The Biggest Bull on CAPS
On November 22, 2009 I wrote:
"Back in June , or around that time frame, some of our Top Fools got into heated debates about the length of the rally and the gold market.
They appeared to fall on one side or the other.
Bulls: The market will go up and gold will fall to $650-$700 (I think I read checklist34 saying S&P500 to 1100 by Dec 2009 and gold down to $700. Sorry if I got that wrong dude. I'm too lazy to go back and find it.) So one out of two gets you in the Hall (in baseball.)
Bears: On the other side, we had the bears saying the rally was not shinola and gold was going to reach new highs.
How is that both were half right (wrong)? How do we have gold at all time highs and the rally still going at just about 1100 at Thanksgiving?"
(Note: I'm not picking on checklist34 here. He is someone whose opinion I respected for years, which is why he was in that quote. Other bulls made the same prediction in that time frame. Don't know why I singled him out.)
So here we are today in March 2011. Both stocks and gold (and silver) continue to rise. If you understand why, you would be the biggest bull on CAPS.
First, let's define Bull and Bear.
A bull is someone who thinks the stock market is underpriced in dollars. It is not a liberal. A liberal is someone who adheres to a political philosophy.
A bear is someone who thinks the stock market is overpriced in dollars. It is not a liberatarian. A libertarian is someone who adheres to a political philosophy.
For some reason, CAPS members like to label anyone who is pro-liberal a Bull and anyone who is pro-libertarian a Bear. That is beyond stupid. Stop doing that. You are making an a** of yourself. You are also confusing politics with stock market activity.
The biggest bull on CAPS is someone who thinks that both the stock market and gold (and silver) are underpriced in dollars. That person would be me (and there are a few others.)
We're going to get into a concept that is not easy to digest because it requires some building blocks.
Since you're on CAPS you probably think of value in an equity analysis sense. That's fine for comparing one equity to another. Equity comparisons, however, are not economic analysis. Economics is another division of human action. So set aside your knowledge of intrinsic value (if you believe there is such a thing) and P/E ratios. They don't help you here.
In economic terms, value is always subjective. Let's say that you walk into a Walmart (it would be you walking into a Walmart because I would never set foot in one. I'm a Target snob.)
Have you ever walked into a Walmart and said "I am going to spend $136.48 today!" Of course not. You have a subjective attitude toward the cash/credit in your wallet/bank account. You think, "I need to purchase the following items today and if I find them, they are more valuable to me than the money in my wallet."
Next you take stock of the items available to you. Let's say that you need toilet paper. The 3-ply from Charmin vs. the 2-ply. Is it true that the 3-ply gives you 50% more utility? Of course not. Utility - the satisfaction you recieve from an item - is subjective as well.
Many factors come into play in the selection of goods. Price and packaging are very important. Trust in brand names matters more to some.
You rank the items in your head as you select them. It is subjective. You don't think, "boy, this Ben&Jerry's ice cream makes me 34.91% happier than Breyers!" You think, "I prefer B&J to Breyers."
(Perhaps you don't think at all, but you are still making a decision based on subjective value, for example, by picking items by how the packaging makes you feel.)
Now comes the really fascinating part. Once the items are ranked in your head, and you have selected the best item for you, you make a subjective comparison of that item vs. the money you must part with to purchase it.
In other words, you might really want some Ben&Jerry's. But if you decide that you don't want to part with $5 to buy it, your shopping cart remains empty. You value the $5 more than the ice cream.
Money has a subjective value.
And money can lose its value.
How Prices are Formed
You might think with all this subjective valuation going on, that price formation would be impossible. Perhaps you think that prices are accidents or something that is decreed by a CEO or a tyrant. In fact, it is this very process of subjective valuation that forms prices.
As consumers make decisions regarding the subjective value of various products, those prices are imputed back up to higher order goods (the goods used to make the products on the shelf.) Sellers are not only responsive to consumer valuation of finished goods (moving prices up and down in an effort to maximize profit and avoid bankruptcy), but those valuations force the movement of intermediate and higher order goods' prices.
What are intermediate and higher goods? I want you to refresh your memory of Leonard Read's classic essay "I, Pencil." It takes quite a number of higher order and intermediate order goods to make a simple pencil, doesn't it? What if no one wanted a pencil anymore? All things being equal, the value of cedar, graphite, clay, and lacquer (to just name a few) would also decline, lowering their price. The machines specific to the crafting of pencils would decline in value as would the materials used to make those machines.
