The McAlvany Weekly Commentary
with David McAlvany and Kevin Orrick
Kevin: David, it is good to have you back. You have been on the road to Dallas, you have gone to Chicago, and L.A. I know you love going to these conferences because you get a chance to have one-on-one time with our clients, people who have questions that they have been waiting to ask, and you can sit across the table, and have one-on-one meetings with them. I wish there was a way that we could duplicate that, and I know you are working toward that now.
David: Kevin, we had people traveling from many states, some of them flying in for the events, and many of them taking trains and driving hundreds, even thousands of miles, to be there. We are honored to have them there and to be able to interact with them personally. It’s fantastic. That is one of the most valuable times during the year for us – that one-on-one time with clients.
What we would say is that the conversations are incredibly intriguing. The questions are very intelligent, and we just wish that all of our clients had been there for these four events in the last several weeks. With that in mind, Wednesday night, this week, we are doing a conference call, which anyone and everyone is invited to. You can listen in. It is from 8:00 to 9:00 p.m., EST. We have details for you if you call our office at 800-525-9556. Anyone in the office can give you the details how to be registered for that conference call. We look forward to fielding your questions. We will have several minutes of commentary in front of it and then go right into your questions, live from the audience.
Kevin: I should say, David, it is a great chance to talk to you, but for those listeners who are listening to this after the conference call occurred, you will be doing this again, so they just need to stay tuned, and we do need to get their email addresses so that we can let them know when these things are happening.
David: It has become very important that as fast as the world is changing, we need to be able to communicate on an instantaneous basis, and theoretically, we can do that, but we have to have the means by which to do that, and that is, delivering it directly to you as quickly as possible. If we don’t have your email address, certainly get that to us and we will make sure that you are included in whatever communiqués that you would like. Certainly, you can filter what you want and what you don’t want from our organization.
Kevin: It has been a big week. Every year, one of the things that you have been committed to is producing a video or film that tries to encapsulate what is going on and what we see on the horizon. Just last Friday, the latest one, The Fuse Is Lit, came out. We have it available on the Internet. For a person who perhaps even participated in the conference call, or perhaps they listen to the weekly commentary, we would also like them to also be able to see this. It is a 22-minute segment, so it is easy to watch. Time-wise, it doesn’t take much of a commitment.
David: What we chose to do this year, instead of doing one 60-minute DVD, is to split it into these three segments so that we could, in a timely fashion, deal with particular issues as we thought they would be more appropriately dealt with. The subtitle of the first one is European Perils. The second one, which will be released late summer, is Asian Ascendance. The third is An American Reckoning, which will be out at the end of the year.
The key to this is to get this to people in a timely fashion, so we have to have a workable email address. We cannot send it out hard copy. We are not going to be doing that. You can view it online. It is very easy to send to friends and family members and colleagues, it is only one click away from sending it to as many people as you think should view this very important, very timely information. With all the things that are happening in Europe, even as we speak, I think this will bring a lot of clarity as to what the issues are, what potential solutions are, and what individual investors should be considering right now.
Kevin: We can get your email address if you just email us at HYPERLINK “mailto:email@example.com” firstname.lastname@example.org. It’s easy. The other thing our listeners can do is go to YouTube, that’s youtube.com/mcalvanyfinancial, and it will take you to the channel. I’m talking to the listeners to this program now. It will take you to the channel and you can watch, not only this video segment, but some of the others that we have put together in the past.
David: There are lots of ways to find us. You can go to mcalvany.com, as you mentioned. You can to go to youtube.com/mcalvanyfinancial. We are all over the place, and I think that if you take the time, in five-minute segments, or for the full 22-minute segment, you will find it a very good use of time, to look through it, and then send it on to friends.
Kevin: David, I’m going to bring us a little closer to home right now, because the stock market has really done something pretty historic. It has lost ground 12 out of the last 13 days. I’m not sure exactly where we are now, but I think there have only been three or four times in history when the stock market has come close to that.
David: The last time was 1974.
Kevin: What is going to happen next? Is it just going to continue, or do we have a rally in the wind?
David: Looking at the seasonality is important, and Alan Newman, who puts together Crosscurrents, a great publication, pointed this out several weeks ago. $10,000 invested in the “hot season,” if you will, which is approximately November through April, would have netted you, over a 50-year period, roughly $650,000, or about a 14% annualized gain. That same $10,000, if you invested it only in what he describes as the dead zone, that is, between May and October…
Kevin: And of course, you are talking about the stock market.
David: Yes, of course, this is the Dow Jones Industrial average. This dead zone, which we are in right now, that period from May to October, $10,000 over a 50-year period, would be about $9,000.
