“What Deflation?”

One of the Federal Reserve’s primary justifications for next week’s expected second dose of quantitative easing (QE2) is that inflation is actually too low in the current environment. In effect, they are worried about deflation setting in, which history shows can be difficult to break free from. The latest readings of the Core (ex- food & energy) Consumer Price Index have usually been used to back this assertion up, since they’ve been less than 1% for several months. Therefore, it was very interesting to see embedded in this morning’s initial release of third quarter GDP that the GDP price index, at 2.3%, was the highest it’s been since the third quarter of 2008 – just before the Great Recession began. Over the past four quarters, the price index has steadily marched higher from -0.2%, to 1.0%, to 1.9%, to 2.3%.

In recent weeks, one of the analysts who we read daily, Bill King of The King Report, has highlighted numerous examples of increasing price pressures, from individual companies raising prices, to soaring commodity prices, to certain foreign central banks actually raising interest rates. In his trademark colorful style, he has typically preceded each example with the rhetorical question “what deflation?” as he questions what it is that the Fed is actually trying to accomplish with QE2. He’s certainly not alone in being skeptical, as it seems that there’s been a growing chorus of opinion that the Fed is headed down a slippery slope that will undoubtedly result in significant unintended consequences as they dramatically expand their balance sheet for a second time. While the details and effectiveness of QE2 remain to be seen, the trend in the GDP price index (among other things) certainly challenges the notion that inflation is too low.

GDP Price Index

What the Fed Could Learn from Moms at Halloween

Today brought news that the Federal Reserve (Fed) is passing a survey around to its primary dealers (i.e., large Wall Street institutions). Get this one, it is asking them for a projection of central bank asset purchases (aka, “QE2”) over the next 6 months, as well as potential effects on market interest rates and possible impacts on growth going forward. I’m sorry, but I don’t get it. Just yesterday, a Wall Street Journal author who some believe is used to leak the Fed’s intentions, printed an article that implied the Fed would take a very measured approach to QE2 rather than a shock and awe-style round of buying. It seemed to be a strategic move by the Fed to reduce expectations that have built up in risk markets over the last few months. The worry is that if the Fed disappoints in terms of the size or scope of QE2 following its November 3rd meeting, perhaps the markets will sell the news, which could undermine the asset reflation that they are looking to foster.

So, what happens when you ask these dealers for their “projections?” They shoot for the moon, of course! Not surprisingly, I just read an article that said at least four of the primary dealers are predicting QE2 will entail over a trillion dollars in buying. Why the Fed would seemingly look to manage expectations down on one day, only to let these dealers undermine those expectations the next day, I have no idea. What I do know is this: this weekend is Halloween, and something tells me that no mom in America would ask her kids how many bags of candy she should be buying. Seems like common sense, but then again, who said our Federal Reserve would use such a thing when setting monetary policy? Happy Halloween, Ben Bernanke…

Gold Extension in Pinnacle Portfolios

Is gold in a bubble? There are a multitude of opinions on this topic, and of course, no one knows for sure if this is a bubble or not. Pinnacle feels that it is definitely a possibility although this bubble is more likely in the middle innings and 2011 could be another great year for the precious metal. However, over the last week or two, we had a decision to make as our rebalancing software suggested we take profits in the gold ETF owned in client accounts (GLD - the SPDR Gold Trust). Do we let the position stand and hope the outperformance continues, or do we trim the position and invest the proceeds in an underperforming position?

Our rebalancing program allows us to create models with designated weights. When the weight of the security exceeds our designated weight by 1%, the rebalancing tool suggests either a buy or sell of 1% to get back to our model weight. In this instance, GLD is currently a 5% model weight, and when the position falls to 4% or rises to 6%, the software will suggest a trade. After the vertical rise in gold to $1350 per ounce, portfolios weights in many accounts had moved to 6% and the program suggested we sell the position back down to 5%.

We decided to trim our GLD positions back to 5%. It feels like we may be approaching a short-term top as the market gets ever closer to next week’s Federal Reserve meeting. Momentum indicators have started to fall, sentiment is very optimistic, volatility has made a new low, etc. In the past, the rebalancing feature has alerted us to many overbought positions in client portfolios, and we feel gold may be due for a trend change (to a down trend or a flat trend) in the near term.

It is also interesting to note that the proceeds from the sale, for the most part, were used to purchase non-cyclical equity sector ETFs. It is interesting because risk assets usually get rebalanced into non-risk assets as the two seldom move together. This year has been an exception to the rule as U.S. Treasury bonds have risen along with risk assets. QE2 and POMOs are certainly wreaking havoc with correlations, and that is why the markets are anticipating the Fed meeting on November 3rd even more than usual.

