Putting the pieces together...

Comments on "Kondratieff 4"

Hello Tom,

Regarding '...It is when rates get "too high" that you will want to own gold or add to what you already own...', I'm curious as to the background of such comment. I would have thought that high interest rates would be bad for gold as they provide income that gold doesn't. I would also expect very high interest rates to be a sign of being close to an inflationary top, unless you're suggesting that high interest rates in western economies are a sign that we're all going down the Zimbabwe/Weimar Republic road, in which case I can understand why you would want to be holding as much gold as possible?

Regards

Posted by: Michael | April 08, 2007 at 09:04 PM

Reply: Good train of thought, Michael. Interest rates being "too high" I mean as the point in time when stocks begin to falter due to higher rates. In the last up phase that was 1966. I don't believe that there is an absolute interest rate number trigger which will be the same number for every long wave cycle. But "too high"  shows that inflation and interest rates have begun to impact earnings and earnings projections. This in turn, for me, means that inflation is imbedded and will stay that way. Therefore more gold is a good idea at that point. 1966 was 14 years before the gold peak, so there is quite a long time to be in a larger gold position. Until that time, stocks are generally going to be a better place for a larger proportion of invested assets, as they were from 1949 to 1966, or even to the final high in 1972 with some selectivity or timing. Nevertheless, one should always hold some gold during the inflationary half-wave cycle and never sell it.

Tom

Tom,

Right to the point. I notice that mortgage rates are dropping again. It appears from looking historically back on interest rates and other long waves that there is a secondary bottom just as the first Jugular cycle gets going.

Pressure from the current housing slow down will probably be enough to put in the final low in long term rates as inflation once again starts it long climb higher.

Good work.

Eric

Posted by: Eric Von Baranov | April 09, 2007 at 09:31 PM

Reply: Thanks, Eric.

I too have been expecting a pause in inflation since the metals peak last year, and we may still be having one, however mild it is. It's quite posible that the rally in gold and other metals since last year is the middle part of a three phase "pause" or correction of inflationary exuberance, and that there is still another leg down for rates and metals and such. I'm not completely certain about that or about the housing impact, and I don't want to bet very much or for very long against the long term upward trend in inflation. So I did not sell any precious metals although I lightened up on metals stocks. The worst thing to do in a long term trend is to get rid of your position and have to chase to get back in. Some never get back in and miss the largest part of the ride. Also I have kept bond durations fairly short as there is little incentive to go out very far in years.

Tom

Tom,

How do you see "exogenous" events such as Peak Oil and the Baby Boomer problem affecting the upwave?

Posted by: Roland Watson | April 19, 2007 at 01:50 AM

Reply: Hi Roland,

I don't think it is useful for me to get into the scientifically contentious areas of peak energy or even global warming when talking about Kondratieff. No one I know of on either side of peak energy issues thinks we will run out of essential fuels and materials in the next twenty to twenty five years. That is the period I am focusing on for the rest of this inflationary phase.

Furthermore, the supply/demand imbalance for oil and many other commodities and crude goods is there and would be there without any imputation of total supply exhaustion. Nor do we know for sure how actual nearby supply exhaustion would affect events. We could imagine either a huge order of magnitude increase above current prices, or perhaps not as other sources or totally new sources come into play and temper the increases. However that turns out, we will have higher prices over time, although, of course, not in a straight line, day after day. Demand is greater or more insistent than supply, so price has to ration the supply we have to those most willing to pay at higher prices. I can't honestly put a price on a barrel of oil at the "final top", but I'm quite sure it will be higher than $80.

The baby boomer aging process is likewise complex. One can make a case for that event exacerbating price increases or a case for tempering or moderating them. The boomers have always been insistent about what they have wanted, and their sheer numbers have made so many things happen in the economy and in politics. What I can say is that the boomers' parents' generation was blessed to have lived though the last Kondratieff wave disinflationary phase, so that their pensions and savings and their costs were in better balance than they are likely to be for the boomers on average.

It is a far bigger challenge to stay ahead of inflation when you are retired, and the boomers will face inflation in huge numbers. Regardless of their wishes, they will face inflation for the next twenty years, since inflation is a planetary event. Even in their numbers they are a small part of the current world population which is far younger on average than they are. Fortunately economies are not static, unless sovietized, so the boomer desires and needs and resources will generate new ways or more efficient ways of supplying them, and it will all come into balance in higher prices and politics.

Tom

Dow and i-Rates: 1934-2007

Kondratieff 4

The year long lull in the long upward inflationary wave may be ending. The long wave itself bottomed from 1999 to 2003 well down from its long wave top formation of 1974-1980. The chart labeled "30 years of the US 30 Year Treasury Bond" tells the whole story visually.

Nearly all  the analysts who understood the long deflation-inflation cycle of Kondratieff have retired or died. The ones you will find at dedicated bearish web sites are derived from the revisionists of the 1980's and 90's who failed to recognize that those decades were disinflationary for interest rates and producer prices and commodities and bullish for stocks. They thought gold and oil fell due to a conspiracy instead of lack of demand and oversupply. They also thought stocks went up only because of manipulation. They ignored the rust belt, and the agriculture disaster and oil depression of the 1980's and 90's. While bonds of the highest credit ratings more than doubled in price, the long wave revisionists were lost in a desert of their own making. They still are, so ignore them if you happen to see them posting elsewhere or publishing yet another Kondratieff Wave book.

An economic cycle which lasts more than 50 years cannot be used for short term trading, but it is always wise to know which way the 25-30 year long half cycle of deflation or inflation is headed and not bet against it too long.  All you really need to know is that prices, interest rates and stocks had all bottomed by early 2003. They will be headed upwards for some years. At some point, most likely in a decade to fifteen years or so, interest rates will finally get high enough to impact corporate earnings in most sectors and stocks will top out and  trade sideways to down while everything else will continue to rise for another five to ten years.

I am not predicting that bonds will be down Monday and never trade higher again this year. But the persistence of inflation, even in the face of a short term housing price decline, and the persistent weakness of the US dollar, convinces me that the lull which began last year in commodity prices and as early as 2004 in bond rates is ending soon or has ended.

It's not an emergency, merely a reminder from the markets that we are still in a long term inflationary era which began in this decade. Financial stocks will not do as well as most other sectors, and if you need income and can't afford to lose very much capital, it will be better to stay in the lowest cost money market funds (VMMXX) or TBills, or in CD's and TNotes up to two year maturities.

I want to rephrase the stock part of my analysis and emphasize that this does NOT mean a bull market top in stocks is due. Every time stocks have a pullback it will be attributed to rising interest rates, but don't be frightened out of holding US and selected foreign stocks. They are a better long term hedge against inflation than gold. (Nor am I anti gold: I continue to own gold, but one doesn't have to own gold to profit from inflation.) See my earlier article on "61 year investments" for details. And remember that US interest rates rose from the 1940s to 1981, but stocks also went up from the 1940's until the early 1970's when interest rates finally got too high. It is when rates get "too high" that you will want to own gold or add to what you already own.

   

30 years of the US 30 year Treasury bond