David: The difference between losing a grand over a 50-year period, versus moving from $10,000 to $650,000, is very significant, so don’t ignore seasonality. Are we in a seasonally weak period? Having said that, it is important to note that we have seen these 12 out of 13 sessions that have been down. Yesterday there was some reprieve, and we have some reprieve today, as well, and this is wonderful. We will, and should, see something of a throwback rally in equities, but our view is that there is very little volume holding this market together, very high insider selling.
We have seen that for the last six months consistently, and what we are setting ourselves up for is potentially catastrophic moves in the stock market circa late summer and early fall. I would be very concerned, and this dead zone period, as Newman describes it, is likely to become very, very dangerous as we progress, and any rally we see in here, investors should take very seriously, and be reorganizing the risk that they have in their portfolios.
Kevin: Speaking of seasonality, most everyone has heard about Warren Buffet. In fact, he has almost been put on a pedestal, in which everybody says, “Oh, the Buffet way.” There is a book called, The Warren Buffet Way.
David: The Oracle of Omaha.
Kevin: That’s right. You could build an entire library of books about, or written by, Buffet. But here’s the thing, and this is not to take anything away from his amazing ability to buy value – there are some blind spots. You were talking about the seasonality, turning 10 grand into 600, or turning 10 grand into 9. I guess it just depends on timing, and sometimes paper guys can get awfully cocky and mock the gold guys. You’ve talked about the Dow-gold ratio.
David: That’s the point. Buffet’s right-hand man, Charlie Munger, made the comment recently, that no civilized person would buy gold. He said, “Only a person sewing the stuff into a garment hem and being chased by Nazis would do such a thing.” Not exactly what we would consider an appropriate comment. Civilized people, in his opinion, buy operating companies – period. This is how they define what a civilized person is. We ask Mr. Buffet and Mr. Munger exactly how it feels, in this environment, to have lost 75% of their purchasing power, relative to gold, over the last 11 years?
Kevin: The Dow-gold ratio, in which we take how many shares of the Dow an ounce of gold will buy, or vice-versa. What you are basically doing is taking Berkshire Hathaway, which is…
David: Let’s just call it Buffet. We’re taking Buffet and dividing by the spot price…
Kevin: …over the last 11 years, and he has lost 75% of his purchasing power to an uncivilized investment.
David: Right. Buffet would have bought 275 ounces of gold 11 years ago, and now Buffet only buys 67 ounces of gold.
Kevin: What you are saying is a share of Berkshire Hathaway.
Kevin: That’s how much it has fallen.
David: It bought 275 ounces of the yellow metal, but today it buys far less, by 70-75%! Our suggestion would be to wait to see what the ratio goes to when Berkshire A shares trade 25% lower, in lockstep with the general equities market.
Kevin: This is something that may be new for people who are new to listening to this program, but we have looked at the Dow-gold ratio for decades, because we have seen over and over and over, the Dow rise to many multiples of the price of gold. Back in the 1920s it was 20 times the price of gold, and then it came down. In the 1960s it got to be 30 times the price of gold, and then it came down. And then it got to be 40 times the price of gold in the year 2000. But each time it came down, it got to pretty close to one ounce of gold.
David: One ounce, two ounces, three ounces, and what we are basically saying is, rather than looking at the Dow, let’s look at one of the genius investors of our age, and see how well he is doing stacked up against something that is so uncivilized – again, 70-75%.
Let’s go back to that point, Kevin, because if we should see a 25% slip in the general equities market, Berkshire will go with the stock market, and we assume gold will trade at roughly $1950 on or near that day, and at a ratio, again a Buffet-to-gold ratio, of about 46-to-1. That is about an 83% loss in purchasing power. It wouldn’t surprise us – there is a high likelihood that the Oracle of Omaha will have ultimately given up 90% of his purchasing power by the time the gold bull market begins to tire out.
Kevin: If they have lost 83% of their value, or are about to, we are going to have to see what new definition these men give to the word civilized, to accommodate their heightened level of frustration.
David: I hope they don’t think it’s uncivilized for us to buy a few of their operating companies from them when that time comes.
Kevin: So you might even buy Buffet at a bargain? Is that what you are saying?
David: (laughter) When he goes on sale – sure.
Kevin: Going back to the DVD, the DVD not only covers what is going on in Europe, but it covers some of the things we are talking about. The debt and the dollar are primary themes in this year’s DVD, because it is not really just equity prices that we are concerned about at this point. It is the loss of the reserve currency value of the dollar worldwide, is it not?
