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Global markets are in the
midst of a predictable relief rally to the technical bear market that
recently became actualized off of various topping patterns that were in force
for most of 2011. It is important to note that this is coming off of a
similarly predictable whiff of a deflation scare, as US and European debt
'imbalances' (a polite way to put it) spooked the public out of asset markets
and into US Treasury bonds, among other 'safe' havens.
Ben Bernanke, the current US Fed Chief, is a deflation scholar after
all. He is the man for the job and if he was hesitant to do his job, as
was the case last spring amid the 'austerity movement' and a red-lined long
term T bond yield, he can be less so now. The 'bad cops' (Fisher, Plosser, Bullard, etc.) at the Fed have been marginalized
for the time being with people like Robert Reich and Paul Krugman,
along with their decidedly less financially austere views, are back in the
public consciousness.
This is what happens during what NFTRH calls the 'continuum', which is the secular trend
in T bond yields. For decades now, one could simply navigate the
alternative pinging of the upper boundary (100 month exponential moving
average; inflation fears brewing at red arrows) and the lower boundary (green
dotted line for a routine deflation issue and sold green line for a whopper
of a deflation event) and manage risk as needed.
 
But risk management has very different meanings at the each of the opposite
poles. At the top of the continuum, risk must be managed against a
failure of the inflation tout as commodities and ultimately most asset
markets top out. At the red arrow, the herd has bought the play and
gone all in. The result? Predictably, as long as the continuum
remains intact, the result is a lot of pain for a lot of trend
followers. Hello future deflation scare.
But do we really believe that an actual enduring deflation can come
about? Part of my personal risk management at the most recent
(inflationary) red arrow was to be aware of the lower probability that the
continuum could break upward (above the EMA 100). Currently, I also
respect the deflation case until such time as enough indicators trip and policy
is enacted that shift the odds to a scenario that sees the same herd that got
stuck in commodities at the most recent top get stuck in Treasury bonds at
their highs. A hint in this regard is the gold-silver ratio, which is
currently NFTRH
But there is no need to force things. I hold my core of gold stocks
which, for reasons tracked each week in the newsletter, are the right asset
class for the counter-cycle. I also hold a relatively large percentage
of cash due to the message of the continuum and with respect to the deflation
argument. If however, the more probable scenario holds, with the
continuum remaining intact - and this does not prove to be the 'final
deflation' - the system will wheeze, grind and churn forward ultimately
toward the next intense bout of inflationary hysterics. Cash would most
definitely be 'trash' once again.
As the continuum grinds along, gold grinds higher. Much to the dismay
of many deflationists, I might add. What the 'dBoys'
fail to account for in my opinion, is the 'lever'
that a deflation impulse represents. In other words, it is the lever
that a certain policy maker may pull in order to promote more inflation along
the continuum. Gold is one of the very few assets not to be fooled by
this macro economic Kabuki dance. Gold is a
monetary barometer after all. That is its main job within the Keynesian
system of credit and paper creation; to reflect the pressure on the paper
monetary system.
But you, astute monetary student, know all about gold and its inherent value proposition in a world with very little else in the way of
strict monetary insurance. So let's move on.
People who look at prices and scream INFLATION! are
behind the curve. The inflation is cooked up in the money supply, not
as a result of rising prices. Rising prices is the symptom; the long
term and ongoing symptom in many cases. Let's look at the big picture
of several important 'symptoms' of the ongoing inflation that has been
promoted over the cycles, up down, inflationary, deflationary, decade after
decade...
You want to feed your family? Well, that is an endeavor of value and
despite the implied threat of deflation, things of value rise in a system of
paper money creation out of non-productive means. Incidentally, does
this 'hockey stick' look similar to the golden one in the chart above?
I realize the time frames are different, but the age of inflation onDemand (i.e. when the Fed no longer saw fit to
even hold the pretense that it was an inflation fighter - thank you Mr.
Greenspan) began right about the time that gold's hockey stick began to form
its blade, in and around the secular changes of 2001.
You want to educate your kids you say? Well, get in line and prepare to
figure out a way to keep up with inflation.
Healthcare... yes that is a very important one as well.
Another essential, housing, has taken a break in its relentless drive upward
in prices. This is due to the levels of credit creation employed to
game this market into 2005 (again, compliments of Greenspan). Credit is
unwinding and housing is decelerating post-2008 recession. I am not
qualified to speak about how official policy aimed at avoiding a housing
implosion may be affecting the graph. But housing is, at least
temporarily, a candidate to 'deflate' further, absent additional 'bailout' policy
aimed directly at mortgages.
Now for the stuff that gets the inflationists
really excited, the money supply. M2 is doing as it has done well,
forever. It is rising impulsively. I have seen credible analysis
stating that this is due to a repatriation of USD to US shores in the wake of
the Euro crisis. So don't get too excited just yet. The point is driven
home by M2's velocity, or lack thereof, which gets the dBoys
all worked up.
Rut Roh... with this kind of structure and long
term deceleration of 'free money', one wonders about how hard policy makers
are pushing on that string as M2 velocity has declined for a decade now.
MZM hockey stick...
MZM velocity is a stick in the mud.
Institutional money, which is likely smarter than you or me, has not been
buying the US 'recovery' since 2008. Along with the money velocity
data, this argues that the deflation case should be respected even as we look
forward to the promotion of a coming inflation cycle. It is the
promotion of this cycle that we will be interested in, not necessarily its
perceived success.
We are either nearing the next great contrarian opportunity along the continuum
in the age of Inflation onDemand, or the end
of the system as we know it. In other words, what I affectionately call
'Prechter
Time
'.
Place your bets ladies and gentlemen, but do so with all due risk management
as applies to the very different conditions represented by the two opposite
poles along the continuum. There is inflation and there is deflation,
but as yet, the all clear is not signaled toward the inflation case, in which
a new 'asset grab' would ensue toward markets and resources of value.
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