October 23, 2013; Wise Investing Eliminates the Time Question

Weekly Commentary • Oct 24 2013
October 23, 2013; Wise Investing Eliminates the Time Question
David McAlvany Posted on October 24, 2013

­The McAlvany Weekly Commentary
with David McAlvany and Kevin Orrick

Kevin: David, you made a prediction. You said, very accurately, that when India shut down their importing of gold a few months ago, that it really wasn’t going to have much of an effect. We just got the Pakistani numbers, which neighbors India, and they’re not happy with each other, of course. They’re political enemies. But isn’t it strange that Pakistani gold demand skyrocketed, just as India was shutting down the imports of gold?

David: That’s right, over 800%, and it is one of those things, it’s the nature of the market, if you are going to threaten someone’s financial wherewithal, if you’re going to inflate and inflate and inflate, and give them no means of protecting themselves, they will look at the laws and they will say, “We will do what we must do to survive.” And that’s exactly what we’ve seen in the Indian context. The rupee has continued to move down. It has stabilized somewhat now, but there are massive gold imports into Pakistan as a means to feed the Indian market.

Kevin: David, this brings up a really interesting question that a client brought up. In fact, I hear it more often than not, that if, indeed, physical gold demand is double, and in some places, even more than double, what it was last year, why do we continue to see gold down at these levels? Granted, we’ve seen gold come up some, but the paper market that is traded is 50-100 times larger than the physical market, and so the question really wasn’t why. To be honest with you, these people understand that it’s being manipulated. The real question involves time. When? When is this thing going to catch up with them? And I think that is what you want to talk about today, isn’t it? It’s timing.

David: The smile on my face is because time is the killer, and I think we need to understand why we have waited a couple of years to see continued progress in the metals market, and we’ll look at a couple of things. Before we discuss the metals market and the wait that has been involved the last 24 months, there are a couple of things related to the dollar which I think are pretty important, and they do, ultimately, relate to gold in a very relevant way, but we are now looking at the velocity of money, that is, the number of times that a dollar goes through the economy, as a deposit, and then as a loan.

Kevin: In a year.

David: Circulating through the economy, at the lowest level in six decades. The issue here goes back to our debt, in large part, because we have supersized debt, that burden is taking its toll. It was Irving Fisher, in the 1930s, who said that if you’re over-indebted, you’re going to have a hard time keeping up aggregate demand, that is, keeping growth in the economy.

Kevin: What we would call consumerism, here. Aggregate demand is just people buying things.

David: Yes, because it is taking more and more of your resources to pay down that debt, and to make that debt service, and it’s not going toward a productive end. And then secondly, in addition to aggregate demand, Fisher looked at velocity, velocity being in decline, as a result of too much debt. So, we have government holding the economy up via deficit spending, and that’s just Keynesian language, propping up aggregate demand, and at the same time, we have velocity in steady decline.

Kevin: I think of velocity, Dave, like an airplane prop. If the prop is not spinning, you’re not really being propelled forward. That prop is either spinning fast or it’s not spinning at all, and right now, you are saying a six-decade low on velocity?

David: That’s right. And velocity is one of those things that takes the liquidity that is in the system and multiplies it. So you will expect to see the liquidity created by the Fed and the Treasury, credit created by those two entities, increase in inflationary pressure in the U.S., and it hasn’t, to any great degree. Why? Velocity is, in large part, the factor which explains why you aren’t seeing inflation.

Kevin: And it’s the debt that is drawing that down, so the debt ceiling was really not the issue, it’s the debt, itself, the overall cumulative debt.

David: Right. The debt ceiling, and the debate there, that’s been the focus. But what is the real problem? It’s the debt, itself. You have politicians and policy-makers who have been artfully dodging, or redefining the issue, and they have to do that. It’s not likely that they are going to have the wherewithal to address the debt issue.

