Inflation Expectation Eases
The Treasury Department, responding to growing demand from China and other investors, will boost the sale of inflation protected bonds, i.e., TIPS. Chinese officials had indicated they want inflation-protected securities, especially as the U.S. economy starts to recover.
TIPS value fell after the announcement. The spread between TIPS and comparable Treasury Notes ended at around 1.93%, signaling that investors expect annualized inflation of 1.93% over the next decade. However, this is still below both the average 2.8% of the past 10 years, and the 2.1% at the end of last year.
Inflation’s Twin Tale
Most analysts are of two minds about inflation: One group tends to argue that the Fed's printing of new money would lead to explosive inflation or even "hyperinflation.” The other group argues that there is too much "slack" in the economy for prices to rise, i.e., a stagnation scenario, due to high unemployment, falling wages, plunging home values, and damaged 401ks. So far, the latter view seems to have held up better.
Growth of Money supply
At the moment, both inflation and deflation are seemingly off the radar based on the latest consumer and producer prices. Realistically, we can’t ignore the inevitable inflationary effect from the government’s quantitative easing program.
Since the start of this global economic crisis, the U.S. government has been injecting massive amounts of new currency into the financial system to prevent deflation and stimulate economic growth. M2, a measure of money supply that includes checking accounts and money-market mutual funds, has grown about 16% over the last 12 months, or a colossal $1.12 trillion increase. All that money is going to find a home. This phenomenon will eventually devalue the dollar and push price inflation much higher, which is also referred to as reflation.
Betting on Inflation
Warren Buffett said on Aug. 18 that the U.S. must address the massive amount of “monetary medicine” that has been pumped into the financial system and now poses a threat to the economy and the dollar.
In reality, the Fed will likely be slow to act, in part because of the still high unemployment rate, which rose to 9.7% in July, from 7.2% in December. So the U.S. has got a lot of inflation or even hyperinflation issues to worry about in the future.
Meanwhile, Pictet Asset Management, which manages $60 billion in fixed-income assets, reportedly is buying U.S. inflation-protected bonds, betting that the government’s economic-stimulus measures will fuel price growth.
W-Shaped vs. V-Shaped
Prominent Harvard economist Dr. Martin Feldstein indicated that the U.S. economy has improved, but he wondered "if the current recovery is really sustainable" or whether there could be "another slowdown or indeed downturn after the third or fourth quarter".
Judging from the recent commodities rally, we may have inflation, for example, in food and energy, while deflation in the rest of the economy. If this stagflation scenario emerges, we will likely experience a W-shaped recovery instead of a V-shaped one.
Commodities Rock & Rule
A large spike in prices for goods and services is expected once we finally emerge from this global economic crisis, which could be in a year or so. Hard assets such as oil, agricultural products and precious metals will experience substantial price appreciation in this future high inflationary environment. Therefore, commodities are well positioned as a sector with likely strong growth prospects over the next decade.
Investing Strategy
Based on this analysis regarding inflation and a likely W-shaped recovery scenario, here are some ideas of potentially profitable plays to consider:
Precious Metals ETFs: SPDR Gold Trust (GLD) & iShares Silver Trust (SLV)
Hard Assets ETF: Market Vectors RVE Hard Assets Producers ETF (HAP)
Agriculture Commodities ETF: PowerShares DB Agriculture Fund (DBA)
Metals Equity Play: Freeport McMoRan (FCX), BHP Billiton Ltd. (BHP)
Crude Oil Producer: Petroleo Brasileiro SA (PBR), ExxonMobil (XOM)
Disclosure: No Positions
Diane L. Chu
7 Comments
therooster
They never seem to tell people that stagflation is the worst of both worlds, higher consumption oriented costs and falling investments (and markets mired in debt) while the economy dies on the basis of higher risk premiums because of lower bond and debt prices.
Is it no wonder that precious metals will do well ? It doesn't matter how things shake out. as long as the economy is bad, precious metals can protect you. Some only see them as an inflation hedge. Bank failures have to be considered also.
Cynical
The lion's share of profits have already been take on gold Rooster and the market has traded sideways ever since. Never understimate those in power who can dump gold in the market to save there fiat currency. I have small amount of gold but as a physical hedge of the small but existing possibility of total societal breakdown. I further hedge my families bet with butter, bullets and medicine and soon a small bit of farmland as dual recreation, survival locale away from major metros. History does rythm.
ptownman
"The mindset of all these central-planning types is the same, and what they're intent in doing has been clear for some time. As Bernanke said quite a while ago, they have a printing press. And, to doubt its ability to generate INFLATION is to ignore history." 08/24/09
--- Bill Fleckenstein, Fleckensteincapital.com
Author of: "Greenspan's Bubbles"
"The Age of Ignorance at the Federal Reserve"
ptownman
"Rooster"
The only true economic model is a FREE MARKET, whether it is commodities, banking, labor or sex. Its just when man/women are faced with the reality of a total FREE MARKET, for some reason it scares the shit out of them. That is why we have voted to keep Social Security and Medicare alive. And, plus the fact, let someone else pay for keeping grandma out of my hair in her old age. They say, I don't want to wipe grandma's ass and change her diapers. Well, guess what, America, you are about to start wiping a lot of grandma's asses.
therooster
LOL .... you're too funny.
I'm saying what I'm saying because a true free market is not hierarchical in structure. Your own expression was the application of social welfare systems. I'm simply pointing to the structure that "houses" those same social applications. Applications fit into structures. The one that we're in is passing, but has been with us since "the apple was shoved in our faces".
A free market is not hierarchical and approaches something much rounder, almost holographic. It is not bound by Newtonian principles. It is not supply driven in the sense of "here ..... eat this".
As for the real-time relationship that I referenced, there would be NO be real-time gold backed digital processing answers without the advent of the fiat dollar. It's the measure of the gold weight in the equation. Real-time gold valuations are an organic, free market concept and real-time is the direct opposite of a fixed peg.
If you calculate how much gold weight you would have to trade for a $100 widget in the real economy, in spite of the fact that you pay in gold and close out the deal with zero debt being created or changing hands, the USD's "absolute numerical value" is indispensible to the process and the mathematical equation. Work it out. You'll see. It's unavoidable because we price things in currency, not in weight.
Because the USD has such a key role in the real-time gold equation, it is VERY important for the sake of this new integration of the measure (dollars) and the weight (gold).
Real-time gold is simply about making gold instantly liquid as a currency, something that it has always been missing before the age of information. Now we have instant payment abilities with debt free store of value. We can thank gold and we can thank the debt based USD that has conceptually evolved to become the measure within the law of weights and measures.
The Federal Reserve and its fiat currency are part of an incomplete process and that process cannot be completed by the FED or the government. It must be completed from the grass roots of the market. It cannot be any other way or else a panic would ensure. Can you imagine the FED or the government creating a gold currency policy or even endorsing gold as a good currency ??? They can't. It would risk too much and the dollar would likely nosedive overnight. So what are the FED and the gov't to do to get to a free market monetary solution ? Guess what ? Theyre doing it. Theyre carrying "the stick" ! Someone has to.