“The Great Mandelbrot”

That is how Nassim Taleb described his first encounter with the work of Benoit Mandelbrot. My own encounter with his work occurred when I read his book, The (Mis) Behavior of Markets, A Fractal View of Risk, Ruin, and Reward. I was very saddened to learn last week that Mandelbrot died of cancer on October 14th in Cambridge, Massachusetts. He was 85 years old. I have little to no idea how mathematicians and economists are nominated for a Nobel Prize, and recent winners like Paul Krugman lead me to be skeptical about the process. If there is any justice, Mandelbrot will be accorded the honor of the Nobel, even if he made it clear in life that he didn’t exactly revere the prior winners.

Mandelbrot’s genius was his ability to see risk differently from everyone else, and then to be able to express it in a new kind of mathematics called fractal geometry. His book goes into great detail about fractals, but for the purposes of this blog I will simply say that they look beautiful. My key take away from Mandelbrot’s work was to better understand the problems with standard deviation as a measure of risk. Mandelbrot helps us to understand that risk is actually a lot “wilder” than standard deviation implies, and that the odds of “fat tail” occurrences are actually much higher than is generally understood. He gives us a new measure of risk called Power Laws where the odds of an event occurring do not geometrically increase as you get further from the average or the mean, which is exactly what happens when you measure risk using a bell curve. The insight that financial risk (which should be measured by Power Laws) is different from the deviation from the mean found in nature (which can be measured by bell curves and standard deviation) leads to powerful new conclusions about how to manage risk in portfolio management. Today the problems with “fat tails” are part of the lexicon of informed portfolio managers, and “fat tail” investment strategies designed to hedge these risks are approaching the mainstream. I believe Mandelbrot is the “founding father” of our new appreciation of risk as portfolio managers.

His book is coauthored by Richard L. Hudson, and I wonder who should get the credit for writing a book about so difficult a subject that is so easy to read. I often thought that I would have liked to sit in his classes at Yale where he taught since 1987 after a long career at IBM. My best tribute to Mandelbrot is to ask you to read his book, which I quote liberally in my book, Buy and Hold is Dead (Again), The Case for Active Management in Dangerous Markets. Chapter XII is one of my favorites, called Ten Heresies of Finance. Here they are: 1) Markets are Turbulent, 2) Markets are Very Very Risky- More Risky Than the Standard Theories Imagine, 3) Market “Timing” Matters Greatly. Big Gains and Losses Concentrate into Small Packages of Time. 4) Prices Often Leap, Not Glide. That Adds to the Risk. 5) In Markets, Time is Flexible, 6) Markets Will in All Places and Ages Work Alike, 7) Markets are Inherently Uncertain, and Bubbles Are Inevitable, 8) Markets Are Deceptive, 9) Forecasting Prices May Be Perilous, but You Can Estimate the Odds of Future Volatility, and 10) In Financial Markets, the Idea of “Value” Has Limited Value. I’m not on the Nobel committee, but I can recognize the passing of a giant when I see it.

What’s a POMO, and Why Does it Matter?

Lately there’s been a new acronym running through investment research we have been reading, and it is “POMO.” POMO stands for Permanent Open Market Operation. When you hear the Fed is executing a POMO for a certain amount, they are simply buying Treasury securities and the proceeds add reserves to the banking system permanently, as opposed to other temporary measures they may use. The Fed is entering into these transactions to ensure that its balance sheet doesn’t contract at a time when economic growth is still lagging, and price stability is at risk to lower prices.

For weeks the Fed has been using these POMOs, and we’ve been reading certain analysts that believe the market is reacting to the size of the daily POMOs. We recently asked one of the analysts we follow, Bill King, why he thought these POMOs mattered so much to the markets given the fact that the Fed is simply maintaining the size of the balance sheet. Below is a summarized version of Bill’s response to our question.

1. The Fed is entering into larger POMO’s than necessary to account for the bleed off of agency mortgage-backed securities. In his opinion, the first round of quantitative easing (QE1) never ended.

2. Money desks that control Wall Street must invest this new liquidity in the system, and at very highly leveraged multiples.

3. Traders respond reflexively to more juice equaling higher assets prices.

At Pinnacle Advisory Group, we can’t claim to know exactly how much POMOs are affecting daily movements in the market. But we can claim to constantly be evaluating and adjusting our views of financial markets based on new information and constantly changing conditions.