Kevin: Well, they’ve had to be nimble. It reminds me a little bit of Charles Dickens’ story with the Artful Dodger. He was nimble, and people didn’t know their pocket was picked until it was over.

David: Oliver Twist is a great story. You have the gang of child thieves, and well, let’s just say that any allusion to child thieves in Washington is mere coincidence.

Kevin: (laughter)

David: But yes, what they have done is reframe the debate and it has been their M.O., as our debt has grown. Just imagine a pack-horse struggling under the burden of more and more weight, and you just add one more brick, or bundle, to his back, and he is slowing down with every step, and eventually, he is unable to move because of the scale of the burden.

That is the economy slowing under the weight of this total stock of debt, and you are not seeing the turnover of money in the system. Even though they have increased the money in the system, you are not seeing an increase in the turnover, which is a critical variable toward explaining the rapid expansion of inflation, or in this case, a disinflationary environment. This is, I think, one of the critical variables. We can go from zero to 60 very quickly. We can go from zero, or a low level of inflation expectations, to very challenging, if not debilitating levels of inflation, with only one variable changing, an increase in velocity. And an increase in velocity is tied to investor psychology more than anything else.

What did we talk about last week? The primary issue of trust in the marketplace. When trust is broken, there is a relationship change between investors and asset classes, and they are either buying one asset class or dumping another one. And it is when you see the dumping of dollars that you have an increase in velocity of money. What is the reason? The point is, there really isn’t a reason. It’s a psychological shift and it can happen instantaneously, so low velocity at six-decade lows can go from these levels, to very high levels, overnight.

Kevin: And it seems that so much money has been printed, Dave, obviously, but it’s not getting into the system. So when you’re talking about velocity changing, it’s going to have to get to the hands of the average guy, a businessperson, a consumer, what have you. That’s not happened yet, and I wonder why. It seems like speculation has grown, for the few, the 1%, but other than that, we’re losing the middle class.

David: And it really is that the money that has been created is locked in the banking system. And it’s not just locked away and not doing things, it has emboldened speculation, as you say, by banks, by Wall Street firms, by leveraged speculators with access to very cheap money via the Fed, and so it’s not only velocity that’s at a six-decade low, but you have the money multiplier, which is, basically, M2 divided by the monetary base.

Kevin: In the past, you’ve mentioned that this is like water behind a dam. It’s a lot of money that is being created. It has not, necessarily, come into the system. In fact, it seems to be staying with just the few. What would create that water over the dam? What would create the velocity increase?

David: You are really talking about fixing the transmission mechanism, so the money is created and it’s sitting in the banking system, but it’s not being lent out toward productive purposes, small business loans and things of this nature. So, it is going toward more speculative ventures and we’ve covered that, I think, exhaustively, looking at the increase in margin debt. What you see is a tendency for Wall Street firms, and individual speculators, to increase their risk and their leverage, in this environment where the central bank is highly accommodative.

Kevin: Isn’t that what the Fed has errantly thought would create growth in the economy? They call it the growth effect, which is, as long as the stock market is rising, they are assuming people are going to go out an actually spend and consume.

David: Yes, the wealth effect. It is this idea that the government is buying assets, and in the process of inflating values, there are that many more dollars that people are willing to go out and spend because they just had their net worth increase, proportionately. So why not go out and spend? Unfortunately, we’re not finding that. Again, when you look at velocity, when you look at the money multiplier, you are not seeing economic activity result from their activities, asset purchases, low rates, etc.

Kevin: Let’s look at the official debt, though, Dave. I thought that they were telling us that we couldn’t break that 17 trillion debt level, and apparently, we had broken it a long time ago, because we had a single one-day expenditure of 300 billion dollars that shot us right above that level.

