THE ONLY THING WORSE THAN A BULL? AN INFLATIONIST BEAR
A lot of investors and pundits have been and remained bearish throughout the course of the last few years. Within this bear camp there have been two distinct groups - the deflationists and the inflationists. The market action in the last few weeks has shown one of these two groups to be only marginally better than a full blown permabull. Since the recent downturn began on April 26th an inflationist portfolio has actually performed worse than a standard 60/40 stock/bond portfolio.
Obviously, there is no standard inflation or deflation portfolio, but the general claims from the inflationists have been that the next big downturn would be the result of a crushing debt burden from a U.S. government that has spent too much and printed more money than the economy can bear. This would all result in the demise of the dollar, spiking interest rates, soaring gold prices, soaring hard assets and soaring commodities. Since the recent downturn began on April 26th a simple inflation portfolio that was evenly short trade weighted US Dollars, short US Treasuries, long gold, long commodities (GS Commodity Index), and long oil has returned -9.29%. An aggressive gold bug portfolio (50% gold) has done better though still performed poorly over the last few weeks with a -3.75% total return. A lazy stock/bond portfolio has actually outperformed BOTH portfolios with a -3.6% return. Meanwhile, a portfolio positioned for deflation has returned +6.75% over the last month. Even the ultimate deflationary portfolio (100% cash) has outperformed.
Now, clearly I’m cherry picking the assets to some extent to prove a point, but it’s a very important one in my opinion – if you’ve missed the analysis you’ve missed the move in your portfolio. There are a lot of impostors out there who have been right in theory and wrong in practice. The overwhelming majority of bears have been expecting an inflationary period on the back of the out of control “printing” by the Fed. But just as in 2008, this inflationary strategy has been fantastically wrong. If you’re not familiar with monetary operations and the resulting impact on the economy then your analysis and portfolio performance has been entirely off the mark. The inability to connect the dots and understand the true underlying fundamentals in the economy has been a very destructive lesson in being bearish. In fact, you would practically have been better off just being a full blown bull….
the perma-inflationists are not referring to 2008; the timespan is generally much longer. this bull trend in gold started in 2000.
the fact that we have seen a stock market crash, rising unemployment, and a credit crunch — all of which should be deflationary — but have not seen a deflationary *spiral*, as prices have remained high for energy, food, and commodities in general, is worth noting.
the hardcore perma-inflationists are going back to 1971 at least. check a money supply chart from 1971 to now and you will see what i mean.
Commodity prices are 65% off their highs….And the timeframe is most pertinent. The last month is exactly how asset prices will perform if this “crisis” gets worse.
The price action should be screaming at you – this is not an inflationary environment….
Love the post, TPC — illustrates the huge gap between opinion and execution.
When most people look at investing with someone (especially in hedge fund world), they spend the vast majority time looking at and trying to understand the manager’s opinion (is he smart/bearish/bullish/do great research/etc). In reality, however, it is predominantly how the manager executes this opinion that determines success.
And your cherry picking the time
How about running these portfolios since 03/2009
But– it makes no difference
The important take away– tactics are important in the risk trade!
As I said above, you can’t fairly cherry pick a bull market or period of economic expansion because that doesn’t fit into the hyperinflationist argument. The whole hyperinflation argument is built around an economic collapse of the USA based on too much money printing….Therefore, these periods of turmoil are perfect barometers….2008 and the last 30 days are the only real fair comps.
I expect that we will eventually enter an extreme inflationary environment, but it could be a long time from now. A very very long time. Japan has been in a flat, deflationary, envirnment for 20 years, and the post-bubble US has a lot of similarities to Japan. Eventually we must enter a new cycle of rising LT rates, but all the debris from the bubble must be cleared away first. With 95% of all bank assets being based on mortgages, and increasing forclosures for years to come, we aren’t going to clear that debris for several years at least.
