.jpg)
2009.05.31
Chosing the right asset class.
In my last post, "What is money?" (http://chinookarch.blogspirit.com/archive/2009/05/29/what...) I referenced the work of Paul van Eeden which shows us that inflation of the "Actual Money Supply" (AMS) has been increasing at a rate of approximately 8% per year since 2006 and appears to be maintaining this high growth rate. If this is true, where is all the new money going? We have seen stock prices rise by more than 35% since their recent bottom of March 6, 2009 so some people would argue that this new money is finding its way there but I doubt it. However, this is a very impressive increase over a period of less than 3 months. I believe that most of the new money is being used to pay down existing debt. We have been bombarded with messages in the mainstream media that the "bottom in stock prices is in" as witnessed by "green shoots" popping up all over the economic and financial landscape. Of course the people who are telling us this are the very same people who completely missed predicting the stock market crash that occured from October 2007 to February 2009. Are they right? Can we expect that all this inflation (or printing of money) by the Fed and other world central banks will continue to find its way into the stock market? Don't bet on it.
Once you answer the question, "Do we see inflation or deflation of the money supply over our planning horizon?", the next question to ask is , "How can I protect my wealth?" In order to answer this you must know what your alternatives are. What are the asset classes in which you can invest your money until you need it for consumption purposes at a later date (such as for retirement or the education of a child)? You only have about 6 choices: stocks, bonds, real estate, commodities, money (currencies) or collectibles.
Lets dispose of the easy ones first. Unless you are an expert in some type of collectibles such as rare paintings or antique cars, you should stay away from collectibles. I would argue that even if you do have this specialized knowledge now is not the time to invest in collectibles as they tend to be illiquid (difficult to sell when you need the money).
What about real estate? If you need a place to live and do not want the uncertainties and hassles of having to move every few years associated with renting then this might make sense. As an investment however this is not a good idea. Typically the asset that created the previous bubble is the last one to emerge after the bust. Take the tech bubble for instance. From the peak of the tech bubble early 2000, the NASDAQ fell over 80% to its ultimate bottom in the fall of 2002. In the six and a half years since reaching this bottom the NASDQ has recovered over 40% but the index still remains 70% below its high reached in March 2000. Not a very good investment if you got got in at the high and held until today. I believe that the housing market will see similar results. We may see a bottom sometime in 2011 but barring a hyperinflationary environment we are unlikely to see the high prices of 2006 for a decade or more. High inventories of unsold homes and high interest rates will see to that.
What about stocks and bonds? If I am right, stock prices have not yet hit bottom. The increasing stock prices that we are currently experiencing is reflective of a bear market rally that will be reversed sometime within the next 3 months. In fact, I expect that the Dow will eventually fall below 5000 before we see a true bottom. Valuations are still too high and corporate profits will likely fall even further as the recession deepens. We may even see a double-dip recession where we fall back into recession only a few months after emerging from the current recession. There are many reasons for this prediction but let me just summarize by saying that the problems that caused the financial crisis to occur are still with us and are possibly getting worse. The central banks and financial oligarchs that got us into this mess are trying to reinflate the bubble with even more debt. This very much like a drunk trying to drink himself sober. It is axiomatic that the solution to a problem cannot be to choose the same alternative that caused the problem to occur in the first place. As for bonds, interest rates will have to go considerably higher in order to attract the investment needed by the US Treasury to finance its massive deficits projected over the next decade. Higher interest rates mean a fall in bond prices so bonds are not a reasonable asset choice in the foreseeable future.
That only leaves us with money and commodities. This is where I would suggest you invest over the next several years. Say 40% cash and 60% commodities (or 50/50 if you are more conservative). Money or cash in the form of insured bank deposits or hard currency will be an attractive alternative to the losses otherwise incurred by those investing in stocks and bonds. It will also be good to have cash to invest in some cheap stocks and/or bonds when the true bottom is finally reached. It may be best to hedge your inflation risk by investing in several currencies at the same time. I consider gold bullion to be more like money than a commodity so I would include it in this asset class but even if you see it as a commodity you should carry 10 to 20% of your portfolio in gold bullion as insurance against both inflation and a total collapse of the fiat currencies that you hold.
What commodities should you invest in? I would choose those commodities that are considered essential needs. I include energy and food in this category. Oil, natural gas, grains, uranium as well as beef and pork should do well over the next several years. Luckily there are numerous ETFs (exchange traded funds that are basically like mutual funds but trade like stocks) that you can use as investment vehicles. You can get the name of some of these from your broker or just search the internet for the commodity ETF that you wish to invest in. Also silver bullion (in the form of bullion bars and coins) can be held in your safe deposit box as a good hedge against inflation. I treat silver bullion as a commodity since it is more like an industrial commodity than a monetary metal. I would not recommend investing in the ETFs of base metals or stocks of base metal producers. It is likely that world trade will be depressed for several years so these commodities will not see the increases that are likely to be seen in oil and gas for example.
Bottom line is that it is time to get very defensive in your investment portfolio if you have not already done so. Start by paying down debt and reducing your consumption in order to increase savings. I have been preaching this to my family and friends for several years now and it is not yet time to let down your guard. Do not chase higher returns ... they will be elusive and short lived. Such a strategy will more often than not result in losses as gains. Be very patient and be satisfied with protecting the wealth you have already accumulated. Remember that over the next several years return "of" investment will be more important than return "on" investment.
20:28 Posted in Finance | Permalink | Comments (0) | Email this | Tags: investment class, money, stocks bonds, real estate, commodities, collectibles, financial crisis