David: This is, again, why we called it kabuki theater, what Congress was doing in this whole issue of the debt ceiling, and how we just can’t go above 16.7 trillion. If you look at the dates, October 16th, the official debt was 16.7 trillion. October 17th, one day later, it was just over 17 trillion, for a one-day jump of over 300 billion. Again, it’s Congress pretending that the debt ceiling mattered, when Jack Lew had already arranged additional financing, in spite of the debt ceiling legalities, we’ve been over 17 trillion since May, and it’s why when you listen to a politician, you need to understand that when he opens his mouth, Republican or Democrat, he is lying. He is putting out for you what he needs you to think is the issue and in terms of logic, there is only so many things, whether it is red herrings, straw men, a variety of tools to obscure from what the real issues are.

Kevin: Speaking of theater, and kabuki theater, we don’t just have an audience of our own consumers here, or our own stock purchasers, we have an audience of the people who actually finance our debt right now. China is looking at this and they are saying, “You know what? Your stock market may love the fact that you just raised the debt ceiling, that you kicked the can down the road, that you are going to quantitatively ease, but we’re not so happy with that, and I think we need to look to, and turn to, Asia right now, and see what the effect is there, our other audience.

David: Yes, and this is, again, where, just to cap our first thought, there is massive amounts of debt in the system, and it is muting the effects of monetary policy, and I think objective observers from around the world are seeing the combination here, the combination of ineffective monetary policy, along with massive amounts of debt, and they are saying to themselves, “This is not good.” We don’t have clear-headed policy-makers, and we’ve had bad policies as it relates to debt, nonsustainable levels of debt. Now monetary policy, which isn’t doing anything to revive the economy, and potentially provide the means by which this debt could be paid off, which would be growth in the underlying economy at a nice clip. So, yes, you go to China, you go to Japan, you go to our foreign creditors, and they have to ask themselves the question: How is it that we plan on staying ahead of the debt curve?

I’m planning on going to Shanghai in a few weeks, and the Shanghai Gold Exchange is doing a two-day conference. This is their 8th annual, sort of the Who’s Who in the gold world, both East and West, China National Gold Corporation, I’ve bought gold from them before when I was in Beijing, but also the Shanghai Gold Exchange, etc. It would be very interesting to see what the commentary is.

Kevin: This is the exchange that has already delivered over 1,000 tons of gold this year. This is a major exchange.

David: And they are the folks that are defining the physical gold market. As you mentioned, the physical gold market is still a fraction of the size of the paper derivative gold market, the futures and options market, if you will. But the futures and options markets still have to reference the physical market in some way, shape or fashion, and Shanghai is, I think, sort of the leverage in this equation, ultimately making the physical market more important than the paper market, turning it around.

Kevin: We mentioned India, all the buying that’s going on there. Of course, China is even larger than India. Stephen Roach has been a guest of ours in the past. He is probably one of the foremost experts on Chinese economics as it applies to politics. We have this third plenum coming November 8th through the 14th in China. That seems to be a pretty critical moment as far as Chinese politics go.

David: Yes, the Chinese Party Congress that meets November 8th to the 14th, I’ll be there just after this, in Shanghai, not in Beijing, this is a very interesting meeting because traditionally, the third plan is when they roll out major reforms. This is when they announce you’ve got your established leadership in place, the new guys have been chosen, and now it is a question of vision casting. We’ve had the Five-Year Plan, we already have that, but that’s Communist Party-related, in terms of the Politburo, Here’s what we are doing.

Kevin: This is more economic, isn’t it?

David: And it’s related to the leader who has been chosen to lead the charge into the next five-year plan, there for the better part of a decade. What is likely to come out of this is a commitment to a reform in the economy, and shaping a new direction, which we’ve already talked about many times over the last year or two, but you are moving the growth variables in China toward consumption, and away from the old model of export mercantilism.

And of course, the transition is in play already, and it has required a heavy dose of state-directed spending, because the consumer is not ready to fill the shoes that they are intended to. And this Congress, again, November 8th to the 14th, should prove to the public that the new leadership has clarity of vision, and understands the specificity of tasks that will be required to bring about a transformation in the economy.

