S&P made the right declaration: AA+. Moody’s and Fitch showed relative weakness. The downgrade of US Treasurys makes complete sense given that US debt loads will easily surpass 100% of GDP within a decade. The US Treasury accuses S&P of negligence for not using their $20T vs $22T figures. I’ve heard stronger arguments from 8th grade debate teams. [Been there. Done that.]
Here I am, Joe investor, watching the markets whipsaw like mad. I braced for impact in my oh-so-slow way and mitigated perhaps 10% of the damage, but my investments have been generally damaged too.
Maximum caution lies not on either side of the coin, but on the edges. 100% “safe” investments are not safe in the same way that 100% aggressive investments are not safe. Safety should be measured in terms of the following risk factors 1) situational 2) statistical (non-monetary) 3) inflationary (monetary).
In the midst of worldwide and US market turmoil there has been similar chaos in the fledgling currency called bitcoin. It is so “new” that my spell checker suggests “bitchiness” or “bit coin” as alternatives. Meanwhile I’m thinking of a very small exposure to bitcoin as an alternative to precious metals or commodities.
I should disclose that I have I have an emotional connection to bitcoin. Bitcoin has aspects of finance, technology, and financial engineering that are intriguing to me. So please consider this factor as I continue to write.
Bitcoin is all that fiat money is not… Bitcoin is finite! The number one rule I am painfully learning about ANY fiat currency is that it is potentially infinite. (Unbounded, if you will.) The fiat currency “presses” are only bounded by the constitution and discipline of the political systems that underlie them. And these very systems have show over historically documented periods to be ultimately undisciplined. Simply put: lack of monetary discipline leads to economic calamity leads to runaway inflation.
That is one factor that is engineered against in the bitcoin ecosystem. The bitcoin “printing presses” are inherently limited to 21,000,000 bitcoins. Further some bitcoins will be forever lost into the digital black hole.
I am not here to say that there are not flaws with bitcoin (BTC). Just that very few have been discovered yet, and those are very minor so far. I am saying that bitcoin also has unprecedented advantages: 1) digital portability, 2) relative anonymity, 3) potentially fee-less transfer, 4) agent-less security, 5) inflation-resistance. I love all of these factors, especially resistance to inflation.
I am here to say that the business cycle is real. There are booms and busts. And there is government meddling with the business cycle that, in the long run, only magnifies booms and busts. And that bitcoin is one possible antidote. That said, I am sticking with stocks, bonds, ETFs, etc in a not-so-contrarian manner. I just happen to be mining a few bitcoins on the side. Not familar with bitcoin mining? Google it!
Take for instance the recent run up in stocks, up ~20% in the last year, and up a total of ~40% in the last two years. This stock run up in the financial economy is in spite of the dismal real economy which was (still is?) in the midst of the Great Recession. The classic explanation for this jump in stock prices is anticipation of strong economic growth that many were guessing was just around the next fiscal quarter or two.
But continued lackluster economic growth, high unemployment, and inflation fears have the stock markets retreating 4% in the last month. QE and QE2 have driven commodity, gold, silver, and oil prices up (and the dollar down to a degree). Low interest rates have also helped fuel the commodity boom. I don’t say commodity bubble, I say boom, because I don’t believe it is a bubble… merely a precursor to higher inflation.
Further the prospects of Congressional legislation past and present loom as large economy and business-dampening prospects.
- Dodd-Frank Act regulating all sorts of financial and non-financial items.
- Obama Care.
- The real possibility of tax increases as part of debt ceiling deal.
The danger of Dodd-Frank, which deals primarily with the financial economy, is that it may spill over into the real economy as well — a form of fiscal contagion. Obama Care hits right in the solar plexus of the real economy soon. Potential tax increases are a kidney shot to the real economy.
Also on the horizon is the debt crisis in Europe, currently centered around Greece, but with dominoes in Portugal, Spain, Italy and Ireland ready to fall.
So, why on earth would I be neutral to mildly bearish (long term) on US equities? The title “Wired on High Finance” sums it up.
- Wired, as is in connected, by wire, cable, fiber optics, or wireless. The continuing computational and connectivity revolution is only accelerating. This helps business productivity, which helps business (the real economy) and inevitably the financial economy (the stock market).
- High Finance. High finance in the US eventually finds a way. Take for instance GE which managed to pay zero income tax last year. Big money always finds a way. Call it industriousness, creativity, or greed… it gets things done.
Without all of the governmental fiscal and regulatory “headwinds” (as Bernanke has called them), my outlook would be bullish. Despite them, I believe that the power of a wired world of high finance will find ways to resist the government onslaught. Either through back-room deals (the new and no-so-new crony capitalism) or the ballot box (voters tired of 9% unemployment), these “headwinds” will be reduced, skirted, or avoided.
And while CPI stands for Consumer Price Index, most commonly, it also stands for Cycles Per Instruction — one measure of computer processing speed. So while the mainstream CPI may understate prices, the other CPI is very favorable to computation power. (In both cases keeping true CPI down is desirable.)