Agree with AWF. The strength of your blog/judgement is macro economic **tactical** trading. You have no long-term positions so making a case for/against others long term themes is not really pertinent. Of course, what you should really be starting is an “inflation/deflation expectation ratio” and then we can trade with you on that. But, first we would have to prove that the Street’s inflation/deflation analysts have been wrong and remain wrong for the last 30 years, but my guess is this is harder to prove since fixed income is a totally different world from the sell siders.
What does the deflationary portfolio consist of?
I think I have figured why the US govt bends over everytime Wall Street asks. WS has convinced the govt that the 30 year decline in interest rates has been caused by Wall Streets banks and the FED. They can control commodity prices and international credit flows. Therefore the govt can borrow twice as much with lower interest rates (think 3% vs 6%) with the same interest expense.
Now the govt is turning into a giant hedge fund. We only need to look at 2008 to see what happened to overleveraged hedge funds. Whats going to happen to the US govt when interest rates double with twice the debt?
What will happen? Quantitative Easing (QE).
lower asset prices does NOT = deflation! crisis will trump anything, especially in our short term environment. inflation or deflation is a monetary phenomenon. hasn’t our Fed been inflating the money supply? i believe we will have inflation and i have been up since mid april. your thesis for this post is weak, and your execution of the portfolio comparisons exemplifies this weakness.
Has the money in circulation actually increased? The inflationists keep saying this: “just you wait!!! it’s coming!!!”. And it keeps on not coming….
It’s all about the transmission mechanism…
Yes the FED increased money supply, but look how they did it. They didn’t give me and you a nice check, that we went and spent on shiny new things…putting the money into circulation. Instead they bought illiquid assets (from banks, investment firms, hedge funds, etc)…the banks didn’t lend out this money (which was one of Bernanke/Summers’ assumptions at hte time, as we can all see credit has contracted)and instead it’s just been ploughed back into the asset markets (and of course some bonuses for those working at the banks/investment managers/etc). Hence you have asset markets rising, and underlying economy showing far less zing. Liquidity can hide solvency/credit issues for a period, but you’d hope people had learned that it’s not permanent.
It’s a hilarious monetarist gaffe. Almost a form of trickle down whereby they expect the money to flow thru the banks into the real economy. They thought banks were reserve constrained. Nothing could be farther from the truth.
It makes me seriously wonder if Bernanke and Summers don’t understand the system or just have a flawed theory at work….
It is a feature, not a bug. Bernanke does NOT want high inflation, and neither does Obama. Inflation would increase the Treasury’s borrowing costs too much, and kill any stabilization in the real estate market by driving up interest rates. The Fed wants slow, controlled, deflation to let the air out slowly so that the economy and the banks can repair themselves over time. This is why the Fed pays interest on excess reserves for the first time in history. By paying interest, the Fed can limit how much money the banks actually lend out to the real economy.
Also, the Fed wants people to put money into risky assets like stocks. With ZIRP assuring there is no safe palce to put money that gets any kind of return, he is almost forcing the public to invest in the market. This is necessary to protect the insurance industry from going under. Since trillions of dollars in annuities and pensions are invested in common and preferred stock, the consequences of a sustained collapse in the equity markets are simply too dire to contemplate.
Inflation, Inflation, Inflation.
Is the money supply up or down?
It is down so let’s forget inflation for the immediate future.
http://research.stlouisfed.org/fred2/series/MULT
The banks are not using the money they received from the fed against there toxic assets. They are not lending it and its all siting as reserve.
http://research.stlouisfed.org/publications/mt/page6.pdf
The fed publicly said it plans to sell some assets so will this not take more money off the system?
I wonder if we are not witnessing the largest orchestrated transfer of wealth in history.
Who are they transferring the wealth to? I’ve heard OBAMA say this before but who is getting the wealth?
he is transfering some of it to the people that hang out on streetcorners, for their votes.
but way more to the banks that will finance his campaign.
Yes,
The Investment banks got the transferred money and the FED got the nonperforming Toxic mortgages.