Kevin: And it’s a completely new model for both of us because the model that we have had is that we buy their stuff, we send them our money, they turn around and loan us back what we need to continue to borrow. But now, what you are saying is that it’s an internal consumption push. It’s like, “You know, let’s not depend on the United States.” What are the consequences to us if that’s the case?

David: This is, I think, where the gold price becomes a critical sign and symbol and indicator, like a barometer, of what is happening, the consequences of policy choices, not only in the United States, but globally. We have played our hands over the last several weeks, in terms of how we will handle our debt, not only now, but into the future, and we’ve showed the world how irresponsible we can be, in terms of not addressing the core issue, which is, how much debt we have, and continue to accrue, leaving a certain form of serfdom for future generations. We’ve shown total disregard for future generations, and I don’t think that is something that is lost on our foreign creditors.

But now you have, in China, again, policy decisions which will impact us directly. What are the consequences? Well, listen, if the tradable goods sector, that is, the export sector, is moving to a less favored status in China, and households are moving to the more favored status…

Kevin: Household consumption, right?

David: Yes, because you’ve had a 35% increase in their currency over the last 5-6 years, along with an increase in wages, so the households are becoming increasingly important. This is what happens, here’s the consequence. The purchase of treasuries, U.S. treasuries, which for over a decade has served to finance our deficits, that’s going to be impacted. What was in play, here, was a currency manipulation scheme. They bought our treasuries to suppress the value of their currency. They bought our treasuries so that we would continue to buy their stuff. And they bought our treasuries in order to keep their currency at a low level, giving their tradable goods, their export sector, an advantage on the world scene.

Kevin: And that amount of treasury buying has increased through the years to where our dependency is just profound at this point.

David: We started the decade, the year 2000, with them owning 60 billion dollars of our treasuries. Now it stands at over 1.2 trillion.

Kevin: That’s 20-fold, Dave. 1.2 trillion is 20 times 60 billion. That’s amazing!

David: And it’s been a convenient go-to for us, because the financing that we’ve needed each year has not been at a trillion-dollar pace. It’s only been at a trillion-dollar pace in the last 3,4,5 years, but over the last decade, we still have needed 100 billion here, 200 billion there, 300 billion there. We’ve been able to finance government operations with the treasury purchases from China. This is why I think this third plenum meeting is so important. This is when, at least they did this in 1978, I think in 1984, as well, major changes, major, major policy shifts, were outlined in this particular congress. So that commitment to reform and taking the economy in a new direction, we will get to see the clarity of this new leadership just put in this year, here in the next few weeks.

Kevin: But we do have a dependency right now on their ability to buy and hold U.S. treasuries. That seems to be shifting now.

David: Yes, and they’re likely to change their tune. In point of fact, we’ve seen liquidations, not just talking about China, but all of the world central bankers, from the beginning of the year through July, we’ve had about 132 billion dollars in net liquidations of U.S. treasuries.

Kevin: So they’re selling more than they’re buying. Yes, and Russia was the single largest seller, about 20% of all their treasuries were sold, roughly 30 billion dollars year to date. So Putin is not too keen on holding treasuries, which may explain why there is a little bit of love lost in the relationship between Mr. Obama, Jack Lew, and Mr. Putin, and Lew’s equivalents there in Russia.

But listen, we’re not worried about that at this point, because the pace, 132 billion, is a fraction of the outstanding treasuries in foreign hands. That still stands at about 5.59 trillion.

Kevin: David, it’s still a leak in the bucket, though. I understand, 132 billion, that may not sound like a lot, in relation to 5.59 trillion, but it’s a leak in the bucket, it’s the wrong direction. And the reason why we bring up China is because we have ongoing financing needs. That’s our paramount need. We assume that the 5.59 trillion that’s already out there is relatively stable. Maybe that’s not a safe assumption, but we operate with that assumption, nonetheless. The paramount need is what could be impacted dramatically by the Chinese, this marginal reduction in new treasury purchases, and if they back away at all, it is enough to push borrowing costs higher.

