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kirkydu (94.36)

A Cup of Optimism

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September 03, 2011 – Comments (12) | RELATED TICKERS: SPY

The sky is falling! The sky is falling!  Run!  Hide!  Buy Gold!  Bury your money!  Load the guns!  Stock up the cupboard!  The sky is falling, it's falling, the sky.

In late 1998 I wrote one of my first letters to clients and told them that the coming decade (2000s) would be a tough one.  At the time, nobody believed me.  In fact, three clients fired me when I started reducing stock holdings.  One told me he was going to trade online and that I was obsolete and out of touch.  Now, I did not wish this on him, nor do I revel in it, but he lost a lot of money from 2000 to 2002.  Okay, I revel in it a little, I am only human.

In March 2007 I held a dinner at a well known local restaurant and told people that "Wall Street is not on their side" and that we were lining up for another big market drop largely due to a real estate bubble.  That statement did not go over well with my co-hosts who were from ING's Real Estate investment team for their mutual funds.

In the autumn of 2008 I had coffee with a working group of local manufacturers and told them the downturn would last until middle to late decade.  One of them was outright shocked.  While that still seems like the worst case scenario, the speed at which things are occuring seems to have changed the timeline.

Here is what I am here to tell you today.  The worst is close to being over.  The worst might even be over already.  This holds for the economy as well as the equity markets.  The only way I am wrong is if budget hawks in Congress knock out the Golden Goose again.  Even if I am wrong, it will only be by a few years.  We will not have another stagnant decade.

So, while we hear a lot of doom and gloom, it is a good business after all, just ask the cable TV networks, talk radio and coin collecting evangelists, the new doomsayers, most of them, are late.  Where was the doom and gloom five years ago when it was appropriate?  For those who are extremely pessimistic today, I say, relax, enjoy some quality time with friends and family, because for those still in the workforce, you will have a lot of work to do soon and your retirement portfolios are going to do better as well. 

And now, a few words to those who would criticize this opinion.

OH NO, WE ARE HEADED FOR HYPER-INFLATION

There is a common mantra from gold investors and the truly paranoid who know just enough economics to be dangerous.  It goes something like this, "the Fed has printed so much money, that we are doomed to high inflation, maybe even hyper-inflation."  

In loose parlance, yes, the Fed has printed money.  Controlling the money supply for a couple of reasons, maintaining employment and maintaining a low inflation rate, are its jobs.  That is actually in their mandate. 

What the Fed has really done (in short) is take in loans from banks and some other financial institutions that it can afford to hold onto for a long time while things work out and return money to the banks so they do not have to kep these loans on their books.  That money has recapitalized many financial institutions, not only in the United States, but in a few ally nations.  Much of that money is gradually finding its way into the broader financial system and economy. 

To keep this brief, the reason this is not such a big problem, is because the money that the Fed has placed into the system, is barely enough to replace the money that was sucked out of the system during the financial collapse of 2007-08.  Leading up to the collapse, the shadow banking industry, composed of investment banks, offshore funds, hedge funds, structured investment vehicles, conduit, mortgage companies, etc... pumped trillions of dollars into the system. 

Again, to make this short and as simple as possible, when one firm lends to another firm, then that firm lends, then another transaction occurs, each dollar is being used multiple times as it is still on the ledger of all involved, thus increasing money supply.  The more the money moves from firm to firm and person to person, the more impact on the economy.  The "velocity" of the money therefore makes a difference with inflation expectations.  I am not too concerned about money getting too fast or hot anytime soon as people are going to be spooked for at least a decade or two.  When it does get hot again, we will see higher interest rates to cool it down. 

THE DOLLAR IS GOING TO CRASH

The dollar has been drifting downward for a long time.  To some extent we have done it on purpose in order to maintain some competitiveness in the world.  Mainly though, we have deliberately weakened the dollar because otherwise it would be too strong in general.  I have recently argued that the value of the dollar today is about right, except versus the Euro, which ought to be lower against the dollar.

Folks, the United States has some gifts no other nation has, which is why we are the reserve currency of the world.  Think about this.  Other countries have the dollar as their official currency and their are no Roman Centurions telling them to do it.

The United States is the reserve currency of the planet not because we have the strongest balance sheet from year to year, though in the long time frame it is very good, we are the reserve currency because: 

We have a stable government.

We have a very strong military.

We have very secure borders, including two oceans.

We have a huge amount of natural resources.

We have an educated and skilled workforce.

We have a network of small and medium sized businesses that can provide much of our supply of goods and services.

We have an international financial system.

We have influential multi-national corporations.

There is more, but that is off the top of my head.  The dollar might continue to drift down in good times but it will not crash.  Nor will it be an after thought currency in any of our lifetimes.  The dollar is no longer similar to a spry twenty something, it is more of a strong thirty something.  That is fine.  It is a natural progression.

