Fantasy, the Fed and the falling dollar: Oh my!
By Bill Fleckenstein
5/12/2003
I'm increasingly inclined to park more of my hard-earned money in precious metals, where meddling regulators and currency panic can't touch it.
Fantasy's power to reinvent fact can be awesome. So it is on Wall Street, where lots of folks want to believe that every rally will usher in a new bull market. Our post-bubble problems have not gone away, but when fantasy holds sway, the market can "act" as if our troubles were behind us. The slide in the dollar (down 27% against the euro since July 2001 and 14% since the end of October), I would note, has been no act, though most people don't seem to care yet. With an irresponsible Fed chairman calling the shots, that complacency may change.
Readers know that I have complete contempt for the Federal Reserve, but last week, thinking about what they were up to began to scare the daylights out of me. In Tuesday's FOMC statement, the Fed cited as a concern "an unwelcome substantial fall in inflation," which to me is the clearest declaration yet that they will not tolerate "not enough inflation." At some point, I fear foreigners are going to freak out.
Currency complacency
I believe it's only a matter of time before a complete panic is on in the dollar. I fear for the value of the paper dollars that I have accumulated over time, and I'm not going to let the Fed cheat me out of my hard-earned money without putting up a fight. (I may be overreacting, and I may be way too early. Nonetheless, the Fed has no business saying that it won't tolerate "not enough inflation," or that it won't tolerate deflation, even though I think deflation is unlikely.)
At present, folks are complacent about the dollar's slide. This is the way it always works. As I have written before, when a currency starts to decline, it is initially deemed to be a positive thing: better for profits, better for exports, etc. At some point, central-bank jawboning will commence and volatility will pick up, though at some point, this phase of the slide in the dollar will stop, and we'll have a bounce. People will say, well. that's over with and it's stabilized, or some variation on that theme.
In the currency markets, once a trend begins, it tends to go on much longer and carry much further in whatever direction it's headed than you would think possible. Further, currency problems are unique in that they don't matter until they matter. Then, they are the only thing that matters, and there's nothing you can do about it. That's basically what happens, and then you have a crisis. A mini-version of this occurred in 1987, but that's the only time we've had any kind of a real currency problem since the Carter administration. (There was a problem brewing just before the first Gulf war, but that war and what came next solved it.)
Although I am quite bearish on the dollar, and have been stating my belief for some time now that we will wind up with a dollar crisis (most recently in last week's column, "The dollar is on borrowed time"), it may not matter to financial markets for a while. Then again, it might. Predicting this is just not possible, but my hunch is that it will take some time and a series of disappointing attempts at stabilization before people in equity markets start to get seriously uptight.
Of Fed meddling and the metals
In any case, I'm nearly speechless at how completely and totally irresponsible the Fed continues to be, and how relentlessly it compounds its mistakes. On the back of the Fed's comments, and depending on how the correction in the euro and the metals proceeds, I think I'm probably going to take a big position in the metals -- in addition to my core position in Pan American Silver (PAAS, news, msgs), where I am a director, and Newmont Mining (NEM, news, msgs) -- and sit on it for a while longer than in the past.
I'm not doing anything yet, but my sense is that we are approaching the moment in time when having bigger positions in the metals, and being less trading oriented (I recently sold my trading position) will make sense.
Rally expiration date stamped 'Uncertain'
I've had a number of readers of my daily column ask me how long the rally will last. My short answer is, I don't know, though my gut tells me that it might be late in the day for the rally. The longer version of this answer will take a bit of explaining, and here we go: Back in my Feb. 24 column, "3 reasons to expect a war rally," I opined that if prices were right, I would be wildly bullish. I thought that a lot of people were very bearish for what I considered to be the "wrong reasons." Folks were buying duct tape, as they feared a terrorist attack. There was a lot of angst about the war.
I felt that given the level of war angst, the relief rally and fantasy rally I anticipated could get especially pronounced. I was optimistic about a successful prosecution of the Iraq war and thought that it would cause folks to become quite hopeful about the economy. The feel-good mood would be helped along by our passage from earnings season to the no-news period where we are now. (Stoking the dreams further, semiconductor companies have met their estimates. These stocks are still absurd at current price levels, but that never bothered folks hell-bent on speculation.) During this particular time in the quarter, fantasies abound about a brighter tomorrow. It's a mindset that we saw in the bull market, and it has remained intact in the bear market as well. When corporate America is not fessing up, there is nothing to stop those sugarplums from dancing in people's heads.
That things have gotten pretty frothy can be seen by a number of signs. Last Wednesday, for example, an Investor's Intelligence survey of newsletters reported that bulls are up to 55.8%, while bears are down to 24.4%. Then, of course, there was the bull that Barron's used as cover girl a week ago. Add in the 2.1 billion shares traded on Nasdaq last Tuesday; the fervent speculation in $1 and $2 cats and dogs; the fact that the NASDAQ volatility index ($VXN.X) has closed lower than it's opened for 44 days in a row; and the hate mail I have received, and that indicates to me that the rally may be on borrowed time.
In lieu of prescience, patience
The overwhelming enthusiasm and belief in a bullish economic story in the second half of 2003, and all the rest of the arm-waving, not to mention the foaming at the mouth of some of the bulls, makes me want to take the other side, at least in a small way. That said, I have wanted to give the rally plenty of rope and not be too hasty about trying to fight the crowd. We could see one of the best bear-market rallies of the entire bear market in this period. That doesn't mean we will. For all I know, the bear-market rally could have ended last week. I just hope I'm fortunate enough to recognize the end of the rally when it occurs.
Of one thing I am sure, however. Trying to make a stab at market direction is pure guesswork. I have learned over the years that when operating on the short side, one must be very careful when choosing to get short. Even during this bear market, it's been difficult to get folks to focus on reality, since the bias toward fantasy has prevailed.
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