A Bullish Contrarian Bonanza

Lately I’ve been considering that fact that “informed intuition” about investment markets, the very stuff we hope to warehouse in large quantities at Pinnacle, can be tainted by any one analyst’s appetite for risk. We train ourselves to see bullish and bearish investment opportunities when they appear, and with training our goal is to see the world differently from the consensus. As someone who is not a big personal risk taker, I have to go out of my way to not let my personal predisposition to avoid risk color my ability to see bullish opportunities in the risk markets when they appear. And since one of the most tried and true methods of identifying risk taking opportunities is to be a contrarian and recognize that investment opportunity is often born of despair, I’m wondering if this isn’t the most bullish investment opportunity of all time. It looks pretty dark out there to me.

For example: We don’t manufacture things in the U.S. anymore. The profits remain here for large corporations but the jobs go overseas. Does anyone believe that we are better off? We have deficits everywhere, from fiscal deficits to trade deficits and now the Federal Reserve is running a “print up some dollars and buy all kinds of stuff” deficit of their own. It seems obvious to me that we can’t afford the social contracts that we’ve made in terms of pensions, social security, and health care, but no one has the courage or political will to do anything about it. I suppose we can blame our politicians but we really have the political system that we deserve. Most Americans don’t vote, and many of those that do are frighteningly uninformed about difficult and nuanced issues that defy “sound bite” explanations suitable for the evening news. Nowadays we pay attention to some kid writing a blog at 3PM at his parent’s house where he lives because he can’t get a job. We have 10% unemployment where the percentage of Americans who want to work but who can’t find jobs is frightening. Corporate earnings are up on the back of cost cutting (meaning layoffs) and government stimulus plans that we can’t afford. It appears that we are throwing the dice that all of these programs designed to thwart the next Great Depression by manufacturing either asset inflation or price inflation will work out well. Everyone knows we are on a high risk path for curing our national malaise but we all seem to be shouting at each other at such a volume that if there is a reasonable solution to be had, we just can’t seem to hear it.

We have a national foreclosure problem that is a disgrace and could lead to hundreds of billions of bank write-offs as well as another 10-20% decline in real estate prices. At the moment there ain’t no one interested in insuring titles to homes anymore because with the originate and distribute model for mortgages no one knows who actually owns the note on your home. The dollar is falling on the back of our unofficial national economic policy of debasing the currency, and “beggar thy neighbor” fiscal and monetary policies are breaking out around the globe. They say that every generation in U.S. history had a better standard of living than the one that preceded it, and every parent along the way worried that their kids wouldn’t do as well as they did. Well, I’m wondering about my kids and their kids. I’m afraid we are messing this up so bad that they won’t be able to continue the streak. So….the obvious conclusion is to back up the truck and buy stocks. If you are a contrarian, it’s hard to see how it can get much better (or worse) than this.

Banks

We were tossing around a question yesterday regarding the current stock market rally from the July lows, and whether it can continue without the banks participating. The banks in this discussion are the big boys – JP Morgan, Citigroup, Bank of America, Wells Fargo, etc. The S&P 500 is up 15.5% from the July low (before today’s action which was a 4 point loss) while the banks, as measured by KBE (SPDR Bank ETF), were only up 4% from the July low (although down 2.5% today). Additionally, as you will notice in the chart below, the banks are still down over 19% from the April highs. The S&P 500 is the red line, which is approaching the April high after breaking through the June and August highs, and the KBE is the blue line, which has failed to make a new high!

Even so, at this time, the answer to our question is “yes.” The markets can and have rallied without the banks and it seems like they will continue to do so on the back of Federal Reserve stimulus. Consumer Staple stocks and Utility stocks have already surpassed the April high mark with Technology and Industrials hot on their trail. Material stocks are up 26% and Energy stocks are up 21% from the July lows. It is not only a rally but an incredibly strong one for many sectors and industries.

It seems this is just a bank specific issue at the moment as other financial industries like Capital Markets are fairing much better. Today, the cost of insurance for bank stocks is on the rise as indicated by rising Credit Default Swap levels. The fallout from faux-closure and a weak JP Morgan earnings report are causing investors to re-price risk in these stocks. All the while, investors in other stocks could care less.

But I can’t help but feel like it is 2007 all over again. The financials began selling off before any other sector in the market and we all know how that episode ended. Could MBS be the market’s downfall again?

