We hate you guys
The elephant in the room is how the U.S. and the rest of the world pay for all this fiscal stimulus. The most obvious path is to print money. Despite China’s enormous reserves, China can’t hold up the world but is getting increasingly frustrated with it:
Even at the elite level, the sense of frustration occasionally bubbles over. "We hate you guys," Luo Ping, a director-general at the China Banking Regulatory Commission (CBRC), complained last week on a visit to New York. "Once you start issuing $1-$2 trillion . . . we know the dollar is going to depreciate, so we hate you guys, but there is nothing much we can do."
The path of least resistance seems to be resorting to the printing presses, but with Eastern Europe in trouble, the difficulties with the USD will not likely show up in the foreign exchange market, but the commodity market.
Commodities recovering
A look at the Continuous Commodity Index, which is the continuation of the old CRB Index before its re-balancing in 2005 to give greater weight to the more liquid energy complex, shows that commodities prices appear to be stabilizing as a whole. The Baltic Dry Index is also giving the same message of stabilization.
Despite the underperformance of the energy sector relative to other commodities, I indicated before that energy stocks aren’t giving up their relative leadership in the market, indicating that the sector may lead this market up in the next cycle.
SWFs and strategic buyers moving into the market
Some sovereign wealth funds have indicated that they are likely to move more into commodities. Strategic buyers are also moving into commodity suppliers to take advantage of these depressed prices. Consider these stories:
China buying “stuff”, more here
Total buying into Canada’s oil sands
Japanese buyers taking a strategic interest in Uranium One
While the presence of strategic buyers do not usually mark the bottom of a market, it does indicate that these users see value in commodities at current levels.
Gold above $1000
Gold prices also recently topped $1000, but have pulled back to about the $900 level. Interestingly, both gold and the USD have been rising in unison - a highly unusual situation as they have historically had an inverse relationship. This is explained by the fact that both are regarded as safe havens in times of financial stress – and the world is certainly stressed right now.
Despite the rise of gold, I hold to my view that while gold is a good barometer of inflationary expectations and financial stress levels, I prefer the energy complex as an inflationary hedge because of its greater liquidity and depth of market. In short, there isn’t enough gold around in the world to hedge away our troubles from a policy viewpoint:
What about gold? That one’s easy: it’s estimated that all the physical gold in the world that’s ever been produced amounts to roughly 140,000 tons (worth about $4.5 trillion dollars using $1,000 an ounce). About 75% of that is either in coins or jewelry… not available to China, or to any other government.
The new gold available each year is miniscule: about 2,600 tons (almost $83 billion dollars worth) of new gold is being mined and refined annually, increasing the total supply by 2% per year.
The Minority Report
Should we put on the inflation trade?
My answer is a qualified yes for investors with a 3-5 year time horizon. However, there are still troubling signs that deflation may be the greater problem and must be overcome.
We would also not overlook Richard Koo’s hypothesis that inflation may not be a problem despite all this fiscal and monetary stimulus. His contention is that as long as government spending and investment replaces private spending and investment, because households are in a saving and balance sheet repair mode, then inflation should not be a problem.
Investors in the inflation trade need to watch closely for signs of inflation as economic recovery takes hold in the coming quarters.
1 comment:
Very good column. Inflation is inevitable.
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