Kevin: Well, we’re forced to QE, already, 85 billion dollars a month, so whatever they’re not buying, we have to buy ourselves.

David: Which, circumstantially, reinforces why the end of QE is not feasible, when you’re losing one of your largest purchasers to a change in economic plan. So yes, currency management to gain a trade advantage, that’s fast becoming a thing of the past from the Chinese, and with it, the primary reason they bought treasuries. We have a problem.

Kevin: Right. What does that do to interest rates? That’s what I’m wondering about, because you have to offer somebody an attractive interest rate for them to come in and take any risk at all, and with us raising our debt ceiling, with us kicking the can down the road, I can’t imagine that they’re not seeing that as an increased risk of default.

David: And this is where the idea that the treasury market is the benchmark for risk-free rates, after the last month or so I think everyone around the world would say, “I think you have to cautiously, carefully, specifically, define what you mean by risk free.” We’ve already seen a risk premium in treasuries, and is that a growing trend, going from risk-free rates to rates which reflect the political will to address our debt issues? This is where interest rates are going to become more and more of a political grading system. They are in other parts of the world. We’ve just had, really, a free pass, as we’ve been defined as the risk-free benchmark, and that’s just not the case. We are not risk free. The Economist magazine commented this last week, it’s an asset, but it’s hardly risk free, if it guarantees a real loss.

Kevin: Then that puts the investor in a really tough position, Dave. What do they do? You have stocks, bonds, cash, and gold.

David: And as we’ve just explained, you’re not seeing immediate gratification in areas where you might expect to. We’ve talked about the velocity of money, the decline in not only the velocity of money, but the money multiplier, and the reality with those two issues is that we have headwinds to the price of gold today, which very easily can become tailwinds to the price of gold. There is this factor that we’re not in control of, and that is time. If you feel like you’ve spent the last 5-10 years, maybe longer, 20-30 years, with a steep learning curve for you for how the world works, what makes markets and investors tick, then you feel settled on your course of action. And we have, as we have mentioned often, settled on the simple division of liquid assets into three parts, our perspective triangle: Part offense, part defense, part neutral, with optionality. One-third insurance, one-third growth, one-third keep your powder dry – cash. The vast majority of our clients can’t stand the idea of cash, but still, it has a vital role to play. We have positioned for a variety of outcomes. You have inflationary consequences. These are the consequences of monetary intervention. It has been accumulating in the system for years.

Kevin: That’s that water behind the dam.

David: Yes, quickly moving to a head, and it is evidenced by the inability of the Fed to exit its asset purchase programs, but we are also concerned, and hedged, in this mix of assets, with the deflationary spiral, which can take down select asset classes. You have excessive debt, which at some point will be unwound, and improvident loans which will be unwound, or just discounted, if not defaulted on. We have the weight of our private and public debt, which has had a major impact on economic growth. We talk about this issue of debt, debt, debt, as if it’s the only thing on our minds. It’s not the only thing on our minds, it just happens to be that which is standing in between us and recovery.

Kevin: Like you said, it’s the weight that’s dragging the horse back. The horse can only pull so hard, and GDP is a measure of the growth of the economy, and it’s shrinking.

David: GDP, the total size of our economy, grew at an average of 3.7% through the late 1990s, and since 2000 it’s grown at a very different rate, 1.8% annual growth since the year 2000. Those are big differences, and the threshold we crossed in 2000 was the combined total of public and private debt getting above 260% debt-to-GDP. It’s those two issues combined that you just say, “We can’t grow our way out of this.” So if you can’t grow your way out of a debt burden, and we’ve already talked about inflating our way out of a debt burden and aggressive monetary policy, we do have this issue, this concern, of a deflationary spiral. Maybe you do end up with a default on loans. So there are those two possible outcomes.