On the Lookout for Asset Bubbles

QE2 is in the air, and lately the thought of it has certain markets all lathered up (or down). Risk assets have caught a bid on the dollar tanking. The inverse dollar trade has propelled returns in commodities and emerging market stocks, which have been rising fast on the back of a more highly liquid world and the belief that growth rates abroad can decouple from the sagging developed world.

The ultimate impact of a QE2 operation is very cloudy, and there are good reasons to be skeptical that it may not be the magic elixir to fix structural problems in our economy. But even if it doesn’t have an economic impact, the extra liquidity may find a home in asset prices, and perhaps even inflate another bubble or two.

Gold and emerging market equities are two asset classes that smell like they could have the makings of a bubble. Bubbles are awful when they burst, but fortunes are made for those that can find early developing bubbles, ride the major portion of the gains, and get out before they pop and wreak havoc on returns.

On the subject of QE2, we are skeptical that it can jump start the economy, but we are also aware that it may just be creating asset bubbles and manias in select sectors and asset classes. What inning are we in? Is it too late invest? Now that’s the making of an entirely different blog.

The Bullish Case

If you are feeling skeptical and concerned about the economy and the stock market, don’t worry. You have plenty of company…unless you are an institutional investor who is being whipsawed between bearishness and bullishness from month to month. You should know that if by the end of this missive you don’t believe the bullish case I’m making then most professional investors would say your view is bullish for equity markets, since bull markets “climb a wall of worry.” In this case, you are a “retail” worrier so your skepticism is as bullish as any bull could want. Please keep in mind that the following bullish case is made within a secular bear market, which means that the market will go up…until it comes down again as the secular bear market grinds on. Bulls think the market should move higher from here because basically….the fix is in.

The worst of the economic downturn is behind us. Leading economic indicators have rallied from their lows, and while some are flattening out, they still are greatly improved from the downturn in 2008. Double dip recessions are exceedingly rare, and there is no historical evidence that the economy should downshift in the face of massive additional monetary and fiscal stimulus. Make no mistake…if the recent lousy economic numbers continue the Fed will act with another $1 trillion or so of monetary stimulus. The bullish bet is that the additional money will either stimulate the economy and get the virtuous growth cycle kick-started resulting in higher employment, stabilized housing prices, higher capacity utilization, more bank lending, etc., which will result in higher stock prices. Or, the additional $1 trillion will do none of the above, but will find its way into the stock market nonetheless, driving stock prices higher. Bullish investors see this as either a virtuous return of price inflation or a non-virtuous return of asset inflation. Either way…happy days! By the way, the last cyclical bull in a secular bear lasted for exactly five years, from October of 2002 to October of 2007. It turned out that the entire bull market was built on smoke and mirrors, but who cares? By that measure we have at least another three years to enjoy the current cyclical bull.

The world is indeed different in the post-Lehman, flash crash, over-indebted place we now inhabit. It is the emerging markets of China, India, and Brazil that will lead the global economy out of recession. Unlike the U.S., Japan, and Europe, where the sovereigns essentially brought nothing but bogus debt onto their balance sheets, the balance sheets of the emerging countries look pristine. For that matter, on a relative basis, so do the balance sheets of blue chip U.S. companies that earn a large percentage of their profits overseas. Bonds might be horribly overvalued…you can currently lend the U.S. government money for 10 years at 2.4% interest. The Fed has pegged the Fed Funds rate at 0%! Cash pays nothing. So liquidity is flowing to emerging markets and commodities. Once we get a few more months of higher U.S. equity prices, then you, dear reader, will be clamoring for more U.S. stocks as well. Corporate earnings have been booming as productivity growth continues to surprise to the upside. So, the market is cheap and is likely to go higher. We are entering the most bullish seasonal time of the year and seem to be dodging the September-October blues. And the third year of presidential terms has a great track record for bullish stock market results. So there you have it....I told you you wouldn’t believe me!

Nothing Else Matters

I have had this old Metallica song, with slightly different lyrics, in my head for the past month…

Yeah, trust I seek and I find in you

Every day for us more QE2

Close your mind to a different view

Because nothing else matters

So is it really that easy? Our friends at TEAMThink posted a video from David Tepper in which he argues that it is just that easy. David Tepper is one of the best hedge fund managers of the past decade. According to Mr. Tepper, in scenario 1 you have strong growth and equities rally due to better underlying fundamentals. In scenario 2, you have weak growth but a Federal Reserve “put” will be in play in which everything, including equities, will go up, at least in the short term, because Quantitative Easing 2 (QE2) will be instituted. It is “a slam dunk trade due to the policies of the Federal Reserve.” I believe the other quote ringing in my ears is “Don’t Fight the Fed!”

