It seemed as if everyone was frantically waiting to find out what Ben Bernanke would do during his first two days as FOMC Chairman. Investors immediately took action following the FOMC's typical short public statement delivered after every FOMC meeting for the past few years. The FOMC statement warned that inflation is on the rise; inflation hedge values are moving higher. Subsequently, there is only one thing to do-rush out and buy gold and silver before it is too late.
The FOMC's attempt to slow price inflation appears to still be in effect. The problem, however, is that global liquidity is mushrooming. The United States is a debtor nation, and therefore, has had higher interest rates longer compared to its trading partners. Consequently, citizens residing in countries with low interest rates were encouraged to buy U.S. Treasury notes and bonds, as well as real estate and stocks.
The large amount of money rushing to our shores, coupled with an estimated $800 billion that arrived last year as a one-time tax break for U.S. multinational corporations, represents a tremendous amount of money coming to the U.S. from abroad. This large amount of money entering the U.S. economy is currently discounting the increasing fuel prices and the coming hot summer, meaning higher price inflation this year. Therefore, the FOMC will probably recommend that the Fed raise interest rates much higher than current consensus suggests, thus increasing pressure on the stock and bond markets.
The only positive stand for stocks in this case would be lower energy costs and higher corporate earnings. Dollar devaluation would be positive for U.S. corporations and negative for those whose business depends primarily on cheap imports.
As an investor, I suggest it is not too late to buy gold and silver shares (and is recommended that they be bought on price pullbacks). It is too late to buy long-term debt, especially poorly rated junk bonds. Oil and gas is expected to move with supply and demand; both are expected to move higher this summer. It will take a very high interest rate to drive energy prices below $2.00 per gallon at the pump.
As for stocks, it is time for the S&P 500 to make a move upward. I doubt the Dow will gain much more than 11750 in 2006 or 12100 by the end of 2007. For now, stocks with improved earnings or the potential for improved earnings in the near-term will move higher. Moreover, the current economic environment favors stocks with positive earnings-gold and silver, oil and gas, and Japanese stocks. On the other hand, it does not favor bonds nor real estate in areas considered over-priced (anywhere prices have already risen 100% to 150% or more during the current business cycle).
The yield curve represents the business cycle's timing mechanism. The long-term note and/or bond represent the price inflation factor. As long as its interest rates continue to rise, the FOMC is likely to consider prices to still be a problem. Thus, once bonds start to lose interest rate value, it will be time for the Federal Reserve to cease raising interest rates (unless they wish to cause a recession).
Simply stated, little has changed for 2006. Corporations with profits will do well, and, at least for the rest of 2006, gold and silver, as well as energy, should continue to prosper.
Kenneth Coleman
