Are you ready for……..

Lower long-term interest rates?

Despite the fact that almost all of the “experts” quoted on financial television have told the world the worst investment in the next year will be U.S. Treasury bonds. Despite the fact everyone is convinced rates must move higher due to a massive increase in the Fed’s money supply in the past year. Even the Fed is afraid of inflation returning and discussed the ending of its quantitative easing program in yesterday’s FOMC statement. If it is obvious long-term rates are going to rise why have they refused to move higher in the past two months when forecasters told us the recession had ended in June and the economy was beginning a rebound? Before Wednesday’s Fed announcement both stocks and bonds were rallying, a rare occurrence since the equity bottom in March of this year. This divergence didn’t last long and shortly after the Fed statement stocks began a sharp decline again showing bond traders are usually the ones to follow for clues as to the direction of most markets.

One of the keys to being a successful investor is to analyze a potential investment before entering with a defined stop loss and even more important an understanding of why the person on the other side of your transaction is going to be wrong. Always ask what do I see or expect that the seller does not or is missing. Long-term interest rates have two components – a real rate of return (generally expected growth rate for the economy and risk of not being paid back at the end of the term) and an inflation expectation based upon the future. These are not random rates and can easily be tracked by many free sources (Bloomberg, etc.). The 10-year Treasury is trading today at 3.38% with the real rate at 1.60% and the inflation component at 1.78%. One of the best ways to analyze a potential investment is to begin asking why and if inflation is about to rise why is the expected rate of inflation over the next 10 years only 1.78%? The high for this year was reached on June 10 at 2.09% BEFORE everyone began to tell us the recession had ended and inflation would rise. This rate has remained between 1.62% and 2.02% for the last 7 weeks and yet everyone continues to predict higher inflation. Are these so called “experts” acting on their predictions with real $$$? Whoever is betting on a continuation of deflation has been quietly adding to their positions without the need to go on television, radio, blogs and newspapers.

Why should long-term rates move lower? Demand for credit from banks continues to decline and banks have used 96% of the increase in the monetary base and sent these dollars back to the Fed for safekeeping. Seasonally the last three months of the year have seen (75% of the time) rates move lower. Sentiment is completely one sided with most of the public believing Treasuries are the worst investment for the next year and beyond. With no demand for securitized debt much of the funds that went into that area are now being funneled into Treasuries. The Fed’s continued purchases of mortgage securities will help keep Treasury rates lower as dealers hedge short mortgage positions with long Treasury positions. Markets often give us what is not expected and is anyone really expecting long-term rates to go lower?

The BIG question for individuals is: Can you make a bet on something that no one else agrees with or do you need to have the company of others to make you feel better about the investment? Billions were lost in the stock market decline of 2008 and early 2009 because of two simple facts: 1) Investors don’t use stop losses and 2) Investors would rather lose in the company of others than win alone.

When you are ready to change a world of profits is waiting…..

Last Call

Last call for my webinar presentation on Tuesday, September 22 at 6pm (PST). I will spend two hours discussing the current state of the economy and why I believe long-term interest rates will decline before the end of the year and the implications for the mortgage and real estate markets in the next 12 months. I will also review a rare “back up the truck” investment idea suitable for both small and large investors. All participants will receive a webinar CD of the entire event with all accompanying materials. Registration in advance is required.  

The next edition of my newsletter will be published after the FOMC meeting on Wednesday, September 23rd.

Gold Up – Interest Rates Down – How Long Can That Continue?

On Tuesday, September 15th I will be teaching a class on the current state of the economy, interest rates, real estate and gold. The three hour class will begin at 6pm and be held in Century City. I will be presenting one of my “back up the truck” investment recommendations that can be entered by both small and large investors. I will also discuss my updated views on the upcoming decline in long term interest rates. Seating is limited and advance registration is required.

For those unable to attend the live class I will be presenting a webinar on Tuesday, September 22nd from 6-8pm. Download the registration form here.

On August 3rd daily subscribers were alerted that a move in gold to $1000 would begin in early September. On Wednesday, September 9th daily subscribers were told that long-term Treasury rates (10-year) would move lower at 10am Thursday and they have declined from 3.45% to 3.30% in the past 24 hours. Is there any other newsletter that has hit as many home runs this year?