But are those the only possible scenarios? Well, it seems that the market’s been using that playbook since July 1st when the S&P 500 bottomed at 1040. The S&P 500 is up 11% from that date while high beta assets have surged even more. After that run, it is natural to start questioning your underlying thesis that we should remain cautiously invested as the underlying fundamentals have remained soft. So what if the jobs market is still soft, it will get better or it will get worse but equities will rise. These are questions we have been asking ourselves.

Then again, there are other questions to ask. What if the market has already priced in a $1.5 trillion quantitative easing program but the Federal Reserve only gives us $750 million (or less)? What if Republicans gain Congressional seats and want to conduct a full audit of the Federal Reserve? What if QE2 destroys the dollar and equities rise only in nominal terms? What if currency wars erupt? What if High Frequency Signing manifests into a bigger problem as the real estate market shuts down? Bernanke? Anyone?

October Thoughts about Seasonality

Market seasonality has probably been more of a factor in our decision making of late than it should. Rick wrote about it in this space last week. To make that statement in a year where “Sell in May and go away” has proven to be a perfect timing indicator might seem a little harsh. In fact, many of the analysts we follow publish composites of past market performance based on a variety of time frames, and those composites, along with the more traditional seasonal themes like “the January effect” or “summer rallies” are always a factor in our decision making process. Of course the market still has not managed to take out the late April high from this year so “sell in May,” with perfect hindsight, was excellent advice. However, the past few months have been dominated by our seasonal concerns about September and October. September is, on average, the worst performance month of the year for the broad market, and October is well known for having more than its share of well documented market meltdowns and investor riots. Now that we’ve just closed out September with the best performance for the month since the Great Depression, a disturbing result for “seasonality gurus,” we’ve spent some time digging further into the subject of seasonality as it pertains to third-year presidential cycles.

Ned Davis Research gives us some excellent data that seems immediately relevant. Consider the following information:

The DJI (Dow Jones Industrial Average) has gained, on average, 6.4% in 9 cases where there has been a change in the Congress in the third year of a presidency. The DJI has gained on average 6.4% in the 13 cases of a third-year presidential cycle within a secular bear market. The DJI has gained 6.1% on average in the thirteen cases in the year of a capital gains tax hike, and the DJI has lost 3.6% on average in 18 cases where the market was 22-34 months after a cyclical bull market within a secular bear market.

For the most part the data seems benign except of course for the 3.6% loss 22-34 months after a cyclical bull within a secular bear. Since the current bull market began in March of 2009 that seems to increase the likelihood that 2011 would be a poor year for the market. Of course, the 6%+ gains in the other data seem to indicate a decent year might be forthcoming. Ned Davis’s market cycle composite indicates that the broad market should be rolling over right now and testing new lows before it finishes the year with a strong rally. The question is how much weight to give any of this past seasonal information? It has little to do with the market fundamentals and technicals we track so religiously. Additionally, it has nothing to do with the current global economic condition and it doesn’t speak to current market valuations. Yet, it is seductive in its premise that the past could repeat. Considering that we are experiencing a financial condition that is unprecedented – a Great Reflation following a Great Recession – market seasonality and past market cycle composites will remain a part of our process….but not overly so.

The Tension Between Risk Management and Wealth Maximization

There is no doubt that risk management is an important part of long term investment returns. One only has to be familiar with the law of numbers to realize that the percentage return to recoup a loss is in excess of the loss itself (i.e., a 50% loss requires a 100% gain to fully recover). As money managers at Pinnacle, we wear dual and sometimes conflicting hats. On one hand we want to maximize long term wealth for our investors, while on the other hand we need to manage risks to that wealth.

Today you don’t have to look far to find significant pockets of risk. There are risks to the economic recovery, risks in the amount of debt in the system, risks regarding regulation, higher unemployment, trade wars, etc. I can say with high conviction that the current macro backdrop leaves the potential for very risky “fat tail” (low probability) events unusually high. With that landscape in mind, it should put us at ease that we are being conservative in light of those risks.

That being said, we don’t feel such comfort on a day like today, when risk markets are exploding higher on the perception that central banks around the world appear to be opening up the liquidity spigots to try and reflate the system further. On days like this we must confront the wealth maximizing hat, and wonder whether our management of the risks is warranted in light of today’s business cycle, technical, and valuation profile.

