What's an Investor to Do? Sit Tight - In Cash, Gold and Gold Stocks

By Richard Russell,           For The Gold Report June, 2004 www.theaureport.com

Let's start with a few quotes from Jeremy Grantham, Chairman of Boston-based Grantham, Mayo, Van Otterloo & Co. -- in a letter to clients (I'm using this quote, by the way, because I agree with it). "We face the broadest, overpricing of all assets yet recorded: global equities, global bonds -- and with few exceptions, global real estate. By far the most important single market, US equities, is particularly badly overpriced.

Could Mr. Granham be right? I believe he is.

A Bloomberg rundown of almost 18,000 long-term funds, shows an average year-over-year increase of just 0.6 percent. Stock funds showed a 1.7 percent gain and bond funds showed a 1.6 percent loss.

For the year, so far, most of the major stock averages have done little. But don't despair, we have asset inflation. Wait, you may not have it in your neck of the woods, but we sure have it here in San Diego, which also happens to be the least affordable market in the nation. In San Diego the median resale price for listed San Diego County homes in May 2004 was $448,000, an increase of 35.56 percent from a year ago. Every lousy little "shack" here in La Jolla sells for a million bucks or more. I've never in my life seen such sheer insanity in housing.

So what's a poor investor to do? You want my honest opinion? Cool it -- just sit tight. I've been saying this for a while and I'll say it again -- sit in cash with the insurance protection of gold and gold shares. Markets are all overpriced, stocks yield nothing, bonds are questionable, and housing in general is off in space-ville.

We're in the midst of a "balance sheet recession," meaning a period when the air is being slowly let out of the great bubble -- it's a period where corporations are moving towards liquidity and solvency again. And it's a period where the American public hasn't even started to move towards solvency, let alone actually saving.

You don't believe it? Here's a headline and a lead paragraph from today's Financial Times –

"Corporate Loan Demand Tumbles. A slump in corporate borrowing has depressed pricing of loans to an eight-year low and raised concerns that banks may be mispricing risk to secure and retain business." Even Alan Greenspan noted this phenomenon in a speech last week, when he stated that corporations are now paying off more in debt than they're paying out in loans.

My prediction is that America's consumers will be next. Greenspan obviously suspects that, and this is one reason why he has been so hesitant to raise rates. Greenspan wants to let the air out of the great US bubble as slowly and carefully as possible. His dream would be to see the US consumer slowly become solvent again and this happening without a stock market collapse or a recession. Can it be done? I think we'll know within the next year or so.

I include below three critical, tell-tale charts. But first let me explain something. The S&P 500 contains the stocks of the 500 biggest-cap corporations in the nation. At one time financial stocks comprised only 7 percent of the S&P. Ten years ago the financials comprises 12.8 percent of the S&P. Today financial stocks comprise a huge 20.4 percent of the S&P, and this doesn't include GE, GM, and Ford. These three run huge financial operations. If they were included, financial stocks would probably comprise a huge 30% of the S&P.

It's the financials (due to the low 1 percent Fed funds) that have been the big performers over the last few years. But now with interest rates probably heading higher, the financials may have "had it" on the upside. . . .

The stock brokerage business is very sensitive to forthcoming trends in the stock market. And the reason is obvious. The brokers live on volume, deals, transactions. When business is good, the brokers do well, as in bull markets. When business is lousy, when volume dries up and the deals are few and far between, as in bear markets, the brokers do poorly. . . .

Here's another area I want to talk about. There's no question but that we're seeing inflation in housing. US consumers have fallen in love with the whole idea of owning a home (with many owning two homes). And particularly on both coasts home prices have gone wild.
But over the weekend I went through a long list of commodities. And in item after item, from wheat to corn to soybeans to copper to the commodity indices I see prices backing DOWN. Even oil seems to have hit its high just above 40 and is now struggling. And yes, lumber, which recorded its high on May 7, has come down substantially and is now well below its 50-day moving average.

Now I'm not an Alan Greenspan fan, but the Greenman is no dummy. He must see what's happening, and my guess is that he'll even be reluctant to raise rates a quarter at the end of this month. But he'll do it, because the market is positioned for it, and Greenspan doesn't like to "double-cross" the market. Besides, if Greenie doesn't raise Fed funds a quarter, the market will take that as a sign of weakness, a sign that the economy can't even "take" a quarter point rise.

So I've given you my view of the way events are shaping up here in mid-2004. And lot of questions remain -- at least they do for me. For instance --

Could Greenspan be losing the battle against deflation?

Are bonds really headed down as almost every analyst is warning?

Is the US dollar really headed into the cellar as literally every analyst is warning?

Is the upward correction in this primary bear market running out of stream?

Are US consumers "tapped out" and ready to cut back on their buying?

If there is one stock that could be the KEY to the US economic picture is it Wal-Mart?

Can the housing bubble continue to inflate? And what happens if it bursts? As an aside, the Australian housing bubble now appears to be bursting. . . .

(June 24, 2004)

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