Taylor on us Economy, Markets & Gold

S&P Earnings Yield a Paltry 2.25%!

With the major indexes rising this past week, stocks became still more overvalued. At the end of this past week, the GAAP Earnings Yield, according to www.decisionpoint.com stood at 2.25%. Of that return, 1.45% were in dividends and by default, 0.8% was represented by retained earnings of dubious quality. By comparison, the 10-Yr. Treasury bond provided a yield of 5.24% at the end of this past week.

Were we not so fearful of a crashing dollar, we would have started this year by allocating a major part of our Model Portfolio to the strategy outlined by Michael B. O'Higgins in his excellent book titled "Beating the Dow with Bonds." As we noted before, this strategy beat the Dow by 'trillions of light years' even though the strategy did not entail purchasing even a single share of stock during the greatest equity bull market in history in the 1980's and 1990's. In general, O'Higgins' work has been very helpful to us in answering the general question as to whether or not we want to be in stocks or bonds.

Because of our fear of a dollar crash, we allocated 20% of our Model Portfolio to the Prudent Safe Harbor Fund (PSAFX), managed by David Tice & Associates. This fund invests in high quality relatively short term debt instruments denominated in currencies mostly other than the U.S. dollar. It also has somewhere between 15% and 20% allocated to gold mining shares.

With the dollar under pressure this past week, PSAFX is now up 15.24% on the year. We note that at the end of this past week, the Dollar Index closed at 113.18, just a whisker above the October 2001 low of 113.01. If the dollar breaks below this support level, one would have to expect considerably more weakness in the buck will result, in which event the Prudent Safe Harbor Fund should do still better.

One thing we know for sure is that the continued strength of the dollar depends on the willingness of foreign holders of dollars to continue investing about $1 billion per day from their trade surplus with the U.S, back into America. As during the late 1960's there most certainly will come a time when foreigners will finally have their fill of dollars at which time they will begin unloading them.

The Clinton Administration and the Greenspan's Fed trashed the gold price and concocted a "New Economy" fantasy to justify a dollar that is 30% to 40% overvalued on a trade basis. And while the fibs regarding one certain White House intern may not have had earthshaking economic repercussions, the New Economy fibs and the rigging of the gold price most certainly have had led our economy to imbalances that now threaten the world financial order. Explaining the dollar's strength by the "New paradigm" nonsense, and lower gold prices that were manipulated and not free market results, conned foreigners to pump huge amounts of their wealth into the U.S. According to Richard Russell's May 17th, "Remarks", foreigners hold 10% of all U.S. Stocks, 37% of US Treasury debt, 13% of total Federal agency debt and 23% of all U.S. corporate bonds. What happens when that $1 billion per day trade surplus stops flowing back into the U.S.? What happens if foreigners begin liquidating their dollar denominated wealth that they have accumulated during the Clinton years?

This was the question that was weighing on bond traders on Friday. The stock market was up which has recently resulted in weakness in the U.S. bonds. But now, Rick Santelli who reports for CNBC from the Chicago Board of Trade, noted a bigger concern for traders was the weak dollar which may not bode well for a continuing flow of foreign wealth into the U.S. bond markets. Foreign money exiting the U.S. financial markets, which is the reason why the Clinton Administration adhered to an anti-populist strong dollar policy. To do otherwise would have negated the financial orgy during the Clinton years. And had the financial orgy not been in tact, one certain other orgy engaged in by Mr. Clinton may have indeed resulted in his dismissal from office!

Why Would Foreign Wealth Exit the Dollar?

The answer to that question can be provided in two words, "inferior returns." As Rob Peebles of the PrudentBear.com reported in his May 16th article titled, "Losing our Foreign Friends," the NASDAQ has under performed the UK's FTSE 100, Europe's FTSE 300, and even the Japanese Nikkei over the one, two and three year periods ending in April. The S&P500 fared better against those averages, but it too has posted negative returns over each of the periods.

And now with the dollar in decline, total returns from a foreign perspective is turning from bad to worse. This of course is what has the bond traders so worried. And once this trend gets started, it could tend to feed on itself. So far, despite a weaker dollar, all we are seeing is a slowing of net new foreign investment. When the day arrives that none of that 1 billion per day trade deficit is returned to the U.S. and/or when prior dollar denominated assets are sold for repatriation purposes, we are likely to have a dollar crash on our hands.

