Friday, September 24, 2010

The Macro Forces Behind the Markets

Today's Wall Street Journal brings us this front-page headline:

"'Macro' Forces in Market Confound Stock Pickers" -- Tom Lauricella and Gregory Zuckerman (9/24/2010)

[Thanks to Wikipedia Commons for Hokusai Kashushika's "Kanagawa", Big Wave]

Well, I have news for you: Macro Forces have been confounding American investors for the last century, in fact ever since Congress created the central bank.

The article states that "macro forces began moving stocks in a big way during the 2008 financial crisis...." I disagree. Macro forces have affected markets since the central bank starting making credit expansion a national and international issue, instead of the much more manageable local-bank issue it was at the turn of the 19th century.

The article states that one modern-day stock picker, John Burbank of Passport Capital LLC, "compares investing in the U.S. to investing in emerging markets, where he started his career. 'What is happening with the country, with the government, and what are their policies? These are the questions as an emerging-market investor that you ask before you do any bottom-up work on stocks,' he says."

Guess what, Mr. Burbank? The U.S. economy has been subject to government whim, just like the emerging economies, since 1913. Where have you been? You're probably too young to remember.


Leading up to the First World War and on into the 1920s, central-bank inspired credit expansion created the first big national boom. A few economists saw the bust coming, e.g., Edward C. Harwood, who wrote in August of 1929:

"[T]he time may not be far distant when the country will realize, in the light of a cold gray 'morning after,' that it has just been on another credit-splurging spree." [The Annalist, A New York Times publication, August 12, 1929.]

That time came two months later. He saw this because he was aware of the macro forces' effect on bank balances.

Another example:

At the end of the Second World War, Harwood saw from his statistics that there was a build-up of real savings capable of spurring on economic growth without help from the central bankers. He also noted that the central bankers were planning to continue their chronic inflating policies anyway. Having become by then an investment advisor as well as an economist, Harwood got his clients into the stock market. They did handsomely for the next ten years.

Then, as Harwood expected, the chronic inflating brought on a balance-of-payments problem, meaning that the gold standard was going to be trashed. He knew that the politicians would never discipline themselves enough to restore the dollar's gold-exchange value. He started getting his clients into gold in 1958. We all know how gold ended up in 1980. His clients did very well, although they got a little SEC harassment along the way.

Another example:

After a few years of sanity in the early 1980s, the central bankers went back to their inflating ways at the first sign of discomfort. The signs were, first, the savings bank crisis; then LTCM and the Latin American crisis; then the crisis; then the 9/11 worries; and now, S.A.S. (Stagnation Anxiety Syndrome). All these caused and continue to cause the central bankers to inflate, inflate, inflate. Where does that lead in fiat times? Bubbles. And not small bubbles; huge bubbles. Bubbles that are so big they have to be bailed out by the taxpayers or the world will come to an end.

I can't help but think that this final crisis isn't over, because no one can predict with certainly the outcome of the current central bankers' particularly egregious macro force known as QE2. If we get price increases, the stock market will do, because the stock market will simply incorporate the new pricing structure into stock prices. Inflation-adjusted TIPS will do, because they will incorporate the CPI. Gold will probably do, because it is a barometer of inflating. But what if we get no CPI price increases? This can happen; look at Japan.

Of the three, I know which I prefer: gold. I am not a short-term speculator and I need security. Gold is the ultimate monitor of macro forces in times like these.

PS: Congress must also be thinking along these lines. Have you seen the headlines lately about their going after gold dealers? Did you note they are enforcing the 1099 regulations relative to gold sales? I presume that's so no one forgets to pay the sales taxes or capital gains taxes; perhaps also because the gold sellers will have to maintain a record of who's buying the stuff. Don't you wonder what legislators are saying behind closed doors?

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Thursday, September 16, 2010

Bloated Government Still a Problem After All These Years

What a pleasure today to open the Wall Street Journal and find a full-page open letter to the President signed by Cato Institute. It scolds him, like Alice shaking the King, that in November of 2008 he promised to eliminate waste in the federal budget "page by page, line by line"; and that so far he had not yet begun.

[Thanks to Mr. John Tenniel, illustrator for Alice in Wonderland.]

On the contrary, he and our profligate Congress (both sides of the isle) have been responsible for expanding our budget to a precarious size never seen before.

This letter reminds me of the good old days. Back in the 1950s, 1960s, and 1970s my father, Edward C. Harwood, published such open letters to the standing president, over the byline of his research organization, the American Institute for Economic Research. Very few have the guts to do this anymore.

Rereading from one of my Dad's open letters published in February of 1961 on the subject of inflation, I'm struck by the parallelism with today:

"The great inflation of the past two decades [1940-1960] has shifted about $200,000,000,000 [equivalent to $1.5 trillion in 2010 dollars] worth of assets from the Nation's thrifty citizens and from endowed institutions, in addition to an incalculable but perhaps even larger amount from all whose incomes have been relatively fixed (such as retired individuals ...), to those who have benefited from inflation's progress. One of the chief beneficiaries has been the Government, whose tax revenues have increased greatly; other beneficiaries have been the holders of monopoly privileges including some elements of organized labor as well as numerous others.

"Thus have been fostered dreams of an affluent society able to afford global foreign aid, costly Government intervention in agriculture with accompanying waste of resources, and expansion of business enterprises without sufficient consideration of costs here compared with those abroad.... By cutting in half the buying power of elderly retired persons, they have been stripped of the means to provide for illness and other economic burdens of old age. In these and other ways too numerous to list here economic growth has been retarded and the Nation's economy has been seriously distorted.

"Now, consequences of past money-credit follies confront us. Some Keynesian economists ... recommend more inflation by monetizing more Government debt. Although some Keynesians favor more spending, others favor tax reductions; but the basic notion is the same, i.e., that Government deficits should be monetized to restore prosperity....

"In addition to the dedicated Keynesians, convinced that their nostrum is a useful remedy, various pressure groups will clamor for what they think will promote their interests. Labor leaders who can see only the short-run benefits of more increases in wages instead of decreased wage rates in some industries, speculators in real estate and stocks (especially those speculating on thin margins), bankers whose investment-type assets are excessive and largely 'frozen,' and others who hope to gain from more inflation or fear to lose if deflation occurs will join in the clamor. And adding their not inconsiderable bit will be many intellectuals whose education in verbal facility failed to make them wary of perpetual-motion schemes such as those proposed by the Keynesian inflationists."

[Quoted from "An Open Letter to President Kennedy," 2/19/1961, the final proof document of either the NYT or the WSJ version.]

Ah, that I had the wherewithal to republish much of what he wrote when he was alive. It's all still valid today.

PS: By sheer coincidence, on the page opposite Cato's letter was a huge ad for gold investment in iShares. The ad comes from BlackRock, the gold trust's sponsors and one of the biggest hedge funds, now apparently investing in gold. This also brings back the old days when my Dad brought all his investment clients into gold. He began to do that in 1958, and judging from the results in 1980 when he died, his clients did well.

Central banks have been purchasing gold within the last few months. Would BlackRock be trying to position themselves to get in on a developing business of gold trading, involving bigger and bigger players?

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