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Where We Are


Today, the U.S. public is being duped by watching U.S. stocks make new highs and being told how great things are.

Given yesterday's historic high in the S&P 500, I though I'd take a moment to discuss "where we are", or at least where I believe we are.

People seem to be pretty excited about the new all-time high in the S&P500 yesterday.

But it's too bad that the "new high" wasn't even a new high for the year (or the month) when we denominate the SPX in a "hard currency" like the euro (see the chart below) instead of the collapsing U.S. peso... errrr... I mean "dollar".

Click here to enlarge.

When we denominate the S&P 500 in gold, which has been a "harder" currency than even the euro, the picture looks even worse.

The mob may be distracted by "New Highs!" headlines long enough to forget about the fact that they are still worse off than they were seven years ago, but the fact remains that anybody sitting in U.S. stocks is still down huge from the peak when it comes to purchasing power. And growing one's purchasing power is obviously the reason why one invests in anything at the end of the day.

During the days of the Roman Empire, Roman emperors that were in trouble economically (or on the battlefield) would often distract the mob with multiple weeks of gladiatorial games that were free for the public in the hopes that the mob would forget about the troubling reality of the moment.

Today, the U.S. public is similarly being duped by watching U.S. stocks make new highs and being told how great things are. Unfortunately, they're not great when one factors in inflation, and what appears to have been an economic miracle since the bursting of the bubble four years ago has in actuality just been a massive inflation. There are no magic bullets for a historic misallocation of capital. Inflation only masks it for a while.

Speaking of which, what exactly is the rate of inflation in the U.S.? Well, if we look at the pre-Clinton administration's formula for the CPI, for example, the headline rate of inflation is running at above 6%. If we use the CPI version that was in place back in 1980, headline inflation is running at over 10%. (Thanks to for that data).

Meanwhile, that inflation is showing no sign of abating either given that the dollar (a leading inflationary indicator) continues to make new lows on daily basis against just about every piece of confetti on the planet. I've discussed before why I don't believe the U.S. dollar index is that great of a proxy for the U.S. dollar (see here), but even this index has recently returned to its 2004 lows.

The trade-weighted dollar index, which is the one that truly matters in my view, has been making new multiyear lows every day this week and continues to fall further below its 200-month moving average for the first time since the 1970s (see the monthly chart below).

Now, I'm no technical expert, but with my crayons and ruler in hand, the weekly chart of the trade-weighted dollar index below sure appears to be sporting a giant "head and shoulders" top to me?

And what about the continued new highs in the equal-weighted CRB (CCI)?

Or the energy-heavy GSCI commodity index, which has now made a new all-time high as well today?

These are all obvious manifestations of an inflationary environment, and they're only getting worse.

Never mind the Gentle Ben and his merry men down at the Fed (which are being effectively forced to pretend there's "no inflation" due to the housing bust), but how long can stock bulls and bond bulls pretend that there is "no inflation" given all these troubling signs?

The bond bulls already seem to be in trouble given the recent crack in the secular downtrend of US bond yields, but stock bulls are still under the delusion that we're experiencing "Goldilocks", which we're not (see here).

For now, depreciating dollars are still chasing just about anything that isn't nailed down, except for the U.S. residential real estate and U.S. consumer credit markets, and I suspect that is going to also include U.S. stocks for a while longer, but those stocks that benefit from the continued rise in inflation (like the oil and gold shares) should outperform.

Stock bulls like to say that there is still a massive amount of "liquidity" sloshing around, and on this point I agree wholeheartedly. The difference between myself and most stock bulls is our perception of what "liquidity" is. Liquidity stemming from too many pieces of confetti looking for something to chase before the value of that confetti drops even more is not bullish for financial assets that are denominated in that particular piece of confetti. And in this case, the primary piece of confetti is the dollar.

Now, that liquidity mass is already avoiding certain asset classes in the U.S., like U.S. residential real estate and its credit markets. Next comes a liquidity preference away from the U.S. stock market, as more and more "liquidity" moves into "bad stuff" like gold and other hard assets (and yes, even residential real estate again eventually), but long before it gets back into residential real estate again, people should finally begin to see this "liquidity" for what it actually is: a massive inflation. And like all inflations, they are only seen for what they are long after the events that actually precipitated them and sowed the seeds of the inflation.

In this case, the inflationary wave began six years ago when Uncle Al began slashing interest rates and effectively monetized the biggest stock bubble in the history of the world. And that inflation continues to feed through to the real world today. We saw that inflation first occur in U.S. residential real estate prices, and we continue to see it today in the continued rise in commodity price inflation and the collapsing dollar. And the Fed can't (and won't) do a thing about it because of the housing bust's drag on the fragile US economy.

Stocks are still benefiting from this inflationary phenomenon too, thanks to the stronger global economy even though the U.S. economy remains weak, but eventually that won't be the case once inflation and long-term interest rates (which rise as a consequence of inflation) rise enough to compress equity valuations. Those who were around in the 1970s know what I am talking about. Unfortunately, where exactly "enough is" is unknowable until after we reach it.

What sort of asset performs the best in such a stagflationary environment historically?

Answer: "stores of value".

And the ultimate store of value throughout recorded history has been gold, or in 21st century terms, "GLD" (which, by the way, has inhaled about 21 tonnes of yellow metal over the last 6 trading days).

I think that about sums up "where we are."
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