Morgan Stanley's Stephen Roach Still Sees A Double Dip

A double dip recession could of course be the trigger that really causes foreign money to exit the U.S. in a major way. In his May 17th article Morgan Stanley's Chief Economist provided a host of reasons for his belief a double dip recession is likely for the U.S. economy. At the top of his list is an unrelenting squeeze of corporate profits resulting from little or no pricing power, and a still excessive labor costs yet to be rung out of the American economy.

Other factors that worry Roach are:

• The likelihood of consumer capitulation with respect to spending. Roach sees this happening when excessive labor costs are finally rung out of the corporate cost structure and he thinks it will weigh most heavily on white-collar workers. Of course the over extended consumer who is saving nothing while undertaking huge amounts of debt is also worrisome, but the potential loss of income once jobs are lost or wages cut will be extremely problematic, Roach thinks.
• Anemic growth makes America vulnerable to any new shocks that may arrive. Roach notes that most of the time, recessions cure certain excesses, such as low personal avings, excess capacity, record debt loads and a massive current account deficit. Yet, the 2001-02 recession was not permitted advance to the state where these excesses could be run from the economy. Thus, any shock to the system could result in a very significant economic decline.
• Roach notes that history suggests that whenever a supply side induced recession pops an asset bubble such as is now taking place in the U.S., the economy is unable to respond to interest rate cuts. He points to Japan as the most recent example. He notes that demand in key sectors in our economy like consumer durables, homebuilding and business capital spending have basically all been tapped out and thus all increased money creation and lower interest rates by the Fed are not likely to take place. He worries that the Fed may well find itself in the same "pushing on a string" condition it found itself in back in the 1930's.

So now you have heard one of America's main stream analysts say what Dr. Ravi Batra, Ian Gordon and David Tice first told our subscribers in interviews back in 1999. Go back and read those interviews if you have any doubt about our claims. They are all posted at www.miningstocks.com. We do in fact enjoy pointing out that we have been ahead of a growing tendency to agree with Ian Gordon's prediction that we are on the cusp of the second Kondratieff winter of the past 100 years. From a financial perspective, we continue to suggest you "put on your long underwear. Insulate your homes as much as possible NOW and be sure to stockpile ample fuel and food for the coldest winter on record." We say that because the economic excesses of this post gold standard world have been greater than any time in history. Thus, we think the depression that we face may also be more severe even that the one our parents and grand parents faced in the 1930's.

So Far, So Good in a Mildly Colder Season

So far, as the temperature has dropped only a degree or two below freezing, we have managed to prepare quite well. At the end of this past week, our Model Portfolio was up 41.82% compared to a decline of 4.97% for the S&P 500. Particular allocations and there respective performances from Jan 1, 2002 through May 17, 2002 were as follows:

• 19% - "A" Quality Gold Stocks - up 138%
• 15% - Speculative Gold Stocks - up 117.44%
• 7% - Technology Stocks - up 7.07%
• 10% - Energy Stocks - up 57.53%
• 4% - Gold, Silver & Merchant Banking - down 16.97%
• 20% - The Prudent Bear Fund - up 21.34%
• 19% - The Prudent Safe Harbor Fund - 15.24%
• 7% - Jim Rogers Raw Materials Fund - up 1.47%

Despite the poor performance of the stock markets, investors continue to display the psychology that always exists at the end of a major bull market. Having lived through so may years of bull markets, most people cannot perceive of a bear market. Thus every time there is even a mild decline in share prices, most investors immediately begin to think about buying so as not to miss a return to the good old bull market days. MOST PEOPLE SIMPLY FAIL TO UNDERSTAND WE ARE IN A PRIMARY BEAR MARKET AND THAT WHAT WORKED IN A BULL MARKET WILL NOT WORK IN A BEAR MARKET.

