 earlier this week that may create some concern for long term "value" investors (currently 75% overpriced).

However, due to the irrational exuberance surrounding the market today, he feels that stocks could melt up higher over the next year before they once again find gravity and we enter the third major crash of the last 15 years. His conclusion sums it up best:

“One of the more painful lessons in investing is that the prudent investor (or “value investor” if you prefer) almost invariably must forego plenty of fun at the top end of markets. This market is already no exception, but speculation can hurt prudence much more and probably will. Ah, that’s life. And with a Fed like ours it’s probably what we deserve.”

Be prudent and you’ll probably forego gains. Be risky and you’ll probably make some more money, but you may be bushwhacked and, if you are, your excuses will look thin. Your call. We of course are making our call.”

Tuesday, November 19, 2013

Bitcoin Smashes Through $900 Making It Time To Remember Mississippi

compared bitcoin to the tulip bulb mania of the 1600's, when the artificial currency reached $450. Since it touched the $900 mark just a few hours later during last night's trading (see the live bitcoin bubble price tracker), we must reach back in history again to find another speculative mania we can use to understand what we are currently witnessing.

The following video provides an animated review of what took place during the Mississippi bubble in the early 1700's. As human psychology has changed little over the centuries, meaning that speculative bubbles will always exist, it is important to review the past to understand the why around the irrationality of the future.

Monday, November 18, 2013

Live Bitcoin Bubble Tracker

When I discussed bitcoin over the weekend in Bitcoins Go Parabolic: Time To Buy Or Sell? the price was at $450. Just a few hours later it has crossed $775. The following ticker will provide a real time bitcoin bubble update. Get your popcorn ready and place your bets on how far this ridiculous number will rise.

The QE Circle Illustrated

The following is a brief walk through of how the QE process works in the United States. The Federal Reserve buys treasuries and mortgage bonds from primary dealers (the largest banks) and give them cash. These purchases with printed money are shown in the growth of the monetary base:

The banks then take that cash and re-deposit the money back with the Federal Reserve earning interest on these deposits. The deposits also allow them to have a capital base to speculate in the stock market and other risk assets with leverage. The following chart shows the re-depositing of the fresh cash with the Fed known as excess reserves:

During this process you will notice that Main Street has been cut out of the loop. They do not receive loans from the banks as they once did in the past. Instead, this cartoon sums up what is left for "the rest."

Nassim Taleb Bloomberg Interview

Sunday, November 17, 2013

Bitcoins Go Parabolic: Time To Buy Or Sell?

It's hard to believe, but this is my first time discussing bitcoin on this site. Before reviewing what bitcoin is, I will tell you a very sad story, which will simultaneously provide context to this discussion.

I was introduced to bitcoin years ago when it was trading at 6 cents. A paid publication that I read discussed the new product in detail. I chose not to purchase any bitcoins at the time.

Fast forward to today and bitcoin is now crossing 450 dollars. Very simple math shows you how little money I would have needed to invest at 6 cents to make a fortune on the speculation. That is the sad part of the story, and it is very sad.

The context is the why? Why did I choose not to buy?

Bitcoin was designed as an electronic currency to compete with other available currencies, or stores of wealth. Its main draw is scarcity. There is a limited number of electronic bitcoins that were created and available to purchase around the world. New bitcoins can be created, but they must be "mined" electronically, a process that takes the top miners a good amount of time. Therefore, the new supply enters the market at a slow pace and ensures the scarcity factor is always there.

Compare this with the other major competing currencies around the world that are flooding the market with new supply through QE programs and devaluing the currency that already exists. The first group of bitcoin buyers were most likely people that were looking for another safe harbor against that devaluation.

The current buyers, I suspect, are something different altogether. The chart below provides the price movement for the electronic currency. You can see the initial thrust up to almost $250 as the product first gained mainstream awareness and the collapse in price that brought it quickly down to almost $50. It has since regained its footing and is now on a truly spectacular trajectory.

I believe the bitcoin chart above will eventually be used in discussion boards to define what a speculative bubble looks like. It will be put up alongside the tulip bulb mania of 1634 (below).

Part of the discussion in the future will center around the fact that bitcoins have less real world value than a tulip bulb. It is an electronic currency backed by nothing. It was just something thought up and sold to the world. Tulips had value in that at least you could plant them in front of your home. While the rise in bitcoins could end up even more spectacular than what was seen hundreds of years ago in tulips, the collapse will most likely also be greater. Reports are out now that the Chinese (known for their love of gambling and speculation) are entering the bitcoin market with force to ride the speculative wave higher.

The story itself has flair in that the Winklevoss twins (from Facebook) have become large investors, even promoting the currency on television as "extremely undervalued."

So back to my personal sad story. Why did I choose not to invest at 6 cents?

There is another option for investors who are looking to put their money into a form of currency that cannot be devalued: precious metals. Just as with bitcoins, there is a limited supply available on the planet and it takes years to set up a mine to bring new supply online. Precious metals have the same exact scarcity feature with one important difference; they have real tangible physical form. They exist.

I believe that before this decade is over the silver chart is going to take the form of the bitcoin chart above. The first silver blast off to $50 was the opening act (just as with bitcoin) and the main event is still coming. The fact that everyone around the world would line up to buy an artificial currency at $450 only strengthens my belief that someone out there would want to purchase a physical silver coin (which has represented real money for thousands of years) for $20.

Will I buy some bitcoins if they cross $1,000? Unfortunately, no. I will continue to buy boring physical silver coins at $20 (and hopefully much lower if prices fall) that everyone hates. I enjoy watching the bitcoin story, because as I mentioned before, it could end up being the greatest speculative bubble in world history before it completely collapses.

For more on what could potentially be the next bitcoin see:

The Coming Silver Price Surge Will Shock The World

h/t Sober Look

The History Of The World In Two Minutes