Gold on Hold; The New Play May Be in Munis

On Monday, Sept. 19, I suggested that the price of gold was vulnerable, and also suggested that the stock prices of miners were a better intermediate-term bet.  This was two days before the FOMC meeting, which much of the “smart money” expected would produce a Jobsian “one thing more” in addition to the expected Operation Twist.  Mr. Market was expecting something more like Twist and Shout rather than simply Twist Again.

After the Fed failed to meet expectations, and issued a downbeat assessment of economic prospects, however, it was risk off with a vengeance in the DoctoRx financial environs.  The Fed has kicked the economic problem to the administration and Congress, and to the business community at large (where it belongs IMHO).  This sudden outbreak of financial prudence strikes me as both a good thing.  By selling short-dated maturities, it alleviates the (? temporary) shortage of short-dated Federal debt.  And rather than shrinking the balance sheet or letting mortgage-backed securities run off their balance sheet to be replaced by yet more Treasurys, the status quo is maintained. 

The Fed will have the advantage of surprise if and when QE 3 leaves port.  

On a global basis, the Fed is probably also looking at the probability of money-printing out of Europe.  It’s their turn to inflate.  We’ve done our part.

The markets are signaling price declines all over the place.  Platinum is trading about $40/ounce below gold.  This is anomalous.  MIT’s Billion Prices Project reported price declines in the U. S. in August (see final chart).  The Economic Cycle Research Institute on Friday took the rare step of commenting in print that the stock market is at a significant risk for a further decline.  Dangerously, Markit’s CMBX index (or, more precisely, some of their constituent indices) that tracks mortgage-backed securities broke Friday to yet another new multi-year low.

Right now, the only investment opportunities I see that are both relatively attractive vis-a-vis the alternatives and offer a likelihood of growing nominal capital are investment grade municipal bonds.  This could include some of the leveraged muni bond funds that yield over 6% tax-free as well as properly selected individual issues.  The latter are generally buy and hold investments, though the larger muni issues have decent liquidity.

The above comment is predicated on the growing sense I have that the U. S.  continues to go Japanese financially.  This is not a new idea for me.  This is what I wrote on January 6, 2009 (in “Land of the Setting Sun”):

We are Japan.

(Though with nukes and military bases in about 92 countries.)

Barack Obama made it more or less official today: trillion dollar deficits are here to stay.

“Potentially we’ve got trillion-dollar deficits for years to come, even with the economic recovery we are working on.”

The dead hand of government will provide tax cuts, either by printing money or borrowing from the savers of the US and the globe, to “stimulate” something by someone: probably by paying down private debt and purchasing necessities at low profit margins for the vendors. This shell game is, as we used to say in the 60′s and 70s, played out. Or as they say in the rural South, this dog won’t hunt (any longer; he’s too old). Additionally, government will print and borrow money to build and rebuild roads and buildings. Perhaps even most of this money won’t be wasted or stolen, but based on Japan’s experience, I wouldn’t bet an economy on it.

Let’s consider: Japan lost WW II and set about rebuilding. Its banking system went bust in the 1960s. We helped them put it back together in a way we should have emulated last year, and they embarked on a quarter century of unbelievable growth.

Of course, we all like to quote from our best thoughts, and if you say enough things, some of them will look good in retrospect.  I hope readers note that in typical fashion, the quote from Mr. Obama, who was not yet even President, showed that his view was that the economic recovery would come from Washington.  He did not say, “the economic recovery that the American people and their businesses are going to make happen”.

In any case, this spring I argued that biflationary price risks had tilted to the deflationary side in Goldman Wrong on Rates, Zero Hedge Wrong on Oil as Deflationary Side of Biflation Begins Its Ascendancy when both interest rates and oil prices were much higher than today.  Bond rates have gone lower than I foresaw relative to oil prices, which look to have room to decline more (perhaps much more).  I exempted gold prices from my “risk off” recommendations then but as documented last week, gold is now off my buy list.