Lastly, there is the outcome which, in the final analysis, is a pretty hopeful one, less apocalyptic, maybe more in keeping with the traditional principles of intergenerational wealth stewardship. When there is not that much that represents compelling value, don’t force the issue. Be patient. You may look at cash and say, “Well, it’s not doing anything for me.” It doesn’t have to. If value is not presenting itself, don’t force the issue, be patient. Activity for activity’s sake is not a good idea. If you are like me, patience is not a character trait I really enjoy.

Kevin: It’s really hard to not do something. You see these things and you think, “I need to readjust my portfolio,” and some people have their brokers calling them and readjusting all the time, or they turn financial TV on, but sometimes it does pay to just put the things in a position that you think, in the long-run, will pay off, and then wait.

David: So again, you’ve spent 5-10 years on a steep learning curve, you think you know what makes the markets work, what makes investors tick, and about the time you’ve settled on a reasonable sequence of events, a cause and effect scenario, which, both at an intuitive level, and an analytical level, you are comfortable with, then you still have that question that emerges: When?

Kevin: When? When, when when? Yes.

David: Yes, when does the bug hit the windshield? (laughter) When do banks have to reconcile bad loans and aggressive leverage unsupported by the economy? When do prices appreciate? How long until pigs fly? These are the issues. Time comes into the equation. When do fundamentals trump technical chart points? That’s what we’ve seen over the last couple of years. We have fundamental support in the gold market, and yet technically, it breaks down at this level, at this level, and at this level. When, seems to be the lingering question of the past several months. But frankly, it’s the question that needs to be factored out and set aside. Unfortunately, most people cannot do that.

Kevin: Right. And that’s the tough thing. David, you mentioned point and figure charts in the past. There are charts that actually factor out time. They only look at trend, and it’s an amazing thing to see, because you look at it and you say, “Gosh, this trend is far more obvious than the time charts would show.” Like gold. Over the last couple of years, it has been trending down, to say the least. But just recently, last week, we saw the trend break above the long-term two-year trending down, when you eliminate the time factor.

David: Right. Now, the point and figure charts in gold are pretty compelling. But it is this issue, time, for most of us, that defines every choice. There is this terminus, this end point, that we have in mind, and we expect the market’s movement, and proper planning, to be sufficient. And for some, this terminus, this point of arrival, is retirement, it may be a large purchase or an expenditure, and the when question introduces not just a point of curiosity into the investment equation…

Kevin: Well, it stresses you out.

David: Exactly.

Kevin: To have to try to figure out when, we don’t know when anything is going to happen. We’ve not been given the privilege of knowing the future.

David: So waiting is uncomfortable. Waiting means that the cosmos didn’t get the memo that we retired on May 3, 2011, or whatever the date, past tense or future tense. And it’s this issue, when is privileged information, which not even the privileged know, and you just can’t. So individuals should not plan as if the markets will deliver on their time frame. We can know the what and the how, we can know the whom, we can know how much. Those are questions that are really tied, to use the phrase loosely, to financial physics. What, how, whom – these are things that you can figure out. But the question of when is what feeds the options markets, and makes an option-writer rich while the purchaser of options plays the role of the statistical loser 96% of the time. The position for the option purchaser may, in fact, be the correct one, but time is unfriendly to the time-constrained. And that’s where if you can remove time from the equation, the trend, ultimately, is your friend. We don’t like options, we don’t like any investment that puts time against us. We want as much time as possible. And what’s interesting is that I think we are, in fact, moving through this period, and resolving this period of waiting, even as we speak.

Kevin: That’s one of the things I love about the perspective triangle, because you really are taking out time. You’re saying, “All right, I think over the course of history, it makes sense to have a third in gold, it makes sense to have a third in cash, it makes sense to have a third in growth types of assets,” and you can readjust that. But I was thinking about it the other day, Dave. In the investment field, and I’ll just use gold as an example, just about every ounce of gold that you or I have purchased, has been at the wrong price if you look at it in a short time frame. But in the long-run, it’s virtually all much higher than what we paid.