Of course this behavior is encouraged by a corrupt Wall Street that has become addicted to the huge profits and bonuses they have become accustomed to under our evil fiat currency regime. What will change this market psychology? The only thing that will change it will be along and hard bear market, like the Kondratieff winter Ian Gordon predicts. When you can buy the bluest chip companies in America at PE ratios of between 5 and 10 times and when those high quality stocks pay dividends in the 5% to 10% range, it will be time to think about becoming a stock market bull. Until that time, we can look forward to lower lows and lower highs with many violent bear market rallies in between, designed to keep suckering in unsophisticated investors. Because the bull market was so excessive and because the Fed continues to try to fool mother nature with the continued excessive creation of fiat money, this bear market is likely to live for many, many years. In fact, the last Kondratieff winter according to Ian Gordon lasted from 1929 through 1949 or twenty years. And remember at that time, the Fed exercised a more hands off policy than the Greenspan Fed ever exercised. By failing to allow the markets to restore equilibrium, the current problem is likely to last much longer and perhaps grow considerably deeper than the last Kondratieff winter, bad as that was.

Gold continues to present a bullish picture. At the end of this past week, gold closed in New York at $310.90 compared to a 50-day moving average of $301.23 and a 200-day moving average of $286.40.

I have begun watching a 20-month and 40-month moving average and this longer term measure is also now flashing "bullish" for gold. At the end of this past week, the 20-month moving average was $280.19 while the 40-month moving average was $278.55.

The psychology of the gold market is exactly the opposite of the psychology of the equities markets. Having lived through a 20-year bear market, all but a very few investors cannot perceive of a prolonged rise in the price of gold. So, when ever you get a $10 or $20 move over several weeks, investors are quick to sell out, as they anticipate a continuation of the long standing bear market. This psychological behavior in the gold markets is just one of many indications that we are in the early stages of a major multi-year bull market in gold, that is likely to represent the mirror image of the stock market. This will not be a happy time for most investors. But those who have prepared for it should be in a much better position to endure and survive than those who ignore our "off the wall" advice.

Of course, Wall Street is not interested in the longer-term welfare of their clients. Their long-term perspective is next year's bonus. The number one question on their minds is how can we optimize profits this year. To heck with the clients in the longer term. So what if they go broke, we have to get our million dollar bonuses this year.

Wall Street's Biggest Crime Is Disguising Systemic Risk

In the February 13, 2001 issue of "J Taylor's Gold & Technology Stocks," I headed up the lead article with the title, "Wall Street's Biggest Crime is Disguising Systemic Risk." I pointed out in that article how our Federal Reserve banking system, has been engaging in the printing of what is in effect, counterfeit money. I pointed out how, like a drug addict, the system requires more and more money to be created in order to avoid severe withdrawal symptoms and how with each infusion of more drug (money) the death of the system becomes ever more ensured.

Yet, very much like a drug addict or alcoholic, denial is a key component to the perpetuation of this pathological habit engaged in by the Fed, our politicians and now virtually all of Wall Street. In spite of the fact that gold has, for many generations, helped investors save their hides when paper money fails and in times of all kinds of wars and turmoil, Wall Street seemingly has gone out of its way to keep the secret of gold's financial salvation from the public. Indeed, some of Wall street's prime names, like Goldman Sachs, J.P. Morgan Chase, Deutsche Bank, Citicorp, have without a doubt rigged the U.S. gold price PRECISELY IN ORDER TO DUMB DOWN THE AMERICAN POPULTION SO AS TO KEEP THEM IN THE FRADULENT PAPER GAME KNOWN AS DOLLAR FIAT CURRENCY.

Of course these crony capitalists have been intimately involved with The BIS, The Fed and the U.S. Treasury for the purpose of maintaining their Fascist economics which ensure the little guy, who actually creates wealth, gets screwed while the elite prosper and consolidate political power. Want campaign finance reform? Then break this lock of power imposed on us when the Fed was created in 1913!

But getting back to our topic. As Alan Greenspan said in "Gold and Economic Freedom" back in 1966, the very life of our socialist republic is threatened by gold. To keep the status quo in place, politicians have to exercise all measures possible to keep the public from opting out of the very corrupt fiat currency system. Should the public opt out of the paper money scheme, the socialist agenda could no longer be funded because people would never stand for taxes sufficiently great to pay for vote getting measures orchestrated by politicians of both major parties. In fact this was one of the pressures that caused our semi-gold backed money system to break down in 1971. Politically, Nixon could not tax the public to pay for Vietnam and the Great Society. So he created money out of thin air which resulted in gold leaving the U.S. So rather than face the realty of our economic limits, Nixon being the socialist he was, simply defaulted in the U.S. obligation to return gold for dollars.