David: Exactly. We have basically said that these are the two primary concerns for U.S. investors today – the debt markets and the dollar market, what we denominate all of our assets in. And then we have looked at the three primary inputs to impact the debt and the dollar: First, European machinations; second, changes in Asia and the way that they view the dollar in their trade relationships.
Kevin: That’s the second segment, right? We’re going to look at Asia at that time.
David: And then finally, the policy measures, and the politicians who are in place implementing them, following the election. These things will bear heavy on the markets. Our view is, if you, the listener, will get this in as many hands as possible, you may be keeping tears from rolling down your shoulders, as friends and family members and colleagues deal with a very difficult 12-24 month period, as it relates to their finances, the political structure that we live in, the social environment that we are a part of.
In essence, to be forewarned is to be forearmed, and we feel that this is a vital period of time, in which, when you are looking at friends, family members, and colleagues, there has to be a rally point, and you must convey to them the seriousness of the circumstances that we are in, a period of time over the next 24-36 months like we have never seen in U.S. history. There is a lot at stake, including dollar reserve currency status, and that is one of the things that features prominently in the first and second segments of this DVD series. It is available now, it was released on Friday, and we just have to have an email address to deliver it to you.
Kevin: David, speaking of this next segment, Japan was just downgraded by Fitch this week. We are seeing downgrades in areas that we haven’t seen before.
David: Just anecdotally, Kevin, there are stories coming out, of 10- and 12-year-olds, males, being delivered to orphanages throughout China. Understand what that implies in terms of how severe a correction China is already in the midst of. Males are prized over females in that culture. The One Child Policy made it something that families had to decide very clearly: “Where is the growth in our family going to be? Where is the support in our old age going to come from? What advantages do we have?” They have favored having sons versus daughters. The fact that there is now an explosion of 10- and 12-year-old boys being delivered to orphanages, I think is telling, Kevin, in terms of families even being able to support that which they prize the most, from a cultural or a familial sampling.
Kevin: What is amazing about the Chinese situation is that not only are they not growing at the speed that they were before, but the United States is so dependent on China buying our Treasury bills. I know that over the last couple of days there has been a decision to allow China to bypass Wall Street to buy Treasury bills. What pressure did China put on America so that they are bypassing Wall Street, and going directly for Treasuries? We are desperate for them to continue to buy and hold our debt.
David: Very important, in the last several days, has been the Chinese politicians stepping out and saying, “We will support growth in our economy.” What I would like to say, Kevin, is that when you have to declare that you will support growth, what that means is that behind the scenes there is something to support. It needs the support of government. It now needs the direct intervention of government.
Kevin, what we were talking about in recent days is that it is, frankly, easier for a communist to think in Keynesian terms, than for a communist to think in capitalist terms. The solutions that we are likely to see implemented in China to fix the slowing growth problem that they have today, and maintain themselves on a self-sufficiency trajectory, will be of a Keynesian nature, and they will call it capitalism, but that is because we have confused, over the last 100 years, exactly what capitalism is, for something that is more Keynesian, socialist, even Marxist, and consistent with communism, in nature.
Kevin: Let’s give a definition of terms, because when we are talking about Keynesian, we are talking about government intervention, basically, spending, and taxation. But we are also talking about monetization of debt, or printing of money. What we are seeing right now in China, in fact, is that over the last few days they have come out and said that they are going to subsidize a number of purchases as long as they are energy-efficient. That sounds to me like what we do here, in the Keynesian sense. We are just going to pump government money into this because we see that it is slowing too quickly.
David: This harkens back to two conversations we have had in recent weeks, with John Taylor and Richard Duncan. In the Taylor interview, what we see is an acceptance of new models and statistical methods as an undergirding for economics as it is practiced, and there is a lot that is assumed to be reliable. This is what we have in the U.S., and it is certainly what we are seeing adopted elsewhere. In past conversations we have talked about command economies and those economies having characteristics of capitalism, but to be more precise, it is not that they have characteristics of capitalism, but it is that they have characteristics of some sort of fascist capitalism melded with Keynesian ideas.
I know that is perhaps mind-blowing in terms of the concepts being tied together, but where you have the state directing success, where you have the state choosing winners and losers, in China where you have the state-owned enterprises deciding how and when assets are going to be deployed from the public coffer, this, again, going back to Taylor’s interview just last week, is interventionist, and not market dynamic, truly.
Kevin: What was interesting about listening to Taylor as the two of you were talking, is that he really has a pretty good model if you’re using the Federal Reserve system to set interest rates, but the problem is that you still have to ask what first order and second order questions are being used, before you even use the model. The two of you had a discussion about inflation, and he actually had to admit that inflation probably was higher than what was being reported.