David: And what you mean is that from one day to the next, you could have bought it better by $2, $5, or $10. Last week maybe it was a better price. Tomorrow maybe it’s a better price. Again, timing is something that we’ve become fixated with, but I think this is when you can step back and say that it’s okay to be a little early, or a little late. It’s not imperative to have perfect timing. You know, what is imperative, is to have patience.

I think of some of the great investors of the last 20 years. They understood the bubble dynamics of the late 1990s. Knowing that there is nothing new under the sun, and that in history, even though there was this concept then of a new paradigm and a recast society, a new tomorrow, a certain view of progress, productivity, a new Utopian dream, driven by internet revolution, it was a revolution, for education, for commerce, for both. But you had people then who said, “Listen, I understand value, and I’m willing to get out. I’m willing to do something else now.”

The Dow-gold ratio was at 43-to-1 by the time we got to 2000. These were historically disjointed levels, where equities were too high, gold was too cheap, and maybe if you fast-forward to today, or tomorrow, it’s the biotechnology issue or re-engineering humanity. What would be the new paradigm of tomorrow which argues for perpetual growth and (laughter) man-made eternity, or certainly man-made eternal growth in the markets? Well, that sounds like the central bank project of the last 100 years, where every tomorrow is a better tomorrow, and there’s never a down day in the markets – at least Mondays.

Kevin: Solomon said that there’s nothing new under the sun, and so most of the time when something is going really well, people say, “Well, it’s not going to be like last time. This time it’s different.” I remember back in 1998-1999, during the tech stock boom like you were talking about, the bubble, Wired magazine had article after article about the new economy, where profits no longer matter. Stock prices are going to do what they do because the new millennium is here. We are going into an era where profits don’t make any difference. I even think about some of the people who say that history won’t ever repeat itself again, that we’ve got a new paradigm.

David: Well, we see that with revenues today, with Amazon, unbelievable growth in revenues, and yet profits must not matter, because they make not even a thin dime, and what do we care about selling lots of stuff to the world, and does it matter if we make money or not? Recall The End of History, that theme from the Rand Corporation’s Francis Fukuyama. He wrote a book in 1999 with that concept. This was supposed to be an epic. We had the success of democratic capitalism, you had the inevitable success of globalization. Everybody in the world was coming into a developed place, improved health, education. You had social structures and political structures which were very supportive to this sort of new era. And of course, you had the growth in the stock market which was just a sign and symbol of everything that was happening from a policy perspective.

Kevin: I’ll never forget the commercials that ran during the Superbowl, and, for a person who doesn’t even like football, they can watch the commercials. In the year 2000, in January of 2000, of course, Y2K didn’t occur, everybody was happy about that, the stock market was sailing to new highs, and the commercials were just a complete waste because they were all about this new economy. In fact, there was one, I remember, it was a yellow screen background, and they said, “We just wasted 2 million dollars on a 60-second commercial.” That was it. They had the money to do it. It was ridiculous. They were just throwing money away. But then March of 2000 came, Dave, and it wasn’t the end of history, it was just the repeat of history.

David: That’s right, a replay on what history shows us, in a very circular fashion. It was the dot.com bust, it was energy price manipulation, it was the busted trading of exotic commodities. Do you remember Enron? This was one of their favorite things. They got into trading bandwidth. That was the new commodity of the day.

Kevin: That’s right.

David: Leave it to a Harvard MBA, a McKinsey alum, Jeff Skilling, to redefine the world of trading, business practice (laughter), accounting, as if any of these types of shenanigans were new, or are new, we’ll have our own version of them. Here’s the point. You got out of the market in 1998 or 2000, you had a reason to be on the sideline, and the market didn’t even pay attention to you. You quit playing the momentum game, and to your chagrin, the stock market didn’t miss you, it just kept on going up in price. Prices moved higher, you had to sit there, and with great disappointment, I suppose, on the one hand, or a certain degree of patience. Just be right, and sit tight. That’s often quoted, but it’s rarely practiced, without a tremendous amount of gnashing of teeth. You did the right thing, but you weren’t immediately rewarded.