That is part one of the transfer. Part two is when all that counterfeited money gets out and it will. Then the transfer will be completed. The public will get the funny money representing nothing = inflation and the bank will have been recapitalized at the expense of the general public.
Hi TPC,
So you are saying Marc Faber and John Paulson are wrong? Thanks.
JR
Yes, I think they are both wrong about hyperinflation….
absolutely right for now and the intermediate future,TPC.
no way ben’s going to stick the landing,however…….unless there isn’t one, AKA japan.
You’ve probably already seen this … straight from the horses mouth …
http://www.ritholtz.com/blog/2010/05/cynical-i-know-but-nothing-lost-in-translation-3/
Two words TPC: Natural Gas
Mark my words – my analysis is non-inclusive to our portfolio (ie. REAL chinese walls). BUT this has accumulation written all over it…
Hint: Legislation coming down the pipe – I know how it works and its really just a matter of time
BTW: I (semi) called the inflation monster wrong. However, I trade tech signal cohesion. Start accumulation now and meet me at the pot of gold.
Gas is a totally depress commodity.
It looks like gold in 2000.
It’s the only thing that is not recommended.
It’s depressing,haaaaaaa.
When it gets to $6.00 however the analyst as usual will start recommending it.
It’s now low but it’s not going away.
I say “Buy and be patient”
My name is not Jesus, I could be wrong but I have a hell of a good feeling.
Totally agreed.
What are some good Nat Gas stocks?
Well if you’re not scared of Contango, you could always go the equity ETF style: UNG
There are other ETFs as well, but again, this is a longer term play that could take some time so you may want to reconsider because Contango will really eat you up. But the price on UNG is right and you can get a size able position with minimal investment. However, even if I was going to go with UNG – I’d probably go with LEAP OTM Calls (Jan 2012 or later).
If you’re a little more versed in trading (and have access to the products), then the obvious play is 2012 or later Futures on NG. However, a single contract is huge (multiple the listed price by 1000, so 6.39 = $63,900!!) and futures get marked to market twice daily so if you’re using margin, the smallest dip could force you to either put up more capital or get executed out. The next option would be NG e-minis, which I believe are 1/10 the size (so 6.39 = $6390) and an example would be the NYMEX Henry Hub contract (symbol HH+month, so HHF1 would be Jan 2011…I think….they also have the actual month/year of expo listed for the contract). These are more manageable but the market is paper thin as these are generally traded for the front month contract. I don’t want to bog anyone down in the details (for example a contract is
Now don’t take this the wrong way, but if you’re asking for ways to get NG exposure, you almost certainly should NOT be trading futures, future minis or options on futures. In this case, I would suggest UNG or long dated options on UNG (2 years or more). Also, I wouldn’t EVER buy anything on the recommendation of someone on a blog and neither should you – regardless of what I or anyone else may suggest. Commodities trading is a WHOLE different monster and volatility is out of control. That being said, do some research on the Commodity as well as any specific ETFs and make an informed decision. Good luck!
Natural Gas.
Yessssssss………. That is the best investment if you have a company that is cash flow positive in this environment. I kind of like buying low.Remember oil at $12, 00 in the 90’s.
If you’re gunning to do an equities trade, I agree. However, the problem with investing in a sector or a basket ETF is that the commodity can do very well but the underlying companies can smoke themselves due to bad management…or perhaps a busted deep sea well-head… Even worse, imagine a horrible scenario where an entire storage facility blows up (for whatever reason). The company’s stock would get killed while at the same time, the drop in supply would cause a spike in the commodity. I’ve been in a similar situation on an oil trade years ago and its really frustrating to watch…
I believe in the fundamentals of Nat Gas. That being said, Chesapeake energy is one of those examples of why I would exercise great care in this trade. Long term, I love the commodity fundamentals but I don’t have an exact time horizon and companies like this can disappear simply as they get crushed on very high storage costs during this oversupply/low demand period.
TPC. I think that you are correct, Marc Faber and is depressing followers are looking at there euro portfolio and are having a panic attack.There next depression will be Gold.