David: But he wasn’t really willing to go down that road and say just how high it was.
Kevin: I think it was because it scared him to death.
David: For the sake of argument, he will have to default to the current generally accepted model and statistical method that is being used by the BLS, to what is more or less constituted as BS – the current CPI – that is, the Consumer Price Index, our inflation number.
Kevin: And David, as controversial as Richard Duncan is, and he writes a fabulous book, I don’t know that I necessarily agree with his solutions. What was something that you walked away from the interview with that you felt was adding to the conversation of what we have been having over the last five years?
David: Very simply, that we have not had capitalism for 100 years.
Kevin: That’s exactly right.
David: We assume that we are seeing some sort of a degradation, or that the Occupy Wall Street folks are appropriately responding to the Too-Big-To-Fails. Listen, we have had Too-Big-To-Fails for a long time. Remember that Goldman-Sachs was on the ropes in the 1980s, and it was a combined effort by Matsui and our U.S. government that bailed them out.
This is more or less a state of affairs which has been in place for a long, long time – decades, if not the entire century, and I think that is a keen observation. What is probably less valued by us, in terms of the conclusions of the book, which you just alluded to, is that there is a solution, that “more of the same” will simply be a solution, and I think Duncan, frankly, doesn’t believe that there is any solution at all.
Kevin: You could hear that in his voice. He was saying that if the government is already completely in control and they are going to spend money anyway, let’s at least have them spend it on something that may get us out of the situation, but he didn’t believe that.
David: Well, he does believe that, in the sense that there is no other course. What he is assuming is that we are so far gone that the only question is whether or not we are dead five years from now, ten years from now, or tomorrow. That’s all he is playing for is time, because he is assuming it’s already game over. Game over. Matched called.
Kevin: If he is right, and I think he is right, at least, on the fact that the government already is spending too much money, and can never pay its debt off, which means it is just going to print, let’s look at the thing that actually reacts to that problem, which is gold. Gold, over the last six months, has been falling in value. In fact, we got down into the low $1500s. What was it? $1532?
David: $1532 was the low in European trade. We hit it overnight last week, between Tuesday night and Wednesday morning, and the likelihood of that being the lowest level for several years is good – I would say 80/20 – 80% that those are the lows that we will see and not revisit for as many as five or ten years, if not more. We are still consolidating, but it appears that a floor is in place at those December lows. Silver above $27, and gold above $1532. Now, we would like to see a confirmation of those prices stabilizing at a slightly higher level – gold above $1600, and even more important for us, $1630, and silver between $29 and $31. But again, I would say there is an 80% chance that the recent lows hold and are not seen again, as in not … seen … again.
Kevin: Ever. The thing is, David, and we’ve talked about this on numerous occasions, and we’ve sent emails to our clients, if you go back and look at the 65-week moving average chart, and take the last 65 weeks, and look at how gold’s price, on average, has risen over the last 11 years, the angle really hasn’t changed. Even though we see these spikes upward on gold, and then it comes back down, it will hit the 65-week moving average chart, and then drop a little bit below it, which is where we are at right now. But when you were in Dallas, you were talking to a gentleman who said, “David, you gave me an opportunity when we were talking about this just a few years ago, to buy gold in the 3-digit area, and now I’ve lost that.”
David: Well, what I told him was that this would be the last opportunity in his lifetime to buy gold in 3 digits. And that left a lasting impression, in part, because it has played out just so. It is now at 4 digits, and I’m not suggesting that you have to buy now because it is at 4 digits and it is never going to be 4 digits again, because frankly, I look at the inflation-adjusted price of gold at somewhere between $2600 and $2800, and see that we are in the midst of a generational re-pricing from the $400s, to ultimately, the inflation-adjusted price. I think we will go far beyond the inflation-adjusted price, far beyond that $2600 to $2800 level.
Kevin: That is what you are thinking? Inflation-adjusted – if everything were to stabilize and we said what is the average for the next 20 years, your thinking is that it is going to be in the $2500 to $2800 range?
David: $2600 to $2800 as a range, and my assumption is that off of a major spike higher, ultimately, that is the plateau we will settle back into, and that is something that our children and grandchildren will come to appreciate as a fairly boring asset class, never really doing much out of a $2400 to $3000 price band, as it bounces around, in, and above, or slightly below, its inflation-adjusted price.
That is the process that we are in. It is a process very similar to the 1970s where the inflation-adjusted price back then was roughly $400, and between $74 and $76 we flirted with getting to those levels, and by 1979 we had gotten to those levels, and still doubled to $875 in a matter of six weeks. Guess where we ultimately settled back into? It was the $400 level, the inflation-adjusted level.
