JB’s Musings, with apologies to Nikolai Kondratieff (10/09/2012) Posted by John on September 10, 2012

JB’s Musings, with apologies to Nikolai Kondratieff   September 10, 2012

Here are some observations on why most status quo institutional investment managers are destined to fail during the latter part of Kondratieff Winter which could last for another 10 to 15 years.

I am into my 70^th year and have been in the investment business for 47 years.   I have seen a lot of markets along the way and have my fair share of financial scar tissue. Mr. Market has a way of teaching one to be humble and to always keep an open mind.

In 2002, after 10 years in Boston, I returned to my hometown Ottawa.  I had already worked in other financial centres including London, New York and Toronto and, along the way, gained experience in most aspects of the investment business.  In my opinion, Canada, and specifically Ottawa, is one of the best places in this surreal world to live and invest.

I have to confess that I have an incurable disease, I am a Gold Bug and as my friend Dean LeBaron, the founder of Batterymarch Financial Management, says:  “Once you have the disease, you have it for life”.

I have to explain why I am a Gold aficionado.  Fundamentally, it is because the debasement of major currencies such as the U.S. Dollar, the Pound Sterling, and more recently the EURO has gone on since I started as a Trainee at Dominion Securities in London, England in 1964.

Recent initiatives by central bankers everywhere to ‘quantitatively ease’ the world economy out of the current recession have simply deepened my convictions in this regard.

Gold has been an alternative to fiat currencies for thousands of years. Nevertheless, Gold has years when it will pause along its upward trajectory during periods when economic sobriety prevails such as the era that Federal Reserve Chairman Paul Volcker inspired from August 1979 to August 1987.  Volcker’s Fed is widely credited with ending the United States’ crisis of the stagflation of the 1970’s. Inflation, which peaked at 13.5% in 1981, was successfully lowered to 3.2% by 1983. Volcker raised the federal funds rate, which had averaged 11.2% in 1979, to a peak of 20% in June 1981. The prime rate rose to 21.5% in 1981, as well. This dose of tough medicine, along with a new era of technological advances, laid the groundwork for a bull market run that lasted until 2000.  It also paved the way for declining interest rates and a great bull market in bonds that may only be peaking now, in late 2012. Alan Greenspan who was appointed Chairman of the Federal Reserve Board by President Ronald Reagan felt that, like King Canute, he could always turn back the tide. In 2001, after the dot-com collapse, he lowered interest rates to 1% to revive the economy. Banking institutions took advantage of this by providing mortgages for subprime borrowers.  The crash of 2008 followed and the rest is history. Meanwhile, the Bush Administration started a run-up in the deficit, a tradition the Obama Administration is continuing with abandon. The U.S. National Debt now exceeds $16 Trillion (U.S.).

In January 2002, after observing that we were moving into an era of ‘extend and pretend’, I determined that the time was right, within the Kondratieff Long Wave Cycle to have a Gold Bullion allocation in one’s portfolio.  Gold was $280 (U.S.) an Ounce at the time. Having returned to Ottawa in July 2002, I monotonously emphasized the case for owning Gold Bullion to Canadian institutional investors. They either ridiculed my rationale or didn’t pay the faintest bit of attention. Meanwhile, the evidence at $300 (U.S.) an Ounce was staring them in the face but now, at $1730 (U.S.) an Ounce, the logic should be banging them on the head.

The Dow Jones Industrial Average is down about 80%, in terms of Gold Bullion, since 2000.  Guess what? Institutional investors still have minuscule Gold Bullion holdings, if any, in their portfolios.   While a great contrary indicator, this is very disturbing. In addition to currency debasement which will destroy purchasing power, institutional investors must contend with impossible demographics whose entitlements could doom what little remains of their holdings.

“All truth passes through three stages. First, it is ridiculed. Second, it is violently opposed. Third, it is accepted as being self-evident”

–  Arthur Schopenhauer