Thursday, January 29, 2009

Uncle Buck

As in the U.S. Greenback. I think she's got one more push up to go before rolling over into a longer-term downward correction. To the charts:

The value of the U.S. currency is very important to investors who denominate gains in that currency. If dollars are stronger, it takes few of them to buy companies/stocks/bonds/commodities because the measuring stick of how their value is measured has changed. This is why fiat currency systems can be so tricky. This is also why inflation is so insidious.

Bottom line: currency up usually = asset prices down. This general premise doesn't always work, as stock markets can rise along with the currency, just like sometimes gold rises on days when the US dollar also does. However, this premise usually applies and having the dollar take one more run up for a week or so fits in well with my investment thesis that stocks, commodities and gold have one more brief correction to go before the spring rally.

The spring rally will gain legs precisely because the value of the U.S. Dollar will decline during the rally. If the currency is declining in value, the nominal U.S. price of the stock market will rise automatically in most cases. This is why the Dow to gold ratio is important and told us we were deep into the secular bear market well before the 2007 nominal top was in. The chart below plots the Dow Jones (red and black candles on the chart) with an overlying plot of the Dow divided by the gold price (black thin line on chart) over the past 15 years. This picture is worth more than 1,000 words (and well over $1,000 if you're an investor who gets most financial info from Cramer!):

Anyone who thinks gold isn't a currency and real money needs to explain why gold is only down 10% from its all time nominal highs while other commodities have been crushed by 40-70%. The bottom line is that when you use a measuring stick that reflects non-debaseable true money, we have been in a bear market for 10 years. People always look at me with a jaundiced eye when I show them the above chart.

Want more conventional proof? How about the Dow priced in Euros aka investing in America from a European perspective:

When a currency is devalued, nominal prices rise. In hyperinflation, as in Zimbabwe, the price of a loaf of bread might be a billion or even a trillion dollars and stocks might rise 1,000% in a year when denominated in the local currency. I'm not saying we're Zimbabwe, I'm simply saying that currency debasement produced an illusory nominal new high in the Dow that was artificial.

By the way, I do believe deflation will last for a while and after the spring rally up in stocks and commodities and the dollar correction down, I believe the U.S. Dollar will get stronger again and rise to even higher highs, confounding its critics. However, I believe gold will rise higher in nominal terms than the dollar and do even better than U.S. cash. Since cash is king and debt is death in a deflation, why be invested in anything besides real, true, honest to goodness debt-free money?

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