Now imagine rewriting Leonard's famous essay for an Ipod. Ha! Think of all the intermediate goods that are necessary to create an Ipod. These items never end up on a shelf in their unfinished form, yet they have value. Their value is imputed back from the subjective value that consumers place on the Ipod (and any other products that are made from these amazing combinations of machinery, labor, and natural resources.)
How To Destroy the Value of Money
Let's go back to the person at Walmart deciding whether or not to buy Ben&Jerry's ice cream. He hesitates. He thinks, "This ice cream would increase my satisfaction, but I might be able to use this $5 for something else." What happens if he comes to the following realization, "However, this $5 might not buy as much tomorrow because prices keep rising." Does this change how he values his money? Does this affect his decision to purchase ice cream? Absolutely.
In my Basics of Inflation post, I covered how excess monetary creation leads to a bidding up of prices. New currency competes with old currency to purchase scarce resources. When these price rises start to affect consumer purchases, consumers subjective valuation of money falls. They spend more. Modern economics teaches that spending is good and savings is bad. I hope you are not too married to modern economic doctrine to consider that they are wrong.
In November 2010, like almost all modern non-Austrian economists, Paul Krugman warned of deflation (again.) He wrote:"There’s really nothing here to shake my view that deflation, not inflation, is the threat."
Paul Krugman does not understand subjective valuation.
Modern economists believe in something called "excess capacity," the idea that if a nation has idle resources (high unemployment, e.g.) that no amount of monetary creation will cause rising prices. They put a nice round aggregate number on it and voila! This is where inflation can happen, they claim.
Nevermind that stagflation of the 1970s proved this doctrine erroneous. (Isn't it interesting that the "scientific" economists demand fact-based theory yet no amount of contradictory facts will get them to reconsider their theories?)
Present Goods versus Future Goods
Another way to look at subjective monetary value is the value of present goods versus future goods. What can you buy in the future with your $5? or $500? What can you invest in? What can you purchase?
When you start to understand that your $500 will not go very far in 5 months, 5 days, or 5 minutes as it does now, you shed your $500. You consume.
There is no fabled honey. In this world there is a trade off. You must make a decision, whether you are an individual or a nation, to consume in the present or trade for the future. As a nation turns toward rejecting the future in favor of the present, that is the crack-up boom. The value of money is destroyed.
Before you marry an economic theory that embraces money that has no economic value (be it paper or electronic), ask them what their theory of hyperinflation is? If they don't have one, get a divorce. The value of money is subjective. When it no longer has value for the nation's consumers, they reject the future and embrace the present. Goods fly off shelves. The crack-up boom.
Gold bugs see a nation where people are asked to trade the future for the present. They would rather not do so. That is why they buy gold. They could consume just like everyone else, but they choose not to. They save for the future. Because of this, they are ridiculed and sometimes, even in America, imprisoned. Yet those who ridicule never understand the basics of inflation, let alone subjective values and human action. This is why gold bugs rarely become paper bugs. They know something that paper bugs do not. They know that there is no fabled honey.
The Biggest Bull on Caps
Prices are objective measurements of the subjective valuations of market actors. Digest that sentence. It's important.
Paper money provides in instable basis for valuation. It is instable because paper (and digits) can be created arbitrarily, on a whim, by any crank or crook who thinks we need a war or expanded health care coverage or just to line the pockets of his crony capitalist friends. Paper is the tool of crooks. There is no denying this.
There are no stocks on the market that I would trade for paper money. There is no amount of gold (or silver) I would trade for paper money. I am not alone.
Thankfully for the American warfare/welfare machine, I am, however, in the minority. But our numbers are growing. We prefer to be protected when Americans start to undertand that their money has more value purchasing present goods than goods five minutes in the future. That day is coming.
But it's going to be a bumpy ride. Despite objections to deductive economics, Federal Reserve economists know they are playing with fire. They will be late in dampening inflation (it's impossible for them not to be. If you don't understand why, re-read this post or ask for another explanation. I will try again), but they will try to dampen it.
Just remember, when the flation flops (that's for checklist =D), it is just a temporary reversal. In the long run, there is nowhere for the stock market (and gold, and silver) to go but up.
David in Qatar