Weekly Commentary

The U.S. trade deficit for 2004 soared to a record $618 Billion, showing that the American public's massive appetite for all things foreign, primarily foreign oil and petroleum products and Chinese manufactured goods, continues unabated. This is despite the dollar falling significantly against all major currencies and gold in recent years. It looks likely that in order for this imbalance to be corrected there will need to be a further fall in the value of the global reserve currency and interest rates must continue to rise so that US consumers begin to save rather than use historically low interest rates to continue what many increasingly consider and imprudent debt fuelled consumerist binge.

Source: PrudentBear.com

It is often overlooked that this consumption would not be possible without the majority of the savings of the world's citizens and their governments being invested in US debt instruments and thus keeping US interest rates at record lows. Thus the financial and economic destiny of the US is no longer entirely in the hands of US citizens, the US government and the adored cult like Alan Greenspan. The world's savings, in particular those of China, Japan and Asia are funding US consumption and imports from the entire world and thus propping up or providing artificial stimulus to the global economy. This economic paradigm is often ignored by much of the world's financial press or whispered and dismissed in hushed tones. This one salient macroeconomic fact is clearly untenable and unsustainable.

Alarmism is not what we deal in rather economic reality and these economic realities must be taken onboard in any prudent investment strategy.

The fundamental tenet and number one rule of saving and investing for the future is diversification or not having all your egg's in the one basket. Diversification means investing and saving in a broad spectrum of totally different kinds of saving and investment vehicles. These should include property, equities, bonds and a small allocation to precious metals. A diversification into precious metals is advised in an effort to reduce risk and to have the one asset class which has a negative correlation to other asset classes and thus works to preserve and grow wealth in less certain economic times. This financial insurance provides security and safety to investors and should not be seen as a threat to existing asset classes rather as a complimentary accompaniment to property and equities.

It would be difficult for anyone to argue with this and indeed if any of our readers would like to, we will gladly print your opinions and engender a debate. To argue against allocating 5% of one's wealth into gold and silver is a little like arguing against having health or car insurance. As the only argument which can be mustered is that gold is a 'barbarous relic' as Keynes said so, (Keynes never said any such thing - see quotes below). Or that gold has not performed well since 1980. 1980 is a convenient arbitrary date when gold hit it's all time high of $890 per ounce or some $2,000 adjusted for the considerable inflation of the last 25 years. Gold and silver have actually outperformed the Dow Jones since 1970. That is real term performance.

But this slightly misses the point anyway. You invest and save in gold not to get rich quick but as a long term insurance policy. Insurance is bought and then forgotten about. One does not worry about the 'performance' of one's insurance you are simply glad you have it in the unlikely event that you or a member of your family crashes their car or becomes sick. We don't believe and hope this will not happen when we buy these instruments but we realise it is prudent to do so just in case.

Similarly with hard tangible finite debt free assets like gold and silver. We do not believe there will be a global economic recession and indeed hope there is not rather a muddle through economy or a 'nice' recession as experienced by Japan in the last 25 years. But beliefs and hopes are not enough and thus we own precious metals as financial and economic insurance.

Source: Comstock Funds and Gabelli Mathers Fund

The Week in Quotes

". . . the fiscal 2006 budget proposed yesterday by President Bush is breathtaking -- in the first approach as farce, in the second as tragedy. . . . . This maddeningly blinkered mindset ignores the impact of the Bush tax cuts, which were at once unaffordable and tilted to the wealthiest Americans. Next year alone, the cost of the administration's already enacted tax cuts will be $192 billion, not including added interest. "It's a budget that sets priorities," Mr. Bush told reporters yesterday. That it does. The problem is that some of those priorities are flat wrong."
Editor, Washington Post, Editorial entitled 'A Breathtaking Budget'.

"The Federal Reserve is trapped in a moral-hazard dilemma of its own making. It dates back to the Great Bubble of the late 1990s and the central bank's unwillingness to take away the proverbial punch bowl just when the party was getting good. The close brush with deflation that then ensued was a painfully classic post-bubble aftershock. That experience underscores the greatest shortcoming of modern-day central banking -- the inability of monetary policy to cope successfully with asset bubbles and the deflationary perils they engender. The history of the 1930s and Japan in the 1990s are grim reminders of that shortcoming. Alan Greenspan's confession finally sets the record straight on how he got us into this mess. But it is a confession that is still steeped in denial. The presumption that natural market forces can cure all ignores the lingering perils of an all-too treacherous endgame. Let's not forget that nearly five years after the equity bubble popped, America's imbalances -- to say nothing of the world's imbalances -- remain in uncharted territory."
Stephen Roach, Chief Economist, Morgan Stanley

"...the growth of home mortgage debt has been the major contributor to the decline in the personal saving rate in the United States from almost 6 percent in 1993 to its current level of 1 percent. . . . . . the rapid growth in home mortgage debt over the past five years has been driven largely by equity extraction. . . . . . Approximately half of equity extraction shows up in additional household expenditures, reducing savings commensurately and thereby presumably contributing to the current account deficit."
Alan Greenspan, Federal Reserve Chairman