So while a few currencies will get marginally stronger against the dollar over time, i.e. the Chinese Renminbi, remember where people flock to when things get rough.  They go to the dollar.  Even after S&P downgraded U.S. debt for less than analytical reasons, international investors bought dollars and American bonds. 

WE HAVE TOO MUCH DEBT

This argument against America is overplayed.  By a lot. 

We have a demographic issue that we have to muddle through due to the baby boomers retiring and the echo boom not fully in the work force yet.  The process started years ago.  

We did have to spend to stabilize the economy coming out of the financial crisis, and have more spending to do in the short run to nudge back into growth.  As the echo boom hits the economy though things will work out.  What rarely gets talked about is that with every 1% increase of GDP, about 20% of the annual deficit disappears.  If we get growth and hold the line on spending, things will work out over time quite easily.

What government has to do is flatten, not cut, the upward curve on entitlement spending so that increases in expenses are manageable.  That will require some means testing or the equivalent, and nearly eliminating cost of living increases on social security.  We also have to flatten, not cut, defense spending.

American has debt issues to deal with, but we area not in a crisis as nobody denies we have debt issues to deal with.  America can handle its debt for all the reasons listed above with regard to the currency.  So long as we deal with the national balance sheet gradually and allow natural events to unfold, we will be fine.

THE BABY BOOMER RETIREMENT IS GOING TO WRECK US

I have talked about this for over a decade.  This argument carries the most merit in my opinion.  The baby boomers, when many were on pace to retire at 62 years old might have been a huge problem for the nation.  Now that most will work until they are about 70 I am not too worried.  Those eight years are actually huge in budgetary terms.  It almost makes one think there was some grand conspiracy to ruin retirement portfolios and keep the boomers from fully retiring early, but I digress.

Congress will eventually erode the cost of living adjustment on Social Security to almost zero and raise premiums on Medicare enough to cover costs at least until the echo boomers are fully into the labor force offsetting retiree expenses.  The transition to the echo boom economy will finish in the 2020s.  The echo boom generation is as large as the baby boomer generation which is good.  We will still need some immigration, but not nearly as much as many feared.  

WE ARE GOING TO RUN OUT OF NATURAL RESOURCES AND FOOD BECAUSE EVERYBODY WANTS IT

No we are not.

We have farmland out the wazoo (this is a technical term that economists use).  All we need to do is build enough sewage treatment, water reclamation and recharging facilities and we will be able to use our arable land as needed without creating a water shortage.  The United States is the bread basket of the world and that is a good business to be in.

We are developing huge oil and gas reserves again after holding back for decades.  Interestingly, we have recently become a net exporter of energy.  Imagine what that means.

We are beginning to mine metals again, and in more environmentally friendly ways after holding back for decades.

Alternative energy technology is almost as cheap and efficient as fossil fuels.  There is a boom coming in these fields.

WE DO NOT WORK HARD ENOUGH

Those of us who work, do work hard enough.  Soon, those who are out of work will have work again.  That is not to say that retraining and education go away.  People will continue to have to adjust and stay ahead of the curve.  It is a competitive world after all.   In November 2004 I said, "insulate your house and learn additional higher value work skills."  That is still good advice.

Do not bet against America long term.  It is a losing bet.

Your turning optimistic Advisor,

Kirk

12 Comments – Post Your Own

#1) On September 03, 2011 at 12:17 PM, XXX222 (< 20) wrote:

I'm glad you posted this and brought up those positive economic points, it's easier to get lost in the negative bear speculation. I don't share your current optimistic outlook, but if the markets stay steady or improve I'll keep your advise in mind and possibly act more decisively than I would have otherwise.

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#2) On September 03, 2011 at 1:23 PM, Option1307 (29.96) wrote:

I always enjoy reading your thoughts, while I usually disagree in a few details your letters are typically nicely laid out and logical. Thanks for sharing, +1!

Your turning optimistic Advisor,

I can't say I'm buying up equities hand over fist at the mement, but I definitely am much more excited about several sectors/stocks than I was a few months back at SP500 ~1300. There are certainly good options to entertain if you are careful.

Btw, after your relentless pumping of EXAS ;) I finally had some time to do a bit more research on it and have to say it does look appealing long term. I'm still not sold on the time frame that you have suggested several times, but I was convinced enough to scoop up a small position last month in the high 6's.

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#3) On September 03, 2011 at 2:41 PM, Amagi (99.75) wrote:

Good Post, all those who have said that the world was coming to an end were wrong. 

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#4) On September 03, 2011 at 10:07 PM, GNUBEE (24.82) wrote:

Amen!