Gold and a lack of inflation

Gold’s recent rise has confused many of the “experts” who see the yellow metal as a hedge against inflation. Because we only see the future from our own past experiences many vividly remember the late 1970’s and early 1980’s when gold did rise simultaneously with inflation. Unfortunately history does often repeat but not usually when it is expected and gold’s move to $1000 is more about currency depreciation and uncertainty than future inflation expectations. If gold was only rallying in dollars it would be a sign of inflation in the U.S. but increases in gold versus the Chinese Yuan, Euro, British pound and almost every major currency clearly translate into something much more than inflation. With most countries desperate to quickly stimulate their economies the easiest way has always been through currency depreciation. If you have goods and services that other countries desire a cheaper currency is a relatively painless way to make sure that your prices are the lowest in the world. Currency pricing is often just a simple matter of supply and demand and if a country’s central bank wishes to push down the value of its currency it can print more until supply overwhelms demand. This is an oversimplification but it’s important to note that every currency trades in a pairing to another currency (yen/dollar, euro/yen, ruble/pound, etc.) so every country can’t depreciate at the same time. Theoretically excess creation of a currency will create new inflation but with capacity utilization so far below norm and the velocity of money declining, the chances of an immediate increase in inflation are slim. The best store of value for worldwide investors is gold which holds its purchasing power in both inflation and deflationary environments. Gold is moving higher because investors see all the world central banks rushing to devalue their currencies at the same time and they don’t know which country will arrive at the finish line first (an economic rebound without inflation). Gold has stopped at the “key” $1000 level but should continue its advance soon and arrive at $1300 in 2010. The best play may come versus the Japanese Yen as the country is heavily dependent on exports and has very little natural resources which should put pressure on the currency over the next 12 months.  I will discuss this trade and give entry and exit parameters at next week’s class (9/15) and the webinar (9/22).

Long-Term Rates Move Against the Consensus

Long-term interest rates are headed lower even though everyone is worried about future inflation coming from the high rate of growth in the money supply this year. There is also fear about how the Fed will exit from its quantitative easing policy and the consensus is almost unanimous that rates will be higher in the next 12 months. We only to have to look back to the last six months where it was obvious the economy would not recover quickly from the recession BUT the stock market climbed 50% despite a consistent wall of worry from analysts. Long-term interest rates have entered the most favorable time of the year for a significant decline as history has shown that 75% of the time rates fall in the last quarter of each year. Long-term interest rates are a function of inflationary expectations which are currently low and normal demand and supply of lendable funds. Individuals are hesitant to borrow because of legitimate fears that asset prices have not yet hit bottom. Banks are willing to lend at only very low loan to value percentages out of fear they will require more collateral if asset values continue to decrease and only government guarantees make them more aggressive with rates and terms. Demand for funds is almost non-existent and combined with excess capacity utilization which is keeping wages down there is only one way for rates to move (and surprise the majority) and that is LOWER!

I will spend a great deal of time discussing the direction of interest rates, gold, the economy and other markets at Tuesday’s class. I look forward to seeing you there.

Gold soars towards $1000 despite a lack of inflation

On Tuesday, September 15th I will be teaching a class on the current state of the economy, interest rates, real estate and gold. The three hour class will begin at 6pm and be held in Century City. I have been bullish on gold all year and the next four months should present an excellent opportunity to take advantage of a move over $1000. Long-term interest rates have entered their most favorable seasonal time of the year and could easily move to new lows. Seating is limited and advance registration is required.

For those unable to attend the live class I will be presenting a webinar on Tuesday, September 22nd from 6-8pm. Download the registration form here.