"Finally, it should not be overlooked that most exceptional increases in prices for stocks and real estate in history were accompanied by strong expansions of money and/or credit. With stable prices money serves society best as a unit of account, medium of exchange, and store of value. Any index of consumer prices covers only a segment of prices in an economy - although an important one. Prices of assets like real estate or equities are excluded from the definition. We have learned on many occasions that excess liquidity can show up in excessive asset valuations and not only in consumer price inflation. Sooner or later, then, unsustainable asset price trajectories may translate into sizeable risks to price stability -- in either direction -- and often much further down the road as the long-run fallout of the Japanese bubble of the late 1980s has shown."
Otmar Issing, Chief Economist, ECB

"Prudent borrowing for sensible expenditure such as home improvements can be worthwhile but borrowing for current expenditure on consumer items, holidays and luxuries carries hidden dangers of over-extending your finances and putting further pressure on family budgets. . . . It is evident that many commercially driven financial institutions are pushing, or exceeding, the limits of prudent lending. Some commentators are saying that levels of credit are not a cause for concern in the current overall economic context," said Liam O'Dwyer, CEO. That may be true in a macro sense but credit unions see the personal difficulties caused by expensive credit and credit-dependence every day. Credit unions lead the way in responsible lending. Irish borrowers deserve a similar responsible approach from other financial service providers. . . . The promotion of cheque book mortgages and equity release schemes could lead borrowers into a false sense of security."
Liam O'Dwyer, Chief Executive, Irish league of Credit Unions

"Everybody wants an answer to the question Marc Faber asked on yesterday's site. Namely, what ONE ITEM would you put your money in -- an item not to be touched or changed for the next ten years. My answer -- Gold coins. Why gold? Because the way things are going, the way the US deficits are growing, the way China and Asia are 'coming on,' I don't see anything that I could truly trust to be 'there' in 2015. The US could be booming, the US could be broke, China could be a Superpower or a basket case. The world might be in peace or it could be in war. Anything could happen and probably will. But I feel certain of only one thing -- gold will be wealth in 2015. Yes, gold may not be the best investment over the next 10 years, but it I will bet that gold will be there. And it will be considered wealth. In my mind, I can't say that with certainty about anything else. So it's gold, baby, the time-honored, immutable measure of wealth, the untarnishable yellow metal."
Richard Russell, Dow Theory Letters

"Investing in gold can secure a glittering return. Nations have built wealth and power on gold...a commodity people can touch instead of cash. The history of gold is as old as time itself. From references to gold in Genesis to the myths of Jason and King Midas and the legend of King Solomon's mines, gold has been a symbol of wealth, freedom and power. Empires and nations - from Charlemagne to the Spanish conquest of the New World to the American frontier movement - pursued gold or built on its promise. Gold today is not just the preserve of the jeweller and all who appreciate fine pieces that use this precious metal in its making. In an unstable world, gold should form part of a balanced portfolio and there are several ways in which this can be achieved for the individual. In value, gold has been rising dramatically recently. From US$253 per troy oz in November 1999, the price rose to US$454.2/troy oz in early December - the highest level for 16 years. It can be a useful 'insurance' against extreme movements in traditional assets and rarely follows economic patterns."
Conal Gregory, Yorkshire Post

"Although there are only a few reserve currencies, an appalling lack of discipline is demonstrated by the US dollar. As things stand today, the United States is indebted to the external world to the tune of $3 trillion. This sum actually exceeds the total official currency reserves of all the nations of the world -- including the USA... The evolution of the reserve role of the American currency in recent years gives grounds for a pretty pessimistic prognosis. The relationship between the state of the dollar and the value of gold is obvious. In relation to our discussion today, this means that gold continues to have particular monetary attraction in the minds of all prudent financial investors."
Oleg Mozhaiskov, Deputy Chairman, Central Bank of Russia

JP Morgan on Friday advised its clients to sell dollars and buy euros on major dips below $1.28, comparing the dollar to the emperor with no clothes. "Though the US trade data point to better momentum in exports, the deficit shows little prospects of near-term stabilisation," the bank said.
Financial Times, Quoting JP Morgan Currency Strategists

"In truth, the gold standard is already a barbarous relic. . . . The value of gold has not depended on the policy or the decision of a single body of men; and a sufficient proportion of the supply has been able to find its way, without any flooding of the market, into the Arts or into the hoards of Asia for its marginal value to be governed by a steady psychological estimation of the metal in relation to other things. This is what is meant by saying that gold has "intrinsic value" and is free from the dangers of a "managed" currency."
John Maynard Keynes, Economist. (Often misquoted as saying gold itself is a barbarous relic.)

"Gold still represents the ultimate form of payment in the world. Germany in 1944 could buy materials during the war only with gold. Fiat money in extremis is accepted by nobody. Gold is always accepted."
Alan Greenspan, Federal Reserve Chairman, Speech in May 1999 to the House Banking Committee