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#5) On September 04, 2011 at 11:33 AM, whereaminow (24.34) wrote:

So let me get this straight.  Anyone who advocates gold ownership is claiming the world is coming to an end (no strawman there, riiiiiight), but the statists that run around like lunatics declaring every threat to be the end of the world (every little Cat 1 Hurricane causes massive evacuation orders, every kid that doesn't look happy enough gets a pill, every brown person is a terrorist suspect, and every presidential election is do or die) are perfectly normal.

Yeah, ok.

Perhaps there is a difference between America and the government.  Maybe it's not all one and the same.  So when you say "don't bet against America," I think of the people of America (the voluntary sector) and agree.  But when I say the government is full of pieces of human excrement and they should jump off a cliff, you freak out and call me paranoid, because for you, that also is America.

Well it ain't for me. 

We have a stable government.

You can't get more stable than a one party dictatorship, but a two party dictatorship that acts as one is close. This is not a positive.

We have a very strong military.

Yeah, ROFL, ok. That's why we can't pacify rock throwing Taliban in Afghanistan after 10 years.  Cuz we're strong.  Get a clue.  The American military is a paper tiger and a disgrace.

We have very secure borders, including two oceans.

This is a joke right? 

We have a huge amount of natural resources.

And idiots telling us who can use them and when (and with what kickback).  It's a plus, but not a big one.

We have an educated and skilled workforce.

Again, this is a joke right?  Skilled, somewhat.  Educated?  You mean they can regurgitate state propaganda about how exceptional America is?  Sure.

We have a network of small and medium sized businesses that can provide much of our supply of goods and services.

That's great.

We have an international financial system.

Yes, the benelovent cartel of banksters always looking out for us.  Oh, thank Heavens!!!

We have influential multi-national corporations.

Like Monsanto and Lockheed Martin!

David in Qatar

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#6) On September 04, 2011 at 11:49 AM, whereaminow (24.34) wrote:

Btw, the second half of your post is pretty good. The first half, however, is just plain stupid.

David in Qatar

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#7) On September 04, 2011 at 12:12 PM, dbtheonly (< 20) wrote:

Indeed Kirk,

The Hyper-inflation argument has been run since (at least) the early 1980s. As you can see, they've been right every time. 

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#8) On September 04, 2011 at 9:52 PM, tomlongrpv (77.83) wrote:

Both halves of the post looked pretty good to me, but then I am a "statist" instead of an anarchist.  In any event it's very nice to see a little logic deployed every now and then.  But I still wonder if the loonies might still have a lot going for them because even if they are wrong on the substance, they may be right on "sentiment" and it seems that "sentiment" rather than logic is what moves the market from time to time.

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#9) On September 05, 2011 at 3:30 AM, kirkydu (94.36) wrote:

@David

I couldn't find anywhere I called you anything, don't be so defensive. 

Yes, I am referring to the honest Americans who actually make the country go.  At some point they will wake up a bit more and realize they are being stolen from by a very small group, probably less than 1% of the population, who is very connected, very manipulative and very smart. 

I might be wrong today, or even next year about America returning to being an economic juggernaut, but the resources of the country are just too vast for it not to happen eventually.  Hopefully regular Americans wake up sooner than later.

I do agree there are a lot of crap pols and those connected or pulling their strings.  

The time to buy gold was years ago.  At this point, the odds of it doubling are no better than it falling in half.  Oil, now there's something that's slick.

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#10) On September 05, 2011 at 3:34 AM, kirkydu (94.36) wrote:

btw David,

www.KirkSpano.com

Who are you?

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#11) On September 06, 2011 at 2:15 AM, whereaminow (24.34) wrote:

Yes, I am referring to the honest Americans who actually make the country go.  At some point they will wake up a bit more and realize they are being stolen from by a very small group, probably less than 1% of the population, who is very connected, very manipulative and very smart. 

Agreed.

So what's with the strawman that every gold owner thinks the sky is falling (do I have to pull the quote?) and it's hyperinflation or bust?

Just make a serious argument.  If I wanted to, I could twist your quote to make you sound like a pessimist and fear monger.  Why do you do it others?

David in Qatar

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#12) On September 06, 2011 at 7:30 PM, kirkydu (94.36) wrote:

@David

You are making a generalization, as I did.  I do it in the gold case, because the over riding reason people are getting into gold NOW, v several years ago, is based upon fear not anything rationale.  They are late to the party.  The punch is almost gone.  Yeah, sure, you could make one more double on gold if things continue to drift down, but it is as likely at this point things turn up v turn down more.  Gold is as likely to go to $1000 at this point as $4000.  That's not a risk I'm willing to take, though a few good futures traders might be able to do well if they are nimble.  Seriously, at some point the FACT that gold is not really a usable asset will catch up to it just like it did from 1980 to 2000.  Most people will not have the skill to make that trade when the time comes, and when it comes, it will be fast and violently down. Those holding physical gold will be the hardest hit as that market, as I described a week or two ago, will dry up in a hurry when it does.

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