Notice I am neutral to mildly bullish on the US (and global) economy. That is why I, personally, am increasingly invested in investments that reflect that believe — namely covered-call market-index strategies. That is why I have switches some of my ETF investments from SPY (an S&P500 index EFT) to PBP (an S&P500 covered-call ETF). Inflation fears and low interest rates have continued to cause me to shy away from most bonds and bond fund… with the exception of high-yield (junk) bonds.
Disclaimer: These are my personal investing thoughts, opinions, and choices as of today. No one can reliably predict the markets (stock, bond, futures, options) or interest rates, certainly not me.
40 years old is still several years off for me, but I it is very likely I will be a millionaire by the time I reach 40. In fact, if you count my contributions to Social Security (including my employer’s half), the current value invested in my personal “Social Security Trust Fund” puts me there already. But I’m certainly not counting on Social Security.
So, I’ll be rich right? Wrong! First there’s inflation. Many economists say US inflation has been about 4% per year over the last century. There’s a handy rule of 72 that says, for example, 72/4 = 18. That means 4% inflation means that a million dollars today is only worth $500,000 in 18 years and $250,000 in 36 years.
Second, there’s taxes. Over $300,000 of my holdings are in tax-deferred accounts such as 401k accounts and IRA accounts. Sure this money is part of my net worth, but when it comes out at retirement I’ll likely be paying something like 30% tax on it. That’s about $90,000 to Uncle Sam. Poof! Gone!
Back to inflation. Inflation works like a stealth tax. According to government CPI figures, US inflation increased just 1.5% in 2010. That simply doesn’t jive with my experience. My HOA fees increased 7%, my electric and water bill increased 8%. Car insurance, home insurance, satellite TV, health-insurance premiums, internet, rooms at my favorite hotel, and meals at my favorite restaurant went up, by 4-10% last year. Even the local sales tax increased almost 1%, making everything that much more expensive on top of everything else. In Balhiser World 2010 inflation was about 4-5%, rather than the 1.5% according to the CPI. Thus I have some new ideas about what CPI stands for…
- Cagey Price Index (Price? What price? Prices are relative.)
- Calming Price Index (Nothing to see here. Relax. Inflation is under control.)
- Clairvoyant Price Index (Far away someone is substituting chuck steak for Filet Mignon. Meat is meat. And prices are low.)
- Creative Price Index (2+2=3 for sufficiently small values of 2)
- Cowardly Price Index (Please don’t be mad, prices aren’t that bad… see?)
Of course CPI officially stands for Consumer Price Index. Let just say that for the next 72 years the official CPI is 4%, but actually inflation is 5%. That handy rule of 72 says that at 4%, one million dollars today will be worth $62,500 of buying power. At 5% buying power is cut in half to $31, 250. Of a long enough time a 1 percent difference in inflation is a big deal.
So what? Well, the CPI is used for a lot of things such as government cost of living adjustments, tax bracket adjustments, Social Security benefit increases, and money paid on Treasury Inflation-Protected Securities, to name a few.
It’s bed time so I’ll cut to the chase.
- One million dollars is not what it used to be, and is certain to be worth much less in the future.
- To try to remain solvent (and avoid unpopular austerity measures) the US Government has a powerful incentive to under-report inflation.
- Many investors and economists are beginning to believe that the CPI significantly under-reports inflation. Examples: “CPI Controversy”, “Bill Gross says so”, “Forbes, pastries, and gold say so too”.
I’ve been rather unmotivated to update this financial blog lately. The reason? Taxes! I generally like to keep the tone of this blog upbeat, and when taxes are on my mind my tone tends to be closer to beat up. Speaking of… my tax payment checks are going in the mail today. My property tax checks will be going out next month.
However, baseball season is now underway, and that is good. And my softball league will start up next month… one of the highlights of summer for me. I wonder how much complicated MLB player’s taxes are and how many states they have to file in? Also US military personnel. If I made the rules, US soldiers would not have to pay single cent of tax on their wages while in combat tours.
Whoops, I’ve done it again! Thinking about taxes and spoiling the prospect of a good mood. So on to the topic of gold. I can’t seem to go anywhere with out seeing or hearing either “We buy Gold!” or buy physical gold from us because someone thinks gold will go to $2000 per (troy) ounce.
If I had some gold trinkets or coins sitting a drawer somewhere — gold items that didn’t have any sentimental value to me — I’d get some local cash quotes, pick the highest, and sell. But as for buying gold… nah… I’d rather buy index funds or black gold, in the form of ETFs XLE and/or VDE. In fact I currently own XLE, VDE, SPY, VTI, SCHB to name a few.
Well, I’ve got to cut off this financial/baseball/gold/taxes blog post early, as I’ve got to run the dog to advance canine training class. Best investing wishes, and may taxes not bite too deeply this year.