In fact, you could have argued that 1997-1998 things were already ridiculously overpriced, and the only thing that you had going for you was momentum. You could say, actually, today it’s quite the opposite. The gold market – it is a sane position to be outside the U.S. dollar, outside dollar-denominated assets, but when is the question investors want to know, and you can’t know.

Kevin: I remember those days, and that 2000 crash was an interesting lesson for all of us, because there were people who did get out in 1998-1999. They took their profits and maybe they put it into gold, maybe they put it into cash – there were plenty who didn’t – but they were using the triangle. The beauty of the triangle is that if you have a third in each side, let’s just use a hypothetical, and the stock market loses half of its value, okay, you’ve lost 17% of your portfolio. But what did gold do over that decade? It quadrupled after that. At one point it was quintuple what it was. So, it balances itself out. What you’re talking about is sitting tight and not trading.

David: Yes, and it not only paid off from an insurance policy perspective, but having a cash allocation gave you the ability, if you wanted to, to step in and buy assets at a cheap price. I would argue they weren’t cheap enough to be compelling, given the move that they’ve had, 150% off the low, you’d say, “Well, maybe you’re just a little too greedy. Why would you consider a 150% move off the lows insufficient?” And it is that we see cyclicality in earnings, we see cyclicality in profits, and we see cyclicality in the way that companies are priced in the open market. And we never saw rock-bottom pricing, as you would expect to see it. And I do think that lies ahead. I think that is probably 24-36 months out.

Kevin: David, we’ve been talking about longer-term timing, and not trading the markets, but what’s going on in gold right now is enticing. We are seeing the dollar coming down to cusp levels, break-point, possibly, levels. And we are also seeing gold reacting to that. We saw that just yesterday when they announced the employment numbers.

David: Trust is being broken. We talked about that extensively last week, and we are seeing a slow deterioration in the value of the dollar in the last 10-12 years, 35% off of its 2000-2001 peaks, and we are on a knife’s edge, in the low 79s, and if we break into the 78-77 range, on the dollar index, we are opening the door toward 72, potentially 52, on the dollar index. You are talking about an additional 30-40% devaluation of the dollar.

Kevin: So what does that look like for gold? If the dollar goes to 72, what does that translate to in gold price?

David: You’re well above your old highs of $1900, $1900-2400, I would suggest, if we get to the low 70s on the dollar index. And the question is, how long do we spend, if we spend any time at all, in those low 70s? Should we break the low 70s, that is defining the course toward $5,000 gold. 0.52 on the dollar index, in our book, equates to $5,000 gold.

I think that realignment taking place, the backdrop for abandonment of the dollar as the world monetary standard, the treasury market as the benchmark for risk-free rates, these gradual evolutionary processes are speeding up, and we will wake up tomorrow, next week, next year, with something that has changed that we weren’t in control of.

Is it the November 8th through 14th Chinese congressional meeting? Is it an ASEAN meeting where they agree to trade the yuan as their regional currency? Is it an arrangement where the IMF jumpstarts the old conversation about special drawing rights and a replacement of the U.S. dollar system with something that is more universally palatable?

There are things that are not only being discussed, but being pushed to the forefront right now, and will have major market impact, dollar-negative, gold-positive, over the next 12-24 months.

Kevin: So it’s not the when, Dave. We should stop asking when, and we should actually ask, where? Where are we going?

David: We know where we’re going. We know who the players are. We know the what. If you’re talking about the financial physics of the matter, we understand that. The only thing that you can’t really put into the equation – is it three months? Is it exactly 12? Will it be within that 24-month time frame? Or is it more time, or less time?

It will take an eternity, until it was yesterday. This is the nature of bankruptcy, and we are dealing with national bankruptcy here in the United States. It went slowly, then, all at once.

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