By Craig R. Smith, CEO Swiss America
June 30, 2008
While Congress fiddles the Dow slipped into a bear market this last week. Stock trading revealed some interesting and potentially dangerous weaknesses that must be considered by anyone with their money in dollars, equities or bonds. Warnings are widespread and shell-shocked investors need clear direction.
"Barclays Capital has advised clients to batten down the hatches for a worldwide financial storm, warning that the Federal Reserve has allowed the inflation genie out of the bottle and let its credibility fall 'below zero'," reports London Telegraph.
Goldman Sachs downgraded two giants of American business when they added GM to their SELL list (from neutral) and Citibank to their conviction SELL list. THIS IS HUGE. Can you imagine if either of these companies announced they were in fear of going bankrupted if their business continues to deteriorate? The fallout would be devastating.
Wall Street reacted accordingly as money ran to gold and oil looking for safety first, then return. But it is important to understand why.
The Fed’s bailout of Bears Stearns in March made it clear to the market it stands ready to bailout any entity whose collapse could potentially cripple the markets. The moves made in March are unprecedented and highly questionable in my opinion as they have long-term inflationary implications, as Mark Faber sums it up nicely;
"The Federal Reserve should let the big investment banks go bust if they made unwise investment decisions while investors should take refuge into gold as the central bank has been 'misleading' the markets, Marc Faber, editor and publisher of "The Gloom, Boom & Doom Report," told CNBC’s "Worldwide Exchange."
The Fed cannot allow American icons like GM or Citibank to go broke. It will move rapidly to bail them out. This will ignite another set of unintended consequences. The Fed will have to print money to accomplish such a move, which will send inflation soaring.
Recent auction activity confirms the world's loss of appetite for U.S. dollar investments. Artificially low interest rates provide virtually zero returns (after inflation) making Treasury Bills and/or Government Bonds very unattractive.
The same scenario holds true for Citibank. After several rounds of raising capital from everywhere, including Abu Dhabi and sovereign wealth funds, Citibank continues to hemorrhage like a stuck pig. Subprime resets this year will add to the pain this once great bank will experience.
Prepare for 10-14% inflation
The handwriting is on the wall in America! Inflation is coming back. It is only a matter of to what degree. Will it run 14%-16% like it did in 1979-80, or will it be closer to the recent wholesale producer price index (PPI) numbers at just under 10%? Or will it turn into hyperinflation, as we have seen in third world countries or Weimar, Germany?
This explains why we saw gold prices soar last week as international investors moved to a defensive position to keep inflation from eating away at the dollars they cannot sell in the current market condition.
In July 2007, I warned investors that the Dow at 14,000 was not a milestone, but rather a mirage concocted of smoke and mirrors. My advice today is to be prepared for another 15% correction in stocks, taking the Dow below 10,000.
Commodity prices will continue to climb until the Fed moves to defend the dollar. Frankly I cannot see a scenario in which that will occur, especially before the next presidential election.
Today the world is holding trillions of U.S. dollars and savvy investors are choosing to defend their holdings against another round of inflation. Therefore, I think you will see all commodities continue to rise including; gold, silver, oil, cooper, wheat, corn etc.
The only answer to the current problem would be for Congress to cut back on spending and reduce deficits, which would boost the dollar. That will not happen.
If Congress really wanted to halt skyrocketing oil and gas prices they would fast track legislation to start drilling and building refineries. Sadly, I doubt this will happen either, but if it did, I believe we could see a huge reversal of the current negative trends on Wall Street.
On the web site oilsolution.org, I have advocated those very steps to address the current energy problem and to help the economy. However it appears the deadbeats in Congress would rather play politics than fix the problems we face as a nation.
This current economy could get very bad, very fast. Then it will be too late to do anything but suffer the pain that comes in a prolonged period of rising inflation. Americans will face a lower standard of living and a much pared down retirement unless they act now to cut personal spending, save money and own more tangible assets.
In my view owning gold is no longer a luxury, but rather a necessity. Investors should be more concerned about the buying power of their dollars than high returns.