Kevin: David, even though you have talked about gold getting up to $4000 or $5000 an ounce, it is possible that if the dollar were not to completely fail, and it were to go to millions of dollars an ounce, we would see gold possibly blast to $4000, $5000, something in that range, and then come back down to a stabilized level for a period of a decade?
David: I think that is a worst-case scenario. The best-case scenario is that gold is, to some degree, monetized, remonetized, and we have the Swiss talking about that right now. The largest Swiss political party is discussing having a Swiss gold franc, and having it run parallel to a more easily traded paper currency, but in which everyone understands that there is something backing it. Ultimately, I think we are looking at the Chinese building up gold reserves so that they can complete with Europe, and compete with America, being one of three of the world’s reserve currencies – plural, instead of singular – focused on the U.S. dollar.
Gold should play, and I think is likely to play, a permanent role in the world monetary system. The issue is, at what level it will be remonetized. I think it only makes sense, at a much higher level, because otherwise it represents half a percent, it represents two percent, or it represents five percent, of the total stock of currencies that are in float at a given time. It has to be at a higher level, and that makes that $2600 to $2800 level probably the conservative, downside estimate, as we get through a bull market, into a bear market – that’s probably the downside. Do I like $1500, $1600 as a price today? Yes, and that is what I would say, that next year at this time I think we will look back at $1500, $1600, and consider it an inexpensive price.
Kevin: I think, David, we need to reaffirm for people that we are just trying to survive this devaluation of the dollar until they do remonetize gold. It seems like it is a logical, natural conclusion, that if you have a failing currency, and you have the ability to go back and somehow stabilize it, maybe in this case, as Barry Eichengreen said, it is going to be a mixed bag, multiple currencies all backed with some sort of gold, or in a basket with some gold.
David: Or like Giulio Gallarotti suggested, perhaps not gold, but something that replicates gold, in terms of the disciplines that are needed for a stable monetary system. One of the things that we are going to learn to appreciate over the next 24-36 months is the extreme disunion and infighting amongst the world currency operators, as a result of having a floating system, a non-pegged system. We had that conflict up until 1944, and it was resolved by gold being tied to the dollar, or vice-versa, and every other currency being related to the dollar, and thus, related to gold. We have been in a free-floating system since then, and we have out-spent any equity that we had. The love bank has been drained, so to say, in the international monetary circles, and the dollar is not as much appreciated as it once was.
Kevin: But for us Americans it was a great 40-year ride, wasn’t it?
David: You bet it was.
Kevin: The post Bretton Woods system basically said, “You can have anything you want, and then you can borrow more.”
David: My suggestion is that if you own ounces at higher prices – $1700, $1800, $1900 – this is a period in time when you want to lower your average cost over the next 2-3 weeks. Silver under $30 is compelling – the ratio is 56-to-1. As we suggested months ago, a purchase between 55-to-1 and 60-to-1 on the ratio would be likely, we recommended it, we are there, it’s time to take action, don’t hesitate. With your 55-to-1 or 56-to-1, if it marginally improves, you are looking at a silver price, still, between $27 and $30. This is the time to be accumulating. These will be the lows for the year.
Kevin: David, really, this is not just about owning gold, and it is not necessarily about the end of the world. If the end of the world doesn’t come, and we do see a re-establishment of a system, this is really about going back in for the Buffet Bargain. In other words, let him lose his buying power while the gold goes up. Let them call it uncivilized. We’ll be happy to pick up their shares for pennies on the dollar.
David: Again, I just hope that he doesn’t redefine uncivilized and feel that our buying of operating companies is somehow offensive, because we will hold him to task. “Civilized people buy operating companies,” said Charlie Munger, and someday we will, at the right discount.
Kevin: David, for people who have questions that they have been meaning to ask you, they listen to the program but they wish they could have a two-way conversation, I want to remind them about the conference call when they can talk to you tonight, at 8:00 to 9:00 p.m. EST. All they have to do is give us a call here at 800-525-9556, and we will give them the information. If you are listening to this program and you want to talk to David, just give us a call at 800-525-9556. And if you miss it, let’s say you are listening to the program a few days after recording it and you have missed the conference call, please make sure that you go to youtube.com/mcalvanyfinancial to look at the new 22-minute video segment that David just came out with.
David: That’s exactly right. What we have tried to do is take that DVD and put it in a format in which you can look at the most pressing issues in real time, but we have to be able to get that to you in real time. Again, as you look at it, and as you deem it worthy to pass on to friends and family members and colleagues, make sure and send it, forward it to them, so that they have the opportunity to act, while they still can.