So for today we are left feeling like a salmon swimming upstream, as we have forfeited potential gains as a trade off for increased safety. But tomorrow is Wednesday, and the team will be discussing what has changed in the three core tenets of our process (business cycle, technical conditions, and valuation). No doubt, we’ll be challenging our own assumptions to make sure we believe we are striking the right balance between risk management and wealth maximization at this time.

A Great Third Quarter

It was a great third quarter and I’m happy that we will soon be reporting some excellent numbers. Many of our clients tend to view their results in the context of their monthly statements, however, the quarter offers a different, longer-term (but not long term) view of the world. I thought I would offer a few comments about the markets in general and Pinnacle portfolio performance in particular…much to the chagrin of the rest of the investment team who would prefer that I keep my mouth shut until we get our “official” GIPS compliant numbers. As our client’s know, they will soon be receiving our Quarterly Market Review. It is a beautifully written piece by Rick, Carl, and Sean offering clear, concise commentary and statistics about the past three months. I offer none of the above here but that is, of course, the great thing about writing a blog.

The past three months saw the broad stock market get whipsawed every month in terms of performance. July was a record breaker in terms of +7% performance, August was a record breaker in delivering a negative 5%, and now September with a more eye-catching +9%. For investors executing trend following systems the quarter was probably a nightmare. I show the S&P 500 gaining more than 11% for the quarter, bonds earning more than 2%, developed country international stocks +16% on a significantly weaker dollar, and gold gaining more than 9% for the period. Interestingly, only gold actually set a new high during the quarter as both U.S. and International stocks finished the quarter below the highs they made this past April. I’m guessing (here’s where Sean is going to get mad at me) that Pinnacle Conservative Growth investors gained 5% - 6%, Moderate Growth investors earned about 7% and Dynamic Appreciation investors gained about 8%. I didn’t check the DC and DUA strategies this morning…the Ravens-Pittsburg game is coming on soon and time is of the essence. My point is that there was some serious wealth creation delivered to Pinnacle clients over the past three months, and that’s good news. Investors who chose to remain in cash waiting for the world to end during this past quarter just got slaughtered.

On a relative performance basis the news may actually be a lot better than I thought it would be. I’m guessing that we delivered very close to benchmark performance for our DMG investors and only trailed by 100 basis points (give or take) in our DCG and DA models. I’m also guessing the relative performance might be worse for our most aggressive clients considering the monster rally that occurred and the relatively conservative stance in our managed accounts. In fact, I would say that if my guestimates are anywhere near accurate we dodged a bullet during the period in terms of relative performance. It’s easy to see, in hindsight, that our conservative stance was unwarranted during the period, yet I think our performance held up quite nicely. I have often written in this space about the problems with managing risk when you own a diversified portfolio of asset classes where correlation can move all over the place. We had several days in August where our downside market capture (beta) was only 20% - 30% of the broad market in our moderate portfolio strategy. To finish the quarter gathering 60% or more of the markets upside feels like a major victory. As you will read in our Third Quarter Commentary, the game “is still afoot.” Stay tuned…

The Fight in Dollars

In September alone, the U.S. dollar was down 6% which is an annualized loss of 51%. This has led to big precious metals gains for the month as gold advanced 6% and silver soared 13%! The Federal Reserve has continued to monetize debt through permanent open market operations (POMOs) with dollar depreciation and asset inflation the result. But they are starting to get the attention of other nations in the fight over weaker currencies, and exports.

In the middle of September, the Bank of Japan had reached their limit when the Yen had risen to 82.80 versus the dollar and they decided to intervene in the currency markets. The yen dropped to 85 but has since reversed and is now trading at 83.30. Yesterday, Zero Hedge (another financial blog) reported that the Mexican government has intervened, and many other nations including Brazil, Peru and Colombia have also intervened to stem their currency appreciation. This, of course, comes on the heels of the fight between China and the U.S. over currency manipulation in which our own House of Representatives passed a bill that would raise tariffs on imports of a country artificially devaluing their currency. These are certainly dangerous waters to be surfing.

Brazil’s finance minister has blatantly stated that ‘we are in the midst of an international currency war’. And so far the United States has the upper hand as most international nations have clearly brought knives to a gun fight. That could very easily change though as these nations are major holders of Treasury debt. We sincerely hope that cooler heads prevail as trade wars were a big reason the recession of 1929 turned into the Great Depression. Since hope is not an investment strategy, we will gladly hold gold in our portfolio.