Gold Investing Info

The Obama budget passed last week on a straight party line vote. The deficit for 2009 is projected to be close to $2 trillion. The deficits projected in later years are expected to be smaller due to an economic recovery. Proponents of the bill believe the deficit will be reduced due to increased tax revenues from the rich, corporations, and economic growth.

Call me a skeptic. First, I’ll believe economic recovery when I see it. Predicting economic recovery will just happen is the same sort of hubris Bush had when he believed Saddam’s weapons of mass destruction would be found. Both may never happen. With the anti-business attitude of Washington and the clear threat of higher taxes, true economic growth may never occur in the US again….and even if it does, it certainly won’t be the bullish 4% that Obama projects. Even when the United States was binging on cheap credit in a more business-friendly administration with lower taxes, economic growth was just 3%!

The US debt/GDP is about 80% right now. A $2 trillion deficit, with our GDP of $14 trillion, is about a 14% deficit. Assuming deficits of 14%, and then 12% over the next four years, the debt/GDP will be 143% in 2013 and 252% in 018. This doesn’t even take into account unfunded liabilities like social security and medicare. Also, remember that we have a record amount of consumer and business debt. In other high debt/GDP nations, particularly Japan, their people and businesses are net savers.

Our country will not be able to last with this sort of debt. There is only one cure for this sort of recordd debt: inflation. When the printing presses start rolling, our debt/income levels will drop drastically. When inflation kicks in, the best place to be is in commodities.

I don’t know when the inflation will occur. What I do know is that we, as a society, are in a state of denial right now. Will it be 10 years before the inflation occurs or just 6 months? I don’t know. No one knew when our overleveraged banking industry would blow up, but it did. The same will be said about our societal debt.

I have been building up a sizeable silver position lately. The reason I am buying silver is the main reason many are buying gold, as a hedge against inflation and the dollar value destruction.

Congress and Obama are piling up record deficits and causing our debt/GDP to soar. I do not believe we will be out of this recession anytime soon, especially with the anti-business attitude in Washington. The proposed tax increases either will not happen or won’t put a dent in the deficit anyways. What we are left with is a gigantic amount of US treasuries to hit the market.

Left unchecked, the yields on the treasuries will soar, meaning it will cost more for the government to borrow money. China and other foreign investors don’t have unlimited amounts of money they wish to loan our government, so the natural effect would be higher government interest rates, even higher rates for borrowing on business, and a deeper recession. In this scenario, shorting US treasuries would be the best bet (something I am doing).

However, it’s not this simple. As demonstrated by the Fed yesterday, our government is going to print off money to pay down the debt. Basically, government runs up debt and then prints off money to buy off their debt. Their reasoning is that while this is inflationary, inflation is under control right now…..we’ll see for how long.

What is lying ahead of us is stagflation, a stagflation worse than the late 70’s in my opinion. At that time, silver and gold soared in value, but especially silver. The silver/gold ratio dropped to an all-time post-WWII low. If you think about this, it would make sense since the demand for silver (in terms of production and jewelry purposes) is higher due to the trade down effect. If everyone is poor, people sure won’t be wearing gold jewelry! Silver has both the value as a store of value but will still see demand in jewelry and for industrial uses.

Silver is also well off of its lows. The silver ETF, SLV, is at 13.42 as I write this article and its 52 week range is 8.45 - 19.169. In contrast, the gold ETF is near the high-end of its 52 week range.

As they say in poker, I’m all-in.

In Peter Schiff’s excellent book, Crash Proof, he noted that the Dow Jones index and the price of gold had a 1:1 ratio near the bottom of two epic bear markets, the crash of 1929-1932 and the stagflation crisis of the early 80’s. Given America’s soaring debt/GDP ratio, our crumbling economy and inept government action, such a scenario may occur again.

As of the time of this article, Gold is around $930 an ounce and the Dow Jones is 6700. At the time of Schiff’s book, gold was around $700 and the Dow 14000 or so. The two are starting to meet in the middle, largely because of the major market drop.

If the 1:1 ratio occured, or even if it was not quite 1:1 but 1.5:1 or even 2:1, it would most likely be a result of movements by both. Something along the lines of $2500-3000 gold and a Dow in the range of 3000-5000 or so. They could even be even with Dow/gold settling around $4000 each.

Many currently price gold in relation to the S&P. That line of thinking ignores perilous times, like the Great Depression and the inflation of Carter’s regime. Given we are likely seeing a combination of each, the horrible unemployment of the recession and the likely inflation and high interest rates due to the government printing money, a repeat of the 1:1 ratio near the bottom is not at all unlikely.