With ZIRP here indefinitely, my bond broker wonders if one way or another, savers are sooner rather than later going to actually pay a fee to park money in an FDIC-insured financial institution.  After all, it costs the bank 0.15% (15 basis points) simply for the FDIC coverage, and then it has the costs of handling your account.  At the same time, 6-month T-bill rates are negative by 1 basis point.  Negative!  The implications of this have, I would say with a high degree of confidence, not sunk in to the public’s consciousness yet.  Therein lies a modest investment opportunity, perhaps.  To wit:

Just as what seemed impossible in the 1960s, which is that the U. S. would be in a seemingly endless era of rising interest rates, actually came to pass, we may find a high-quality 4% muni bond of any duration impossible to find soon, as “sticker shock” wears off.  Later, one could find 3.5% muni bonds hard to find.  If the 30-year T-bond stays at or below 3%, watch for AA muni yields track down to 3% or lower even at the long end, depending on call features and quality of the bond.

And it’s not just U. S. buyers who may be interested in these securities.  Foreigners looking to park money in the perceived safety of the (still) global near-hegemony may become muni bond buyers at these rates, not caring about the current tax-exempt status that Americans enjoy.  (At a time of zero to negative 6-month T-bill rates, it’s the financial equivalent of what I have learned has been going on in prime California farmland:  foreigners have been buying working farms at break-even prices based on current profits of the farm, simply to bring their money to a real asset in America.)

I am out of almost all my Treasurys, and right after the Fed announcement Wednesday, I called up my bond broker and said that I thought that munis were the only undervalued asset left now.  I said that we ought to see prices rise (rates fall).  He called me back later that afternoon and said that, mirabile dictu, one of his firm’s bond desks said that they were marking up their inventory the next day.  With apologies to Irving Berlin:

There’s no hunger like yield hunger, like no hunger I know.  Everything about it (i.e. yield) is appealing, everything the traffic will allow . . . 

Perma-gold bugs and Internet 2.0 stock fans alike might wish look around the US of A and note that for now, people are clinging to their unbacked dollars as if they had value.  No matter what the endgame of paper currencies has been throughout history, history is a series of timeless moments, and right now, paper money made in the U. S. A. (or the electronic equivalent thereof) remains one of the shrinking list of American-manufactured products in global demand.  We pay our bills and buy our food with that product, and in some fashion so does much of the world when trading internationally or via an internal currency peg to the dollar (due to the reserve currency status of the USD), and during difficult financial times, that fact outweighs the argument that only gold and silver are “real money”.  Right now, the Fed is not creating new money ex nihilo.  I see that as a blow to the gold bugs.

Financial go-go now a no-no, as Maureen Dowd might pen. 

I continue onward with what recently seemed to be a boringly cautious thought, which is a price target for gold of $2000 fiatscos by or before the end of 2012, but I wouldn’t be surprised to see much lower prices at some point in the months ahead as a period of debt deflation moves along while the Fed’s printing press stays largely on hold.  How low is low for gold?  Do I hear $1500?  Do I even hear $1300? 

Rather than sit with cash yielding zero which might (can it really happen?) go negative, more and more American savers may wish to gather their basis points while they may.  I think there’s still time to jump to the head of the line in munis. 

Stay tuned.

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4 comments to Gold on Hold; The New Play May Be in Munis

  • Don’t listen to DoctorRx, Gold is in a secular bull market. We are a long way from the top. Weak hands will sell here. As Livermore used to say “the big money is made not in the thinking but in the sitting”. Be right and sit tight. If you do not have a significant portion of your assets in gold you are headed for trouble.

  • Wesley: As stated, I continue with a $2000 gold price target (or higher) by no later than end 2012. Thus the only interpretation possible is as the title says: gold on hold (for now). Secular bulls allow for 1/3 drawdowns. Think gold top to bottom 2008, the stock market summer-fall 1987.

  • dietwald

    This is the correction I’ve been waiting for too long :-)