Despite the lack of inflation the price of gold rose $24 per ounce this morning and now resides only $20 from the ‘magic” resistance level of $1000. It has always been assumed that gold was the best hedge against future inflation but its 2009 rise has come despite declining price levels in the U.S. and many other countries. Could gold be rising because it has become a hedge against uncertainty about the future? And could that future be DEFLATION? Gold is also a great hedge against future dollar depreciation which might be the only way the U.S. can climb out of the deep hole created by the massive amount of debt that needs to be reduced before banks will be comfortable in lending again. It is likely that gold buyers are looking past the 3rd and 4th quarter bounce in the U.S. economy created by massive government stimulus and cash for clunkers program. Without massive federal government intervention the economy will continue to muddle through for the next four years as credit availability is near zero except for companies that are able to go into the marketplace and borrow (with implied government guarantees). Investors continue to be afraid of missing the next big move up in the stock market, real estate and commodities sure that the future will be a repeat of the past where every price decline was quickly followed by a swift advance back to previous levels. Markets have a way of disappointing the majority and frustrating everyone else. The one event that few are expecting is a slow, grind lower in the economy with periods of strength that don’t last long enough to make any serious profits. Friday’s jobs report will again show more losses and yet everyone will celebrate because the number is declining at a slower rate than six months ago. Population growth of between 125-150,000 per month gives us a break even level that we haven’t seen since the 215,000 increase in November 2007. There were only five months in 2007 that saw job growth that exceeded monthly population growth and there is no reason to believe we will return to those levels for at least the next 3-4 years. Jobs create income that is needed by consumers to spend on goods and services BUT those who have a job today want to pay down debt and save before considering non-discretionary expenditures. Confidence is something that takes years to build and can NOT be created because of a 5 month rally in U.S. stock prices. Lower long-term interest rates will help this process and the Fed will not have to worry about exiting from its current strategy for a long time because of a huge output gap in the economy. Those investors that have remained in cash this year are now able to take advantage of a few outstanding “back up the truck” opportunities that await in the final four months of this year.

Five nights a week at 10pm (Sunday-Thursday) I publish my thoughts on the economy, interest rates and market action. The following are a few of the highlights sent to subscribers in the past week. For subscription details please visit: http://www.earlywarningwire.com/pdf/nightlyemailflyer.pdf

9/01 – The Federal Reserve made a very subtle but important change on Tuesday regarding the mortgage securities it has been buying this year. Effective September 1 the Fed will be purchasing “on the run” securities that have just been issued and available in greater size. Before today’s change the purchases were limited to “off the run” securities that wouldn’t have the impact on interest rates. This change should have a bigger impact on mortgage rates after Fed purchases because on the run bond rates are used to set each day’s mortgage rates. http://www.newyorkfed.org/markets/gses_faq.html
If you are in the mortgage business you will want to read today’s release from the New York Fed.

8/31 – Monday’s Chicago Tribune reported on a DePaul University study of apartment building vacancy and rental rates. Vacancy apartment rates are normally 5% in Chicago but have doubled to 10% with tremendous pressure on rents. This story will be repeated in many major US cities this fall and winter due to a decrease in income levels and an increase in the supply of units on the market. http://www.chicagotribune.com/classified/realestate/chi-mon-rents-0831aug31,0,2346860.story

8/30 – Deflation is having a negative effect on California income taxes with higher tax brackets for lower income levels. Since 1982 California tax brackets have been indexed to inflation thus protecting taxpayers from paying more taxes because of inflation. Unfortunately declining price levels (deflation) have the opposite effect and the California CPI fell 1.5% in the 12 months ending June 2009. http://www.sacbee.com/topstories/story/2144898.html

8/27 – My theme has always been that we only see the future from our own past experiences and that we see the world as we NEED to not as it is. Homebuilders have always made money buying the first dip in land and real estate prices and like many real estate agents always see the real estate market from an optimistic viewpoint because that is how they make their living. A Bloomberg story reports that many homebuilders are back in the market buying land as they anticipate a rebound in the economy. The best quote from the article tells it all: “They have to keep building or they’ll die.” This is very similar to what I heard in 2008 from portfolio managers who were long and wrong all the way down in the stock market decline. They felt if they went to cash investors would pull their assets from them and they were better off being in the market with clients than out of the market without clients. A good portion of the recent stock advance has come from portfolio man agers that were afraid if they missed the advance they would lose clients. http://www.bloomberg.com/apps/news?pid=20670001&sid=aqTrfIx0BOgs

I look forward to seeing many readers at the Tuesday, September 15th class at 6pm.