Wednesday, October 29, 2008

Global trade collapse

The Baltic Dry Index tracks the price of shipping raw materials by sea. Because demand changes faster than the number of ships available to move cargo, it is used as a proxy for global demand for raw materials and is a leading economic indicator, meaning it can be looked to for its power to predict the health of the global economy over the coming months.

As a firm believer in the concept that price charts can tell better and more accurate stories than commentators can, let's take a look at a 6 year chart of the Baltic Dry Index chart:

This chart is saying that global commerce has come to a sudden, grinding halt. This is the real-world knock-on effect of the financial crisis. Everyone suspects everyone else is broke and no one wants to ship their goods to another country when they are concerned about whether or not they will get paid. Weaker countries are at risk of developing shortages of strategic goods and commodities if this keeps up.

How do central banks and politicians respond to such a crisis? By printing money and lowering interest rates to try to "grease" the wheels of commerce and get them turning again. This is why inflation will follow deflation like night follows day.

In a fiat currency world, you have to learn to jump from asset class to asset class or risk losing wealth due to currency depreciation. You can ill-afford significant losses when a 5% annual gain in paper wealth is needed just to keep up with inflation. When the stock market is in a nice, long-term secular bull market like in the period from 1982-2000, stocks will get you there and are the place to be. People who hold gold and gold mining stocks during these periods get KILLED.

When stocks enter a secular bull market correction (or secular bear market as its known to people who don't like bullshit and sugar coating on everything), such as the 1966-1982 period and the 2000-2008 period, people get KILLED by staying in general stocks with a "buy and hold forever" mentality. The current secular bear market won't end before 2015-2020, so there's plenty of time to get out of the general stock market and switch to what works. Gold and gold mining stocks are a good way to play this period and will perform just like regular stocks did from 1982-2000.

There are other proxies that can do well in these long bear market periods, such as cash when deflation is the primary problem or other commodities (e.g., oil, food) and commodity stocks when inflation is the primary problem. Because it can be confusing at times which force (deflation or inflation) will win out and tides can turn quickly (a la this summer when everyone thought oil was going to $200 and the dollar going to zero and now deflation is in full gear), gold and gold mining stocks are an easier way to play it than cash or general commodities.

By the way, when this secular bear market ends in a decade or so, I will be selling my gold and gold stocks and buying the S&P 500. I am not tied to any investment, I am a person looking to make money from my investments, whether it's real estate, stocks, bonds, oil, gold, or widgets. When an ounce of gold can just about buy the entire Dow Jones Industrial Average, I'll be looking to exit the gold trade and come back to CNBC to wallow in their ignorant financial cheerleading.

I think gold stocks have found a bottom, though they may have to re-test their lows to solidify a base to "launch" from. After that, it should be off to the races for a 50-100% gain in most gold stocks between this week and the end of May, 2009. Once spring comes, I'll be looking to exit gold stocks and go short the stock market again, though I will continue to accumulate physical gold as my safe cash equivalent that cannot be debased by the insidious actions of hopeless bureaucrats.

Wikinvest Wire