There is an old saying around Wall
Street: “So goes January, so goes the year.” Many traders believe
that if the stock market is up in January, then the stock market will finish
for the year in the black. Actually, there is some truth to the old saying.
Data collected on the S&P 500 over the 65 year period of 1940-2004 show
that the broad market closed higher for the year 69% of the time when stocks
were up in January. Well, that’s better than flipping a coin, but it is
hardly a basis for a successful trading strategy.
Fortunes are made by selecting the best
investment compared to others. We have seen, for example, in 2011, stocks
fared poorly compared to precious metals, investors in Treasurys
lost capital and real estate values continued to decline. Many investors
simply gave up and retreated to cash, which turned out to be a losing
proposition as inflation cut into purchasing power of every dollar stashed
But there seems to be a change in
sentiment in the air now. Despite massive debt, political gridlock, numbing
high unemployment and turmoil abroad, there are some faint signs of optimism.
The manufacturing indices have ticked up a bit, productivity has improved and
even wages have inched up a bit. Consumer confidence is improving, and
corporate profits may bring good news as the earnings season unfolds.
Even the Fed appears to be more
optimistic. Last week, the Fed signaled it would hold off on new bond buying
(QE3) for now, even though it trimmed its estimates for GDP growth for the
But not everyone is so sanguine about
Fed restraint. Most traders and some economists believe the Fed will step in
with another round of Quantitative Easing (QE3) in the first half of 2012.
This round would be huge, as much as $1 Trillion and targeted to support the
ailing housing market. Under QE3, the Fed would purchase Mortgage Backed
Securities (MBS), the derivative instruments that bundle thousands of home
mortgages into a single, collateralized package. Many MBS’s were
considered “toxic” assets because they contained subprime
mortgages that defaulted, making them very difficult to price in secondary
markets. When enough MBS’s failed to fetch a bid, mark-to-market rules
rendered them worthless, which destroyed many bank balance sheets and created
the financial meltdown of 2008.
The next FOMC meeting is scheduled for
this week, but there is little chance that the Chairman will announce the new
round of bond-buying. But listen for Bernanke to list the continuing woes of
the housing market, and its drain on the economy and growth. Housing will be
the new demon. And Ben will excise it with a Trillion dollar dose of his
favorite restorative quantitative elixir.
But the Fed has already injected $2.9
Trillion into the banking system through expanded credit. The unprecedented
credit expansion has failed to turn the ailing economy around. GDP is limping
along at 2% or less. Unemployment remains at record highs. Capital is on
strike, or out of the country. Adding another $1 Trillion to the Fed balance
sheet is not likely to make a positive difference. The technical reason is we
have been stuck in a liquidity trap, where no amount of additional easing is
Austrian economics gives the answer why.
Fed intervention created a bubble in the housing market by artificially
depressing interest rates. This encouraged malinvestment
in housing assets by homeowners and speculators. Federal social engineering
embodied in the Community Reinvestment Act, permitted unqualified applicants
to receive taxpayer guaranteed mortgages, many of which ultimately defaulted.
Government intervention in the markets is the cause, not the cure for our
More QE would be welcomed by the
Keynesians in Washington. More QE would pump up the stock market,
particularly bank stocks. Higher stock prices give the impression that the US
economy can’t be that bad, after all. But more QE means higher prices
in general. More QE debases the Dollar and reduces purchasing power. More QE
means more inflation.
More QE means there is more reason to
guard against inflation and artificially inflated assets. To the prudent
investor, more QE means buy more gold.
One indicator cuts through the
conflicting themes that affect the markets and the economy: the price of
gold. The gold price is telling us that we are not out of the woods yet, and
that there are many risks facing the US economic recovery. Gold continues to
move up in price. The gain in gold is telling us to expect more volatility in
the equity markets and to expect more pain from the European debt crisis, and
maybe a military showdown with Iran.
The bull market for gold has a long way
to go yet.
Investors from around the world benefit
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property, sound money and Austrian School economics.